Social tolerance of EU-IMF moves will determine Greece’s future
Greece will most likely seek financial help from the European Union and International Monetary Fund (IMF) in the coming days or weeks as investor concerns focus on medium-term solvency issues from the short-term refinancing risk. Although it may be too early to know the terms and conditions attached to the aid package, it is safe to say Greece will face its most important dilemma since World War II. Will Greece be the next Argentina or a «new» country based on much more solid economic foundations? The agreement by high-level EU officials on some key details of the EU/IMF support mechanism for Greece on April 11 failed to calm market concerns and suppress Greek bond yield spreads over Bunds. The 10-year Greek bond yielded more than 400 basis points over respective German bonds, with investors demanding a yield-to-maturity rate of 7.0 percent or more to buy Greek bonds maturing in three years or more. Moreover, the spread on five-year credit default swaps (CDS), which are usually bought as insurance against the default of the country’s debt paper, exceeded 420 basis points, more than investors demanded for Dubai’s debt or even Iraq’s. Greece managed to sell more than 1.9 billion euros of six-and 12-month T-bills last week at elevated interest rates of 4.55 percent and 4.85 percent, respectively, and plans to raise at least 1.5 billion euros of three-month T-bills this week. In doing so, it has satisfied April’s borrowing requirements but still faces an uphill battle, since it is estimated it will still need to raise between 8.0 and 10 billion euros by end-May. Following a series of ill-conceived moves by the Greek side and Germany’s lukewarm support of the aid package, a good deal of the investment community strongly doubts the sustainability of Greek debt. Some even think, especially in the USA, that debt restructuring, which is a form of technical default, is inevitable. Confronted with this reality, Finance Minister Giorgos Papaconstantinou took a major step toward activating the support mechanism, reportedly comprised initially of 30 billion euros in bilateral loans from eurozone countries plus a contribution of 10 to 15 billion euros from the IMF. Papaconstantinou requested discussions with the European Commission, the European Central Bank and the IMF on a multiyear program of economic policies, preparing the ground for requesting financial assistance at some point if necessary. However, given the deterioration in investor sentiment toward Greece, most analysts expect the country to seek this assistance in the coming days or weeks and they are right. As we have argued, it is not just the state that is under siege but also Greek banks and enterprises, since credit lines to Greece by foreign banks and others have been either cut off or severely curtailed due to the increased risk. It is the silent sovereign run. So Greece is forced to negotiate with the EU and the IMF for the conditionality of the aid package in which the IMF representatives have much greater experience and are expected to set the tone. Although it may be too early to speculate about the exact conditions that will be included in the letter of intent to be signed by the Greek government to get IMF funds in installments, it is widely expected that structural reforms and more fiscal austerity measures will be included. The long-awaited reform of the social security system, reforms of the labor market, liberalization of certain professions and markets and the privatization of state assets will be spelled out in the letter of intent. Moreover, spending cuts in the form of lower wages and layoffs in the public sector for securing the 2011 and 2012 budget deficit reduction targets are also expected. This is much more than the country has done in decades and the big question is whether Greece will become another Argentina or be a stronger and healthier country two to three years from now. It should be noted that Argentina sought and got an IMF loan of 14 billion dollars in November 2000 but this did not help it escape a default on 93 billion dollars of government debt in late December 2001. This happened after a recession turned into a fiscal crisis and then metastasized into a banking crisis in 2001. The government imposed severe capital controls, basically freezing bank accounts for 12 months with only small amounts of money allowed to be withdrawn, fanning violent demonstrations. Although Greece’s fiscal position is weak, the country is not alone, since it is in the best interest of all eurozone countries to protect the euro project, perhaps the biggest of its kind in history. However, much depends on the social tolerance of the expected structural and fiscal measures. If the vast majority of citizens show the same kind of tolerance they have to the austerity measures announced so far and already implemented, one could safely bet on the good scenario of a stronger economy. If, however, vested interests in the private and public sectors have their way, it will take years for Greece to see the dawn again. In other words, it all boils down to the Greeks’ ability to tolerate painful economic measures.
