Shhh! Don't say Greek default

"Don't mention the war," John Cleese whispers in the famous Fawlty Towers episode, when he had to serve German guests at his creaky hotel.

But of course the more he tried to avoid the subject, the more impossible it became to ignore.

It's the same with "Greek default." (Shhhhhhhh!) But just because the phrase is unspoken does not mean default is not coming.

And that also does not mean that when it does happen it won't affect the entire world, including Canada.

In the weird world of global finance, the words Greece and default are tumbling out of every mouth, but don't ever expect to hear them pass the lips of European officials or senior politicians unless they have a Fawltian lapse.

To paraphrase a popular expression, French President Nicolas Sarkozy would not say default if his mouth were full of it.

This week, official Europe was all smiles and handshakes as Greece appeared to sign on to the latest round of brutal cuts to its civil service and government spending.

But in the Fawlty Towers dining room of the European Union are they talking about kicking their poorest member out the Euro club?

It's hard to believe there isn't a committee discussing it. But they are not going to tell us. Because as Gabriel Stein from Lombard Street Research has been saying for years, just to talk about it publicly is the same as doing the deed.

A house of cards

Stein isn't alone in thinking Greeks cannot survive as a member of the eurozone. Almost everyone now agrees the Greeks never should have joined.

But like constructing sailboats in your basement, the hard part is getting them out without breaking something.

The first question might be, why bother letting them go?

Well the first reason would be to benefit the Greeks themselves. Polls have said the Greeks would like to keep using the euro. But frankly, it's killing them.

Their economy is crumbling and getting worse every day. And it is likely to get much, much worse.

Greek bonds are next to worthless. No intelligent person or organization is buying them. Official unemployment is already over 20 percent. Unofficial and youth unemployment are much worse.

Greek banks are a house of cards. There are reports of people searching through garbage cans for food.

Midnight exchange

As default and exit from the eurozone gets more likely, the Greek economy will only suffer more. But how to dump the euro? Or, as some might say, how to dump Greece?

One possible way for this to happen is like this: Following a series of secret meetings, representatives of the European Central Bank and the Greek government call a press conference.

It's about midnight Athens time, when most European and North American markets are closed.

The officials announce that, within Greece, all euros in coins, notes, banks balances and notes of exchange, all Greek-denominated debt, will as of that minute be exchanged for some other currency. Let's call it the drachma.

The new drachma will be valued at exactly one euro, and every euro will be replaced, one for one, with one drachma. Then, trucks from the central bank will rush around the country, distributing drachma to replace the euro in banks and shops.

In this little scenario, to imagine what will happen when markets reopen, hold your two hands up in front of your face. The left hand is the euro, the right, the drachma.

At the moment of the announcement, both hands will be at the same level. In world currency markets people will begin to sell drachmas and buy euros.

Your right hand begins to fall relative to the left. It will probably fall too much at first and then bounce part way back.

Should you stand like that for several weeks, the level your hands finally reach will be the one where the Greek government will really be able to pay back its loans.

The pretend euro

In this scenario, goods and services produced in Greece will be affordable to other Greeks and a bargain for other countries. But German-made cars will be unaffordable except to the very rich.

This is not to say Greek lives will be all ambrosia, but for ordinary people, the sickening falling feeling of a plunging economy will stop, and growth might gradually begin.

Still, despite what the polls say about keeping the euro, all the financial contortions that Europe has been going these past many months has not been for the people of Greece.

If that is in doubt, this week's decision to prevent the government from spending bailout money on anything other than paying off debts (things like food) should have settled the matter.

The happiness and welfare of Greek citizens comes well down the list, after the preservation of European banks and the fear that Portugal and Italy might follow suit.

Germany, the stern but benevolent big brother, likes to play the role of wise adviser to its spendthrift southern neighbour.

But actually, northern members of the eurozone have been feeding off their poorer brethren for some time now: sharing a common currency gave Greeks and other Europeans new access to German products, stimulating the German economy.

Also, when it comes to sales to the rest of the world, Germany trades in an undervalued euro, held down by its weakest members.

A euro that was Germany's alone would have shot up to the levels of the Swiss franc, giving a greater trade advantage to Canadian and U.S. manufacturers.

But right now, as the Greeks continue to suffer, the world is happier playing make believe.

Banks that hold Greek debt pretend it is really worth something on their books. The holders of credit default swaps pretend there has been no "credit event" to trigger their insurance policies.

The European Union and the World Bank pretend that Greece can save its economy by sending unemployment from horrible to intolerable.

As its economy shrinks for its fifth year, the Greek government pretends it can keep cutting in the face of increasing popular outrage.

The only alternative would be for Germany and Denmark to play the role that Ontario and British Columbia once played with Newfoundland. That is for the haves to keep money flowing to the have-nots, perhaps for decades, until, like Newfoundland did, Greece somehow finds its special niche and becomes a have, able to support its poorer neighbours.

That would require Europe to change from a currency union to something much more like a country with provinces — the so-called political and fiscal union. And right now that is not in the cards.

So for now, Europe goes from patch-up job to patch-up job. The Greeks continue to pay, and pay, with their suffering.

The fact is, right now everyone is whispering about a Greek default and departure from the eurozone.

But don't mention default aloud. Because as soon as everyone thinks it is really going to happen, that sucking sound will be every single euro leaving Greece.

Better to own the Hungarian forint than to take the right-hand big ride down with the drachma. The banks will be empty. The Greeks will suffer more. At that point, even make believe won't work.