FRANKFURT, Germany — Greece's economy is small but the shock waves from a default on its debt could be amplified by links in the global financial system to hurt stocks, banks and entire economies far from the epicenter in Athens.
In Greece, banks could go bust, overwhelming the government's ability to bail them out, and lenders in France, Germany and elsewhere in Europe could suffer serious losses.
And the resulting market turmoil could strain the European' Union's backstop fund, pushing European leaders to drum up yet more taxpayer financing, with voters already annoyed at funding other people's failed governments.
The exact effects of a Greek debt implosion are hard to anticipate, in part because no one knows how big the losses would be for bond holders, who stand first in the chain of dominoes. Forced losses of 50 percent would be one thing, a voluntary stretchout of repayment another.
Beyond the immediate hit to banks, the biggest fear is that of contagion — a difficult-to-predict chain reaction that could roil markets and make it harder for other indebted countries to cope with their debts, with the result being higher borrowing costs for eurozone countries.
Some even say the end of that road could be one or more of the weakest euro members — such as Greece — leaving the shared currency, though the political will to prevent that remains strong.
Some are comparing a Greek default to the collapse of U.S. investment bank Lehman Brothers in September, 2008, which triggered the most severe phase of the world financial crisis, freezing credit markets and leading to a slump in global trade.
It's not clear a Greek default would be that sweeping, but economists say that like Lehman's collapse, its damage could be greater than expected.
"The risk of a 'Lehman moment' for the eurozone is increasing," says Neil MacKinnon, analyst at VTB Capital. "The nature of the eurozone debt and banking crisis is similar to previous financial crises in modern times because of the inter-connectedness between the banking sectors and government debt."
For now, most observers and market participants expect some kind of new aid deal to tide Greece over short-term — but fears that the EU might fail at that task is sending stock markets and the euro lower, after Greece's government called a confidence vote over its struggle to impose more spending cuts on its unhappy constituents. That follows eurozone finance officials' inability to agree on conditions for a new aid package.
French and German banks hold 55 percent of Europe's total exposure to Greece, with $56.7 billion and $33.9 billion. That includes money owed by government and banks, plus exposure to credit guarantees. Ratings agencies have indicated that banks could probably get through losses of 50 percent or more on their holdings, based on their profitability, though shareholders would see their earnings dinged.
Greek banks, which hold roughly a third of the country's debt, could see their capital wiped out and need bailouts.
For just this reason, the European Central Bank has warned against letting Greece force bondholders to take less than full payment: any money the Athens government saved would just have to be used to recapitalize the Greek banks.
With the government already bankrupt, the money would likely have to come from somewhere else — such as fellow eurozone governments who have already kicked in for bailouts and are now facing a sour mood among their voters for having done so. Mario Draghi, head of Italy's central bank and the likely next head of the European Central Bank, warned the European parliament Tuesday that anyone advocating a restructuring needed to be ready with new money.
"The cost of a real default will exceed the benefits and will not address the root causes. Moreover we do not know what contagion effects it will have", said Mr Draghi.
Nout Wellink, another member of the ECB's rate-setting council, said European governments need to be ready to double the size of their bailout fund to €1.5 billion — a prospect that cannot please German Chancellor Angela Merkel, who faces unrest in her government's ranks over Germany's role as the leading funder of bailouts.