1. Felix Salmon » Will Grexit topple Obama? » Print http://blogs.reuters.com/felix-salmon/2012/05/25/will-grexit-...
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Will Grexit topple Obama?
May 25, 2012 @ 11:16 pm
By Felix Salmon
One of the hardest questions to answer, when people ask about the European crisis in general
and the Greek crisis in particular, is “why should we in the US care?” The simple answer is
that well, this is an important part of the world, and it’s big news. But if you only care about
news insofar as it directly effects the US, then the answer is harder.
One possible answer — I’ve heard this given in a number of places — is that another major
crisis in Europe would spill over into the US, cause serious economic damage here, and could
quite possibly make the difference between an Obama and a Romney victory. But just how
likely is that? I’m no expert when it comes to assigning probabilities to events, but we can at
least come up with a general framework which lets us answer the question.
Let’s start with the fiscal pact. Will all of Europe credibly commit to fiscal austerity going
forwards? If so, that increases the chances of crisis and Grexit, since southern European
countries in general, and Greece in particular, simply can’t operate under an austerity regime
in the way that, say, the Baltics have managed, painfully, to do. On the other hand,
everybody seems quite likely to break the fiscal pact in one way or another — which means
that there has to be a good chance the pact will end up being honored mostly in the breach.
Let’s call the probability of a Europe-wide austerity regime A; my best guess for A is roughly
15%, or 0.15.
So the next question is — what is the probability of Grexit, any time soon? That’s really two
questions. First, what is the probability of Grexit if there’s Europe-wide austerity. Let’s call
that B, and I’ll peg it at 85%, or 0.85. Second, what’s the probability of Grexit if Europe-wide
austerity slips a bit? We’ll call that C, and I’ll say it’s 65%, or 0.65. Overall, we can define the
chance of Grexit, D, as A * B + (1-A) * C. If you’re playing along at home, that’s 0.68, or
68%.
But just because Grexit happens, doesn’t mean it will necessarily affect the US election. For
one thing, by definition, Grexit can’t affect the US election if it hasn’t happened by the time
the election takes place. So the next question is: if there’s Grexit, what are the chances that
it will happen by November? The Europeans have proven themselves very good at kicking the
can down the road, so even if Grexit is inevitable, it’s still not inevitable by November. In any
case, let’s define E as being the conditional probability of Grexit by November, given Grexit.
I’ll say that’s 50%. Which means that the overall probability of Grexit by November, F, is D *
E, or 34%.
Grexit, if and when it happens, will cause a lot of disruption in European markets, and certain
deposit flight out of Spanish and Portuguese banks. Again, there are two ways this can play
out. Either it will cause a series of further dominoes to fall, or else it will concentrate the
Europeans’ mind and force them to build a large and genuinely effective firewall, drawing a
line in the sand and saying “this far, but no further”. Will Europe let the Grexit crisis go to
waste? Let’s say the probability of a credible, coordinated and constructive pan-European
response to Grexit is G. Then the probability of Grexit causing a big European crisis is 1-G.
What’s G? That’s a tough one, but I’ll put it at 35%.
For the purposes of this calculation, we’ll assume that Greece alone is too small to cause a
big global crisis: you need contagion, for that. So we’re looking for H, the chance of a big
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2. Felix Salmon » Will Grexit topple Obama? » Print http://blogs.reuters.com/felix-salmon/2012/05/25/will-grexit-...
European crisis before the US election. We can calculate that as F * (1-G), or 22% — that’s
the chance of Grexit before November, multiplied by the chance of a bigger crisis if Grexit
happens. (Note that a big European crisis can happen at any time; the chance of that is D *
(1-G), which works out at 44%.)
If we have a big European crisis before the election, then that will certainly send US stocks
falling. But will a sharp drop in the US stock market have any effect on the outcome of the
election? Probably only if the election is reasonably close — and certainly not if Romney is in
the lead. A European crisis, and consequent plunge in US stocks, would only be good for
Romney and bad for Obama, just as the crisis in the fall of 2008 was good for Obama and
bad for the incumbent Republicans. So what we’re looking for, here, is I, the probability that
Obama will have a narrow lead over Romney — one small enough to be erased by a big
stock-market plunge. I’ll peg I at 65%.
And thus, finally, we get to the big answer: what is X, the probability of Grexit toppling
Obama? That is H * I, which using my off-the-top-of-my-head probabilities, works out at
about 14%. But you should work this out for yourself. Come up with your own values for all
these:
A: What is the probability of a Europe-wide austerity regime?
B: If we get Europe-wide austerity, what are the chances of Grexit, any time soon?
C: If we don’t get Europe-wide austerity, what are the chances of Grexit, any time soon?
D: What, then, is the probability of Grexit? This is calculated as A * B + (1-A) * C.
E: If we have Grexit, what are the chances it’ll happen before the election?
F: This is the overall probability of Grexit before the election, and is D * E.
G: If we have Grexit, what are the chances of it eliciting a credible, coordinated and
constructive pan-European response?
H: This is the probability of a big European crisis before the election, it’s F * (1-G).
I: What is the probability of Obama having a narrow enough lead over Romney that it would
be erased by a plunging stock market?
Put these all together, and you can finally come up with a number for:
X: The probability of Grexit toppling Obama. It’s H * I.
I’d be interested to know what results you get, but my guess is that most of them will come
up with a number which is low and yet still significant. It’s something to bear in mind, but of
course it’s also something which is pretty much entirely out of Obama’s control. That’s the
way that crises work: individual politicians are rarely personally responsible for them, but
whomever’s in power when they happen nearly always ends up getting the blame.
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