The International Monetary Fund has upped the stakes by publicly seeking a large, credible package of measures to make sure the very high fiscal target is met in 2018, making it clear that the only other option is for Greece’s European creditors to provide generous debt relief to adjust the primary surplus lower to realistic levels. This complicates things at a time when the refugee-migrant crisis, Britain’s upcoming European Union referendum and the likelihood of new Spanish elections are putting pressure on the EU institutions and major eurozone countries to conclude Greece’s first review of its third bailout program. When politics gets involved, sometimes economics gets messy.
It is obvious the European lenders and the Greek government want to finish the review soon by sticking to the high primary surplus target in 2018 and adopting a package of austerity measures the IMF considers inadequate. The EU does not want the Greek economic crisis to resurface at a time other major risks lie ahead. Athens wants to complete the review to get the pending 5.7 billion euros in European Stability Mechanism (ESM) loans, have the European Central Bank (ECB) reinstate the waiver on local bonds and help improve sentiment, hopefully leading to a turnaround. In addition, the government wants measures that do not undermine its popularity among core supporter groups, such as civil servants. The latter and ideological fervor makes it favor taxes.
The IMF rightly thinks it will take a “heroic” fiscal effort for Greece to reach a primary surplus target of 3.5 percent of GDP in 2018. It is also right when it points out that it is unfeasible to maintain such a high surplus for many years in the future as assumed in last year’s debt sustainability analysis (DSA). But lowering the fiscal target has to be accompanied by sizable debt relief.
Therefore, it has asked the country’s European lenders to provide sizable debt relief to make it possible to lower the primary surplus target to realistic levels, i.e. 1.5 percent of GDP in 2018 and beyond. However, the IMF wants to exclude its loans extended to Greece under the first and second bailout programs from such an arrangement.
On their part, many Europeans say the Greek debt is sustainable. They argue the extremely high debt-to-GDP ratio, estimated at around 178 percent of GDP at the end of 2015, is not the appropriate gauge of debt sustainability. They point out Greece pays a very low interest rate, averaging well below 2 percent, on the debt owed to EU countries, European Financial Stability Facility (EFSF)/ESM and the IMF. The official debt accounts for about 69 percent of total public debt or higher, depending on calculations. They also highlight the long maturities of debt, stretching out to 2059, and the weighted average maturity of the debt which stands at around 16.5 years.
In their view, the combination of low interest rates, long maturities and grace periods makes the net present value (NPV) of the debt much more relevant than the nominal value of the general government debt put above 310 billion euros. Since the present value of the debt is very small compared to its nominal value, Greece’s annual gross financing needs as a percent of GDP are a much better indicator of debt sustainability than the debt-to-GDP ratio.
These Europeans also argue the international markets would not have lent again to Greece in 2014, given the huge losses many private bond holders suffered in the debt restructuring (PSI) in 2012, if they thought the debt was not sustainable. After all, the debt-to-GDP ratio was not much different in 2014 than it is now. From this point of view, the policy focus should be on fiscal discipline and structural reforms and not debt relief.
Of course, there is a political element in all this. Politicians in other eurozone countries would not have liked to bring a Greek debt relief package to their parliaments for approval. Since Greece’s annual debt payments are low till 2023, they see no urgency and prefer to delay any important decisions on debt relief. It is reminded the first program review has to be approved by the Eurogroup before formal debt relief negotiations start.
The agreement would pave the way for the participation of the IMF in the third bailout, which is a precondition for further disbursement from the ESM according to Barclays. The ECB is also expected to reinstate the waiver on Greek government bonds at some point during the process, perhaps once the first program review is approved. It already surprised many on Friday by saying bonds issued by the EFSF, which were used to recapitalize Greek banks in the past, will be in the list of securities eligible for purchases under the ECB’s quantitative easing program.
It is not easy to see how the IMF and the EU institutions can reach a credible compromise on the package of measures required to attain the primary surplus target of 3.5 percent of GDP in 2018 without an agreement on Greek debt relief. The idea that Greece legislates a long list of austerity measures, bigger than 3 percent of GDP sought by the government, but will not have to apply a few of them if the fiscal targets are met could be a reasonable compromise between the EU and the IMF. This could also buy time for a debt relief agreement later on that will make the realistic fiscal targets demanded by the IMF possible, saving face for the EU.
[Kathimerini English Edition]