A Greek Dra(ch)ma

Why is Greece still in crisis, wasn't there a bailout?

After months of uncertainty, the EU and IMF had finally offered a €45bn rescue package (€30bn from Europe and €15bn from the IMF), which might have seen Greece through its short-term borrowing needs. But political opposition in Germany led investors to lose confidence and drove up Greek borrowing costs to the point where a far bigger rescue package now looks necessary.

What happens if a bigger bailout can't be agreed?

With short-term borrowing rates hitting 38% on Wednesday, investors fear Greece will have no choice but to default on some of its existing debt obligations, or at the very least negotiate a partial debt restructuring. In short, refuse to pay. The latest crisis was sparked on Tuesday when credit rating agency Standard & Poors downgraded Greek sovereign bonds to junk status.

Why is this so bad? Don't the bankers deserve it?

It is bad for Greece because it will make it almost impossible to borrow its way out of trouble in future, making it difficult to pay all its public sector employees and deepening its recession. It is bad for everyone because most fund managers invest in these bonds on behalf of international pensioners and savers. Though Goldman Sachs has been criticised for helping Greece hide its problems and hedge funds are blamed for exacerbating the market reaction, the banking industry is far less culpable in this crisis than it was last year.

Will Greece leave the euro?

If its domestic economic crisis gets bad enough, Athens may decide a currency devaluation is the only way to restore international competitiveness. It is hard to imagine it would restore the drachma with so many corporate and household debts still denominated in euros.

How might the contagion spread?

Rating agencies have downgraded government debt issued by Spain and Portugal, suggesting greater fears of default and higher borrowing costs across much of southern Europe. The cost of insuring against default in Poland and Ireland has also jumped as the so-called "sovereign" credit market suffers a widespread loss of confidence. Confidence could quickly return if European governments agree a more convincing rescue plan when they meet on 10 May.

Could the UK be next?

A wider collapse in investor confidence could make it more expensive for the UK to continue its heavy borrowing programme too. Lying outside the single currency means this would probably express itself first in a sharp fall in sterling rather than an outright "gilts strike" (when investors refuse to buy UK government bonds). Interest rates would also have to rise, potentially pushing the economy back into recession.