Pending the results of the Greek referendum, let’s look at the value of Greek debt in the hands of European governments and institutions, 331 billion euros at end of 2014. It appears obvious that Greece has received very large support. With 35 billion euros of debt outstanding, Greece is also the largest debtor to the IMF. Actually no other […]
Pending the results of the Greek referendum, let’s look at the value of Greek debt in the hands of European governments and institutions, 331 billion euros at end of 2014. It appears obvious that Greece has received very large support. With 35 billion euros of debt outstanding, Greece is also the largest debtor to the IMF. Actually no other industrial Country ever had as much support as Greece since the crisis erupted in 2010.
A sizable part of the money has come, typically through the IMF or the EFSF, from Countries and regions that have a lower GDP per capita than Greece.
These considerations would suggest that the EU and the international community have been rather generous.
However, according to Syriza as well as several economists, this generosity went to the benefit of foreign banks – mainly French and German – and not to the benefit of the Greek people. Hence, it does not make sense to speak of generosity. The money was not used to alleviate the suffering of the Greek people. Europe and the IMF only worried about big banks and big business, not about the people.
The reasoning behind this conclusion, although having some resemblance with reality, is essentially faulty and in any case misleading for the following reasons.
- Since early 2010, when the Papandreou government had to admit that public sector accounts had been grossly falsified, Greece has lost access to financial markets. Private agents (banks, funds, individuals etc.) were not willing to buy Greek debt and indeed, were eager to sell it as soon as possible because the perceived risk was too high. Since that time, foreign institutions have picked up the bill. This means that the entire deficit of Greece plus the rolling over of existing public debt were financed by foreign institutions for almost five full years. This constitutes per se major support. Without that support, Greece would not have been able to pay salaries and pensions and the social system would have collapsed.
- In addition, much of the support comes through the EFSF whose loans to Greece have an average maturity of 32 (thirty-two!!) years and an average interest rate of 1.5%. The bulk of these loans are due after 2040. This is indeed a major effort by creditors. The interest burden of the debt, in proportion to Gdp, is half that of a Country like Italy in spite of the fact that the debt to Gdp ratio is much higher.
One can always legitimately argue that an even greater effort should have been done, given the disastrous state of the Country. But at least in comparative terms it is really impossible to say that European governments plus the 188 governments that stay behind the IMF have not done an extraordinary effort to alleviate the pain of austerity for the Greek people. To be sure, there has been and continues to be a lot of austerity in Greece, but this has been essentially a consequence of extremely high deficits and debt. Austerity occurred not because of the conditionality asked by creditors Countries, but in spite of their extraordinary effort to alleviate it.
Why then is it said that creditors money went to the banks and not to the Greek people? The idea – as I understand it – is that Greece should have declared a 100% default in 2010, rather than imposing a haircut valued at about 50% in 2012. The point is quite simple and does not require much of an explanation. A 100% default (with the private sector) alleviates the burden of the debt much more than a 50% haircut. In addition, the dates are important: by not acting in 2010, Greece allowed many private investors, including foreign banks, to get rid of the debt. So when the 2012 haircut was finally decided a sizable portion of the debt was already in the hands of official institutions and could no longer be curtailed.
The arithmetic of this reasoning is absolutely straightforward. Also the economic logic is rather clear.
In the view of many analysts, by 2010 it was already clear that the debt burden of Greece was not sustainable. Therefore Greece would sooner or later have defaulted. Given this, an early default would probably have meant a smaller suffering for the Greek people. For some time, this argument (“earlier and deeper”) has had some popularity in the staff of the IMF.
The same conclusion is held by those who worry about moral hazard. In the view for instance of Karl Otto Phöl, a former and quite prestigious president of the Bundesbank, banks should have had the normal market punishment for having lent money without sufficient caution.
Whether this reasoning is convincing is difficult to establish in a clear cut way, but a few things are easy to say.
- The Greek government was fiercely opposed to a default in 2010 or 2011. If the IMF or the EU had forced Greece to default this would have been totally unacceptable according to basic democratic principles. In addition they would have taken the blame for a measure that is one of the most painful and unpopular that can be imagined.
- The Greek government had good reasons to oppose a default. A default is a very painful measure not only for foreign but also for domestic investors and would have undermined both political confidence and domestic demand. In addition, in 2010 a default would probably have been considered by markets as voluntary. In a voluntary default bonds trade at say 80 and the government suddenly states that they have a value of zero at maturity. In the case of a haircut, bonds trade at say 20 and the government offers a deal to repurchase them at 30. In the first case the government is the immediate and apparent cause of the loss, in the second case the loss has already occurred and the government intervenes to mitigate it. This makes a major difference on the way a government is perceived by market participants for many years after the fact.
- The ECB and many peripheral Countries such as Italy were strongly against a default. Trichet and other members of the board of the ECB were very clear. A default of Greece would have had strong contagion effect on other weak Countries and would have put the whole euro area in a serious danger. The reasoning of Trichet was straightforward. A default of Greece would have shown to the markets that such an event was possible within the euro zone. The next Country in line was either Spain or Italy. In 2011 investors massively pulled out of Italy. It is easy to imagine what would have happened to Italy if Greece had in the meantime declared default. It should also be recalled that at the time the ECB had not yet introduced any of the extraordinary monetary tools – from OMT to QE – that eventually came to be accepted by essentially all member states, but only after several more years of economic depression.
These points are sufficient to establish that defaulting in 2010 was not really an option for the international community. This is not to say that it would not have been better, which remains open to question, but simply that it was not feasible.
Have banks made great profits in the period 2010-2012? I have not seen any report arguing that this has been the case. On the contrary, banks claim that they lost considerable amounts of money on Greece. The truth is probably as follows. Banks, as other private investors, have not lost as much as moral hazard theorists like Otto Phöl would have liked (that is more or less 100%), but they have suffered more normal losses for two reasons. The first is that spreads went through the roof very rapidly in 2010. The second is that a number of banks were caught in the 2012 haircut.
- European taxpayers and, to a lesser extent, taxpayers of all Countries with shares in the IMF have given a very sizable support to Greece. In the last five years they have made it possible for Greece to pay for pensions, teachers, doctors and all other public expenses that were not covered by taxes nor by private demand for debt instruments.
- More could have been done with the “earlier and deeper” option (default in 2010), but this option was not feasible at the time. It would probably have created systemic risk for the very survival of EMU as well as for the world economy that was just starting to recover from the horror story that followed the bankruptcy of Lehman.
- The violent attacks of Syriza against austerity may have some merits, but it should not be overlooked that someone has to pay. Every euro of less austerity for Greece is an additional euro of austerity, now or in the future, for the creditor Countries’ taxpayers.
- Perhaps more solidarity is needed at this juncture for Greece in order to avoid a tragedy for Europe and for the world economy. But those who say this should demonstrate that they are willing to pay.
Politically, the forth point is key. In Europe today many people and political parties scream against German imposed austerity but when things get serious, they are no more willing to pay than our German partners. This contradiction makes it very difficult for governments to make decisions. A clarification in front of national parliaments and the public opinion may be quite useful in this regard.