This must be one of the most dramatic Greek saga I've seen. The Prime Minister drags the parliament to agree to austerity measures in exchange for life saving aid. They got a great deal; 50% discount off their debt, EFSF worth EUR1 trillion to bail out all future debt.
But some of his party members defect and the opposition felt the PM sold out the country and want a snap election after the aid is received. Both parties agree that Greece should stay in EU. But Papandreau wants to cling to power and he's been weakened. The opposition leader smells blood and wants to seize power through a snap election.
The Greek PM sensing that a vote of no confidence will lead to snap elections and possibility of a new government, decided to throw the whole austerity package to a referendum. If the Greek public agrees to stay in EU, then the PM is strengthened and no vote of confidence is likely to occur. If the Greek public stupidly decides to leave the EU, mayhem will occur worldwide.
The PM is being pressured not to risk a referendum and accept a vote of no confidence. A transitional government if formed may renegotiate the austerity terms and throw the aid in disarray. Make no mistake, a Greek default will be a financial Tsunami. Here's what may happen:
1. European banks may have to be recapitalised but may survive this as Greek debt is not that large.
2. But it may trigger CDS and American banks may be hit due to the default.
3. It may cause a systemic risk worldwide if CDS were sold many times over.
4. Spain and Italy may be attacked and their ability to raise capital in debt markets compromised.
5. The EFSF may not be large enough to bail out Spain and Italy.
6. If the Greeks leave the EU, it will be a disaster as there will be a run on Greek banks and the EUR will plunge. The entire EU's existence will be in doubt.
Even if the best case scenario occurs, the Greek debt is a moving target and widening by the day. It is unlike the CDOs or property meltdown in the US because the US banks can be salvaged in one fell swoop. The property crash cannot get any worse if you write down to zero. But Greece is in cash burn stage. They will continue to trouble the world with requests for more money.
A few years later, the problem will manifests... Even if Greece, Spain and Italy manage to keep within their budget, the austerity measures will be so severe that they plunge into a deep and long recession.
