Forget Brexit – Time to Worry about Frexit and Grexit

With important exceptions, such as Italy and Greece, the European economy has finally largely recovered from the financial crisis, and is actually growing slightly faster than the US economy at the moment. However, Europe is not out of the woods yet. Two items that strategy consultancies need to ensure their corporate and government clients have high on their lists of top risks that could quickly derail this fragile recovery are “Grexit” and “Frexit” (respectively, a Greek or a French exit from the single European currency).

The British decision to leave the European Union and the American election of Donald Trump have dominated headlines and discussions of government and corporate strategy in Europe as they have the world over, and have been a boon to many types of consulting, from strategy to geopolitical risk, with some consultancies even setting up dedicated teams of experts on these topics. However, these issues are no longer risks; they are realities. By no means do I wish to downplay the profound significance of these events, but I do think that, when it comes to the future of the European economy, consultants should strive to help their clients stay focused on scenarios that still retain “risk” status (i.e. it is unknown whether or not they will occur). Part of a consultant’s job as a strategic adviser is to keep her clients focused on the long term and the big picture, a role that is all the more important given the dramatic political events unfolding on an almost daily basis.

The long-term impact of Brexit is unknowable, but will probably be profound and, on balance, a net negative for both sides. In the near to medium term, however, while there are still plenty of unknowns when it comes to the details, we actually have a remarkably clear picture of what the high-level narrative is going to be, for at least the next two years. As for the Trump administration, for all the uncertainty and speculation about rising protectionism, isolationism, and geo-political realignment it has generated, we should not overestimate the impact of US government policy on the European economy. The fate of the European economy will be determined largely by events and decisions within Europe.

Though the world’s attention has shifted to Trump and Brexit, the Greek debt crisis hasn’t gone away – if anything, the situation may be getting worse. Grexit is still a very real probability.

What about Frexit? Populist National Front presidential candidate Marine Le Pen, who is currently running second in the polls, has promised to hold a referendum on leaving the Euro (recent experience has generated a justifiable scepticism of polling data, but even if the polls are inaccurate, she is clearly doing well enough to have a non-negligible chance of winning). Frexit would surely be the end of the Euro, and the collapse of the Euro could, in turn, quite possibly precipitate the collapse of the entire European Union.

So the impact of Frexit would be much greater than that of Grexit, but surely its probability is also much lower? Yes, but neither event should be disregarded as impossible: as of the time of writing (14 February 2017), bookmaker William Hill is offering 2:1 odds that Greece will be the next country to leave the EU after the UK. The odds for France are 7:2.

Although clients cannot control events, they can mitigate risks to an extent through preparation. Consultants can assist them with this process by leading scenario analysis exercises and helping them develop contingency plans. One way in which consultants can be helpful is by making sure clients understand and account for the differences between these two risks in their plans. Though Grexit and Frexit are superficially similar, there are important differences in the way in which each is likely to play out.

One of these is timing. In the case of a Le Pen victory, Frexit would be neither inevitable nor immediate, though its likelihood would increase considerably. As with Brexit, there would likely be a referendum process, a period of bitterly fought campaigning, a nail-biter of a vote, and (in the case of a vote to leave), a period of confusion about how to implement the decision. Frexit would almost certainly be disastrous for the European, and perhaps the world, economy, but there would at least be time for governments, businesses, and individuals to process the information and, to the extent possible, prepare for the consequences. Grexit, on the other hand, would unfold much more quickly.

Unlike Frexit, Grexit probably wouldn’t doom the whole European project, but it would be the classic example of a dramatic event with far-ranging and unpredictable consequences. What’s more, if Grexit happens, the way in which it happens would also matter a great deal – would it happen in a more or less orderly and controlled fashion (which would require cooperation between Greece and the rest of the Eurozone), or would it be an abrupt and chaotic rupture? It’s not hard to envision scenarios where the house of cards just collapses, and no one is really in control (picture the collapse of Lehman Brothers, only with countries instead of banks). It’s also not hard to envision populists, maybe even fascists, gaining power in Greece, precisely on the promise of leaving the Euro abruptly and defaulting unilaterally on the national debt, and then carrying out that promise. The Greek people cannot be expected to suffer indefinitely without there being any adverse political consequences.

Should either Frexit or Grexit come to pass, the reverberations will be felt far beyond Europe.