Greece Future in the “EURO” by Stuart Yeomans

With the recently announced fiscal methods to generate USD 17.5bn of savings required by the Troika, Greece has inched closer to securing its next loan from its bailout package. However, this may not be sufficient to secure Greece’s long term future within the debt stricken euro-zone.

The fiscal methods which are to be introduced over the next few years were agreed after weeks of bickering between the Government’s three coalition partners. Most of the incomes are to be generated by a decrease in spending which will come from reductions in pension payments and public sector salaries. The announcement has been significant, as Greece has not secured its next payment.

Adjustment, austerity and consolidation of Greece’s fiscal position have to be done gradually because any drastic prescription or conditionality would drive the country into a new phase of economic recession. Drastic measures would increase the cost to the economy and make recovery potential more remote.

International Monetary Fund (IMF) chief Christian Lagarde recently said Greece should at least be given another two years to reach its budget goals, arguing that the euro-zone should not blindly stick to tough budget deficit targets if growth weakened more than expected.

As for the recently announced methods to generate savings, the Troika may query 15% of the suggested cuts, which may delay the disbursement of the next loan tranche. The Troika will also need to be convinced that all other requirements they have demanded are en route. Furthermore, the Troika have insisted that all promised fiscal measures are being implemented before it disburses all the money.

However, having secured its next instalment may not necessarily mean that the uncertainty of Greece’s long term future in the single currency will be put to an end. The worsening in the growth outlook this year means that the economic assumptions on which the rescue package was initially based are now much too optimistic, leaving a hole in the finances of the bail-out package.

The budget assumes that the hole for next year is pretty small, perhaps just €1bn. Despite a sharp downward revision to the economic growth forecast – GDP is expected to contract by 3.8% next year rather than stagnate – the Government only expects the primary surplus to be 0.7% of GDP lower than the 1.8% of GDP target set out in the original bail-out plans. Note that the gap would have been larger if the size of the fiscal package had not been increased by €2bn. If GDP “growth” was even weaker, the financing gap for 2013 and 2014 could be rather larger, particularly if the privatisation programme generated less revenue than expected.

The bigger worry though, is that the more pessimistic GDP growth and budget deficit forecasts have led the Government to raise the public debt to GDP ratio forecast to 179% next year, far higher than the forecast of 167% in the original bail-out programme.

This could have major implications for the IMF’s involvement in the bail-out since, in principle, it will only lend to governments if the deal is expected to reduce the recipient government’s public debt to a sustainable level.

Indeed, this latest development could prompt the Fund to up the pressure on the ECB and/or euro-zone governments to agree to some sort of official sector debt restructuring, something which the ECB and most core governments are fiercely resistant to. In all, the longer-term future of the bail-out remains far from certain.

Stuart Anthony Yeomans

CEO

Farringdon Group