And the next round of debt-restructuring is sure to come
By Charlemagne | BRUSSELS
CALL it a silent bail-out. After several failed attempts, the euro zone's finance ministers finally agreed late on November 26th partly to reschedule Greece's debt, and offer several other measures to alleviate the country’s financial burden. Taken together, this action should cut Greece's debt by up to 20 percentage points of GDP by 2020—with the promise of more to come if Greece keeps to its adjustment programme.
The promise of relief—and the disbursement of a long-delayed tranche of aid worth €34.4 billion next month, subject to approval in national parliaments—does not come a moment too soon for Greece, whose economy has been in free-fall for five years. The country’s crisis has seen many false dawns, and there are several open questions even about the latest plan. But the hope is that it will help restore a degree of confidence in Greece's future and make the euro zone look less fragile. Yannis Stournaras, the Greek finance minister, said the agreement’s assumptions were so pessimistic that Greece could surprise on the upside. He even spoke of his hope of tapping the markets within the next couple of years.
The deal came after hard-fought negotiations, above all by the International Monetary Fund (IMF). The second Greek bail-out, approved earlier this year after private creditors were made to take a 50% haircut (oddly called PSI, or Private Sector Involvement), quickly went off the rails as Greece's economy continued to shrink and its politics became turbulent, requiring two elections to create a workable government.
With a new prime minister, Antonis Samaras, and a more reformist coalition in place, Greece needed what amounts to a third bail-out, although nobody will use the term. Harder still, Greece also needed debt relief from the official sector, which now holds most of the debt (predictably called Official Sector Involvement).
The negotiations took place in two phases. First, Greece had to be brought back on a path of deficit-reduction. Big budget cuts worth about 7% of GDP were approved earlier this month. In exchange, the country was granted an extra two years to reach its target of running a primary budget surplus (ie, before interest payments) of 4.5% of GDP.
Second, creditors, led by Germany, had to be convinced to do more to reduce the build-up of Greece’s debt. This proved to be even more difficult, pitting the IMF against the creditors. Even with the latest belt-tightening, Greece was set to miss its target of a sustainable debt-to-GDP ratio by a wide margin. The country was supposed to lower it to 120% by 2020, but experts calculated that it was on a path of reaching 144%. At first the IMF insisted on 120% by 2020, but then agreed to compromise. It accepted 124%, but in return obtained the promise that it would come down “substantially below” 110% by 2022.
Expecting Greece to pay off its debt at a higher rate by forever running a higher primary budget surplus of 5% or even 5.5% was dismissed as implausible (Greece will not reach a primary budget balance until next year at the earliest). And the easiest way of reducing the debt burden—simply writing-off some of the debt—was too much for the creditors to bear for domestic political reasons.
The solution is to take some measures up-front to demonstrate credibility, and promise to do more in future if necessary. The deal includes lowering Greece's interest on bail-out loans by 100 basis points, doubling maturities from 15 to 30 years, deferring interest payments for 10 years, repaying Greece the profit the European Central Bank makes on the Greek debt it has bought in trying to hold down the country’s borrowing costs, and putting more money in to Greece through EU structural funds.
The IMF, though overtly supportive, still seems to have reservations. It said it could not sign off on the programme—and release its share of the €34.4 billion—until it saw how much a debt buy-back scheme, which is also part of compromise, would yield. Greece will be trying to lower its debt burden by buying back its bonds at distressed prices.
All this helps, but EU officials admit that Greece would have to be “extremely lucky” to get by without another round of debt-restructuring. That is why the IMF sets great store by the promise—hedged and conditional as it may be—to do more for Greece later on:
Euro area Member States will consider further measures and assistance, including inter alia lower co-financing in structural funds and/or further interest rate reduction of the Greek Loan Facility, if necessary, for achieving a further credible and sustainable reduction of Greek debt-to-GDP ratio, when Greece reaches an annual primary surplus, as envisaged in the current MoU, conditional on full implementation of all conditions contained in the programme...
It is not quite the clear-cut debt forgiveness that the IMF had wanted, but it may well come to that. But the euro zone is crossing the Rubicon: it knows it will have to take losses in order to keep Greece in the club. The reduction in interest rates means that Italy and Spain are lending money to Greece for less than they can borrow. But they calculate that, in the long run, stabilising the euro zone is in their own interest. And from Germany's point of view, the reckoning has been delayed until after its election in the autumn of 2013.
