End of the bailouts and onto a path to a new bankruptcy
Last week’s Eurogroup set up the final conditions for the end of the third Greek bailout program in August. Since 2010, Greece has borrowed 275 billion euros from European Union countries and the International Monetary Fund. Greece also shed 100 billion euros of private debt in an agreement with the borrowers in 2012. However, present debt is still over 300 billion euros for an economy of officially 185 billion GDP (plus 30 percent unaccounted illegal income). Thus, debt to gross domestic product remains extremely high.
Even though the borrowing is over, the EU and the IMF have imposed new long-term austerity conditions on the Greek economy, including additional sharp pension decreases and the requirement that Greece produces a 3.5 percent of GDP budget surplus.
To achieve this, the government has imposed skyrocketing taxes including a 24 percent value-added tax (and plans to increase taxes to those making as little as 6,000 euros a year). Taxes suck out all the extra cash businesses and people have. Investment has plummeted, and consumption is 25 percent lower than a few years ago. Unemployment is at 23 percent but this number is misleadingly low because those working only two days a week are considered employed.
With huge taxes and a business-unfriendly bureaucracy, Greece is unlikely to attract investment and will not achieve fast growth. Without growth, the country will be unable to pay back its debt in full despite a 10-year postponement of maturities on one-third of its debt granted by the EU last Thursday.
The Eurogroup decision was crafted to create a cushion of cash that would allow Greece to temporarily pay all its external debt obligations without issuing new bonds for about two years. Thus, the EU plan abandons the goal of Greece’s return to global financial markets that was a key goal of the bailout programs. It does not help that the IMF sees the Greek debt as sustainable only in the medium term and is “unsure” of its sustainability in the long run.
Once the money cushion is spent or diminished, Greece will have an even harder time tapping financial markets. The eight-year bailout programs have failed to bring Greece to normality. After the cash cushion is exhausted, Greece will be asking for a new bailout.
Is there a solution for Greece? Yes, but it is in quite the opposite direction of the EU and IMF plans this far. Greece needs to achieve fast growth, 4-5 percent per year, for five years, and start paying its debt after that. To achieve high growth, the country needs to abandon the multi-year 3.5 percent surplus target for the much more reasonable 1.5-2 percent target. With lower surpluses, lower taxes and less bureaucracy, Greece will be able to attract investment and realize high growth.
Once it has achieved high growth and its economy has expanded, only then will Greece start paying its debt, and it will be able to pay its debt in full over time. Instead, the EU/IMF plan forces the country to create huge surpluses when its economy is hurting, thereby driving it in a downward spiral. Imposing the requirement of large surpluses now is catastrophic and forces Greece to take a path of low or zero growth and misery. Greece will never be able to pay back its debt in full on this path.
The correct solution does not require financial wizardry, but it does require a longer time horizon, a feature that politicians all over the world lack. The next Greek prime minister needs to convince the EU partners that their present plan not only makes Greece poorer but also denies it the possibility of ever paying its debt in full, even in the long run. And, of course, the European taxpayers want their money repaid in full.
Nicholas Economides is professor of economics at the New York University Leonard N. Stern School of Business.