How Europe can force Greece to exit the euro

By Felix Salmon
May 14, 2012

The word on everybody’s lips these days is Grexit — Paul Krugman, for one, reckons it could be here as early as June. But how would such a thing happen? The FT, in its otherwise excellent Grexit explainer, fudges that bit:

Exit would occur because, without disbursements of additional loans, the government would run out of money to pay social security and public sector wages. In addition, the ECB could withhold needed funds from Greek banks, bringing them down. At this point Athens would need to pass a new currency law, redenominate all domestic contracts in a new drachma, impose exchange controls, secure the borders to limit capital flight and take steps to introduce a paper currency.

It’s true that Greece is currently running a substantial fiscal deficit, which is being funded by the EU. If the EU stopped disbursing loans, Greece by definition could not meet all of its obligations. But the thing that happens when you can’t meet your obligations is known as a default — and as we’ve already seen, Greece is more than capable of defaulting on its obligations without exiting the euro.

So the question is: given that leaving the euro would be political suicide for any Greek politician, why would any such politician go ahead and do it anyway?

Luke Baker has the beginnings of an answer:

The rules would appear to leave the decision largely in the hands of the departing country. But when asked if that were the case during a meeting in Brussels last week, German Finance Minister Wolfgang Schaeuble said it was not necessarily so.

According to a source present at the meeting, Schaeuble said contingency plans were being drawn up and indicated that life could be made so unpleasant for Greece that it would be left with no other option but to ask to leave.

That could involve shutting off all Greece’s official financing, not just from the euro zone’s EFSF bailout fund but from the European Central Bank too. Already there are signs of that sort of pressure being applied to Athens.

It seems obvious to me that if Greece were not receiving any money from the EU and the IMF, and the relationship there turned highly adversarial, with the EU effectively trying to force Greece out of the Eurozone, then Greece would feel no particular need to pay the EU what it is owed. And if Greece were to default to the EU, then at that point it would gain little from staying current on its other debts, too. It might still pay the IMF, and try to maintain some kind of decent relations there, but my guess is that Christine Lagarde would be foursquare behind Brussels, and the Greeks would see little point in paying her either.

Up until now, only pariah countries have defaulted to the IMF, but Greece is the exception to many rules. And given the choice between default and devaluation, it seems to me that Greek politicians — and the Greek population as a whole — clearly prefers the former to the latter.

Once you strip out Greece’s debt payments, the country’s primary deficit is pretty modest — just 1% of GDP or so. So could Greece make one more round of cuts, default on all its debts, and remain within the Eurozone?

I think the answer is no — and the reason is the banks. If the ECB were to stop funding the Greek banks, and if Greece were to default on its debts, all of Greece’s banks would be insolvent. And you can’t have a functioning economy without banks. Basically, Greek depositors need to be able to withdraw something from their checking accounts. And if the EU stops supporting the banks, that something can’t be euros any more.

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36 comments so far

Even if we figure out how to get Greece out of the euro, then we have to go through the same thing a few years down the road with Ireland, Portugal, Spain, Italy, France,…. Maybe Germany should just join the Swiss Franc and let the euro devalue against that.

Posted by dWj | Report as abusive

We’ve been round-and-round on this at TE. The EZ can’t stop Greeks from using the Euro if they choose to, any more than the US can stop Cuba or No. Korea from using $, or the EZ can stop me from having a Euro account at a bank in Singapore and Euros in my pocket.

The PIIGS need weaker currencies, QE and the whole inflationary-writeoff-method package. All their debts are denominated in Euros. Thus, the Euro has to be depreciated or these countries have to “repudiate” their foreign debts, not just “default”, FS. That sinks whoever in the EZ is on the other side of Greece’s 160%+ of GDP in debts, not to mention the astronomical sums the others owe.

A soft, mushy, inflation-riddled Euro is what the PIIGS need, but not Germany and a few others. They should go so the ECB can get on with QE. The strong leaving is easy and cheap. Forcing out the weak is like fatally dangerous. If they all repudiate their debts it’s Credit-Anstalt time. Cutting the flow of funds from the North to the deadbeats may be a lever the North may apply, but it forces the weak into a fully ethical repudiation and a new beginning for them and Armageddon for the rest of the EZ. Go for it – I want to see the train wreck in real time. Got popcorn in my fridge.

