Before we crack the champagne open
The marathon of summits and negotiations that started last weekend concluded in the early morning hours of Thursday with a framework to address Greece’s debt sustainability, the fire power and reach of EFSF and European banks re-capitalisation to cushion the impact from sovereign debt exposures.
Within hours of the announcement, the Greek political system went into motion, with the government sounding upbeat (considering they have to sell it to the Greek people as a win), the main opposition party, in its usual monotone, looking for reasons to differentiate itself and not be seen standing alongside the government and the parties on the left and right of the political spectrum already anathematic on the grounds of sovereignty, a rhetoric favoured by the coincidence of Greece celebrating today saying ‘No’ to the Italians on 28 October 1940, one of the most heroic moments in the country’s modern history.
Let’s attempt to decipher what this framework really means for Greece, whether this arrangement opens a new chapter for the country and if it indeed settles accounts with the past, as the Greek Prime Minister stated.
The debt burden
Greece is expected to close 2011 with a total debt of approximately EUR364bln. Assuming the country will receive both tranches until the end of the year, about EUR85bln of this amount outstanding is troika loans that are out of scope of this debt relief arrangement.
There are no official figures on how much Greek debt the ECB actually holds but they range between EUR45bln to EUR65bln. Let’s assume the worst case scenario and a figure of EUR65bln that will not be part of this exchange programme.
Greece has an estimated EUR15bln in other forms of loans that are not part of this exercise.
This leaves just over EUR200bln held by the private sector that is part of this exercise, a 50% discount on face value of this amounts to a relief of EUR100bln leaving Greece with an amount of debt outstanding of EUR264bln.
Greece entered this debt crisis in the end of 2009 with an outstanding debt in the region of EUR299bln. Undoubtedly, had European leaders realised the extent and severity of the problem and had applied a decisive solution sooner, Greece could have been in a better place, since troika loans and the ECB exposure would have been reduced and there would more scope for private sector participation. However, all this is now a hypothesis and is more productive to focus on the facts.
On the assumption that this is the last chapter of the drama that we have all lived in the last 2 years (hope lives eternal) Greece comes out of this better off in terms of the debt burden.
Servicing of the debt
According to ELSTAT (page 23), Greece joined the euro with the interest payments at approximately 7% of the amount of gross debt and subsequently declined to a level between 4% and 4.5%, a factor that greatly contributed to the Greek debt bubble with many investors, in the illusion of the euro safety, sought after the better yield of the Greek bonds.
Greece will close 2011 with general government interest payments in the region of EUR13+bln. With a very rough estimate, taking into consideration the reduced interest rates of the troika loans after the July 21st agreement and assuming much reduced interest rates after the PSI, a servicing cost of 3.5% of the amount outstanding translates into just over EUR9bln in interest payments, a significant relief of about EUR4.5bln on the budget.
That said, with Greece running on primary deficits for the past eight years, the servicing of the debt was financed by additional debt (a vicious cycle) and on the basis that the new agreement appears to have particular focus on primary surpluses, this relief in interest payments will slow down the accumulation of new debt (through troika loans) but is not expected to give the Greek government the opportunity to revert some of the austerity measures introduced.
According to the official statement, the Greek government has requested for the monitoring mechanism of the programme to be “strengthened” and in this context the troika will establish a ”monitoring capacity on the ground”.
One must be under illusion to believe that from the moment the Greek government signed the Stand By Agreement back in May 2010 it has been running the finances and subsequently the country as a completely independent state. Greece gave up a significant portion of its sovereignty back then and it will continue to operate as such for the duration of the programme and for as long as it is dependent on troika financing.
Given the government’s track record on implementation, combined with the ongoing drama every three months when there was a review, it should come as no surprise that the troika pressed for a permanent monitoring force that will effectively take control of the implementation.
However, this should probably be least of the worries of anyone concerned about sovereignty. The statememt is explicit that going forward economic and fiscal cordination and surveillance will be in the hands of the Commission and the Council. Articles 24 to 29 outline the new rules that anyone that wants to be part of the euro will have to comply with. If there is any doubt just see below:
rules on balanced budget in structural terms translating the Stability and Growth Pact into national legislation, preferably at constitutional level or equivalent, by the end of 2012
consultation of the Commission and other euro area Member States before the adoption of any major fiscal or economic policy reform plans with potential spillover effects, so as to give the possibility for an assessment of possible impact for the euro area as a whole
the Commission and the Council will be enabled to examine national draft budgets and adopt an opinion on them before their adoption by the relevant national parliaments
in the case of slippages of an adjustment programme closer monitoring and coordination of programme implementation will take place
we will improve competitiveness, thereby achieving further convergence of policies to promote growth and employment. Pragmatic coordination of tax policies in the euro area is a necessary element of stronger economic policy coordination to support fiscal consolidation and economic growth. Legislative work on the Commission proposals for a Common Consolidated Corporate Tax Base
And if any of the above does not clearly reflect the intentions of making the economic union commensurate to a monetary union, from article 35:
The focus will be on further strengthening economic convergence within the euro area, improving fiscal discipline and deepening economic union, including exploring the possibility of limited Treaty changes
The recapitalisation of the Greek banks is guaranteed and so are the deposits of the Greek people. The statement is ambiguous on the details - EUR100bln until 2014 for recap plus eurozone member states contribution to the PSI package up to EUR30bln - but the safety of the Greek banking system is a given.
