Tuesday, February 21, 2012

Final terms of the Greek bailout

Below is the partial text of the statement issued by the Eurogroup concerning the conditions required of Greece in order to obtain its second bailout. As you will see, this document is unprecedented in the modern era in its degree of intrusiveness. It reads very much like a document handed by a victorious government to a defeated one, providing “terms” for surrender.

In essence, Greece has been placed in receivership, with the Eurogroup Task Force acting as receiver. Greece is requited to change laws, to admit “observers”, to submit its finances to external inspection, to give priority to debt servicing over all other uses of revenue, and to change its constitution in order to enshrine this priority in perpetuity.

It is hoped that such Draconian terms will be sufficient to persuade the parliaments of the Northern League (Germany, Finland, Netherlands) to pass the bailout legislation.

This document will only have curiosity value a year from now, when it has long been forgotten by everyone involved. But it is worth reading now, nonetheless.

Greece must achieve the ambitious but realistic fiscal consolidation targets so as to return to a primary surplus as from 2013, carry out fully the privatisation plans and implement the bold structural reform agenda, in both the labour market and product and service markets, in order to promote competitiveness, employment and sustainable growth.

To this end, we deem essential a further strengthening of Greece's institutional capacity. We therefore invite the Commission to significantly strengthen its Task Force for Greece, in particular through an enhanced and permanent presence on the ground in Greece, in order to bolster its capacity to provide and coordinate technical assistance.

Euro area Member States stand ready to provide experts to be integrated into the Task Force. The Eurogroup also welcomes the stronger on site-monitoring capacity by the Commission to work in close and continuous cooperation with the Greek government in order to assist the Troika in assessing the conformity of measures that will be taken by the Greek government, thereby ensuring the timely and full implementation of the programme.

The Eurogroup also welcomes Greece's intention to put in place a mechanism that allows better tracing and monitoring of the official borrowing and internally-generated funds destined to service Greece's debt by, under monitoring of the troika, paying an amount corresponding to the coming quarter's debt service directly to a segregated account of Greece's paying agent.

Finally, the Eurogroup in this context welcomes the intention of the Greek authorities to introduce over the next two months in the Greek legal framework a provision ensuring that priority is granted to debt servicing payments. This provision will be introduced in the Greek constitution as soon as possible.

Wednesday, February 15, 2012

Greece is standing on the trap-door

The media is filled with stories about the coming Greek depression, supposedly unprecedented in the modern era. This would come as news to millions of central and eastern Europeans who lived through the painful transition from communism to capitalism only twenty years ago.

What sets Greece apart is not the degree of economic adjustment required to resume growth, which is certainly less than was required in eastern Europe. What distinguishes Greece is the degree of mental adjustment required. Unlike the eastern Europeans, the Greek people have no desire to make the transition from socialism to capitalism. This transition is being forced upon the Greek electorate by Greece’s total loss of credit market access. Greece’s credit cards are maxed out and it needs to find a real job making things that foreigners will pay for, not subsidize.

It is instructive to observe the Greek public reaction to national bankruptcy. Anger, disbelief, bargaining, denial, and, of course!, destructive rioting. No comprehension that the government has run out of money, only loud demands for “social justice”. Not one politician is advocating structural reform on the lines of what Poland implemented in the nineties. They seem to think that there is an alternative to radical change.

Either Greece will accept and implement the austere terms of the EU bailout, or the government will be unable to pay its bills next month. Either way, the Greeks will be forced to change their way of life, and pronto.

Greece is currently running twin fiscal and current account deficits of 10%, which are being financed by the ECB (via the banks). One year from now, perforce, both of these numbers will be zero (excluding foreign charity). Greece’s budget and current account will both be balanced, because it will have no one left to borrow from. The ECB window will be closed by then.

This adjustment will occur because of a collapse in aggregate demand. (The adjustment will necessitate a collapse in aggregate demand.) Government, businesses and households will be forced to reduce spending due to “hard budget constraints”. The prices of domestic nontradables will fall, especially real estate values which will probably fall by 90%. (There will be no privatizations in the absence of a legal system). Wages not controlled by the government or labor contracts will fall as the safety net is removed and the necessities of life force people to emigrate or find work. Unemployment will approach 40%, while unemployment benefits are reduced or eliminated. The defense budget will be cut, with the obvious implications for domestic stability: it is hard to fire colonels in countries like Greece.

