February 19th, 2015

Searching for a face-saving compromise on Greek debt

by Enrico Colombatto Greece has to find new cash by […]

Team AEC

Image by © Dreamstime

Greece has to find new cash by the end of February to finance its current spending and to reimburse a fraction of its public debt. The European Union is willing to help in order to justify its role and diffuse tensions, but it must save face as Greece has failed to comply with the past agreements. The new Greek government is now refusing to accept any clause involved in a new rescue package. There is the impression that a deal will eventually include a partial default with guarantees on part of the outstanding debt. Greece could receive temporary relief but a face-saving solution to present this compromise has to be found first.

Greek Prime Minister Alexis Tsipras and finance minister Yanis Varoufakis are negotiating a way out of the Greek-debt headache after winning the elections hands-down on January 25, 2015. They are playing on different tables at the same time speaking to national policymakers, the European Commissioners in Brussels and major non-European players – and they have burnt all their bridges by making bold statements in the Greek parliament.

The core issue is that Greece is broke. The actual average rate of interest on its public debt is surprisingly low at less than three per cent, which makes debt-servicing relatively easy. However, Mr Tsipras and Mr Varoufakis need more cash to pay back Greece’s creditors when the debt expires on February 28, 2015. Capital outflows of 14 billion euros in the past few weeks, and election promises to increase public spending while letting the budget deficit increase, have contributed to the gloomy picture.

Conditional help

The next important deadline is the end of February, when the Greek treasury will run out of money. The bill for 2015 adds up to at least 30 billion euros.

The so-called troika of the European Union, the European Central Bank and the International Monetary Fund is willing to step in and provide the much-needed cash. But the troika – which is in fact led by the European Union – has made this help conditional on Greece delivering critical reforms in the labour market which Greece has consistently failed to complete and which the new Tsipras government is unwilling to introduce.

There has been three weeks of horse-trading and a number of important elements have emerged.
Finding compromise
First, negotiations have become more and more politicised. This means that technical agreements signed in the past will be brushed aside and ignored if the parties involved – the Greek authorities and Brussels – succeed in finding a compromise.

Second, the ECB has closed one possibility for compromise by announcing it will no longer consider Greek bonds as collateral for injecting new liquidity, but other options remain available. In particular, nobody has ruled out some form of debt monetisation.

Third, the financial community is pessimistic about Greek business, but cares little about Greek public debt. The Greek stock exchange has dropped some 40 per cent over the last six months and the annual interest rate on short-term bonds is above 20 per cent, but the 10-year Greek bond now yields ‘only’ 11 per cent when it was more than 30 per cent a few years ago.

Early stalemate

Fourth, by asking the Kremlin to help it out, Mr Tsipras has cast doubts on his statesmanship. Greece’s geopolitical repositioning could involve substantial costs in the medium-to-long run which are greater than the benefits that short-run populism justify. Russia is not an ideal partner for small-size gamblers.

Fifth, it appears that the international community – and the EU in particular – lacks a clear vision of how to deal with the Greek problem.

Although the European Commission states it is not going to give in – and last-minute negotiations on Monday, February 16, 2015, only lasted four hours before stalemate – everybody seems eager to find a way out and save face.

Eurosceptic rise

Finally, one cannot fail to notice that throughout Europe the saga is being followed with much sympathy for Greece, a mood fed by national pride, rather than by an urge for European federalism and centralisation. One suspects that euroscepticism is on the rise, and that the European authorities have failed to read the signals delivered by electors in the European elections in May 2014.

So what does this tell us about the future? Does it reveal new scenarios or will it be ‘business as usual’ once again, with a good deal of improvising?
Of course, the real question is not Greece, which is small enough to ensure it is a relatively easy nut to crack. Rather, the Greek episode sets an example for other troubled countries and for their long-run relationships with the European authorities, both in Brussels and Frankfurt.

Behind the scenes

So what conclusions can be drawn?

Politics has taken centre stage and economic discipline has been replaced by political discretion. Monetary policy and public finance are no exceptions. This does not mean the European authorities have a clear vision, but it does show that the decision-making process is in the hands of the national heavyweights, who want to preserve discretionary power, and do not miss opportunities to ensure everybody knows who is in charge.

German finance minister Wolfgang Schauble is the opposite number facing up to Mr Tsipras and Mr Varoufakis in the showdown.

The head of the EU Commission, Jean-Claude Juncker, and the President of the ECB, Mario Draghi, seem to be playing a secondary role, perhaps because they are ready to comply with whatever the political leaders decide, or because everything has already been agreed behind the scenes, as an absence of significant tensions within the EU negotiating team suggests.

Brave face

Although everything could go awry at any time, a compromise seems possible soon and is likely to include both a haircut for Greek government bonds and a guarantee of future monetisation, should the Greek situation deteriorate further.

The Greeks are likely to achieve most of what they asked, and Brussels will put on a brave face. The European authorities perceive that public opinion is not supporting them, and fear that opposition to the Greek requests will bring further ammunition to the eurosceptic movements.

It is clear that the main goal pursued by the euro-authorities is stability. This is actually a code word for two sets of concerns.

First, it means Brussels wants to avoid at all costs any actions which may cast doubts on the cohesion of the European Union and on its role as an inescapable counterpart for policymaking.

Loss of sovereignty

Second, stability also means that the typical rescue package will grant privileged treatment to selected institutions, rather than to individuals. This means taxpayers and private creditors will be regarded as less important than European agencies and banks.

Based on the Greek experience, therefore, future scenarios are likely to show the following features:

Fiscal discipline – or the lack of it – will emerge as the outcome of political agreements. While political expedience will prevail, the European bureaucracy will make sure that future actions comply with the letter of the law.
Countries which are bound to meet future public-finance problems will be offered packages which include haircuts and debt monetisation. However, as politicians in most eurozone countries do not enjoy the same support as Mr Tsipras currently enjoys in Greece, their bargaining power will be weaker, and acceptance of the bailout packages will probably involve some loss of sovereignty.

Temporary relief

Greek-style bailout packages could boost populist support for charismatic applicants, but they will hardly solve the structural problems of the economies close to defaulting. Certainly, the forthcoming Greek recipe will offer a solution to unsustainable public indebtedness. Yet, relief will be only temporary, and of little help for growth.
In fact, by increasing the reward to populism, the Greek recipe could delay reforms and create conditions for renewed budgetary weaknesses with larger deficits.

Brussels and Athens are still negotiating how to package the deal so that nobody loses too much face. Mr Varoufakis said, after Greece rejected the EU offer to extend its current 240 billion euros bailout, that he hoped a deal could still be found. He called the latest EU plan ‘absurd’ and ‘unacceptable’.

Current weaknesses

But the essence of the deal is already done and, at this point, the details are of relatively modest importance. Greece’s current bailout expires on February 28, 2015.

The broader lesson, however, is that the Greek financial overhaul will confirm the current weaknesses of the EU – lack of vision, poor leadership, and weak stamina.

In contrast to the hopes of the European Commission and the ECB, we are going to witness a period of instability, during which the European ideal – whatever it means – will not recover credibility. And troubled countries will remain in difficulty.

GIS Related Articles: