Category Archives: Greece and ECB

23/5/16: Greek Debt Sustainability and IMF’s Pipe Dreams

IMF outlined its position on Greek debt sustainability, once again stressing the fact - known to everyone with an ounce of brain left untouched by Eurohopium injections from Brussels and Frankfurt : Greek debt is currently unsustainable.

Here are some details of the IMF’s latest encounter with reality:

Firstly, per IMF: Greek “debt was deemed sustainable, but not with high probability, when the first program was adopted in May 2010. Public debt was projected to surge from 115 percent of GDP to a peak of 150 percent of GDP, primarily because the expected internal devaluation implied declining nominal GDP while fiscal deficits were expected to add to the debt burden, but also because of the decision to forgo a private sector debt restructuring (PSI).”

Several things to note here. The extent of internal devaluation required for Greece is a function of several aspects of Euro area policies, most notably, lack of functional independent currency that can absorb - via normal devaluation - some of the shocks; lack of will on behalf of the EU to restructure official debt owed by Greece to EFSF/ESM pair of European institutions and to the ECB; and effective capture of virtually all Greek ‘assistance’ funds within the banking sector and external financing sector, with zero trickle down from these sectors funding to the real economy. In other words, there were plenty of sources for Greek debt non-sustainability arising from EU construct and policies.

Secondly, “the much deeper-than-expected recession necessitated significant debt relief in 2011-12 to maintain the prospect of restoring sustainability. Private creditors accepted large haircuts;… European partners provided very large NPV relief by extending maturities and reducing and deferring interest payments; and Fund maturities were lengthened…”

Which, of course is rather ironic. Lack of functional mechanisms for the recovery in the Greek case included, in addition to those internal to the Greek economic institutions, also the three factors outlined above. In other words, de facto, 2011-2012 restructuring of debt was, at least in part, compensatory measures for exogenous drivers of the Greek crisis. The EU paid for its own poor institutional set up.

However, as IMF notes, “European partners also pledged to provide additional debt relief—if needed—to meet specific debt-to-GDP targets (of 124 percent by 2020 and well under 110 percent by 2022). Critically for the DSA, the Greek government at the time insisted — supported by its European partners — on preserving the very ambitious targets for growth, the fiscal surplus, and privatization, arguing that there was broad political support for the underlying policies.”

Oh dear, per IMF, therefore (and of course the Fund is correct here), the idiocy of shooting Greece in both feet was of not only European making, but also of Greek making. No kidding: Greek own Governments have insisted (and continue to insist) on internecine, unrealistic and outright stupid targets that even the IMF is feeling nauseous about.

“Serious implementation problems caused a sharp deterioration in sustainability, raising fresh doubts about the realism of policy assumptions, especially from mid–2014. The authorities’ hoped-for broad political support for the program did not materialize…  causing long delays in concluding reviews, with only 5 of 16 originally scheduled reviews eventually completed. The problems mounted from mid-2014, with across-the-board reversals after the change of government in early-2015. Staff’s revised DSA—published in June 2015—suggested that the agreed debt targets for 2020-2022 would be missed by over 30 percent of GDP.”

This is clinical. Pre-conditions for August 2015 Bailout 3.0 were set by a combination of external (EU-driven) and internal (domestic politics-driven) factors that effectively confirmed the absolute absurdity of the whole programme. Yes, the IMF is trying to walk away now from sitting at the very same table where all of this transpired. And yes, the IMF deserves to be placed onto the second tier of blame here. Blame is due nonetheless, as the Fund could have attempted to seriously force the EU hand on changing the programme on a number of occasions, but it continued to support the Greek programme, broadly, even while issuing caveats.

But give a cheer to the Tsipras’ Government utter senility: “Critically, …the new government insisted—like its predecessor—that it could garner political support for the necessary underlying reforms.”

And now onto new stuff.

