The new Greek government looks set to reject EU proposals for an extension of the bailout program and stick to its own proposal for a bridging agreement to keep the state functioning for a few months until a much-anticipated, final agreement is in place. The SYRIZA-led government is unwilling to sign an agreement, requiring major concessions relative to the leftist party’s program and this likely sets the stage for a confrontation with the EU. The government’s policy program is key but it is unlikely to satisfy the lenders’ demands. Therefore, we expect events to unfold fast with the ECB having the last word.
During the election campaign, several foreign analysts and others noted that SYRIZA had moderated its positions on a number of issues. Some of them expected the leadership of the leftist party to become more pragmatic when it assumed power. They argued the new government had an incentive to complete the pending review of the bailout program because what remained for its finalization was reasonably small compared to what had been legislated in the last few years. The new government could have even achieved some concessions from the EU on fiscal targets and debt relief, leading to an acceleration of economic growth. The lower global oil prices and the weaker euro would have provided a boost as well.
However, they all underestimated many SYRIZA officials’ conviction that the bailout program was a big mistake, leading to a 25 percent loss in economic output, record-high unemployment rates and misery. By talking to these officials or their associates, it became apparent that a SYRIZA-led government would not bow to the demands of official creditors to extend the bailout program but would seek instead a new deal with the EU. The new finance minister, Yanis Varoufakis, clarified this issue when he talked about a bridge agreement lasting a few months. This would give the new government ample time to negotiate a deal centered on lower primary surpluses and greater debt relief.
We know now that the EU will not accept this proposal and will insist that Greece honors the program but the SYRIZA-dominated Parliament cannot back this agreement or any compromise deal, at least for the time being, involving major concessions from the government. This is so because the divide on privatizations, primary budget targets, labor market and pension reform, and the size of the public sector is huge. So, unless there is a last-minute change in the positions of either the new government or the eurozone, the stage is set for a clash in the next week or so.
The ECB has already fired a warning shot by not accepting Greek debt paper as collateral for its refinancing operations effective February 11. On that same day, the finance ministers of all eurozone countries are due to hold an emergency meeting to discuss Greece. The ECB has reportedly loaned some 88 billion euros to Greek banks and authorized the Bank of Greece to provide more expensive ELA (Emergency Liquidity Assistance) loans up to 9.5 billion euros. ELA loans will enable local banks to withstand fresh deposit cash withdrawals. If withdrawals exceed the upper limit of ELA loans and the ECB refuses to provide more cash to Greek banks, then cash withdrawal limitations will be likely imposed, analysts say. They add Cyprus-style capital controls will likely follow suit, hurting the economy as domestic demand shrinks. This is more so because exports of goods would also be adversely affected since letters of credit by Greek banks would not be accepted globally and all export transactions would have to be conducted on a cash-only basis.
Of course, the two sides could reach a compromise deal before the crucial, regular Eurogroup meeting on February 16. Unfortunately, we are not optimistic and hope we are wrong. In our view, the eurozone, following Germany’s lead, has toughened its stance after Varoufakis’s tour of European capitals, including Berlin. The Greek government has been under strong pressure lately but it seems to be unwilling to yield since it enjoys a great deal of popular support and is wary of committing political suicide after campaigning on an anti-bailout platform.
SYRIZA has pledged to adopt an economic program which is at odds with the bailout program framework of the last four-and-a-half years. Varoufakis – who is very popular for his tough stance towards the lenders and the German government in particular, while enjoying rock-star status abroad thanks to his dress code – has tried to bridge the gap by emphasizing the government’s willingness to crack down on tax evasion and the oligarchs. This is in line with a leftist economic program that calls for increased social spending. However, it does not seem to be enough. This will likely not change even if talk that the new government will prosecute two high-profile businessmen and a politician to make a point, turns out to be true.
Therefore, it looks as if the two sides are headed for a clash. This will not be good for either, but especially not for Greece, and has to be avoided before the ECB steps in to limit its exposure vis-a-vis the Bank of Greece (ELA loans). Hope dies last, they say here, but it will require brave decisions to avoid the worst.