Posted by MrRFox | Report as abusive

MrRFox, read the Grexit explainer from the FT again. The EZ can’t stop Greeks from using the Euro if they want to, but the Greek government can and probably will redenominate the holdings of Greek citizens in New Drachma overnight, and that currency will probably then devalue quite quickly.

Word on the street is that FX trading houses are already setting up their computers to deal with a New Drachma.

If that happens, sure, everyday Greek citizens can go on using Euros, but after they buy them with New Drachma, which they probably won’t want to do once they see the rate of exchange.

I agree with you that this is going to be a train wreck, though.

Posted by Strych09 | Report as abusive

It would be suicide for a politician to exit the Euro. But what would be the fate of the politician who found a way to pay pensions and salaries using a new scrip which he devised, provisionally to be named, oh I don’t know, the “drachma”? That person might end up being rather popular.

Posted by johnhhaskell | Report as abusive

Every poll from Greece indicates a strong majority for retaining the Euro. Any Greek government that emerges from the fractured, radicalized politics of the place is going to be weaker than tissue paper. Trying to take their Euros away from the population straight out of the box – IDTS. To my knowledge, all the Greek players advocate retaining the Euro.

A far as the politics for the North goes – Germany leaving alone might be tough to swallow. But if 4 or 5 went into a new Northern Euro, leaving the existing Euro for the others, it could work for everybody. It’s not a rejection of the European Project, but a restructuring of its internal architecture to protect it.

Posted by MrRFox | Report as abusive

I think the worst outcome for the EU, is to see Greece successfully exit. It will encourage periphery to leave, too.

Posted by GRRR | Report as abusive

I’m not so sure that leaving the euro would be political suicide for politicians in question. Sure, Greeks say that they want to stay in the euro zone, but, given the choice between leaving the euro and having 20-25% unemployment for a few more years, they might prefer the former. They could be sold on the idea retroactively, if the unemployment starts going down after the dust settles.

“Up until now, only pariah countries have defaulted to the IMF” – was ’02 Argentina a pariah state?

the Greek government can and probably will redenominate the holdings of Greek citizens in New Drachma overnight” – holdings? What holdings? Every Greek citizen with half a brain pulled his savings from Greek banks and stuffed the cash into the mattress by last Christmas.

Posted by Nameless | Report as abusive

Is there an EU rule that prevents a nation from using both the euro and their own currency? What if Greece defaults on their euro-based debts, and nobody will lend them more euros, but they create a virtual currency (VD, or virtual drachma), to borrow more money from people in search of higher yields? they don’t have to leave the EU, and they can start all over, just like declaring bankruptcy without officially doing that.

Posted by KenG_CA | Report as abusive

@Ken: There’s no rule against two currencies, but that kind of defeats the purpose of issuing Virtual Drachma (VD). If both currencies were circulating, but the VD is dropping relative to the Euro, then everyone tries to pay in VD and to get paid in Euros. Pretty quickly the market segregates, like in eastern Europe in the 1980s, where dollars could buy anything and rubles could buy crap.

Posted by JayCM | Report as abusive

Yes, JayCM, but if the government pays in rubles/drachmas, then you’ve solved the high cost of the public sector.

Posted by TFF | Report as abusive

As soon as Greek government forms a national bank, begins issuing “virtual drachmas”, and declares them legal tender in the country, we will call that “exiting the euro”. The fact that the euro continues circulating in the country is irrelevant.

Having the euro as the sole legal tender IS essentially the definition of “being part of the Euro zone”. There are a few minor secondary benefits, like having some say in decision-making of the ECB, and a few purely symbolic ones, like the right to stamp euro coins with design of your own choosing (but in the amounts authorized by the ECB). Greece will likely be stripped of those when it introduces the drachma, and it will not miss them much.

Membership in the EU is a whole separate issue. There are 17 countries in the Eurozone and 27 countries in the EU. Greece can exit the euro without parting ways with the EU completely.

Posted by Nameless | Report as abusive

One thing people keep missing is that Greece purchased 9.7 billion in military weaponry last year, down from 15 billion. There have been claims about a quid pro quo with Germany and France. That money could go a considerable way toward funding Greek salaries and pensions in the event it would be cut off.

