With IMF (read US) on Greece's side, the euro-show just got messier

Jul 17, 2015

- By Vivek Kaul

Vivek Kaul
A few days back, Greece was rescued by the Eurozone economies with a bailout package of 82-86 billion euros. This was the third bailout of Greece since 2010. Eurozone is a term essentially used for countries which use euro as their currency.

Against this bailout, Greece has promised to implement further austerity measures. The pension age will go up. More business sectors will be subject to the top rate of value added tax of 23%. The statistical agency of the government will be legally independent and so on.

The idea is to get the Greek government to earn more and spend less and in the process help it run a surplus which can then be used to pay off the 240 billion euros the government owes to the economic troika of the International Monetary Fund, European Commission and the European Central Bank.

Greece is expected to achieve a primary budget surplus of 3.5% of GDP by 2018. Along the way it is expected to achieve a primary budget surplus of 1% of GDP in 2015 and 2% of GDP in 2016. Primary budget surplus is essentially a situation where the difference between what a government earns, and what it spends, is in positive territory. While calculating the government spending the interest that it pays on its outstanding debt is not included.

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In fact, one of the conditions of austerity also talks about the "introducing quasi-automatic spending cuts in case of deviations from ambitious primary surplus targets." Hence, if the Greek government does not achieve the primary budget surplus targets then automatic spending cuts will start to come in.

On July 15, 2015, 229 out of the 300 members of the Greek Parliament voted in favour of austerity measures that had to be implemented in order to access the bailout fund. This will help them access money so that they can pay off a loan of 4.2 billion euros owed to the European Central Bank that needs to be paid by July 20, 2015.

The problem is that austerity as a strategy hasn't really worked in the past. Greece was first bailed out in 2010. Since then the size of the Greek economy was reduced by a one-fourth. The rate of unemployment is at 26%. The rate of unemployment among youth is greater than 50%. Small and medium businesses are shutting down at a rapid rate.

The size of the government debt to GDP has gone up from around 133.2% of the GDP in 2009 to around 175% currently. The domestic credit to private sector has jumped from 88.1% of GDP in 2009 to 115.9% of GDP in 2014. This has primarily happened because the Greek economy has contracted by 25% since the bailout, and this has pushed up the debt to GDP ratio.

Hence, austerity hasn't really worked for Greece. But now they will have to do more of it. Given this, it is not surprising that of the 71 members of the Greek Parliament who voted against further austerity measures, 32 members belonged to the ruling Syriza party, which had won the last elections to the Greek Parliament on an anti-austerity plank. Further, six members of the party abstained. In fact, the Prime Minister Alexi Tsipras told the Parliament that: "I don't believe the measures will benefit the economy, but we are forced to adopt them."

The interesting bit is that on July 14, 2015, the International Monetary Fund(IMF) released a report in which it clearly said that the total amount of Greek public debt is unsustainable. Public debt is essentially government debt minus government debt that is held by the various institutions of the government.

As the IMF said in a statement: "Greece's public debt has become highly unsustainable. This is due to the easing of policies during the last year, with the recent deterioration in the domestic macroeconomic and financial environment because of the closure of the banking system adding significantly to the adverse dynamics...Greece's debt can now only be made sustainable through debt relief measures that go far beyond what Europe has been willing to consider so far."

And what does IMF mean by the term debt relief here? "The dramatic deterioration in debt sustainability points to the need for debt relief on a scale that would need to go well beyond what has been under consideration to date-and what has been proposed by the ESM[European Stability Mechanism]. There are several options. If Europe prefers to again provide debt relief through maturity extension, there would have to be a very dramatic extension with grace periods of, say, 30 years on the entire stock of European debt, including new assistance... Other options include explicit annual transfers to the Greek budget or deep upfront haircuts," the IMF report points out.

The IMF basically wants three things done. First, the repayment period of the Greek debt will have to be extended. Second, the IMF wants more money to be given to Greece every year. And third, it wants the lenders of Greece to take a haircut, which basically means that they should let Greece default on a part of the debt that it has taken on.

The IMF feels that if these things are not done then Greece will continue going down the debt spiral. "Debt would peak at close to 200 percent of GDP in the next two years. This

contrasts with earlier projections that the peak in debt-at 177 percent of GDP in

2014-is already behind us," the IMF pointed out. "By 2022, debt is now projected to be at 170 percent of GDP, compared to an estimate of 142 percent of GDP [earlier]."

The question is why has the IMF suddenly grown compassionate towards Greece? The answer might lie in the fact that the IMF is mainly run by the Americans. As Larry Elliott writes in The Guardian: "The US dominates the IMF and has done so ever since the organisation was created at the Bretton Woods conference in 1944. Europe has always had the right to choose the fund's managing director, currently France's Christine Lagarde, but nothing can be done without American approval."

Further, if Greece is forced to leave the euro, chances are it might cosy up to the Chinese and the Russians, feels Elliott. And this is something that the Americans don't like. A debt haircut is something that Germany, which was the main force behind the stringent austerity measures, will not appreciate.

But now with the United States entering the situation, anything is possible.

Stay tuned!

Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.

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1 Responses to "With IMF (read US) on Greece's side, the euro-show just got messier"

AB Pereira

Jul 17, 2015

The US and EU authorities are playing a really dangerous game in global financial markets by propping up Greece unnaturally. This may provide temporary relief for the world for now, but in the longer term, this can only be disastrous - first to the people of Greece when a larger collapse will happen, and then to the global citizen, whose economies will fall far more steeply. This attitude of 'kicking the can down the road' will certainly bring us back to the great depression of the 1930s, as predicted by our own RBI governor, Raghu Ram Rajan.
I think the sensible Greeks will take all their money out of Greece banks and settle somewhere else when the money arrives from ECB into their banks.

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