Per IMF’s today’s note: “developments since last summer suggest that a realignment of critical policy and DSA assumptions can no longer be deferred if the DSA is to remain credible. While there certainly has been progress in some areas under the new program that was put in place in August 2015 with support by the ESM, and growth and primary balance out-turns last year were better than expected, the government has not been able to mobilize political support for the overall pace of reforms that would be required to retain the June 2015 DSA’s still ambitious assumptions of a dramatic, rapid, and sustained improvement in productivity and fiscal performance. In all key policy areas—fiscal, financial sector stability, labor, product and service markets—the authorities’ current policy plans fall well short of what would be required to achieve their ambitious fiscal and growth targets.”

Pardon me here, but I seriously doubt the primary problem is with the Greek Government inability to mobilize political support. Actually, the real problem is that the entire framework is so full of imaginary numbers, that any Government in any state of political leadership will have zero chance at delivering on these projections. Yes, the Greeks are blessed with a Government that would’t be able to replace a battery in a calculator, but now, even with fresh batteries no calculator would be able to solve the required growth equations.

So, we have the IMF conclusion: “Consequently, staff believes that a realignment of assumptions with the evident political and social constraints on the pace and scope of adjustment is needed”. In more common parlance, the IMF has to revise its model assumptions as follows:

Primary surplus (aka - austerity):  The IMF recognizes that current tax rates are already too high in Greece (that’s right, the IMF actually finds Greek tax targets to be self-defeating), while expenditure cuts have been ad hoc, as opposed to structural. Thus, with “…tax compliance rates falling precipitously and discretionary spending already severely compressed, staff believes that the additional adjustment needed to allow Greece to run sustained primary surpluses over the long run can only be achieved if based on measures to broaden the tax base and lowering outlays on wages and pensions, which by now account for as much as 75 percent primary spending… This suggests that it is unrealistic to assume that Greece can undertake the additional adjustment of 4½ percent of GDP needed to base the DSA on a primary surplus of 3½ percent of GDP.”

This is bad. And it is direct. But IMF wants to make an even stronger point to get through the thick skulls of Greek authorities and their EU masters: “Even if Greece through a heroic effort could temporarily reach a surplus close to 3½ percent of GDP, few countries have managed to reach and sustain such high levels of primary balances for a decade or more, and it is highly unlikely that Greece can do so considering its still weak policy
making institutions and projections suggesting that unemployment will remain at double digits for several decades.” ‘Heroic’ efforts - even in theory - are not enough anymore, says the IMF. I would suggest they were never enough. But, hey, let’s not split hairs.

So to make things more ‘realistic’, the IMF estimates that primary surplus long run target should be 1.5 percent of GDP - full half of the previously required. Still, even this lower target is highly uncertain (per IMF) as it will require extraordinary discipline from the current and future Greek governments. Personally, I doubt Greece will be able to run even that surplus target for longer than 5 years before sliding into its ‘normal’ pattern of spending money it doesn’t have.

Growth (aka illusionary holy grail of debt/GDP ratios):  “Staff believes that the continued absence of political support for a strong and broad
acceleration of structural reforms suggests that it is no longer tenable to base the DSA on the assumption that Greece can quickly move from having one of the lowest to having the highest productivity growth rates in the eurozone.”

Reasons for doom? 

  1. “…the bank recapitalization completed in 2015 was not accompanied by an upfront governance overhaul to overcome longstanding problems, including susceptibility to political interference in bank management. …in the absence of more forceful actions by regulators, and in view of the exceptionally large level of NPLs [non-performing loans] and high share of Deferred Tax Assets in bank capital, banks will be burdened by very weak balance sheets for years to come, suggesting that they will be unable to provide credit to the economy on a scale needed to support very ambitious growth targets.” There are several problems with this assessment. One: credit creation is unimaginable in the Greek economy today even if the banks were fully reformed because there is no domestic demand and because absent currency devaluation there is also no external demand. Two: despite a massive (95%+ of all bailout funds) injection into the banking sector, Greek NPLs remain unresolved. In a way, the EU simply wasted all the money without achieving anything real in the Greek case.
  2. lack of structural reforms in the collective dismissals and industrial action frameworks “and the still extremely gradual pace at which Greece envisages to tackle its pervasive restrictions in product and service markets are also not consistent with the very ambitious growth assumptions”.