Of course, punishing Greece even more by having the ECB refuse to service Greek private banks makes that discussion moot. But Wolfgang Munchau has written that he would interpret such a move as an extremely belligerent measure. Maybe, maybe not. But regardless, if that move is made, investors and the debtor countries will realize that the EU is tossing out a country. It won’t be interpreted as a Greek decision to leave. And that will create certain unknowns in terms of the funding of other countries in Europe, it may even create a bank run.

As for moral hazard, the only lesson I take here is that Greece should have defaulted immediately instead of taking on an additional 100 billion in debt (reduced by 40 billion by the terms of the default, not 100 billion as is often reported). How’s that for a lesson? Never enter austerity talks with the sharks–go your own way immediately.

Posted by DanAllen | Report as abusive

Nameless, Greece doesn’t have to form a national bank. They can issue new debt in this virtual currency to cover new spending, while ignoring the old debts that creditors refuse to re-negotiate. They can pay new expenses in VD, which will have a nominal exchange rate that will of course fluctuate. They can effectively set the new value of existing debt, and people can take it (and the risk it brings), or hold on to existing debt, and take their chances with some court.

Posted by KenG_CA | Report as abusive

I don’t think this is at all complicated from here to the end game. First, Greece has a new election forced by the fact that no one can form a new government. After that election, there’s still deadlock, but the parties resolutely opposed to continuing austerity win even more representation.

Greece doesn’t concede to continuing the troika-imposed austerity measures. Then the EU doesn’t pony up the next tranche of bailout money. Greece runs out of money to pay existing government debt(s) shortly thereafter, and no one will loan them any more money except at usurious rates.

As The FT says, the only plausible thing that can happen at that point is that Greece will start printing new Drachmas to pay for existing expenses like government worker salaries, operating expenses and pensions. Like KenG_CA says above, it can then start issuing bonds denominated in new Drachmas and possibly offer to reissue existing debt in the same currency. But it won’t matter if bond holders don’t take the offer because Greece won’t have the Euros to meet existing coupon payments.

Like Nameless says above, that act is tantamount to “leaving the Euro”. Even though Greek voters say that they want to keep using the Euro, their voting for parties that want to discontinue the troika-imposed austerity measures that are the guarantee of continued bailout money speaks with a louder voice.

That voice is saying “let’s leave the Euro, fellow Greeks.”

Posted by Strych09 | Report as abusive

Anything can work for the Greeks so long as the method gets them out from under the debt load they are carrying. As Felix noted, they are just 1% of GDP away from primary budget balance – that’s better than the US position by far AIUI.

Greeks do want to back-off from this position and resume running bigger primary deficits, to fund services and salaries. I don’t see how that works without a currency they can print. But is that necessary? Freed of debt service, they could turn the corner and begin to grow if they have just a bit of will – and start actually collecting taxes.

Naturally, Greece sheding its debt means its creditors must shed those “assets”. I want to see Europe try to survive that.

Posted by MrRFox | Report as abusive

Ken, I don’t see what that would accomplish. If they decide to ignore the old debts, that’s a default, and for a while they won’t be able to borrow any more money from any private creditors at anything less than triple-digit yields, whether denominated in euros, dollars, or virtual drachmas. Private creditors won’t be able to lend VD to the government unless they can buy those VD at forex markets. Besides, they won’t _want_ to deal with VD, unless they are offered guarantees that they’ll be able to convert VD into tangible goods in future. That means that VD must be convertible and declared legal tender in Greece. Now Greece will need some form of agency (call it “national bank”) to manage the supply of VD, and we’re one step away from turning VD into real currency.

Short of all that, they can try to use VD (I believe the correct word here is “scrip”) exclusively to pay government salaries, that’s been tried on a few occasions, even in Argentina during its last crisis. That’s basically a banana-republic move with no real advantages over a full-scale euro exit.

Posted by Nameless | Report as abusive

Nameless, they’ll have to find new lenders. There will always be people looking for something better who are willing to take a chance with sub-prime customers. Something will be better than nothing, and some people will deal with them.

Yeah, it’s a default. But this allows them to offer a haircut to those willing to trade their euro bonds that won’t get repaid for VD bonds that will. Those who don’t make the trade risk getting nothing. And people can still use euros there, while the EU doesn’t have to bail them out.

