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Greece on the brink

by Vicky Pryce

Greece on the brink

Greece is moving perilously near to running out of cash to continue paying for wages, pensions and the provision of basic public services, let alone to repay its external debts and keep banks solvent. So the disputes over debt payments to the International Monetary Fund and the European Central Bank have taken centre stage.

The Greek government reached a deal to delay the €300m due to the IMF on 5 June, bundling all four June payments into a lump sum of €1.5bn payable at the end of the month. But the government also needs to find billions of euros to meet repayments of maturing short term Treasury Bills.

Greece has no chance of meeting further payments to the ECB of €3.5bn in July and again in August unless it receives the final €7.2bn due from its second international bail-out. Respite could come, provided Alexis Tsipras’ government reaches accord on reforms demanded by creditors.

One source of funding is the €11bn remaining from the bank re-capitalisation fund which the Greeks have not been able to use. Athens could also use some ECB profits from earlier Greek bond purchases, all so far frozen.

Despite the potential for modest recycling of earlier aid, Greece may still need an interim additional loan, and maybe even a third bailout. This would probably no longer involve the IMF, which is unlikely to want any further exposure.

The Greeks would relish an end to the uncertainty though they will not see the end of austerity for a while to come. The international financial markets would breathe a sigh of relief. However, in spite of occasional optimisim about a possible compromise, very little progress has been made over several months to bridge the gap between the IMF, the ECB and the European Commission and the Greeks.

The Greeks want a cut in the expected primary surplus, excluding debt servicing, to give them some breathing space after the 25% reduction in GDP over the last six years. They also wish to renegotiate their huge and unsustainable debt. On the other hand the list of conditions from the ‘institutions’ (a term now preferred to ‘troika’) have included further pension and labour reforms and, astonishingly to many Greeks, primary surpluses of 3.5%. After Tsipras’ visit to Brussels on 3 June, the institutions did however appear prepared to ease that condition.

Fear of contagion

It is questionable whether anything has been gained from the four-month ‘review’ period and extension of the Greek bail-out granted to the Syriza-led coalition after the January election. Some cynics might argue that the interim agreement allowed the ECB to start quantitative easing, producing a positive impact on lending conditions in Europe – therefore shielding the rest of Europe from any contagion from a Greek default or even exit from the euro.

The interim accord has not however changed the fundamentals of the euro area economy or eliminated the possible negative impact of Greek negotiations with creditors breaking down entirely.

The prolonged period of negotiations has not been good for euro area confidence and growth. The risks of ‘Grexit’ have been sufficiently worrying to have warranted several interventions from the US. This has included President Barack Obama and Jack Lew, US Treasury secretary who, mindful of geopolitical uncertainty in the region, called for the Europeans to show less ‘brinksmanship’ and seek early resolution to the crisis.

The impasse has proved disastrous for Greece. After recovering for most of 2014, GDP fell by 0.4% in the last quarter of 2014 and a further 0.2% in the first quarter of 2015. The primary surplus, excluding debt interest payments, that Greece was forecast to achieve in 2015 has now effectively disappeared.

Unemployment, which had fallen slightly last year, is now back to 26%. Youth unemployment remains at around 55% and the ‘brain drain’ from the mass exodus of young Greeks has alarmed policy-makers and will constrain future growth. Growth for this year, rather than the 2.9% forecast earlier, is likely to be flat at best, supported mainly by what are likely to be record tourist arrivals this summer as the tensions in the Middle East and Africa make Greece’s relative tranquillity more attractive.

By now, Greece should have started to see the benefits from the improved euro area economy. But the impact has been tiny. Instead the threat of default and ‘Grexit’ has paralysed the economy, encouraging massive deposit withdrawals, amounting to some €40bn since late 2014. The Greek banking system has been kept going by the ECB’s Emergency Liquidity Assistance. Lending to businesses has been declining and investment, both domestic and inward, has stagnated.

The euro area is bad at solving crises. It takes a long time to appreciate the dangers inherent in its policies. The building of the institutional framework to help with crises including the role of the ECB has been too slow.

Compounding this, the institutions involved have an unsatisfactory record in learning from mistakes. The IMF package for Greece was poorly conceived and implemented. The huge cut in salaries has had only a small positive impact on the country’s exports and competitiveness. The substantial reduction in the budget deficit from 15% in 2009 to around 2% of GDP is due less to improved tax collection, far more to government cut-backs on paying contractors and supplying public goods like healthcare.

Almost one-third of the population, and half of Greek pensioners, are either on the brink of poverty or below the poverty line, with hospitals short of medicines and basic necessities like bedsheets.

Eventually Europe will have to address the large and unsustainable Greek debt. This will remain a constraining factor on Greek growth – and is an issue for many other countries too. For different reasons, Greece’s debt crisis impinges on other heavily indebted countries such as Ireland, Portugal, Italy and Spain. Greece’s problems, and any solutions that it reaches with its creditors, resonate far beyond its borders.

■ Vicky Pryce is Chief Economic Adviser at the Centre for Economics and Business Research and author of Greekonomics.