The upgrade of Greece’s credit rating by Standard & Poor’s, the likely attainment of the fiscal target, signs of economic recovery and the ECB’s recent policy actions may further compress bond yields but they will not be sufficient to help the country regain full market confidence. On the other hand, Greece’s goal to obtain full market access will be greatly enhanced if it could qualify for the European Central Bank’s bond-buying program (OMT).
Greece took another step towards avoiding a third bailout by swapping treasury bills with 3-year and 5-year bonds worth close to 1.6 billion euros. By doing so, it created the conditions for borrowing a similar amount by selling new T-bills, most likely featuring the “unusual” maturity of 18 months. It is noted that the country’s outstanding stock of T-bills cannot exceed the ceiling of 15 billion euros set by the creditors.
This means Greece’s funding gap in 2015-2016, estimated at 12.6 billion euros by the IMF last May, will be cut to about 9.5 billion euros if one adds the proceeds from the sale of the 3-year bond and the projected sale of 18-month T-bills in the next few weeks – other factors held constant. Moreover, Finance Ministry officials have said the state plans to sell 7-year bonds before the end of the year, further closing the gap if successful. These calculations do not take into account the remaining amount of more than 11 billion euros set aside for bank recapitalization. Part of this amount may be available after the ECB’s AQR and stress tests if core banks do not use it up.
Greece would also like to replace the remaining IMF funding, estimated at around 15 billion euros until the first quarter of 2016, from other sources. This way the completion of the economic adjustment program and the full disbursement of EFSF/ESM loans at the end of 2014 would coincide with the end of IMF supervision and funding. This could have been made possible by seeking a straight third bailout loan of similar magnitude or a precautionary credit line from the ESM.
However, the coalition government has decided to reject both proposals for political and economic reasons. It looks as if the precautionary credit line, which reportedly could have helped lower Greek market funding costs, fell out of favor after the government realized it essentially entailed a new, lighter program. The idea of offering main opposition leftist SYRIZA a platform to attack the government on a deeply unpopular program seems to have played a role.
Of course, official creditors and others see things differently. They would like Greece to remain under some sort of economic program to have leverage over some key economic policies and ensure the continuation of structural reforms. These concerns are justified given their past experience and strong domestic opposition to some reforms by special interest groups. The recent court decision, which temporarily bans the optional opening of commercial shops all Sundays in 10 tourist areas, is indicative.
However, we think they all underestimate both the significance of market discipline and the country’s dependence on EU funds and goodwill. This time around the markets are fully aware of the Greek sovereign risk and will be very sensitive to any news pointing to fiscal profligacy and lack of progress in reforms. In addition, Greece depends on the EU for money to co-finance the public investment budget outlays and measures to cut annual interest costs among others. Even if there was no adjustment program, Greece would be under the EU and market watch with implications. So, concerns about improper Greek policies may be overstated given the possibility of disciplinary action.
The timidly unfolding Greek virtuous economic cycle should be kept on going. Structural reforms, which are important to this end, will be easier to implement in a growing rather than a stagnant economy. Greece’s full market access at much lower bond yields would help towards that direction by making it possible for banks and corporations to borrow bigger amounts at a cheaper rate and fight fragmentation. It would also be good for the ECB since Greek banks would be able to reduce their liquidity dependence from the eurosystem. Local banks may not be able to use Greek government bonds as collateral to access cheap ECB liquidity, totaling about 44 billion euros in August, after the country exits the adjustment program.
But regaining sustainable market access at much lower interest rates may not be possible even after Greece and the EU reach a deal on debt relief in the next few months. What could make the difference is the country’s qualification for the ECB’s OMT program. It is reminded that the ECB unveiled the OMT program in September 2012 and succeeded in driving bond yields in the europeriphery sharply lower without activating it. Greece could look forward to a similar outcome if it was qualified for OMT by the ECB, which is awaiting a decision by the European Court of Justice, whose guidance the German constitutional court sought earlier this year.
Greece’s qualification for OMT could follow a debt relief agreement with the EU, its graduation from the program, confirmation of economic recovery in the third quarter and fresh data pointing to the overshooting of this year’s primary budget surplus, set at 1.5 percent of GDP. The idea appears to have been discussed at high-level government circles and Professor Yiannis Mourmouras, the new deputy central bank governor and former chief economic advisor to Prime Minister Antonis Samaras, is said to have championed it since last May as it was his own idea. In any case, the final decision rests with the ECB. If Greek full market access is desirable, then qualification for the OMT program may be the key.