Government leaders in Europe will meet this week in Brussels to discuss the debt crisis again.
 One of the key discussions would inevitably be the consequences of a Greek default. Last Friday, credit-default swaps protecting Greek debt from losses for five years came in at 2,415.07.

According to Bloomberg data, that price signals an 88 per cent chance of default.

Last month, the European Union (EU), European Central Bank (ECB) and the International Monetary Fund (IMF) collectively warned that failure to overhaul the Greek economy would cause the fiscal deficit to be at the unsustainable level of 10 per cent of GDP.

In fact, without new measures, the country’s debt will reach 166 per cent of GDP next year.

The question on everyone’s mind is this – will Greece default and exit the Euro?

Let’s explore that horrid thought for a while. A default rating would make Greece’s debt ineligible as collateral for cash from the ECB, impairing the lifeline to the country’s banks and sparking contagion across the region.

As it is, the ECB is the main source of finance for Greek lenders.

“If a country defaults, we can no longer accept as normal eligible collateral defaulted bonds issued by the government of that country,” ECB President Trichet said in an interview with the Financial Times.

Interest rates would soar, and cause further damage to peripheral countries who would find it impossible to return to the bond market to raise cash.

The vicious cycle will continue and cause systemic risks to the entire European banking system.

Banks in Europe have already taken centre-stage after eight lenders failed the European Banking Authority’s (EBA) stress tests released on 15th July.

The eight banks - five from Spain, two from Greece one from Austria, showed a combined shortfall of EUR2.5 billion.  

It has been 30 years since Greece became a member of what’s now known as the European Union. It has also been more than a decade since it dropped its local currency – the drachma – for the Euro.

So, with all said and done, will Greece default on its mounting debt? Will European leaders fail to come up with sufficient measure to contain the sovereign debt crisis at the summit in Brussels this week?

Judging by the performance of EUR/USD - which has dropped 100 pips at the start of the week, I’d say yes to both.