Putting the Greek Crisis in Perspective

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Following a dramatic announcement of a national referendum on whether Greece should accept the terms proposed by its European creditors in order to continue its bailout program, the country is experiencing a financial crisis. Greek citizens, anticipating that their country will leave the euro zone and that they’ll be left owning less valuable currency, have been lining up at banks to withdraw their money. The Greek government has been forced to close the banks and initiate capital controls to prevent money from leaving the country. The result is substantial economic pain for the Greek people as well as intense geopolitical drama. But how much trouble will it cause for your investment portfolio?

The short answer is “probably not too much,” although that largely depends on whether the problems remain isolated to Greece or spreads to other euro zone countries. At this point the situation in Greece isn’t all that different from the situation in Cyprus in early 2013, when Cypriot banks collapsed and the country had to initiate capital controls. Cyprus agreed to a bailout program, the country was able to keep using the euro as its currency, and the financial trouble didn’t spread to other countries.

There are two major differences between Greece now and Cyprus two years ago. One is that Greece is larger, although economically it is still a minnow from a global perspective. According to the International Monetary Fund, Greece’s economy makes up less than one third of one percent of the global economy. Similarly, the size of its stock market is negligible compared to the size of the global stock market, or even just the European market.

The second difference between Greece and Cyrpus is the political situation. The Greek government, led by prime minister Alexis Tsipras and his Syriza party, came to power promising to end the austerity policies that had been imposed on Greece in its bailout agreements. Its major creditors (the European Commission, the European Central Bank, and the International Monetary Fund), are reluctant to agree to any deal that would encourage other countries to copy Greece and demand more lenient bailout terms. This impasse not only makes a bailout agreement between the two sides difficult to achieve, but it also means that a Greek exit from the euro zone would likely be messy.

While European stocks will likely fall a bit as the financial drama in Greece unfolds, the key point to pay attention to is whether it triggers a financial “contagion” that spreads to other countries. As long as the crisis doesn’t spread beyond Greece, its impact on overall global financial markets is likely to remain relatively small.