The Management of Greek Sovereign Risk

In 2010 the excessive public spending produced the first sovereign bond market crisis in Europe: Greece. The Hellenic crisis is the product of years of recession, of the sluggish economic environment and poor productivity – but above all it is the product of the mismanagement of the public finance, of unsatisfactory reporting, risk management and accounting practices. Information about Greece is scarce and fragmented, but the inability by European authorities to understand the incredible mismanagement strongly disappoints the taxpayer. The relevant exposure of European banks in the bond market toward the default risk of Greece supports the need for hedging tools, such as Credit Default Swaps. However, there is evidence that the CDS market on Greek sovereign bonds is segmented, and contracts are mis-priced. The lack of comprehensive data on CDS and other OTC contracts impedes any further investigation. European authorities should consider revising CDSs trading rules and requirements, until the risks produced are properly limitedGreek crisis, Credit Default Swap, sovereign risk management

An Overview of the Literature about Derivatives

A derivative is defined by the BIS (1995) as “a contract whose value depends on the price of underlying assets, but which does not require any investment of principal in those assets. As a contract between two counterparts to exchange payments based on underlying prices or yields, any transfer of ownership of the underlying asset and cash flows becomes unnecessary”. This definition is strictly related to the ability of derivatives of replicating financial instruments2. Derivatives can be divided into 5 types of contracts: Swap, Forward, Future, Option and Repo, the last being the forward contract used by the ECB to manage liquidity in the European inter-bank market. For a further definition of contracts, which should although be known by the reader, see Hull (2002). These 5 types of contracts can be combined with each other in order to create a synthetic asset/liability, which suits any kind of need; this extreme flexibility and freedom widely explain the incredible growth of these instruments on world financial markets. In section 2 I will look at some micro-economic results about derivatives; in section 3 the issue of risk is addressed; in section 4 monetary policy results about derivatives are shown, and in section 5 fiscal policy results are shortly presented. In a brief statistical appendix some relevant data are presented.

Derivatives, Fiscal Policy and Financial Stability

The massive use of derivatives and securitisation by sovereign States for public debt and deficit management is a growing phenomenon in financial markets. Financial innovation can modify risks effectively run and alter the stability of the public sector finance. The experience of some developed and developing countries is surveyed to look at main instruments used and aims of public finance. Financial stability of the public sector is analysed considering financial innovation use. The case of Italy and its scarce disclosure of information are presented. An IS-LM model is used to capture the effect of financial innovation on fiscal policy for high indebted (European) industrialised countries, with deficit constraints, starting from Blanchard (1981). The use of financial innovation can have various effects over debt and deficit management, given binding external burden (like the European criteria) as far as risks are properly considered, expectations of fiscal policy are coherent with that of markets, and no exogenous shock occurs.fiscal policy; financial stability; derivatives and securitisation

Souvlaki connection; reflections on the Greek crisis

After the subprime credit crisis of 2007, the world is no longer what we thought. An unprecedented crisis of confidence was combined with a credit crunch, and the G20 countries had to enact massive public spending programmes to save the economy and at least buffer the inevitable hard landing. In 2010 this excessive public spending produced the first public debt crisis in the wake of the subprime crisis: Greece reported that in 2009 it had run an unprecedented deficit of 15.4 per cent of GDP, and that its public debt had skyrocketed to 126.8 per cent. The Greek crisis is the product of years of recession, the sluggish economic environment and poor productivity – but above all it is the product of the mismanagement of the public finances and of unsatisfactory reporting practices. In this essay we analyse this crisis in the context of the era of financial derivatives and underscore a number of crucial effects that have been largely ignored in both academic discussion and public debate.Greek sovereign debt crisis; European financial crisis

Effects of options on financial stability

The lack of collateralized trading in the OTC derivatives market and the absence of any system for the resolution of cross exposures have been highlighted as major causes of the collapse of assets prices during the financial crisis. According to the perfect market hypothesis derivatives are a zero sum game (according to Black-Scholes pricing models) and do not add new risk to the market or modify existing risk. However, these virtues only apply in the real world in the presence of effective regulation, control, and supervision. The perverse effects of the financial crisis sug-gest that it is time to rethink the standard finance theory approach to derivatives

Crisi greca

La crisi greca è il risultato della congiuntura negativa, dell’ambiente economico debole e della scarsa produttività ma soprattutto è il risultato della cattiva gestione dei fondi pubblici e insufficienti pratiche di reporting

The Management of Greek Sovereign Risk

In 2010 the excessive public spending produced the first sovereign bond market crisis in Europe: Greece. The Hellenic crisis is the product of years of recession, of the sluggish economic environment and poor productivity – but above all it is the product of the mismanagement of the public finance, of unsatisfactory reporting, risk management and accounting practices. Information about Greece is scarce and fragmented, but the inability by European authorities to understand the incredible mismanagement strongly disappoints the taxpayer. The relevant exposure of European banks in the bond market toward the default risk of Greece supports the need for hedging tools, such as Credit Default Swaps. However, there is evidence that the CDS market on Greek sovereign bonds is segmented, and contracts are mis-priced. The lack of comprehensive data on CDS and other OTC contracts impedes any further investigation. European authorities should consider revising CDSs trading rules and requirements, until the risks produced are properly limited