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WHAT’S ON NOURIEL’S MIND
 
1
 
Page | 1
www.roubini.comNEW YORK - 95 Morton Street, 6th Floor, New York, NY 10014 | TEL: 212 645 0010 | FAX: 212 645 0023 | americas@roubini.com |asia@roubini.comLONDON - 174-177 High Holborn, 7th Floor, London WC1V 7AA | TEL: 44 207 420 2800 | FAX: 44 207 836 5362 | europe@roubini.comNEW DELHI - Suite 210 Chintels House, A-11 Kailash Colony, New Delhi, 110048 | TEL: +91-11-49022000 Ext. 3001 |india@roubini.com
© Roubini Global Economics 2011
 –
All Rights Reserved. No duplication or redistribution of this document is permitted without written consent.
 
June 26, 2012 
Who Will Exit First? Grexit, Fixit, Quitaly, GoingDutch or a German D-Euro?
By Nouriel Roubini
 
The future of the eurozone (EZ) is shrouded in doubt and most assume that Greece will be the first to jump ship and exit. However, there are increasing signs that other member states could decide to cutand run, even before Greece does.
 
Grexit:
Greece is still likely to depart first. It is on life support and would be allowed to fail and exit if Italy and Spain are successfully ring-fenced. Even if, as is likely, Italy and Spain are not yet out of thewoods, Greece is still highly likely to exit when its new government falls, in the next 6 to 12 months.
 
 
Fixit:
There are increasing doubts in Finland about EZ membership. First, the other Nordic countriesare outside the EZ and/or the EU and are doing fine economically and otherwise. Second, if Finlandwere to exit the EZ it might (although it might not) also be forced to exit the EU; however, even underthat scenario, it could keep most the benefits of EZ and EU membership without any of the costs.Third, by exiting, Finland could avoid the implicit and explicit losses and costs that continuedmembership of the EZ would entail. Fourth, many social, business and political forces in Finland areskeptical of the euro and/or supportive of an exit.
 
 
Quitaly:
Powerful political and financial interests are explicitly and implicitly urging Italy to leave theEZ and return to the lira. They include Berlusconi and part of his party, the Lega Nord and a new,increasingly popular, anti-establishment party. The current technocratic government, which is takingthe decisions necessary to keep Italy in the monetary union, is looking increasingly vulnerable.
 
 
Going Dutch:
As in other core EZ economies, social and political forces that are skeptical of the EZmembership are becoming more influential in the Netherlands. As with Finland, the main driver of 
euro opposition is “bailout fatigue,” but the Dutch are also suffering from “austerity fatigue.” New
elections are on the horizon, and pro-exit parties look set to do well.
 
 
Germany
—
Going for the D-Euro:
The average German voter suffers from bailout fatigue and is opento at least considering an exit. Indeed, recent polls suggest that a majority of Germans are euro-skeptic and at least one-quarter would like to return to the deutschmark. But the political, businessand financial establishment is still strongly supportive of the euro given the costs of an EZ break-up.
 
 
It remains likely that Greece will be first out the door; but there are forces in both the core andperiphery pushing for an early exit of other EZ countries. In Italy, Berlusconi and those close to him
explicitly favor Italy’s return to the lira
; Italian businesses with euro assets abroad and domestic debtsin euro would vastly benefit from the conversion
—
upon exit
—
of such liabilities into new depreciatedliras. In core economies
—
especially Finland, but also the Netherlands
—
concerns about the increasinglosses attached to EZ membership deriving from implicit and explicit liabilities are mounting, whilethe benefits appear smaller and smaller. Consider the existing potential losses from the EFSF, theESM, the Target 2 balances; and then add to them the potentially larger ones deriving from a fiscalunion with debt monetization, a transfer fiscal union for the poorest members of the EZ and the riskof guaranteeing, at the EZ-
wide level, all of the EZ’s
bank deposits, including those of the periphery.
 
