Greece needs to take swift action rather than wait for EU cavalry

If the pundits are right, Greece will not be the epicenter in the new year of a cataclysmic sovereign event whose impact could be as severe as Lehman Brothers’ collapse in 2008. The best way to avoid the occurrence of such an event would be for the Greek authorities not to bet that the cavalry, in the form of the European Union and European Central Bank, will come to the aid of the country. The Finance Ministry will send the first draft of the updated Stability and Growth Plan to Brussels today, which is aimed at cutting the budget deficit to 8.7 percent of gross domestic product in 2010 and 7.0 percent in 2011, before dipping below 3.0 percent of GDP in 2013. Whether the EU Commission will accept the four-year time horizon, ask instead for a three-year plan or even make it conditional on achieving the deficit targets in the 2010-2011 period before extending it out to 2013, remains to be seen. The optimists note that the EU is not so «irrational» as to ask for a bigger adjustment than that of 4.0 percentage points envisaged by the government in the draft Stability and Growth Plan program for two reasons. First, it could push the Greek economy into a deeper recession and, second, it would amount to discrimination when other countries, such as the UK and Ireland, have been given longer periods. On the other hand, the pessimists contend that EU officials will easily see that the «real fiscal adjustment» is smaller than the government argues when they look at the spending cuts of more than 4 billion euros in the 2010 budget. They point out that some 2.25 billion euros in the 2009 budget represent extraordinary expenditures that cannot be repeated this year. According to them, the EU is likely to ask for a lower deficit reduction target in 2010 to compensate for the lack of insufficient spending cuts. The answer to whether the optimists or the pessimists are right will most likely be found in the second half of January, when the final version of the Greek stability program is submitted to Brussels for approval. It is reasonable to expect the Greek side to do whatever is possible to satisfy EU demands on the stability plan, because it wants to have a strong card up its sleeve when it goes out to tap the international capital markets for some 54 billion euros in 2010. Senior bond dealers think the stability program will have to be approved by the EU and be supported by strong statements from EU and ECB officials to make an impression on the markets, provide time to the government to prove the 2010 budget is feasible and help Greece to borrow the necessary funds in an orderly and smooth manner. If this happens, they say, the country will be able to raise a good amount of money in the first quarter. This, in turn, will send a signal to the markets that it does’t pay to bet on Greece’s default or wait for a credit accident to happen, such as a failure by the country to borrow the required funds at an auction. They all assume that it is not in the best interest of the other eurozone countries and ECB to let one of their own go down, as this would have an adverse impact on the euro project and on themselves. With other eurozone countries finding themselves in similar situations as Greece, there is a risk that the country could become the epicenter of the next shock to the European and global financial system and this is something the majority of market participants, politicians and others would not like to happen, according to them. However, there is another school of thought which disagrees. According to this school, Greece is too small a country to have a significant impact on the euro if it fails to convince the markets of its serious intention of putting its finances in order and essentially defaults, an unimaginable event just a few weeks ago. The proponents of this view argue that a weaker euro, even if it is caused by a Greek failure, would be good for the eurozone at a time that inflation is tame and boosting economic growth is a top priority for all member countries. Moreover, they argue that the EU institutions and the ECB will gain credibility in the markets and the euro will benefit in the medium term, if they hang tough and let a small country go down. By sticking to the rules, rather than acting on political grounds, the EU authorities will also send a signal to other eurozone countries with high budget deficits and public debts to act or risk Greece’s fate. It does not matter which school of thought is right or wrong. The lesson for the Greek government and the country in general is clear: Act fast, put your house in order and do not assume the EU cavalry will arrive when you need it the most.

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