This really needs to be settled somehow, as they are causing losses to the rest of the world’s economy that are probably greater than their overall debt.

Posted by KenG_CA | Report as abusive

The PIIGS don’t need to devalue, they need to restructure their economies. And Greece needs to collect the taxes that are due to it. As for not wanting 20 to 25% unemployment, if the alternative to that was 50%+ unemployment 25% would look rather attractive. If the Greeks don’t see sense soon, if they choose leaving the Euro as the way forward the country will be ruined. The EU and EZ will continue, but Greece will have BIG problems.

The BBC had an interesting documentary about the Greek and German view of the Euro. Both countries’ citizens wanted to keep the Euro, and Greece in the Euro. Despite Eurosceptic Michael Portillo (the presenter and ex-Chief Secretary to the UK Treasury and once upon a time Defence Minister under Margaret Thatcher) looking for people inside the Euro to criticise it, he failed. The Greeks blamed their own politicians for giving too many “jobs for the boys” for outrageous money that was then spent on things like imported German Porsches or Siemens electric railways (for the 2004 Olympics which are probably another cause of Greeks problems; hosting the Games costs billions). The Germans just blamed the Greeks for not going through the restructuring that Germany went through after reunification and again in the early noughties.

If no party can form a government, the Greek people will see that they have a stark choice: take the medicine and save the leg, or bite the bullet and amputate. For once, it looks like the rest of the EZ might be ready for Greek brinkmanship, leaving the Greeks no option but to accept the status quo.

Posted by FifthDecade | Report as abusive


Please check the facts.

The numbers you write for Greek arms purchases are too high by roughly a factor of ten (sic).

Even the whole military budget of Greece (of which arms purchases are only a small part) was always below € 8 billion.

There is a point that Greece might spend less on it’s military, but let’s discuss that based on facts and not on hugely inflated numbers.

Posted by AdrianBunk | Report as abusive

No need for drachmas. Greece can print Euros. In fact every euro countries can (and do). Yes, that would break the treaties, but that is a minor inconvenience if you are dying.

Posted by Eddyspain | Report as abusive

@EddyS – that would put Greece in a class with No. Korea. IDTS. They can print something else and make it legal tender if they wish, but not something that purports to be a Euro, after authority to do so is removed by the EZ.

Anyway, why would they need to? There’s plenty of paper money floating in the country. As for deposit accounts, they can remain denominated in Euros. If the Greek people trust their banks enough to deposit the paper money they’re holding now, that could be enough. A big “If”, admittedly.

Posted by MrRFox | Report as abusive

the greek government does not function

discussion of its currency and debt issues are superfluous to the core issues

and this will not be the first nor last time greece seeks a chapter 11-style bankruptcy

existentially, the greek government has lost its membership in the eurozone league

the gaming, extortionist threats, histrionics are staged dramas to disguise the political swindling of money in any form, from any source

the greek political class need a modern version of the french revolution from the mob

Posted by scythe | Report as abusive

Most here are missing the point(s) which have sunk Greece. It really doesn’t matter if they get the EZ to fund them or not. Stay with the Euro or in the EU.

They got into this shape living beyond their means. They spend more than they produce. Until they make the structural changes to be more productive and compete it’s a certain slide into hell.

They have to accept a lower standard of living, less government support and longer hours at work for less money.

Euros will leave the country or be hoarded, prices in VD will skyrocket, poverty will explode. Government institutions will crumble.

All this will happen no matter what the EU or the Greeks do from here on out.

Germany knows this and so does France. Germany can survive, France, Spain and Italy can’t.

Germany, France and the Dutch will have to take on massive debt to save this. France is willing to do that, Germany, not so much.

The best solution:

Germany, Sweden, Norway and a few other Northern states form a Super Union with a Super Euro say two SE for one Euro. Let the broke countries devalue the Euro and run with their own rules.

The Northern Union can have solid money, low debt, high production and live within their means. The Southern Union can do whatever with a floating devalued currency.


The Northern Union in say 25 to 30 years will own all of the money making properties and business in the Southern Union. Most of the Southerners will be little more than serfs unless the North is very careful not to interfere in the Southern Union.

Posted by JLWest | Report as abusive

@JLW – you have the right methodology, though I doubt it play-out quite as dire as you suggest over the long-term. Doesn’t matter really – the Germans have their Teutonic brains locked into forcing the weak out rather than going away with the other strong countries to a new common currency.

