Greek adjustment program is working, insists ESM's Regling
By Nikos Chrysoloras
BRUSSELS – “The Greek population and the government should know that help will be forthcoming, if Greece also does its part of the deal, continues to implement reform,” says Klaus Regling, the managing director of the European Stability Mechanism (ESM), in an interview for Kathimerini and Skai TV’s “New Folders” news program. The man in charge of running the gigantic eurozone support funds, which were set up in response to the debt crisis, assures that European taxpayers neither lose nor make any money from the Greek program. In fact, the European Financial Stability Facility (EFSF) and the ESM charge Greece exactly the same interest on its loans as their financing costs. Regling also defends the Greek adjustment program, and claims that the “strategy is the right one, and the strategy is working, because there is progress.”
I would like to start with a procedural question. When are the disbursements of the next tranches to Greece due to be decided, not just for February but for the months ahead, assuming of course that Athens sticks to its commitments?
As you know, we disburse on a regular basis, based on agreed performance criteria, on milestones, so the next one is expected to take place in late February, based on the milestone that has been defined by the troika. I think the preparations are well under way. Another disbursement is envisaged for March, in principal, and this will continue every quarter until 2014, always based on the agreed reform program.
There is much talk in Greece about these disbursements. Some argue that eurozone taxpayers are making money out of this program. Similarly, in Northern Europe, there is much talk, at least in some countries, about their taxpayers losing money through the Greek program. Could you tell us if the interest rates paid by Greece to the EFSF are lower than the EFSF’s own financing costs, if the Europeans are actually losing money through the Greek program?
No, the situation is very simple, but let me first say that the European partners and the IMF have made a real effort so far, just to mention one number, 195 billion euros has been disbursed so far from the EFSF, the EFSM, the IMF, the first Greek loan facility, so 195 billion euros, over a three-year period, that’s a substantial amount of money. I think this is in recognizing all the adjustment efforts that are happening in Greece. We are aware that Greece is going through a very difficult period, that people are suffering, there have been cuts in income, in wages, salaries, pensions, we know that the unemployment rate has gone up a lot. But the European partners and the IMF have tried to cushion this by providing the money.
Now, on your question, it is true that initially, two-and-a-half years ago, for the first Greek loan facility, there was a small profit for the lenders, but that was eliminated two-and-a-half years ago. So when the EFSF does its lending, since last year, we don’t make money and we don’t lose money. We charge the cost that we ourselves have to pay in the markets, when we issue bonds. We have to pay interest to the investors of our bonds and pass on the refinancing costs to the borrowing country – Greece, but also Portugal and Ireland. We add a very small margin to cover administrative costs, so nobody has been making money or losing money during these last two years.
Yes, but last December eurozone finance ministers decided that if Greece achieves a primary surplus, then they stand ready to take additional measures to help Greece. Among these measures is a further lowering of interest rates from the EFSF. In that case, will European tax payers be losing money?
The details are not known. You are right, the commitment is there from finance ministers, and already last year, in June, from the summit of the euro area heads of state and government, that the euro area continues to be prepared to help, assuming that Greece sticks to conditionality, that the Greek reform program and fiscal consolidation program is implemented. Then European partners will continue to provide financing until Greece can access the market again. So this general commitment is there, it was repeated in December, but what it means in detail, what the different elements will be, is not clear at the moment, and that shouldn’t be surprising, because it will very much depend on the general situation, what’s happening in Greece, and that’s partly determined by policy action in Greece. But it is also partly outside the control of the Greek government. Will the world economy recover later this year as many hope and expect? Will the Greek exports therefore benefit? Not everything is known; forecasts always have a high degree of uncertainty. So I think that it is very valuable that the Greek population and the government know that help will be forthcoming, if Greece also does its part of the deal, continues to implement reform. But how much and which components? It’s impossible to say today.
After the EU summit last June, Greece and other countries under adjustment programs started hoping that the ESM would be able to recapitalize banks directly. It’s not really clear yet what this means. For example, Greece has borrowed 50 billion euros from the EFSF to recapitalize its banks. Will it ever be able to write this amount of money off the books of its public debt?
We are working on this issue. You are right, the summit last June said we should try to break the link between sovereigns and banks, but it was also said very clearly from the beginning, from last June, and repeated later on that this could only become effective once we have the common supervisor – the single supervisory mechanism which will be run by the European Central Bank – in place, and it must be fully operational. Decisions have been taken to give these powers to the ECB; we are now looking at the implementation. The European Parliament still has to agree on it, and the ECB has told us that by early 2014, they should be up and running, doing the common supervision, which is the first important step towards banking union. This is very important. And it is a precondition for possible direct bank recap. So it cannot happen before the ECB’s really doing its new job, supervising big banks, and important banks, so we have a bit of time to work on the details. Conceptionally, it is easy to understand that common financial support directly to banks, should only happen when a common responsibility on the supervisory side has been in place for some time, because then the euro area as a whole has a responsibility for the banks. If subsequently something goes wrong, then there should be also a common financial responsibility. However, how the transition period will be organized has not yet been decided. It’s much easier to see what will happen one day in a steady state, but we are in the middle of this work now and I cannot really tell you what will happen during this transition period.
