Is Greece on a path to stability or just delaying an inevitable disaster?
The answer won't come for weeks or months, but financial analysts are not optimstic.
Greece is in talks with international creditors about a second package of rescue loans similar in size to the $157 billion bailout it received last year. The aim is to keep Greece from defaulting on its crushing national debt.
But to get the new loans, Greece will probably be forced to adopt new austerity measures, such as tax hikes and pension cuts, and the prospect of new cuts has already led to unrest in Athens.
Financial indicators, such as what it costs to insure Greek debt, suggest a default is extremely likely. Here are some questions and answers about the Greek debt crisis.
Q: What happened Sunday?
A: The prime minister of Greece, George Papandreou, confirmed that his nation was talking with world lenders about a second financial rescue package "roughly equal" to what Greece received last year.
In Luxembourg, European finance ministers were meeting to consider whether to release about $17 billion to Greece from the first rescue package.
Europe and the International Monetary Fund say new loans for Greece are contingent on Greece's passing budget cuts before the end of the month. Those measures have already led to angry protests and forced the prime minister to reshuffle his government.
Q: Who is paying for the Greek bailout?
A: Other European nations and the International Monetary Fund. Germany had demanded that the private sector, primarily international banks that hold Greek government bonds, share some of the pain by waiting longer to be repaid. Germany softened its demands on Friday by agreeing that any burden-sharing by private bondholders be strictly voluntary, calming the financial markets.
Q: How likely is it that Greece will default on its debt?
A: Bond traders are betting a default is almost certain. It now costs more than ever to insure Greek debt. At prices quoted Friday, the insurance contracts suggest an 80 percent chance that Greece will default in the next five years, according to data from Markit, a financial information provider.
Q: Why is a potential Greek default such a big deal?
A: Greece has an economy roughly the size of Washington state, but the real worry is about a domino effect. Or, to use a better analogy, says Guy LeBas, chief fixed income strategist at Janney Capital Markets, think of it as a spider web - pluck one string and the whole thing shakes.
Banks lend money to governments and to each other to make sure everyone has enough cash to operate every day, and banks insure each other's debt. If Greece defaults, banks will charge more money to make loans or stop lending altogether. At the same time, they'll have to raise at least $300 billion to cover insurance contracts on Greek debt.
That's why many analysts are drawing comparisons to what happened after the collapse of Lehman Brothers, the storied investment bank, in 2008. Lending froze up around the world, all the way down to small businesses and individual borrowers in the United States. The credit crunch deepened the worldwide recession.
At the least, bond investors would demand higher borrowing rates from other deeply indebted European countries, including Ireland, Portugal, Spain, Italy and Belgium. Borrowing costs for Ireland and Portugal have already jumped to record highs, with 10-year interest rates topping 10 percent. The U.S. rate is about 3 percent.
Q: What is Greece doing about all this?
A: The Greek government wants to enact further austerity measures, such as raising taxes, cutting public wages and selling state assets. And it will probably have to before it gets a fresh bailout package. But the public has reacted angrily, staging violent protests in central Athens. The union that represents employees in the state-run electric system has threatened a strike and blackouts.
Q: How would a wider European crisis hurt the U.S.?
A: It's difficult to say. American banks say they could handle a crisis. All told, they were exposed to about $43 billion in Greek debt at the end of September 2010, compared with $113 billion tied to Ireland and $187 billion to Spain.
But the investments are opaque. It's impossible to tell which banks are holding more Greek debt than the others.
"It would be naive to think their banking crisis wouldn't affect us after what we saw in the last financial crisis," warns Carl Weinberg, chief economist at High Frequency Economics.
When credit begins to freeze or it gets more expensive to borrow, other European countries could end up in a similar situation to Greece's - saddled with rampant debt and unable to borrow more money to pay it off.
Many of the economies in Europe are under that cloud, raising fears of a massive, even unprecedented, chain of defaults that slows the world economy.
Banks in the United States could end up with bad bonds on their books, just as they're working off bad loans from the mortgage crisis a few years ago. American money market funds are heavily invested in European bank debt, too.
Q: What about the dollar?
A: Even if a wider crisis is averted, a prolonged slump in Europe would probably make the dollar stronger compared with the euro. For foreign customers, a stronger dollar makes American goods more expensive. Companies in the Standard & Poor's 500 index get 20 percent of their profits from Europe. Sustained strength in the dollar could hit profits of large corporations like Boeing and DuPont because they rely on selling to foreign customers, who might not be able to afford the markup.