Cool. I want to see the train wreck when they attempt it.

Posted by MrRFox | Report as abusive

No need for drachmas. Greece can print Euros. In fact every euro countries can (and do). Yes, that would break the treaties, but that is a minor inconvenience if you are dying. —
Posted by Eddyspain

What do you think, Felix? Is Eddyspain’s claim true? If so, would the rest of the Eurozone switch to a new post-Greece Euro to prevent Greece from “counterfeiting” it’s way to prosperity?

Posted by breezinthru | Report as abusive

I think the worst outcome for the EU, is to see Greece successfully exit. It will encourage periphery to leave, too. — Posted by GRRR

A soft, mushy, inflation-riddled Euro is what the PIIGS need, but not Germany and a few others. They should go so the ECB can get on with QE. The strong leaving is easy and cheap. Forcing out the weak is like fatally dangerous. — Posted by MrRFox

If Greece can ‘successfully’ exit the Eurozone, perhaps other countries could be encouraged to leave… in an organized and somewhat beneficial manner.

The Eurozone experiment that began in 1991 has conclusively demonstrated the problems associated with a non-federal entity sharing a currency and a Central Bank. Those costly problems will continue whether or not Greece leaves.

A two-tier Eurozone could be implemented by decisive and forward-thinking Eurozone leadership. Countries that are willing and able to form a new European Federation could announce that they are doing so and they could create a new federal currency.

The others could continue to use the Euro or not, as they choose. The European Federation could offer to provide modest support for the old Euro in exchange for the lower tier countries agreeing to not entirely turn their backs on their financial obligations.

Posted by breezinthru | Report as abusive

I think the key to convincing Greece to stay in the Euro is to make sure they are treated with dignity. What happened in the last 2 years only makes the Greeks more angry and thus act more irrationally.

It’s entirely reasonable to be angry with Greece because of what they have done, very crooked. But then if we think deeper, they did what they did in large part also because of all the crooked advices and well-thought plans from Goldman Sachs.

Perhaps it’s time to convince Alexis Tsipras (this is really the guy that matters now) to accept a softer austerity plan, and Germany might need to be more flexible. Giving even some vocal support for possible future Euro bond is an excellent start.

If that fails then they have to save the Euro by making an example out of Greece. Greece has never paid a dime on any of the money that they borrow because they have always run primary deficit.

A successful Greece exit will cause an un-resistable urge to the rest of Euro to default, run away with the obligation and call it quit. A successful Greece exit equals the end of Euro.

Posted by trevorh | Report as abusive

What’s best for Greece?

1) Continue with the austerity plan.

2) Balance the budget.

3) Pay off the debt.

4) Stay in the Euro.

Will any democratically elected government agree to the above? No. What’s the solution? Bring back a military dictatorship.

Democracy has failed. No one ever got elected on a platform of sacrifice, hard work, responsible behavior, and paying off debt. People will squirm, evade, deny and even riot rather than accept the consequences of their own irresponsible behavior.

It’s the same here in the US. Our debt is unpayable. No party talks about settling the debt or even balancing the budget. We are evading reality just like the Greeks, hoping to forestall the inevitable long enough to allow us to live out our lives. I predict that when the default firestorm finally engulfs the world, our (historically slight) experiment with democracy will be over.

Posted by mstamper | Report as abusive


You are completely out of touch with reality when you think Greece needs to be convinced to stay in the Eurozone: About 80% of the Greek people do want that. But they want to stay in the Eurozone without paying their debt. In their elections next month they will have to choose if staying in the Eurozone or not fulfilling their obligations is more important to them.

Your comment about Goldman Sachs is also misleading, since different from other countries in Greece the current problems are not the fault of any banks (neither Greek nor US nor other banks).

And there’s no point in your suggestions below, the choices what will happen are very well shaped now:

Either in the Greek elections next week the parties that want to fulfil the comitments Greece has signed will get a majority.

Or they will not get a majority, Greece will not even be able to pay it’s salaries next month, and Greece will be thrown out of the Eurozone (perhaps even out of the EU, but even though that would be logical it is much less likely).

Posted by AdrianBunk | Report as abusive


I know they want to stay in the EU by 75%, but there is no way they can stay in the EU and default on their debt! That’s why I make the two thing the same issue.

