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Greece’s debt problem is eminently solvable. How about imminently?

By Nick Malkoutzis

The speed with which the eurozone’s key players reacted to Greece’s coalition government narrowly winning a vote on the latest austerity and reform package was impressive. If they could show the same haste and purpose in addressing the economic capitulation threatening to undermine Greek society and politics, we might be in for better days.

Even before 153 out of 300 Greek MPs had voted in favor of the legislation last Wednesday, which foresees more than 18 billion euros of cuts and tax hikes over the next four years, European Economic and Monetary Affairs Commissioner Olli Rehn admitted that Greek debt was not sustainable but that the most obvious method for tackling this problem, restructuring, was not an option.

Penchant for self-harm


A few hours after the vote, having seen the three-party coalition in Athens stagger over the finishing line, German Finance Minister Wolfgang Schaeuble said Greece would not immediately receive the 31.5-billion-euro loan tranche, which it had been expecting since the summer to recapitalize its wheezing banks and moisten the lips of its liquidity-parched market. The eurozone, it seems, has developed a dangerous penchant for self-harm.

There is also more than a dose of irony in the fact that the Eurogroup was not in a position to confirm the disbursal of Greece’s next loan tranche on Monday partly because longstanding issues such as the extra financing of up to 30 billion euros needed for a two-year extension and the sustainability of Greek debt had not been settled. They spent the last two-and-a-half years harrying Greece over the slow pace of reforms (justifiably) and its apparent inability to meet fiscal targets (Monday’s preliminary budget data for the first 10 months of 2012 showing deficit targets being beaten is confirmation that this criticism should now be dropped). But over the last few months, Greece’s lenders have shown they are prone to procrastination themselves.

Frosty exchange

The frosty exchange between International Monetary Fund Managing Director Christine Lagarde and Eurogroup chief Jean-Claude Juncker after Monday’s meeting in Brussels emphasized that in this crisis, Greece is not just battling its own demons but is also threatened by others’ fears.

Pinballing between the institutional reservations and individual hang-ups of the ECB, IMF and eurozone partners, the coalition government finds itself battered and bruised, although just five months old. Its 179 seats have dwindled to 167. It has staked its survival on the success of the measures it approved last week but for these to take root, its lenders will have to rise above the short-termism that has pervaded their crisis management strategy.

“While disbursement is likely and Greece will be put on a more stable footing in the near term, eurozone member states and the troika have once again been myopic in their dealing with Greece,” wrote Wolfango Piccoli, the head of the European division at the Eurasia Group, in a note to clients on Monday. “By leaning so hard on this government now, coalition fragility has increased.”

A longer-term strategy, despite what Rehn argues, will surely have to involve some kind of debt restructuring. There is now growing consensus that a large chunk of what Greece owes will have to be written off so it can wriggle out from under the debt mountain that is flattening hopes of an economic recovery. The latest to add his voice to those calling for a multi-pronged strategy to deal with Greek debt and remove the uncertainty seeping through the eurozone is Zsolt Darvas of the Bruegel think-tank in Brussels in a paper titled “The Greek debt trap: an escape plan.”

It should be noted that Bruegel and Darvas recommended a restructuring of privately held Greek debt a full year before the Private Sector Involvement took place. Darvas’s comment in February 2011 is as valid today as it was then.

“If something is not sustainable and you try to muddle through then the outcome could be worse for everyone involved, including the Greek government, the Greek people, Greek banks and creditors,” he told Kathimerini English Edition at the time.

Twenty-one months later, we have come full circle, only now there is a need to write down official sector debt, not just bonds held by private investors.

Darvas starts his paper by pointing out the obvious, which in this crisis can never be repeated enough: If it remains on its current course, Greece is heading for disaster. Debt will be pass 190 percent of GDP over the next few years, the economy will have contracted by almost a quarter compared to pre-crisis levels and, as the Bruegel economist points out, the number of employed Greeks will be lower next year than at any point since 1980.

