A Bailout Will Still Leave Greece Struggling With Debt April 20, 2010Posted by Yilan in EU, European Union, Yunanistan.
Tags: debt, EU, Greece
A Greece bailout nears. But a growing body of opinion maintains that it will not be enough to see Greece through its debt crisis. That would mean a debt restructuring or default will sooner or later follow. Even optimists recognize that large as it is —€30 billion ($41 billion) with perhaps another €15 billion from the International Monetary Fund—the bailout is only buying time for Greece. The reason there are so many pessimists is because of the scale of the task that Greece faces in the time that the bailout has bought.
According to Greece’s 2010 economic plan, Greece needs to wipe four percentage points from last year’s budget deficit that neared 13% of gross domestic product. That kind of budget pruning has been tough to achieve wherever in the world it has been tried. But as Peter Boone of the London School of Economics and Simon Johnson, a former IMF chief economist, point out in their Baseline Scenario blog even a cutback of this magnitude leaves Greece seeking to raise more than €50 billion this year, money that will finance interest payments and expand its borrowing by a further 4%. So its debt is still growing: the economists’ think Greece’s debt could, even under relatively benign assumptions, expand from 114% of GDP today to 150% of GDP by 2012. Servicing that would absorb 9% of Greek incomes in 2012, most of which would be transferred to German, Swiss and French bondholders abroad. This will happen as the Greek economy is shrinking dramatically as real incomes fall. Many Latin American economies struggled during the debt crisis of the 1980s to transfer a fraction of those resources overseas. The worst year for the region, 1984, saw net resource transfers of 4.6% of GDP. Carl Weinberg, chief economist at High Frequency Economics in New York, is one of those arguing that the bailout won’t be enough. Athens needs to raise €240billion in the next five years, €150billion to pay back maturing bonds.
This shows, he said this week in an opinion piece in The Wall Street Journal, that the bailout represents “just a drop in the bucket.” His proposed solution harks back to Latin America in the 1980s. What’s needed, he argues, is a multi-year restructuring arrangement like those that Mexico and others put together to ease their debt burdens. That would consolidate loans maturing over several years into a single loan with a maturity of, say, 25 years. With the terms he proposes, it would cut Greece’s debt by 60%, or €140 billion, over the next five and a half years. What Mr. Weinberg doesn’t mention is that these multi-year restructuring arrangements, negotiated between government borrowers and banks with the IMF holding the ring, were not enough to overcome Latin American governments’ debt problems. In fact, they were devices that helped battered international bank lenders to preserve the fiction that they would still be repaid in full while they bought time to rebuild their battered balance sheets. Once the banks had recapitalized, by the late 1980s, the Brady Plan found a way for the Latin American governments to undertake an orderly default and impose explicit losses-haircuts-on the bank lenders. By some measures, Greece has a heavier debt load than Latin America.
Developing country borrowers-Argentina, Ecuador, Mexico, Turkey-have defaulted with debt burdens as a proportion of GDP of a fraction of that now being carried by Greece. (Unlike most of the European Union, many would have met the EU’s debt and deficit limits even as they defaulted.) This heavy burden is one reason why pessimists think a Greek default is likely. Messrs. Boone and Johnson have three scenarios. The first, the non-default option would require a brutal economic contraction, difficult for any government to preside over, and even then it requires at least another two €30 billion bailout packages to guarantee its financing needs for the next three years. A second option would be to default and stay in the euro, requiring an estimated debt write-down of perhaps 65% of face value and a lot of austerity. Or Greece could default and give up the euro, which they say will result in a sharp devaluation but potentially, as when Argentina abandoned its link with the dollar in 2001, a quick move to a budget surplus (because its debt servicing burden falls), current account surplus (because its goods and services become very cheap to foreigners) and a fairly quick pick-up in growth. Many people are not ready to accept that the choices are as stark as this. Bond investors may decide the risks are not what they thought they were and give Greece more breathing space than it currently appears to have. Uri Dadush, a former senior World Bank official now at the Carnegie Endowment in Washington, says: “I suspect they do need a rescheduling.” But he adds it is not just a matter of arithmetic. “There’s a lot of psychology in this,” he says.