The point about Goldman Sachs is not misleading.
Goldman Sachs have been helping Greece lie to get into EU, lie to produce good numbers, lie to sell more bond.
You need to research more to see the whole story.

That’s what they do for a living, inflating a weak entity use false information to suck people in and then wait for it to blow up.

Posted by trevorh | Report as abusive


Your claim “No one ever got elected on a platform of sacrifice, hard work, responsible behavior, and paying off debt.” is wrong.

An example of a EU country in the current crises where the prime minister’s party doubled (sic) it’s votes after huge salary cuts for all people and unemployment was over 20% is Latvia.

Posted by AdrianBunk | Report as abusive


When you wrote “convincing Greece to stay in the Euro” that was completely misleading since they do want that anyway.

The Greek people has two clear choices now, and it will democratically decide which one of them to choose.

The rest of us in the Eurozone is completely fed up with Greece and definitely not willing to comprimise on what the democratically elected Greek government has signed. There will not be any new negotiations if Tsipras wins the election, it is clear that if he gets elected and doesn’t suddenly change his mind Greece will be thrown out of the Eurozone.

Greek has longstanding debt and corruption and competivity problems. The way Goldman Sachs “helped” Greece at one point is not good, but when looking at the whole picture this is an irrelvant detail

Even though Goldman Sachs is to blame for many bad things they’ve done, the problems of Greece are not the fault of Goldman Sachs (or any other banks).

Posted by AdrianBunk | Report as abusive

My heart says Let them go, but my head says There’s still a way to keep the ship afloat.

But I am staggered at their brinksmanship instead of statesmanship. (Lots of ships here!).

It’s having an honest fiscal policy which is ignored by the Greeks. So you define jobs, licence them, eg a cafe owner pays X, a doctor pays Y etc. Match names to licence payment (jail for miscreants) and have money coming in to the Treasury. It’s a sort of tax but is collected, not evaded.

Posted by seymourfrogs | Report as abusive

@TFF: Greece isn’t self-sufficient in food, energy, or medicine. Food and fuel costs are set by global markets, more or less (medicine costs are more complicated). If Greece adopts a currency (VD, as per Ken’s earlier post) and pays its civil servants in it, and the value of those paychecks fall dramatically, the civil servants get screwed via starvation wages. In most countries where the civil service is badly underpaid, they quickly find ways to make ends meet by corruption and outright theft.

Maybe this is the least bad option, but it’s pretty bad.

Posted by JayCM | Report as abusive

” If Greece adopts a currency (VD, as per Ken’s earlier post) and pays its civil servants in it, and the value of those paychecks fall dramatically, the civil servants get screwed via starvation wages. ”

The situation is not as dire as you claim. If Greece becomes as poor as Serbia, they’re still doing pretty well compared to most of the world.

The real problem, as repeatedly pointed out by AdrianBunk, is that Greece wants to live a German lifestyle on Serbian levels of productivity. This is SIMPLY NOT POSSIBLE in the long term — and it has nothing to do with banks, the rest of the EU, or anyone else. Those villains are, yes, relevant to Italy, Ireland, Spain, Portugal — but not to Greece.

The way you overcome this mismatch is either you grow your productivity to German levels, or you live at Serbian levels. Greece can choose which of those two paths it wants to follow, but choose it must.

Posted by handleym | Report as abusive

Handleym said The way you overcome this mismatch is either you grow your productivity to German levels, or you live at Serbian levels. Greece can choose which of those two paths it wants to follow, but choose it must.

That’s the 30,000 foot, very-long-term view. The nearer term view is that they’re going to see a decline in living standards to near-Serbian levels. Declining wages are much easier to handle if inflation does the work, reducing the value of the currency, than if deflation does the work, reducing nominal wages.* Now, we’re talking about how to arrange things so that inflation can do as much of the work as possible.

BTW, I’d include the EU and its banks as “villains” in Greece, or at least not completely innocent. The banks wrote billions in unsound loans to Greece because they thought the EU would ultimately have to guarantee them. If not for that, the Greeks would not have been able to run up these debts.

* This is because 1) inflation reduces debts along with income, and 2) money illusion prevents prices from falling smoothly.

Posted by JayCM | Report as abusive
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