The Bennett Newsletter
The latest bail-out of Greece may bring some relief against fervent attacks upon the Euro: but relief is not a solution. It is almost certain that Greece will need further debt restructuring or forgiveness. I think it has “defaulted” which may have untoward consequences as derivatives are activated. Moreover, the settlement involves a profound moral hazard by weakening states incentives to be fiscally responsible.
Greece is hardly a viable state and lacks the capacity to grow sufficiently to service existing debt. As its government lacks the capacity to gather revenue (among its other deficiencies) one doubts its ability to meet its commitments. It is in a death spiral as it borrows heavily to pay the interest on its debt.
Greek Resistance?
Has Greece the cohesion to commit to the long haul of deleveraging? Certainly it has made a severe cut in its standard of living. It budget deficit has been slashed; many benefits and jobs have been eliminated. Unemployment has soared to 16%. More sacrifices will be called for. Will the Greeks make them?
Constant rioting shows many Greeks do not feel responsible for the policies that have led to their countries gross indebtedness. Moreover, they might feel that their share of it is unjust. Additionally, there is tremendous resentment against the privatisation which is part of the package which involves a perceived loss of sovereignty. My perception is that Greeks regard part of their debt as a foreign ransom, a belated entry fee to the Eurozone and an unjust premium for the assurance of being in the club of respectable nations.
Their situation reminds me of the nineteenth and early twentieth centuries when victors in wars imposed costs (“reparations”) on the defeated nations. A cohesive and determined France paid off Germany quickly after 1871 and vowed revenge. A divided and resentful Germany never paid off the reparations imposed after World War One.
Greece will not pay, I think, for two reasons. The first is that it resents the demand for privatization. No doubt many Greeks would like to finish their responsibility for the stadia etc built for the Olympics. But the EU and IMF have called for the sale of many prized national assets.
Greece is being asked to sell off its best coastline, hundreds of miles of roads, its post office, the state lottery, its airbus jets, several ports, and stakes in casinos, two water companies, electricity and gas monopolies.
Greece has been trying to sell some assets for years, but buyers face a tangled bureaucracy and indignant citizens, particularly if the coast is alienated. But the IMF is demanding €50 from land sales. Portugal is required to sell off the state-owned oil company, state electric utilities, grid operator, airline, airport and a bank. Ireland is asked to sell its holdings of Aer Lingus, its electric utilities, ports, forests, fishing rights, tour buses and even its National Stud.
The IMF is imposing an American culture on the world. More collectivist states find good reason to retain ownership of their fishing rights, air rights, their studs, and their coastline. I wonder if any Greek government will be able to deliver the privatisation package demanded by the bondholders. This would undermine the latest settlement
Equity is the other major reason for Greek resistance. It is well known that Greece lacks an efficient tax gathering apparatus. It manages to tax the ordinary person but is ineffective in taxing the better off. Only 5000 Greeks admit to earning €100,000. Tax inspectors commonly demand one third of the assessed taxes for themselves, a third for the state and a third to be retained by the taxpayer. Many public servants do not turn up for work and they retire at 50. Ordinary citizens in Greece commonly have to spend half their income in bribes for ordinary services: one pays to see a doctor and his charges are then outrageous. For example, it is four times cheaper to get a stent in Germany than it is in Greece.
Given its constant riots, it can be assumed that Greece will not pull together as one nation to get out of its debt. Greece’s debt will still be 160% of GDP next year. Even though interest rates have been lowered, it has to borrow the interest it owes. No nation has ever paid off this level of debt in peacetime.
Will the bailout be acceptable to German voters? Perhaps not, as many eschew more risk. Yet the Euro-area is moving towards a collectivisation of risk. It will be more difficult in future to require states to act with fiscal responsibility if the Community will pick up the tab.
Default.
Every European politician is reluctant to use the word “default” about the settlement, but the rating agencies may be more forthright. Mr Sarkozy said default was not part of his vocabulary: “Greece will pay its debt”.
As it happens, the settlement will have serious consequences which are being glossed over:
• banks would be forced overnight to recognise in their financial accounts billions of euro’s in losses on Greek debts they own
• these losses could in turn leave banks short of capital - making it difficult for them to lend - and could leave the Greek banks insolvent
• Greek banks would also be unable to use their government's debts as security to borrow cash from the ECB
• the ECB itself stands to make major losses on Greek debts it has bought or accepted as collateral from the Greek banks
• separately, the debt restructuring could also trigger payouts on billions of dollars of credit derivative contracts, used by financial markets to hedge against or speculate on a Greek default
The new settlement is supposed to apply only to Greece. How long before the Irish and Portuguese also ask for 3.5% interest rates?
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