The Greeks Say No. Will Their Creditors Echo That Sentiment?

The Greek debt crisis took another dramatic turn yesterday when its citizens voted by a 62% majority to reject the latest bailout demands from its creditors.

Interestingly, these demands were part of a bailout package that actually expired last week, so technically there was no active offer still on the table from the Troika (comprising the uropean Central Bank (ECB), the International Monetary Fund (IMF), and the European Commission). Regardless, the vote result confirmed that the overwhelming sentiment among Greek voters is that any new negotiations with its creditors must include significant debt relief.

The result has emboldened Greek Prime Minister Tsipras, who is anxious to return to the negotiating table with his new mandate after recently promising voters that it might take as little as forty-eight hours after the referendum to reach a new agreement with the Troika. He will do this without his controversial finance minister, Yanis Varoufakis, who resigned last night after the vote in an apparent concession to the country’s creditors, who had grown tired of his defiant stances during negotiations.

Prime Minister Tsipras was careful to emphasize that this was a vote against austerity, and not against remaining in the euro zone, in a speech made after the vote: “I’m fully aware that the mandate that I was given (by voters) is not for a rupture with Europe, but a mandate boosting our negotiating strength for reaching a sustainable deal.” That said, it is difficult to imagine how Greece could reject the Troika’s demands for reform and yet remain part of the euro zone. I certainly understand why Mr. Tsipras would like to hope that this is possible, but once again, he appears to have significantly overestimated his country’s bargaining position.

I continue to believe, as I wrote last week, that the euro zone is ready to let Greece leave the common currency. While this will no doubt harm the region’s hard-won economic momentum, I don’t think the euro zone’s leaders see any real choice in the matter. If they don’t take a tough stand with Greece, what precedent will they be setting for Spain, Italy, and one day, France?

I also believe that the Troika has been preparing for a Greek default for years now, and that it will use Greece’s coming collapse both as a way to test the resiliency of its defences, and as a cautionary tale to other, larger countries in the euro zone who might otherwise contemplate similar hardball tactics when the Troika makes future bailout demands. If I am right in that analysis, then Prime Minister Tsipras is in for a rude awakening when he next meets with Greece’s creditors and finds himself seated at the kid’s table, instead of the negotiating table.

Prime Minster Tsipras may believe that he still has a strong geopolitical bargaining chip left to play. If the Troika holds its ground, as I expect that it will, he may then turn his attentions toward Russia, China and Iran for support, raising the fear that Greece could shift its loyalties away from the West. It’s hard to imagine that Greek voters would support such a shift, but desperation can make strange bedfellows, even for a country that has long been a staunch North Atlantic Treaty Organization (NATO) member. (Surprisingly, while many NATO countries have habitually fallen short of their funding commitments to the organization, Greece is one of only a few members who have consistently met their NATO obligations in full.)

There were celebrations in Greece last night after the No vote was confirmed, but in the cold, sober light of this morning, the situation on the ground now becomes increasingly desperate. The most immediate problem is that Greece is about to run out of cash because it is highly unlikely that the country will receive any more money from the ECB’s Emergency Liquidity Assistance (ELA) facility, so for starters, Greece must now figure out how to function without a currency. Bluntly put, the prospect of a full-blown humanitarian crisis now looms large.

So what does this mean for Canadian mortgage rates?

In a world where market momentum is driven by either fear or greed, there is certainly plenty of fear to go around these days, and demand for safe haven assets like Government of Canada (GoC) bonds should continue to surge, driving our bond yields lower in the process.

While the unfolding Greek crisis is grabbing the headlines, Puerto Rico is also on the verge of defaulting on its $72 billion in outstanding debt, and that development is actually expected to have a larger direct impact on North American economic momentum. (To put its situation in perspective, the Wall Street Journal recently observed that Puerto Rico’s debt is half the size of California’s, for a population that is one-tenth of its size.)

Last week we also learned that Canadian Gross Domestic Product (GDP) fell by 0.1% in April, the latest U.S. employment data (for June) came in weaker than expected, and the Chinese government has just rolled out a series of unprecedented new measures in an attempt to reverse the 30% plunge in its stock market that has taken place over the last three weeks.

All of this has fuelled speculation that the Bank of Canada (BoC) may cut its overnight rate, on which our variable mortgage rates are priced, when it meets next week. I still think that a rate cut is unlikely, because the BoC remains concerned about our rising household debt levels. But the perceived balance of relative risks is fluid, and with heightened instability seemingly everywhere, circumstances are changing rapidly. As such, I am not offering that view with too much confidence at the moment.

Five-year GoC bond yields rose by twenty-one basis points last week, closing at 0.82% on Friday. Five-year fixed-rate mortgages are offered in the 2.49% to 2.59% range and five-year fixed-rate pre-approvals are available at rates as low as 2.69%.

Five-year variable-rate mortgages are available in the prime minus 0.65% to prime minus 0.75% range depending on the terms and conditions that are important to you.

The Bottom Line: The global economic recovery remains fragile and there is a significant and rising risk that a negative shock from one region could create a cascading effect that exacerbates instabilities elsewhere. Over the short term, this heightened uncertainty should keep our interest rates at or below their current levels, but in the spirit of ‘be careful what you wish for’, that would only provide a thin silver lining for what could be cloudier economic days ahead.