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Putting Greece into perspective

The big talk today is about Greece, and how default looms and social tensions are escalating. As the chart above shows, yields on 2-yr Greek government debt have soared to 28%, a sure sign that investors fully expect a significant restructuring (a polite word for default) of Greek debt within the foreseeable future.

Yet as this next chart shows, 2-yr Eurozone swap spreads have hardly budged, even as Greek default risk has soared. What this says is that while the market is convinced that Greece will default, the market is only moderately concerned that the risk that a Greek default will prove contagious or otherwise threaten the European banking system.

And despite lots of talk about how a Greek default might force Greece to leave the euro, and how this might be the start of the unravelling of the euro, the euro remains at the upper end of its valuation range against the U.S. dollar.

In short, the market is telling us that a significant Greek default is likely, but that it will have only a limited impact on the rest of Europe, and by extension, the world. Markets have had plenty of time to prepare for this event, so it is not likely to be very disruptive.

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