What I have outlined is not a risk; it is a certainty.

One would have to believe that such an object lesson would be a major blow to European social democracy and a boost for austerity-minded politicians such as Merkel, Sarkozy, Monti, and Cameron. It will be interesting to see which comes first: Greek collapse or the French presidential election. If Hollande wins, he will have a memorable presidency.

Thursday, February 9, 2012

Germany plays with Greece

If you believe what you read in the paper, Europe is on the verge of yet another Greek rescue package intended to prevent default next month when EUR ~14 billion in Greek government bonds become due.

The deal has the following elements:

1. Greece (all parties) agrees to an austerity diktat issued by the Eurogroup (formerly known as the Troika). The parties must sign and parliament must pass enabling legislation this weekend. No dawdling this time.

2. Private-sector bondholders agree to a debt swap in which they receive worthless paper in exchange for worthless paper with a higher fictitious face value. All bondolders must agree or else holdouts will be forced to exchange, resulting in an involuntary default. This deal has been “almost done” for weeks. The deadline is Monday.

3. The Eurogroup will lend Greece either EUR 130 or 145 billion in order to keep it afloat for the rest of 2012 (if you believe in the Easter Bunny).

The psychology here is interesting. The Germans are in an emotionally conflicted position. Bailing out Greece is a small price to pay for European financial stability. But the whole exercise sticks in the German craw, especially since the Greeks will sign anything and do nothing. One part of the German mind wants to get the bailout over with and move on, while the other part wants to push the Greeks over the cliff and watch their well-deserved demise.

This conflict is visible in the prescriptive language of the diktat. The exasperated tone is reminiscent of Austria’s ultimatum to Serbia in 1914 (another case of German frustration with the crafty Balkan mentality). It is a kind of Prussian wishlist of Greek good government reforms, with a utopian flavor:

* A reduction of 22 percent to the minimum wage, currently at 751 euros per month gross, with an additional 10 percent reduction to the basic salary for young people aged under 25.
* A freeze on the minimum wage of three years.
* A freeze on all salary raises until the unemployment level is reduced from its current 19 percent to under 10 percent.
* A reduction in the pensions of employees of state companies OTE telecoms and Public Power Corporation by 15 percent, as well as of seamen by 7 percent.
* Placing in the labor reserve scheme 15,000 state employees by the end of 2012, with the target of reducing general government employment by 150,000 by the end of 2015.
* The reduction from six months to three of the period over which collective sectoral labor agreements continue to be in effect after their expiration. If a new labor agreement is not drawn up in this period, the sector in question will be bound by the basic national standard, without, however, forfeiting benefits for years of service, job hazard, children and education.
* Collective sectoral agreements will have a limited duration of three years, while existing contracts with a 24-month duration will expire in one year from now.
* A reduction in contributions to the IKA Social Security Foundation of 2 percent effective immediately, and an additional 3 percent in 2013.
* A review by end-June of the special salary status of judicial employees, state doctors, diplomats, and police and military personnel.
* The sale by end-June of scheduled share packages in the following state-owned companies: Public Gas Corporation (DEPA), gas distributor DESFA, Hellenic Petroleum (ELPE), betting agency OPAP, the Attica and Thessaloniki water and sewerage companies (EYDAP and EYATH), and the International Broadcasting Center.
* The abolition of permanency for employees at state-owned companies and banks.
* The restriction of tax exemptions, simplification of the value added tax and property tax structure.
* The closure of 200 tax offices across the country by the end of the year.
* The hiring of 1,000 more tax auditors, to bring their total number by the end of April to 2,000.
* Eliminating the extension of payment terms for overdue taxes and social security contributions.
* A further reduction in military spending by 0.15 percent of GDP.
* The recapitalization of Greek banks through common shares with limited voting rights and through contingent convertible bonds.

Quite a list, no? All that’s missing are German gendarmes stationed at Greek customs posts. Does the list bear any relation to Greece’s future budgetary policy? No.

None of this will happen. The Greeks know this and the Germans know this. But it is intended to provide sufficient political cover for the Bundestag to pass the bailout legislation, which Merkel's coalition will ensure.

The bailout will go through and the Greek saga will last a bit longer. To the extent that any aspects of the diktat are implemented in fact, we will have more ITV footage of the usual riots, etc. I would not expect the Papademos government to fall, because the parties and the army want to have nothing to do with these measures. The parties want to return after the explosion, not before.