So, on the net, “against this background, staff has lowered its long-term growth assumption to 1¼ percent… Here as well the revised assumption remains ambitious in as much as it assumes steadfastness in implementing reforms that exceeds the experience to date, such that Greece would converge to the average productivity growth in the euro-zone over the long-term.”

So how bad are the matters, really, when it comes to Greek debt sustainability?

Per IMF: “Under staff’s baseline assumptions, there is a substantial gap between projected
outcomes and the sustainability objectives … The revised projections suggest that debt will be around 174 percent of GDP by 2020, and 167 percent by 2022. …Debt is projected to decline gradually to just under 160 percent by 2030 as the output gap closes, but trends upwards thereafter, reaching around 250 percent of GDP by 2060, as the cost of debt, which rises over time as market financing replaces highly subsidized official sector financing, more than offsets the debt-reducing effects of growth and the primary balance surplus”.

A handy chart to compare current assessment against June 2015 bombshell that almost exploded the Bailout 3.0

As a result of the above revised estimates/assumptions: a “substantial reprofiling of the terms of European loans to Greece is thus required to bring GFN down by around 20 percent of GDP by 2040 and an additional 20 percent by 2060,…based on a combination of three measures..:

  • Maturity extensions: An extension of maturities for EFSF, ESM and GLF loans of, up to 14 years for EFSF loans, 10 years for ESM loans, and 30 years for GLF loans could reduce the GFN and debt ratios by about 7 and 25 percent of GDP by 2060 respectively. However, this measure alone would be insufficient to restore sustainability.
  • …Extending the deferrals on debt service further could help reduce GFN further by 17 percent of GDP by 2040 and 24 percent by 2060, and …could lower debt by 84 percent of GDP by 2060 (This would imply an extension of grace periods on existing debt ranging from 6 years on ESM loans to 17 and 20 years for EFSF and GLF loans, respectively, as well as an extension of the current deferral on interest payments on EFSF loans by a further 17 years together with interest deferrals on ESM and GLF loans by up to 24 years). However, even in this case, GFN would exceed 20 percent by 2050, and debt would be on a rising path.
  • To ensure that debt can remain on a downward path, official interest rates would need to be fixed at low levels for an extended period, not exceeding 1½ percent until 2040. …Adding this measure to the two noted above helps to reduce debt by 53 percent of GDP by 2040 and 151 percent by 2060, and GFN by 22 percent by 2040 and 39 percent by 2060, which satisfies the sustainability objectives noted earlier”.

So, in the nutshell, to achieve - theoretical - sustainability even under rather optimistic assumptions and with unprecedented (to-date) efforts at structural reforms, Greece requires a write-off of some 50% of GDP in net present value terms through 2040. Still, hedging its bets for the next 5 years, the IMF notes: “Even under the proposed debt restructuring scenarios, debt dynamics remain highly sensitive to shocks.”

In other words, per IMF, with proposed debt relief, Greece is probabilistically still screwed.

Which, of course, begs a question: why would the IMF not call for simple two-step approach to Greek debt resolution:

  • Step 1: fix interest on loans at zero percent through 2040 or 2050 (placing bonds with the ECB and mandating the ECB monetizes interest on these bonds payable by EFSF/ESM et al). Annual cost would be issuance of ca EUR 2 billion in currency per annum - nothing that would add to the inflationary pressures in the euro area at any point in time;
  • Step 2: require annual assessment of Greek compliance with reforms programme in exchange for (Step 1).

Ah, yes, I forgot, we have an ‘independent’ ECB… right, then… back to imaginative fiscal acrobatics.

One has to feel for the Greeks: screwed by Europe, screwed by their own governments and politically ‘corrected’ by the IMF. Now, wait, of course, all the upset must be directed toward getting rid of the latter. Because the former two cannot be anything else, but friends…

13/7/15: Sit Back and Watch That Eurogroup Unanimity Evaporate

Following the marathon meetings (14 hours-long Eurogroup followed by 17 hours-long Euro Council) the Greek 'deal' was heralded in the media and the markets as some sort of the Great Revelation - a solution to fix all prior non-solutions, a final fixing of the Greek economy and the end to all the endless bailouts of the past.