Dangerous liaisons


“The high public debt ratio and the deep economic contraction feed off each other, especially when there are widespread expectations of a Greek euro exit scenario,” writes Darvas. “With an increasing debt ratio, more fiscal consolidation is needed, which in the short term has a negative impact on output. But more importantly, when several consolidation packages follow each other, the government and the parliament may be unable or unwilling to pass new measures, perhaps due to social pressure and unrest. This can lead to a collapse of the government, domestic political paralysis and a stop in the external financial assistance.”

Greece finds itself staring at a debt mountain it had supposedly dynamited with the Private Sector Involvement (PSI) initiative earlier this year. A few months later, it has proved to be a damp squib – as many predicted it would be.

While Greece restructured almost 200 billion euros of debt held by private investors, it also had to borrow substantially to provide cash incentives for investors and cover the domestic impact of the haircut, while some 60 billion euros of new Greek bonds were issued. As a result, Greece’s public debt only fell by about 12 billion euros in 2012 and its ratio in relation to GDP actually increased by 5.5 percent, according to the figures presented in Darvas’s paper.

Along with the worsening recession and the impact of the further austerity measures, this means that piecemeal solutions will no longer do for Greece.

Juncker’s suggestion during Monday’s late-night news conference, much to Lagarde’s chagrin, that official sector involvement (OSI) will not be considered was very worrying. This leaves a limited number of tools for reducing Greek debt on the table. These include lending Greece about 50 billion euros to buy back the remaining privately held debt, reducing the interest on its bilateral loans and Athens being given the profits from the Greek government bonds held by the ECB.

Darvas says this is unlikely to be enough. After crunching the numbers, he found that all these measures, plus the front-loading of privatization measures, would reduce Greek debt from 343.8 billion euros in 2012 to 299.6 billion in 2013. This would not put Greek debt on a sustainable path. Darvas sees the debt-to-GDP ratio falling to 162.4 percent of GDP in 2013 and reaching 127 percent in 2020, rather than the 120 percent demanded by IMF.

Instead, the Bruegel economist proposes a much wider array of measures to tackle Greek debt. These include maturity extensions for bilateral and IMF loans, a zero interest rate on all forms of loans until 2020 and indexing official loans to Greek GDP. Darvas also makes the point that despite the eurozone’s reluctance to provide more funding, Greece will need an extra 30 billion euros on top of the 15 billion needed to carry out the bond buyback that has been proposed.

This combination of measures would help bring Greek public debt down to about 100 percent of GDP by 2010, Darvas argues.

He sees the option of providing zero-interest loans to Greece as a much more palatable one than accepting a write-off on what Greece owes its partners. Darvas writes: “While the two ways of restructuring official lending can have the same outcome, from a public relations perspective the message that ‘Greece won’t pay any interest for eight years but will pay interest later and will pay back the principle in full,’ could be preferable to the message: ‘We write down one quarter of Greek debt, yet Greece will continue to pay interest and will pay back the rest of the principal later.’”

Taboos to be broken

While the proposals in the policy paper mean the ECB does not have to become involved in assisting Greece, and therefore won’t be accused of direct monetary financing of a eurozone member state, they do mean that a number of other taboos have to be broken: Greece will need more funding and the official sector will have to be involved somehow in the effort to restructure Greek debt.

Darvas’s suggestions are the latest in a series of ideas put forward by economists and commentators that would allow Greek debt to be tackled decisively, Greece to be able see on the horizon an exit from the crisis, and the eurozone to rebuild credibility, trust and a sense of unity.

The Lagarde-Juncker tiff, however, suggested there is no overriding acceptance within the eurozone of the need to break the bailout mold in the next few days. When eurozone finance ministers meet again on Tuesday, the onus will be on them to take, or at least put in motion, historic decisions. If they let shortsightedness rule, economic reality is likely to be unforgiving and Greece will be the first to feel its destructive impact.

[Kathimerini English Edition]

ekathimerini.com , Tuesday November 13, 2012 (22:51)  
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