 
WHAT’S ON NOURIEL’S MIND
 
2
 
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www.roubini.comNEW YORK - 95 Morton Street, 6th Floor, New York, NY 10014 | TEL: 212 645 0010 | FAX: 212 645 0023 | americas@roubini.com |asia@roubini.comLONDON - 174-177 High Holborn, 7th Floor, London WC1V 7AA | TEL: 44 207 420 2800 | FAX: 44 207 836 5362 | europe@roubini.comNEW DELHI - Suite 210 Chintels House, A-11 Kailash Colony, New Delhi, 110048 | TEL: +91-11-49022000 Ext. 3001 |india@roubini.com
© Roubini Global Economics 2011
 –
All Rights Reserved. No duplication or redistribution of this document is permitted without written consent.
 
Assuming
—
as is likely
—
that the EZ will lose some of its members in the next few years, which will be the firstcountry to exit? Greece, hitherto the clear favorite, in a
“
Grexit?
”
Or a new challenger: Italy (
“
Quitaly
”),
Finland
(“F
ixit
”
) or perhaps the Netherlands (
“
Going Dutch
”)
?Until now, the conventional wisdom has been that Greece will be the first country to leave, possibly eventuallyfollowed by other extremely fragile member states (Portugal and Cyprus being the prime candidates). But,increasingly, there are signs that other EZ members could decide to quit the monetary union before Greece does.
Grexit: The Case for Greece
Greece is still most likely to exit first. Thelatest election saw a narrow victory for parties supporting euro membership and some austerity and reform, but Greece is still on course to leave the monetary union in 2013. Thegovernment was born fragile and the weakly aligned coalition members all want to renegotiate the terms of thememorandum with the troika. Center-left Pasok will be divided over being a junior member of a coalition led bythe conservative New Democracy; i.e., sharing all the costs of austerity and possible failure, while not enjoyingmuch of any upside success of the government strategy. Greece is likely to underperform even revised fiscal andreform targets and therefore is at risk
—
every three months
—
of failing the troika reviews that allow thedisbursement of further funds.It is clear that Greece is on life support and would be allowed to fail and exit if Italy and Spain are successfully ring-fenced and placed out of danger. If, as is likely, Italy and Spain are not yet out of the woods, Greece will still exitwhen the current government falls, in the next six to 12 months, opening the way for an electoral victory by left-wing Syriza, which would be the prelude for default and exit. Polls suggest that about 75% of Greeks favor theeuro; but 80% of them also oppose the sacrifices needed to stay in the euro. For an increasing number of Greeks, itwill become clear that the costs of membership
—
a recession deepening into depression
—
outweigh the benefits.Certainly, if Italy and Spain were to emerge from the woods having been successfully ring-fenced, Greece would beallowed to leave as the collateral damage to the rest of the EZ
—
contagion
—
of such an exit would then bemanageable. So, in that scenario, a Greek exit would be highly likely, unless Germany and the rest of the core wereto accept that the only way to keep Greece in would be to create a fiscal transfer union, not just a fiscal union withfair risk-sharing; to transfer concessional resources
—
if not outright free unilateral transfers
—
to Greece on a long-term basis (i.e. for decades). But persuading German and other EZ tax payers of the merits of such a transfer unionlooks impossible for now. So, Greece still looks like the most likely candidate exit the EZ first.
Fixit: Could Finland Choose to Exit?
Talk of Finland leaving the EZ sooner rather than later has increased, with many in influential positions nowreconsidering the costs and benefits of EZ membership and coming to the conclusion that
a “
Fixit
”
may be thecountry
’s best
option.Consider the following factors. First, the other Nordic countries are outside the EZ and/or the EU and are doingfine economically and otherwise. Norway and Iceland have never joined the EU: The former has remained asuccess story as a resource-based economy; the latter suffered a severe financial crisis driven by the popping of amassive real estate bubble, but so did members of the EZ such as Ireland and Spain. Denmark opted out of EZmembership and is semi-pegging its currency
—
the Danish krona
—
to the euro. Sweden was supposed to join theEZ,
but it never did and isn’t likely to join any time soon.
Since none of the other Nordic economies are part of EMU, what are the benefits of Finland remaining a member?
 
