It’s been a harrowing couple of weeks for Greece and fellow euro zone members, but they have finally found a 130 billion euro bailout formula that looks set to allow the European sovereign debt crisis to muddle through for the moment.
But the deal comes at high costs, not least of which are relations between Greece and the most hardcore northern members of the euro zone – Germany, the Netherlands and Finland — which have been pushing harsh terms on Greece while arguing the strict measures will bring the best long-term outcome.
In response, Evangelos Venizelos, Greece’s finance minister, complained last week that some euro zone forces want to push Greece out of the group, and accused them of “playing with fire.” With the latest agreement, he now says the euro zone has avoided a “nightmare scenario.” But many critics of the process maintain, as they have at earlier stages, that no permanent solution has been reached and that this agreement, too, will fall apart soon — that is, if Greece does not leave, or does not get pushed out of, the euro zone first.
This thinking won new credence this week when the Financial Times uncovered a “strictly confidential” report, prepared by the International Monetary Fund (IMF) for euro zone officials, that privately acknowledged what critics have been saying publicly for months — that the of austerity measures being imposed on Greece may backfire. The steps could reduce economic growth so drastically that, even in the best-case scenario, it would worsen Greece’s debt woes rather than improve them. Greece’s debt-to-GDP ratio could end up at 160%, rather than the 120% target being touted in public. This would all be accompanied by an economic depression for Greece, which some say is already underway. It does not help that Greece has not met many of its obligations under the last bailout of 110 billion euros in 2010.
If this is the discussion behind the scenes, then it begs the question: What do Germany, the Netherlands, Finland and their supporters really want? Are they attempting to impose such harsh conditions on Greece that it has no choice but to leave the euro zone – a “Grexit” as some now refer to it?
“Probably what the politicians are trying to do is to force the Greeks to leave,” says Wharton finance professor Franklin Allen. “They don’t want to take the blame, and they can then claim it is the Greeks’ fault. They will have a tough time explaining to their taxpayers how they lost so much money.” At the same time, those officials probably still hold some hope that “something will turn up,” Allen adds. “It could work out. I agree with the report, though, on what’s likely to happen.”
The economic numbers are brutal. In Greece’s latest unemployment report, the figure hit nearly 21% (youth unemployment is at 48%), in an economy that has been in recession for some five years. The economy shrank by a further 7% in the fourth quarter of 2011. Projections for 2012 are for a contraction of between 4.8% and 7%. January budget revenues fell by 7% (compared with January of 2011), versus a targeted increase of 8.9%. Tax receipts plummeted by more than 18% for the month.
“The ‘solution’ is unlikely to get Greece out of trouble,” says Mauro Guillen, Wharton management professor, of the latest bailout. “Normally, a debt restructuring and bailout would be accompanied by measures to boost competitiveness. Unfortunately, Greece cannot do so overnight because it cannot devalue its currency — it doesn’t have one. So they are in a bind. If things continue this way, the economy could contract further — that’s the consequence of austerity — and unemployment could be high for a long time.”
Some critics say there are only two ways out of this spiral down: (1) transfer payments – a so-called euro zone-wide fiscal union — from relatively rich northern euro zone members to Greece and other members facing sovereign debt crises (Portugal, Spain, Italy and Ireland); or, (2) a Greek exit from the euro, and creation of the new drachma, which would allow Greece to devalue its new currency and increase competitiveness and productivity.
So, is Greece now better off leaving the euro zone? “In my judgment they are better off to leave,” Allen says. “Quite the best time to do that is an interesting issue. They may want to maximize the amount they can obtain before defaulting and/or achieve primary balance [when a government has more revenues than expenditures, not counting interest payments]. Primary balance would certainly be an easier situation in which to undertake the default.”
The latest agreement provides Greece with 130 billion euros and could cut Greece’s debt by some 30%, with bondholders bearing the brunt of it. They will suffer a “haircut” of nominally 53.5%, but that works out to about 74% after accounting for additional adjustments in Greece’s favor. The reductions amount to some 107 billion euros.
Allen, explaining that he has not seen all the final details of the agreement, notes that “at one stage the idea was that the IMF, EFSF (European Financial Stability Facility) and private creditors would have equal priority. If this made it to the final agreement, then the Greeks are in a strong bargaining position. The IMF would, for the first time, be faced with a loss. Since some of their money comes from very poor countries, this would cause a huge problem for them. Greece, with a GDP per head in PPP [purchasing power parity] terms around $28,000, is actually quite a rich country, just behind Spain and Italy in the rankings which are both around $30,000 a head. They really would be taking from the poor to give to the rich.”
Marshall Auerback of Pinetree Capital, who is also an advisor and hedge fund manager for Pimco, the world’s largest bond fund, calls the new agreement “a closet bailout of the bondholders,” because of member demands that Greece, in effect, set up and an escrow account for the bailout funds, upon which foreign creditors receive first priority. He recommends that Greece leave the euro zone and create a new currency that would be devalued by 60% to 70%. This would set the stage for making Greece the “Florida of Europe,” meaning a prime spot for vacationers and retirees that would pump large amounts of capital into the country, Auerback said in an interview on Business News Network.
Certainly Greece would seem to be reaching the breaking point. As Billy Mitchell notes in his blog, Modern Monetary Theory … macroeconomic reality: “On February 12, 2012, the famous Greek composer Mikis Theodorakis wrote an open letter to the international community – THE TRUTH ABOUT GREECE – where he makes the telling point about bankruptcy:
Production has come to a standstill, the unemployment rate has reached 18%, 80,000 shops have closed down, along with thousands of small businesses and hundreds of industries. In total, 432,000 enterprises have shut down. Tens of thousands of young scientists are abandoning the country, which is every day sinking into medieval darkness. Thousands [of] formerly wealthy citizens are scavenging on rubbish heaps and sleeping on the pavement.
In the meantime, we are supposed to be surviving thanks to the magnanimity of our lenders, the Europe of the Banks and the IMF. In reality, every package deal which charges Greece with tens of billions of Euros is repaid in full, while we are burdened with new unbearable interest rates. And since it is necessary to maintain the State, the Hospitals and the Schools, the Troika [the IMF, the European Central Bank and the European Union] is burdening the middle and lower economic strata of society with excessive taxes, leading directly to starvation.
