What is a Ponzi scheme? A Ponzi scheme is an investment operation where the investor is given returns that are drawn from subsequent investors.
Let’s assume that investor A invests €1000 in a Ponzi Scheme P, and is promised a net return of 20% in a year. Investor B invests in the same Ponzi Scheme P €2000 six months after investor A. When investor A comes back to withdraw his money after a year he is given €1200 of investor’s B €2000. So, each investor is paid with the money of subsequent investors. When there are no more new investors the Scheme collapses.
What does this have to do with Greece? Well, the same thing is happening practically with Greek bonds. If you buy a 10 year Greek bond today you are promised 16% yield. That is, if you give €100, you will be given back €116 after 10 years. The worrisome fact about long term Greek bonds today is the fact that the money of new investors appear to be going to senior investors. Practically, the €100 you invested in Greek bonds, instead of being invested in business, are used by the Greek government to cover old debts.
This is quite understandable if we give a look at some figures. We are talking of a country whose Government debt is almost 150% of its GDP, whose economy contracted by 6.6% for the last quarter of 2010 and whose budget deficit hit 30% of the GDP in 2010. This country, is promising you a yearly return of 16% on your investment for 10 years. That’s absurd. It is even more absurd that investors are going for it, which will probably prove to be a huge mistake.
In fact, when you invest in Greek bonds you are giving your money to old lenders. To have your money back, like in a Ponzi Scheme, you must hope that new investors keep coming. When new investors stop popping up a default crisis occurs. That’s what happened last year, when Greece was granted a bailout fund of €110 bn. It appears though that those money have not been invested in new businesses but have been used to cover old debts, as the Greek government is asking for additional funds today. In plain language, the Greek-Ponzi Scheme is collapsing.
How do we know that it is collapsing? You know it when you hear that debt restructuring is being taken into consideration. What does debt restructuring mean? It means that if in 2001 you were promised an interest rate of, say, 10% the Government cuts it to 5% due to lack of funds. So if you invested €1000 in 2001 in Greek bonds for a yield(interest rate) of 10%, today you won’t take back the long expected €1100 but only €1050.
Truth sounds absurd sometimes, but it is still truth. Investing in the Greek government is the same as investing in a Ponzi scheme.