Of course, cynics noted that solving debt overhang (already officially recognised by the IMF as unsustainable) by issuing more debt may not be a good idea… but cynics are here to be ignored by the Euro optimists who define their own reality.

But never mind all the 'long run' stuff. Five hours into a 'unanimous' Eurogroup decision on Greece, there is neither much of a unanimity, nor much of a decision left.

Eurogroup agreed, amongst other things, that:

  • Greece will be - in principle - granted new funding of some EUR82-86 billion. The future is preliminary and will have to be finalised to fully reflect the economic conditions deterioration since January, as well as other factors. In addition to fiscal funding, these money will also be used to recapitalize Greek banks (current running estimate is for EUR10-25 billion in recaps, but the actual amount will not be known until there is a full and 'comprehensive' assessment of the banks books (to be carried out in September-December 2015).
  • While nothing is certain about this 'longer term' EUR82-86 billion package, there are immediate needs for funds that Greece has to meet. With today's missed IMF repayment, there's EUR4.934 billion due in the rest of July. There's EUR1.544 billion overdue from June. And there's EUR4.188 billion due in August. Total of EUR6.477 billion is due to the ECB alone. There is no expectation that the 'long term' package will be ready before much of this comes due, so Greece will clearly need a 'bridge financing' arrangement. There is an added 'complication': before ECB can be paid (a default on ECB will trigger a cascade of cross-defaults and a closing of the banks' oxygen line, the ELA), the IMF arrears have to be cleared in full. 

The 'bridge financing' should be a walk in the park, right? After all, there is a unanimous agreement to set new funding for the longer term, and a part of this is the recognition that before such an agreement is struck, there is a unanimous (one assumes) agreement that Greece needs to be helped through the intermediate period.

Unanimity bit

Today, there was a shorter Eurogroup meeting to sort that little bit of 'unanimity' out. And the conclusion was: err… no unanimity and:

  1. A new delay in sorting out longer-term financing (from today's morning expectation of 2 weeks to more realistic 4 weeks); and
  2. There is no agreement on bridge financing. Worse, per Dijsselbloem: "We looked at the issue of bridge financing because there are urgent needs and this process of finalising an agreement will take time… This is very complex, we looked at a number of possibilities, but there are technical, legal, financial and political issues to consider, so we have tasked an ad-hoc working group of technical experts to look into that".

Finland's Fin Min Alexander Stubb said that "Greek Bridge Financing Still an Open Question. I foresee those negotiations being very difficult because I don't see many countries having a mandate to give money without any conditions." Oops… as they say in Helsinki. Slovakia's Government has stated they oppose any lending to Greece, including both bridge and long term financing. Austria, Estonia, The Netherlands and a number of other countries will need to approve every move via their parliaments. All three been pretty sceptical on 'bridge financing' from July 6th on. Slovenia is set against the bridge funding too.

And then there's Germany - which is, for now, sitting pretty quiet on the topic, but don;t expect an easy push over from Merkel - Schäuble duo. After all, the latter has managed to square off with Mario Draghi on the topic of ECB operations in a nasty exchange yesterday.

Beyond the unanimity bit... logistics

Beyond the unanimity bit, there's a technicality or logistics of structuring the deal… bridge financing is hard to construct, given the Byzantine (actually far worse, by now) European institutions.

There are basically two possible options.

Option 1: Using EFSM bailout fund to loan money to Greece. The option is easier, as it does not require unanimity, but can be passed on the basis of QMV. The fund, however, does not have enough money to finance July-August liabilities due on the Greek side. Reportedly, the EFSM only has EUR11.5 billion available (although some reports put the figure at EUR13.2 billion). And EFSM is no longer an active lender, since it is superseded by another fund, the ESM. Even when the EFSM was operative, it was limited to co-funding bailouts with IMF involvement. IMF is not a party to any bridging loans arrangements, and indeed is not a party to the entire Bailout 3.0 package agreed 'in principal' this am. Added complication: EFSM can be activated by a qualified majority, but a QMV of EU28, not euro area alone. Back in 2011, Britain voted against the use of the EFSM to bail out Greece for a second time.