I know that at the last Eurogroup you discussed the issue of fiscal multipliers in the Greek program and there is a debate among analysts in both Greece and the eurozone on the Greek adjustment program. Some say that it was ill-designed from the very beginning, that the effects of recession were underestimated, that fiscal multipliers were miscalculated, that maybe Greece would need a haircut from the very beginning of the program. What is your view on this debate?
I think it is not that easy. With the benefit of hindsight, it is always much simpler to say that this forecast was wrong or that action was not sufficient. By the way the debate on the fiscal multiplier was very brief at the Eurogroup, it became clear that we don’t fully share the analysis of the IMF, I think there are some data problems. Everybody knows that multipliers are higher in a situation as we have at the moment, with high debt in the public sector and the private sector that depresses growth and interest rates at a very low level, so there are good reasons why the multipliers are higher. But that’s not the key point. Even if one had known, exactly from the beginning, I don’t think there was another strategy possible for Greece. The fiscal deficit, let’s remember, in 2009, was 15.6 percent of GDP. This was a crisis situation, and therefore crisis management had to decide very quickly to bring down the deficit, to start a fiscal consolidation process, supported by structural reforms in order to generate growth again. And it doesn’t really matter – at such a point in time, when the crisis is so deep – whether the multipliers are 1 or 1.5; that’s not the key issue. There had to be action immediately, it was unavoidable.
Leaving aside the academic debate of multipliers, there has been much criticism regarding the general direction of the fiscal policy in the eurozone. Some are saying that the continuation of deflationary and contractionary policies in the eurozone is self-defeating. I mean that the eurozone cannot really achieve its fiscal targets because of the recession and that the mixture of measures adopted throughout the crisis, and especially in the South, is wrong. I was wondering what your reaction is to this criticism.
You are right, there is a debate on that. It is partly coming from the academic world. The Eurogroup has a very clear view on that. The strategy is the right one, and the strategy is working, because there is progress. The population doesn’t see that, because they look at their income, they look at the employment situation, and it's very difficult, and we know that, it is painful. But when we, as economists, look at the overall developments, one can see real progress, in Greece, but also in the other Southern European countries, in Portugal and Spain, and of course in Ireland. Competitiveness is improving, also in Greece, because of the drop in income and cuts in nominal wages and salaries. As competitiveness is improving, exports are growing again, despite the fact that the overall economy is shrinking, and the trade deficit is falling. The fiscal deficits are coming down too.
There has been a lot of financial support from the European partners and the IMF. This strategy is working, it is bringing results. The people in the streets will not see that immediately. That is regrettable but that is unfortunately normal during the first phase of the adjustment process. We know that from other economic and financial crisis around the world. When I look at the Asian crisis, in the second half of the 90s, countries like Indonesia, Korea, Thailand went through similar, very difficult adjustments. People were suffering and in the middle of the crisis could not see the end of the crisis, but the foundation was laid for very good economic developments in subsequent years, and today countries like Indonesia and Korea are star performers in the world economy. You can find the same when you look at the Latin American debt crisis in the 80s and early 90s. Brazil looked hopeless at that time. But for the last 10 years, it has been another star performer in the world economy. You can find something similar in your neighboring country, Turkey, which was in a very difficult situation, 12-13 years ago. Many people in financial markets again argued at the time that Turkey was a hopeless case. Today Turkey is doing very, very well. So the important thing is that during the crisis, which is painful for the population, the right policies are implemented, and that a process is started that will lead to sustainable growth in the future. There are many examples around the world where it has worked like this. It takes a number of years, and these are difficult years, but the outlook can be very positive.
As you say, people in the streets in Greece cannot see this progress that you mentioned. When do you expect, as an economist, that people in Greece will start feeling the progress? And in general are you optimistic that Greece will make it at the end?
