INSIGHT: Time to plan for a Greek default

25 January 2012 15:17  [Source: ICIS news]

By Will Beacham

LONDON (ICIS)--Just how disastrous would a Greek default and exit from the euro be for the chemical industry in Europe and further afield? The prospect of that – or at least a default – now seems very real after talks to negotiate a deal with bondholders fell apart.

The impact for chemical producers would be wide-ranging. Firstly anyone doing business in Greece would have to come to terms with the introduction of a new Greek currency. This might cause a few headaches but for a global industry used to trading in multiple currencies should not present too much of a challenge provided time was given to put new systems in place.

However, what happens in Greece after the currency has floated could cause more turmoil.

In the aftermath of the swapping of euros for what we could call ‘new drachmas’ a rapid devaluation is likely to take place against other currencies and inflation would surge. This could cause havoc for international chemical producers or distributors trying to sell into Greece unless trade could also be done in dollars or euros.

A disorderly default could cause Greece’s economy to fall steeply into recession, according to analysis by consultants PricewaterhouseCoopers (PwC). In this scenario, the Greek economy would shrink by 5% in 2012, 1.5% in 2013 before finally returning to growth in 2015. It also forecasts a 50% depreciation in the new currency overnight once it was floated.

Whilst this would all be very bad news for people living in Greece, the country is a fairly insignificant market for most chemical companies. To put it into perspective, Greece only represented 2% of eurozone GDP in 2011, according to PwC.

However, a default and exit would hurt investors and could cause further capital flight from other vulnerable countries such as Spain, Portugal, Ireland and Italy.

If this forced governments in these countries to accelerate austerity measures in an attempt to balance their books then growth could slow further and the eurozone sink into recession. This would further darken the already bleak outlook for the region as a chemicals market for the next couple of years.

Global chemical companies have become adept at harnessing the growth offered by prospering economies wherever they are. For this reason the problems of Greece, even if they spread, are unlikely to dent industry performance significantly provided the global economy keeps on growing.


But the International Monetary Fund (IMF) on 24 January slashed its global economic growth forecast to 3.3% from 4% in 2012 because of the eurozone crisis and falling confidence elsewhere.

“The world recovery, which was weak in the first place, is in danger of stalling,” IMF economics counsellor Olivier Blanchard said. “The epicentre of the danger is Europe, but the rest of the world is increasingly affected.”

He told reporters there was an even greater danger if the European crisis intensified. “In this case, the world could be plunged into another recession,” he said.

Even with this downgrade, global ethylene demand growth is still likely to be strong, as it typically increases at a multiple of around 1.3-1.5 times GDP.

Peter Hall, partner at mergers and acquisitions (M&A) advisors The Valence Group, says it is important for chemical companies not to overplay the significance of a regional problem.

 “It is important to avoid over-extrapolating the implications of a regional news flow for global producers,” Hall said. “The danger is that we’ve all become so attuned to try to read something into every piece of data such that short term changes are usually given excessive ‘headline’ weighting but are then completely forgotten, and changes in expected growth rates are often given excessive weighting way beyond their actual relevance for strategic decision making.”

Hall believes that the world economy is strong and extremely resilient. “The ‘end of the world is nigh’ mindset that prevailed in 2008 and 2010 was proven to be misguided – I think the same is true in relation to the eurozone ‘crisis’”, he added.

According to PwC director Alan Clements, there could also be an impact on merger and acquisition (M&A) activity in chemicals which had already slowed in the third and fourth quarters of 2011 compared to the first half.

“A large driver of that is slowing demand, but a factor is also confidence: corporates, and most importantly for private equity buyers, banks, are holding off buying or lending whilst the economic picture across Europe becomes clearer. A Greek default would probably knock confidence further as everyone waits to see if there’s a knock on.”

While chemical producers such as Germany’s BASF “don't speculate on further developments within the EU”, chemical distributors are more candid.

They often claim their businesses are downturn-resistant because customers buy in smaller batches and will choose their channel rather than go directly to a producer.

Even without a Greek default, Switzerland-headquartered, specialty chemical distributor DKSH, for example, has seen some pressure from the eurozone crisis on businesses serving the automotive and consumer electronics industries.

“We feel that our customers buy smaller amounts more frequently, Mario Preissler, head of the firm’s performance materials business unit said.

“Prices are under pressure, hence distributors are challenged to offer more value-added services to bind customers.”

Since the second half of 2011 the lack of confidence and uncertain outlook in Europe has caused many companies to operate hand-to-mouth, reducing inventory to minimal levels. This has disrupted the supply chain, but Preissler sees this as an opportunity for distributors.

“Another impact we experienced is that producers slow down production and reduce production batch sizes in difficult economic times which leads to shortages of certain materials. Some materials are even only made to order and are not kept in stock any more. Here, distribution companies play a decisive role in guaranteeing uninterrupted supply to their customer industries.”

Germany’s Brenntag is a global distributor and Steve Holland, the company’s CEO, does not foresee Greece’s problems having much impact on his business.

“Brenntag has a relatively small business in Greece mainly in environmental products which we would not expect to be adversely affected,” he said

“Clearly there are a number of macroeconomic effects in the event of a Greek default and them leaving the euro, however in terms of complexity we are already dealing in many currencies worldwide and we could adapt to any new situation.”

Read paul Hodges' Chemicals and the Economy blog
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By: Will Beacham
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