Option 2: Greece funding itself via issuance of T-bills, selling these to the banks with the banks using ECB ELA to finance these purchases. Which carries two problems with it. One, ECB is yet to hike ELA. Two, T-bills are short term bonds and Greece is constantly rolling over substantial quantity of them in the markets. Issuing more will clearly impair Greek Government ability to secure short term funding. And it will also likely trigger serious discontent within euro area 'core' states - the hawks that 'guard' ECB's prohibition on 'monetary financing'.

Option 3: A combination of Option 2 and bilateral loans. The problems, in addition to Option 2 is that some countries (Finland and Slovakia - explicitly, Germany and the Netherlands, for now implicitly) have ruled out participating in the scheme. Which makes such lending a tough sell for other member states. Italy stated already that it will only supply bilateral loans if all other euro area states do so.

Option 4: Using SMP profits accumulated at the ECB and in the national central banks from Greek bonds coupon payments to lend to Greece from ECB to repay ECB and IMF loans. Problem here is that 2014 profits still retained amount to EUR1.9 billion, while 2015 profits yet to be paid amount to 1.4 billion. Clearly not enough to close the gap.

Update 14/7/2015: FT blog on the Eurogroup technical paper outlining options for Greek bridge financing is here:

3/7/15: Add ECB to IMF and Greek arrears can get ugly…

Ah, remember Brodsky's "Urania is old than sister Clio" bit? Well, not in finance. Apparently, or allegedly, as reported in press, Greece is now in arrears (err... default, or not or whatever) not only on IMF, but also on ECB. See this.

Which relates to 1993 loans, last repayment of which was due in June this year and amounted to EUR470mln. And which were not paid.

The gyrations of Greek and Troika positions are out of the league of the ordinary.

We had a threat to take EU to court over threats of forcing Grexit (see here). Which is quite bizarre (on the EU side), given the Institutions have already said that the very subject of the referendum is non-sensical as no deal exists to carry out referendum over (see here), though such statements did not preclude the EU leaders from calling for a 'Yes' vote in the referendum (see here).

And the EU and some internal Greek concerns about constitutionality of the Greek referendum (see here).

In simple terms, we have a mash of contradictions: a referendum that has no grounds in terms of its outcome is nonetheless of questionable constitutionality, though the voters should vote 'yes' regardless, because, presumably, an outcome that is not an outcome is preferred to a different outcome that is not a outcome... [someone should stop spinning the world around us]...

We also have IMF that was forced (by a leak) to release its (preliminary - aka... "we say so, but we don't say so") analysis of Greek debt sustainability (see simplified version here and full version from the source here). Surprise, surprise... those of us not paid lavish salaries by the IMF turned out to be right: Greek debt sustainability thesis is nonsense, a pipe dream made up of flour, feathers and water...

Meanwhile, the ECB - not to be outdone by the fellow jostlers or jousters - is entering a probabilistic game of guessing Greek banks solvency (condition for accessing ELA is solvency of the banks, which, until today was a concept of 0=insolvent, 1=solvent and is now 0.1%=solvent 49.9%='something of sorts' and the rest... err... well, we await holding our breath for a technical paper from the ECB staff on that one) on the basis of referendum outcome (see here).

Next turn will be for the EU or may be ESM/EFSF as ECB (rumoured above) default trigger for EFSF default is "Very Likely" and can only be 'corrected' for via a new deal agreement (see here).

Have fun deciphering the torrent of news, views and leaks that the Greek crisis has unleashed. In the mean time, the only conclusive statement to be made is that we are in a situation where headless chickens are trying to round up legless lambs... all performed in a quicksand pit...