Yes, of course, as I just said. We have so many examples of serious crisis all over the world, when we look at economic history during the last 30-40 years, and there are many examples of countries that got out of their crisis, and had a very strong positive performance subsequently, but it required tough decisions and tough policy action during the crisis. We see this happening in Greece now. In terms of fiscal consolidation, your country has made significant progress. It is not over, it must continue, but most of it is done. The Greek government hopes that growth might become visible towards the end of this year. Competitiveness has improved already, significantly. Greece needs structural reforms, because we know that only structural reforms bring growth in the future. This is very much part of the adjustment program. I think there’s already progress now because the bank recap will lead to a situation, or has already led to a situation where the Greek banks are again able to get normal refinancing from the ECB. So the normal credit flow can start again, arrears are being repaid, with the help of European partners that provide financing. The Greek government can use the funds to repay arrears that should unlock parts of the economy that were blocked. These arrears make normal economic life very difficult. Uncertainty, I think, has been removed. Six to nine months ago, there was a lot of uncertainty: Would Greece stay in the euro area or not? We know uncertainty is never good for economic developments. We now see uncertainty removed. Normal economic developments, normal investment activities should start again. So I see progress in many different areas. It’s important that the government sticks to the reform agenda. Then that will also unlock additional financing, and this can be very positive. With the right policies, I have no doubt that Greece will have a very good future.
Portugal and Ireland are planning to return to the markets at the end of this year. Does the ESM plan to help them do so? I know for example that Ireland is asking that the ESM buys shares in its banks.
The EFSF has supported Ireland and Portugal over the last years. These two countries have achieved significant progress. They are success stories, but again, like in the case of Greece, the population doesn’t see it yet. But the progress is really there. Portugal and Ireland have already begun tapping the markets. We will continue to help them. We are discussing the possibilities of how best to help them return to the markets. They deserve help, we will do what is necessary, but these two countries will also have to continue their reforms.
So do you share the view that the worst of the debt crisis is behind us?
Not for the population. Unfortunately there are these time lags before the population starts to feel the effects of progress in structural reforms. As a country moves out of the crisis, it takes a while before unemployment starts falling. But for the policymakers who decide on policy changes and fiscal action, one can say that more than half of the way has been covered. That’s good progress, more than most people are aware of. It also means that the crisis is not over, but soon the reward will be there.
However, there is an elephant in the room in terms of of the sovereign debt crisis – Cyprus. I know there have been lengthy discussions on whether Cyprus is systemically important and hence has the right to apply for ESM assistance under the Treaty of the ESM. What’s your view on that?
You are correct in saying that the ESM Treaty requires a country to be of systemic importance in order to apply for assistance. So this question is always on the table and it is perfectly legitimate to analyze the situation. In my personal view, given that we are not out of the crisis in Europe yet – we are perhaps moving towards the end of the crisis, but we are not there yet – I think the systemic risk is very high. But ultimately, it is up to the political bodies, the Eurogroup, to take a decision on that. But from what I hear from the financial markets – these are my main contacts – there is concern that if things turn out badly in Cyprus, this may affect other countries. So that will be taken into account. Cyprus is a difficult case but in the past we have shown that we are able to find solutions in difficult cases and I am confident that an appropriate solution will be found for Cyprus as well.
Cyprus is a unique case in the sense that it applied for financial assistance last June and, after so many months, discussions are still ongoing. How do you explain this delay?
Cyprus is indeed a difficult case, as you say, but in a way every country is a unique case, and it has its specialties and difficulties. In the case of Cyprus, on top of all the normal complexities we have a number of additional difficulties: One, there are elections, and one cannot finalize such a big and difficult program before there is a functioning government in place. In terms of GDP, it will be the biggest program ever. Also, there are suspicions that the anti-money laundering rules, which have been voted by the Parliament in Cyprus, have not been fully implemented. I cannot judge on that, but there is widespread suspicion. We also have a situation where Russia provided money in the past and it needs to be clarified whether Russia will be providing assistance in the future. There is also a positive element that adds to the complexity of a possible solution. I mean the substantial gas reserves off the Cypriot coast. We don’t yet fully know the magnitude of these reserves. But I believe they could help in designing the program, in particular in defining a way to a sustainable debt situation.
So do you anticipate that there will be an agreement by March?
That’s the intention, that’s the plan.
According to a Financial Times story, one of the solution being circulated in the eurozone in order to solve the Cypriot debt sustainability issue is for the ESM to buy a stake in Cypriot banks. Is this technically and legally possible?
No, as we discussed, the possibility of the ESM to recapitalize banks directly was something that was discussed by the euro area summit last summer, but it will only be possible when the common supervisor for the eurozone financial system, under the auspice of the ECB, is in place and doing its job. So, at the moment, direct bank recapitalizations are not possible.
Among the solutions being discussed is to bail in depositors in Cypriot banks. Presumably, that would involve a haircut of bank deposits. Do you think that it would be a viable option?
As a matter of principle, I don’t comment on leaks. What I can say is that work is ongoing by the troika institutions and the Cypriot authorities to finalize the building blocks of the draft memorandum of understanding. I expect that the final agreement on a program could be reached as of March.