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Despite the problems in Greece, the Euro is still strong

This chart serves as a reality check to all the hand-wringing over the problem with Greek indebtedness. Greece has a problem, no question, but it could be solved by simply cutting government spending and not raising taxes. Even if Greece were to default on its debt, it wouldn't be nearly as tough on global financial markets as the subprime disaster or the Lehman failure; it would likely involve a restructuring of Greek debt that would cost bondholders some sizeable fraction (but much less than 100%) of their value. Default risk on Greek debt is now somewhat higher than that of your typical junk bond. Greece's problem is dragging down the euro because Greece might risk the unthinkable by pulling out of the euro and printing drachmas to inflate itself out of debt (which is simply another way of restructuring its debt, but probably the worst and most stupid way).

Despite all the problems, the euro is still relatively strong compared to the dollar—about 16% above its purchasing power parity according to my calculations. You might say that this is the market's way of telling us that on balance the outlook for Europe is still better than the outlook for the U.S.

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