Improvements in the real economy are intensifying the Greek government’s belief that the country will be able to rely on market financing without the need for further financial assistance from official lenders once its €86bn bail-out, the third since 2010, expires in August.
The economic backdrop underpinning the government’s confidence seems impressive at first sight. After emerging from a decade-long recession last year, the Greek economy is forecast to grow by around 2.5% this year and next. Unemployment remains the highest in Europe but has dropped substantially, and what was once the highest budget deficit in Europe has been turned into a surplus.
All three main rating agencies have upgraded Greek bond ratings since the start of the year, supporting substantial drops in government bond yields and enabling the government to test the waters of its planned return to the markets with a long-term bond issuance in February. The government plans to build a cash buffer of €18bn through subsequent issuances to strengthen its chances to exit the bail-out without needing a further external financial safety net.
The political appeal of such a ‘clean exit’ to the left wing-led coalition government of Alexis Tsipras is clear. It would demonstrate his success in enabling Greece to put its financial crisis behind it and to grow without outside assistance or monitoring from international institutions. He may be able to benefit from this boost to his political capital by calling early elections before politically painful pension cuts take effect.
Still, important steps need to occur before an exit from the bail-out can be achieved. An important sticking point is the high level of non-performing loans on bank balance sheets. Speaking at the third annual Delphi Economic Forum over the weekend, Danièle Nouy, chair of the European Central Bank’s supervisory board, called Greek non-performing loans ‘a huge problem’ and ‘a top priority for European banking supervision’.
Even a clean exit would require strict surveillance, in accordance with European Union rules. Speaking at the forum, Klaus Regling, managing director of the European Stability Mechanism, made clear that ‘even after the programme ends, there will be a degree of surveillance by the ESM and other institutions’ promoting surveillance as ‘a logical consequence after ending a programme, reassuring creditors and investors’. Still, Athens’ insistence on the need to avoid new financial links with the creditors is aligned with that of the European arm of the troika of creditors themselves, who are keen to proclaim Greece as a ‘success story’.
With European Parliament elections approaching in May 2019 and the threat of populism and anti-euro sentiment evidenced in the latest elections in Germany and Italy, European politicians are eager to demonstrate that the European project is working. With difficulties around the UK’s exit from the EU, slow progress on banking and capital markets union, concerns about the politicisation of the ECB and slow progress on a common vision between Germany and France on further integration, Greece could turn into a convenient selling point.
Technocratic institutions are a notable dissenting voice in the desirability of clean exit. Yannis Stournaras, governor of the Bank of Greece, has repeatedly stressed the importance of a precautionary credit line after the bail-out expires to keep borrowing costs low and enable a smooth transition to the markets after nearly a decade of international financial aid. Tensions between Euclid Tsakalotos, Greece’s finance minister, and ECB President Mario Draghi at the latest Eurogroup meeting of euro area finance ministers in February were attributed to the latter’s preference for a precautionary credit line over a clean exit.
The central bankers’ caution can be traced to a potential risks of a clean exit for the financial sector. Without a follow-up arrangement, Greek banks would not be eligible for a waiver allowing them to pledge sub-investment grade sovereign bonds as collateral for the ECB’s normal refinancing operations. If Greece exits the programme completely, part of this ECB funding – around €13b – would have to be converted into emergency liquidity assistance instead, which carries a 150-basis-point penalty over regular credit lines.
Despite such economic arguments, the decision on the type of exit is ultimately a political one: no institution could ask Greece to request a credit line. Moreover, an exit from the bail-out would make it difficult, politically and legally, for Greece to re-enter one if necessary.
This difference in stance between central banks and European governments is shifting what was once a Greece-creditor dividing line to one between politicians and technocrats, and highlights a worrying undercurrent of increasing threats to central bank independence across the euro area.
Danae Kyriakopoulou is Chief Economist and Head of Research at OMFIF.