What is not a given is the Greek banks’ ability or willingness to turn on the financing taps again and contribute towards the restarting of the Greek economy. The Greek banks, while assessing the impact of the exchange on their books and for as long as they seek solutions to avoid participation of the Greek state in their shareholder structure, are expected to hold on tight well into 2012 contributing to the liquidity trap of the Greek economy.
One comment on Greek banks before closing. The finance minister yesterday, in his attempt to regain some of the government’s wasted political capital and sympathy from the Greek public, presented yet another dilemma, as is the common practice recently, stating that between the banks and the people the choice is always the people.
Touching as it may be, and irrespective of the views one may have about the profitability and lending practices of banks, the Greek banking sector until very recently was healthy. It managed to escape the biggest financial crisis of our time, that rippled around the world, because it kept its practices prudent and was not tempted by exotic products while seeking for a higher yield and better profit margins.
The only ‘sin’ of the Greek banks is that they, like the people of the country, trusted the Greek state and the governments that have managed them in the past decades and as part of this betrayed society they also need to share the pain and load.
Greek pension funds are estimated to have an exposure to Greek bonds in the region of EUR20+bln. It remains a mystery why the Greek government did not negotiate an exclusion of the Greek pension funds from the exchange programme considering that constitutionally pension funds are supported by the general government budget. But then again we do not know how much room to negotiate the Greek government had altogether.
Although it is currently unclear how this gap in Greek pension funds will be bridged, the government, through both the Prime Minister and the finance minister, guaranteed that pensions and the funds’ ability of uninterrupted payments will not be affected by this exchange programme.
To put the figures in perspective, the Greek ministry of Labour estimates that pension funds lose EUR15bln annually from social insurance contribution evasion, reduction in salaries and unemployment. Should the Greek government put a comprehensive plan in place to tackle evasion and growth returns, the exposure mentioned above can be recovered in a phased manner.
Privatisations and the Greek sun
Greece may be strapped for cash and handed with politicians of doubtful and limited effectiveness but sun is definitely something that she has been graced with. The country’s most reliable asset, 250-300 sunshine days a year, is deployed to contribute to the country’s rescue. Future cash flows from project Helios are commited to further reduce the indebtness of the Hellenic Republic.
Awaiting details on the rest of privatisations, provided how unrealistic the previous plan was both in terms of revenue expectations and timeframe, although the reference ”in excess” in the statement is slightly concerning.
Greece commits future cash flows from project Helios or other privatisation revenue in excess of those already included in the adjustment programme to further reduce indebtedness of the Hellenic Republic by up to 15 billion euros with the aim of restoring the lending capacity of the EFSF.
Don’t crack that champagne open just yet
The summit’s decisions are by no means a “Get Out of Jail Free” card. They undoubtedly relieve the country from a significant portion of the debt burden and significantly reduce the cost of servicing it, however the celebratory mood should stop here.
Eurozone leaders had to wrestle with bankers for weeks before twisting their arm to accept the new PSI conditions. Judging by the below the expectations participation in the July 21 PSI that was only 21% on NPV basis, 100% participation in the new PSI is far from granted.
The decisions are based on the same principles that obviously dominate European politics and policies of fiscal consolidation, balanced budgets, “enhanced labour market changes to increase flexibility at the firm level”.
These dominant principles are included in the recent adjustment programme that the Greek government agreed with the troika and full compliance and implementation of this programme is the necessary condition for Greece to carry on receiving the “official sector” support and financing.
Aside from the fact that a large portion of the economists community, and the writer, have serious objections to the followed policies, it is the same hesitant government and inefficient Greek public sector that have to implement those policies. Given their track record, the chances of projections being proven wrong, targets being missed and further costly adjustments being required, remain high.
Stay tuned, the fat lady has not sung yet, the Greek tragedy is far from over…