Cash may dry up earlier than thought

The negotiations between the new government and the country’s international lenders got off to a rough start, as evidenced by the joint press conference between Finance Minister Yanis Varoufakis and Eurogroup President Jeroen Dijsselbloem. Whether this is negotiating tactics in a game of chicken or a fundamental change in Greek economic policy with unforeseen consequences remains to be seen. Still, a lot depends on liquidity, which may play a decisive role in the next few weeks or months.

We wrote last week that Alexis Tsipras has the opportunity to make history by becoming the country’s first leftist prime minister and a real reformer. We noted, however, he will have to change his view on many issues to become like Lula, the Brazilian leftist leader who became the darling of the markets. We highlighted two points to begin with: the handling of the extension of the existing program which expires on February 28 and the negotiations with the EU and the IMF since he did not recognize the troika and did not want to negotiate with it.

We posed the question because the Greek political parties usually tend to renege on their main pre-election promises when they take power. This is well known to voters and foreign observers of the Greek political scene. But Premier Tsipras has vowed to differ. He intends to keep his pre-election pledges and reportedly told the visiting Eurogroup president so last Friday.

So the new government does not recognize the troika and does not want to negotiate with it. To support their case, government officials point to a report issued by the economic committee of the European Parliament last year. The inquiry of the committee underlined the internal problems that the troika setup has had and questioned its democratic foundation. It also criticized the troika system for failing to adapt the policy measures to the particular circumstances of each bailout country.

In addition, Varoufakis made it clear that the new government will not seek an extension of the adjustment program which expires on February 28 since it considers it a failure. Instead, it will seek a new agreement, aiming to lower the annual primary budget surpluses to 1-1.5 percent of GDP. However, it is also clear the EU and particularly Germany take a different view and insist the coalition government, made up of SYRIZA and the rightist Independent Greeks party (ANEL), should honor the country’s bailout agreements.

Although the vast majority of analysts and others expected the negotiations to be tough, the turn of the events has taken them by surprise. This is more so since the government has vowed to stop some privatizations, hire back a few thousand public sector employees, raise the minimum wage and increase social spending – in other words, to roll back some of the structural reforms. This has prompted some analysts to question whether this is negotiating tactics in a game of chicken where the two parties head for collision and one of them blinks before it happens or if it signals something completely different.

A small number of Greek commentators, mostly from the left, have argued the new government is made up of ideologues who truly believe they can change Greece and Europe. According to them, the government will not back down from its pre-election promises. Instead, it will prepare the ground for a second election in the next few weeks or months, aiming for SYRIZA to obtain a majority in Parliament and implement its agenda without having to count on ANEL or others. This scenario is more complicated as it would involve geopolitics, though that is beyond the scope of this article.

In any case, a lot depends on whether the state has enough money to keep functioning as long as the standoff continues and how the public reacts to the news. Experts admit it is not easy to determine the funding needs of the state without knowing whether people and companies pay their taxes or/and social security contributions regularly. The evidence so far points to a shortfall in revenues. But an official estimated recently the state could cover its funding needs in February if it managed to borrow a total of 2.4 billion euros via two treasury bill auctions scheduled for the first two weeks of February. It could also cut government spending by scaling down the public investment budget and delay payments to suppliers and others to accommodate any revenue shortfall which is likely to arise. According to the same official, the financial situation will get tight as we approach mid-March.

However, his estimate was based on the assumption the Greek public will behave normally and the banks will continue to have access to the ECB and the emergency liquidity mechanism (ELA) of the Bank of Greece to replenish deposit outflows. The ECB is due to review the amount of ELA funds on Wednesday. The Bank of Greece requested 10 billion euros in ELA loans a couple of weeks ago but the ECB approved 7 billion according to various bank sources. Net deposit outflows are estimated at about 12 billion euros in the last two months.

Assuming there is enough liquidity for the state to cover its borrowing needs, the standoff between the government and the lenders could go on for a while, culminating either in a compromise or a breakup. However, liquidity could become scarce faster than projected if the ECB decides to limit Greek banks’ access to ELA loans next week. Although we still assign a higher probability to the compromise scenario, one cannot rule out the other.