 
WHAT’S ON NOURIEL’S MIND
 
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www.roubini.comNEW YORK - 95 Morton Street, 6th Floor, New York, NY 10014 | TEL: 212 645 0010 | FAX: 212 645 0023 | americas@roubini.com |asia@roubini.comLONDON - 174-177 High Holborn, 7th Floor, London WC1V 7AA | TEL: 44 207 420 2800 | FAX: 44 207 836 5362 | europe@roubini.comNEW DELHI - Suite 210 Chintels House, A-11 Kailash Colony, New Delhi, 110048 | TEL: +91-11-49022000 Ext. 3001 |india@roubini.com
© Roubini Global Economics 2011
 –
All Rights Reserved. No duplication or redistribution of this document is permitted without written consent.
 
Second, if Finland were to exit the EZ it might also be forced to exit the EU; however, it could keep most thebenefits of EZ and EU membership without any of the costs. Like Denmark, it could semi-peg its own new nationalcurrency to the euro (or to the deutschemark if the EZ were to eventually fall apart completely), thus benefittingfrom low exchange rate volatility, while keeping open the option of moving its currency up or down, if needed. Itcould even keep most of the benefits of free trade with the EU by establishing a free-trade agreement with the EUand/or with Germany, while not being subject to many of the other legislative and regulatory constraints that EUmembership entails (even if access to EU markets requires being subject to many regulatory constraints). Or, itcould try to negotiate remaining a member of the EU while quitting the EZ, as the EZ is now considering allowingmember states to leave the EZ without surrendering their EU membership.Third, by exiting, Finland could avoid the losses and costs that continued membership of the EZ would entail:a)
 
Finland would no longer need to contribute to the European Financial Stability Mechanism (EFSF) andEuropean Stability Mechanism (ESM); after all, EU members that are not EZ members do notcontribute to the two EZ rescue programs;b)
 
In the event of exit, Finland would also avoid potential losses deriving from the build-up of Target 2balances in the core of the EZ, including Finland. Indeed, Fin
land’s Target 2 balances would be phased
out upon exit;c)
 
Trade losses in the event of an EZ break up and the core sticking with the euro (which would sharplyappreciate relative to the new currencies of exiting periphery countries) could also be reduced;d)
 
Since the
EZ’s
survival requires the core to take on even greater credit risk
—
via debt mutualization(i.e. Eurobonds), via a fiscal union (that may in part be a transfer union to poorer EZ members) andvia an EZ-wide deposit insurance scheme
—
Finland could avoid these additional implicit liabilities byexiting before such risks are undertaken or materialize;e)
 
Finland’s p
otential GDP losses in the event of the EZ breaking up could also be lowered via the extradegree of currency and monetary policy flexibility implied by a return to a national currency; andf)
 
Some private unofficial estimates put the potential losses of Finland with continued EZ membershipat between 10 and 15% of Finnish GDP.Fourth, many social, business and political forces in Finland are skeptical of the euro and/or supportive of an exit.The most fervent euro-skeptic group is The Finns Party (formerly the
“
True Finns
”
). But even the broadly pro-euroNational Coalition, the party of the current prime minister, contains opponents to the common currency, one of which is Finl
and’s
President, Sauli Niinistö, who bemoans the fact that Finland bails out richer EZ members, yet isstill pro-euro. Another party leader, Ben Zyskowicz, last week pointed out the
EZ’s
fundamental design flaws. Forthe time being, the forces formally supporting
a “
Fixit
”
are in the minority, but there is now significant internaldebate on the pros and cons of membership. If Greece moves closer to exit and Italy and Spain end up on theverge of losing market access and requiring even more risky financial support from the EZ core, Finland may decidethat the additional credit risk is not worth the benefit. Indeed, the country has already been the most vocal sofar
—
in debates about the EFSF, the ESM and other aspects of the periphery bailouts
—
in requesting formalcollateral or seniority for its contributions to the EZ periphery rescues.For now, the ruling coalition is still firmly in support of EZ membership, but there are plenty in favor of an exit inthe political opposition; even within the coalition, many are grumbling in private about the costs of EZ membership.A trigger to increase the chances of Fixit would be a decision by the EZ to increase the potential losses and credit
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