With a debt/GDP ratio of around 150%, growth that is expected to be negative for the next two years and nominal interest rates at 4%, Greece appears insolvent rather than in a liquidity crisis. The EU, the IMF and the ECB have made a loan of 110 billion euros available to the Greek country and perhaps another 60 will be needed during 2012.
FIRSTonline asked Professor Marcello Messori, economist at the University of Rome 'Tor Vergata' and former president of Assogestioni, to outline the contours of the Greece case: the point of the situation, current risks, future scenarios.
Professor, do you think that the current "state-saving" instruments, the Efsm (European Financial Stability Mechanism) and the Efsf (European Financial Stability Facility), are credible and sufficient to avert Greek bankruptcy?
These two mechanisms have marked progress in European aid but remain seriously inadequate. Let's go back to the beginning of 2010, ie when the Greek public debt crisis became evident and the other countries of the European monetary union began to discuss the modalities of their possible intervention. As is known, article 122 of the Lisbon Treaty allows financial support to an EMU country in difficulty only if the liquidity crisis is due to exceptional circumstances. Perhaps in consideration of the fact that Greece had manipulated its public accounts for many years, the other members of the euro considered art. 122 and opted for a set of bilateral loans that also involved the IMF. The granting of these loans was conditional on the setting of too high borrowing costs and too demanding fiscal and macroeconomic adjustments. Was it right to 'punish' the Greeks to avoid a "moral hazard" effect or the recurrence of "cicada-like" behavior in the future? Or would it have been more forward-looking to offer a loan with strict but realistic conditions? I've never had any doubts about opting for the second alternative. The fact is that the will to 'punish' and the cumbersome construction of bilateral loans have delayed support to Greece and made it more expensive for both lenders and debtors. The other euro countries are therefore also responsible for the degeneration of the Greek public debt.
Let's imagine that Greece opts for a debt restructuring. What are the differences and the different consequences of a haircut or a reprofiling?
For markets, restructuring always means failure (default). Still, economic differences are crucial. Default means that the debtor declares himself insolvent and repays only a part of the loan obtained. Restructuring, which also obliges the creditor to a "haircut", tends instead to safeguard the nominal value of the loan but to lengthen its maturity and reduce the relative interest rate. Reprofiling is a 'soft' restructuring agreed between the parties. A reprofiling has already taken place on the sly this spring: the EMU countries have extended the duration of the loan from 5 to 7 years and reduced the interest from 5,2 to 4,2%. However, that was not enough. This leads to the heart of the problem. The restructuring of the Greek public debt, which could only concern loans from other European countries and not affect private individuals or imply a modest "haircut" for all creditors, should be linked to further European funding and a realistic medium-long term adjustment plan period. In short, it must be implemented immediately and must be decisive; the opposite, that is, of what was decided by the European Council at the end of December 2010 and reaffirmed by the one at the end of March 2011 through the creation of a new rescue mechanism (the Mes), which will only become operational in mid-June 2013 and which will tend to subordinate European support for "haircuts" on public securities held by private individuals. The perverse combination of delayed application of final rules, case-by-case financing, certain but indeterminate punishment is the best recipe for unnerving the markets and leading to ungoverned bankruptcies.
The most mischievous Anglo-Saxon press maintains that the only way out for Greece is a return to the drachma. Fantasies or viable scenario?
Greek banks hold nearly half of Greece's public debt. If Greece fails and leaves the euro, many would have to be nationalised. But with what funds? From one day to the next, Greece would be cut off from international markets and would not be able to resort to foreign capital. In order not to transform the recession into a dramatic depression, Athens would then have to print money to finance current public expenditure and disbursements in favor of the banks, thus enveloping itself in an inflation-devaluation maelstrom of the new drachma. Apart from the institutional obstacles to leaving the euro, such a scenario looks more like a nightmare than a possibility. The return to Weimar should not seduce anyone.
What consequences would there be for the European financial system? Would Ireland and Portugal have an interest in following in Greece's footsteps?
As in Poe's story, the Greek whirlpool would first attract the closest vessels (Ireland and Portugal) and then invest the most distant but fragile vessels (the other peripheral countries). It would be the end of the euro. All the more so as the contagion would extend to the European Central Bank, which holds public bonds from Greece and other peripheral countries purchased on the secondary market. Furthermore, the ECB has accepted these same securities as collateral for loans to European banks. The ECB's difficulties would immediately be transferred to the banks most exposed to the securities of Greece and other countries in difficulty: the Spanish Cajas, the German Landesbanken and many French banks. Even large countries in the euro area should, therefore, save their banking sectors and burden public budgets. National selfishness would reach its peak. I don't even want to think about such a catastrophic alternative.
Would the EU or national governments have the means to limit the damage of a possible domino effect?
The technical solutions exist, it is mainly a political problem. The Germans need to convince themselves that such a scenario, with the bankruptcy of the euro or, more realistically, the peripheral countries in prolonged recession, serves no one and especially them. Two thirds of German exports go to Europe. And 50% of these are absorbed by the periphery. German industry would feel the pinch, as would many financial intermediaries who could call for a public bailout. If Berlin understands this risk, co-management of debt at the European level would also be quite simple to implement. Without going into technical details, it would suffice: to allow Eurobond issues for an amount equal to the stock of sovereign debt of peripheral countries; and have a joint guarantee from the euro countries on these issues. This would have the effect of compressing financial charges to the point of making fiscal adjustment processes sustainable even in countries in greater difficulty.
After Spain, Italy is often singled out as the next weakest link in the chain. Do you share this opinion? What risks does our country run?
If the worst-case scenario were to occur, Italy and Belgium would also soon be overwhelmed. However, I don't even want to conceive such a catastrophic picture. I think that, even without choosing the best technical solutions, the EMU will know how to get by. If this is the case, Italy has an excellent chance of remaining safe from the contagion. The Italian banking system is currently not very profitable but remains little exposed to the government bonds of countries in difficulty. Our public deficit appears to be under control, so much so that we are close to achieving a new primary surplus. In the short term, the Italian debt/GDP ratio remains high but sustainable. Our problem rather concerns the long term: how can we position ourselves on a path of European growth if productivity decreases and if we are on the margins of the epochal international processes of technical innovation?
By adopting the euro, peripheral countries benefited from a sharp reduction in interest rates. In place of a convergence of economic structures, there has been a boom in investment and credit consumption, followed by chronic current account imbalances, property bubbles, banks filled with toxic assets, and finally soaring public debt. To get out of the crisis and prevent it from happening again, what do you think needs to be done to improve the economic governance of the euro area?
In the first instance, the acute phase of the crisis must be overcome. A "soft haircut", as already mentioned, I believe is the best solution for most of the peripheral countries. Once this is done, it will be necessary to restart growth in these countries with an appropriate program of support. At the same time, the new governance will have to avoid a return to the times of public and private "cicadas". In the long term, however, risks for stability remain: the countries of the Eurozone do not currently have compatible economic structures. To feel good together, it is therefore necessary to mitigate national and regional imbalances with active policies. Some of the technical solutions for the management of European public debt (for example, the one I proposed in a CEPS paper last March) envisage Eurobond issues which, as a secondary effect, produce tens of billions of euros in profit. These funds could be spent to increase the competitiveness of the weakest countries, with investments in tangible and intangible capital and in the training of human resources. We have to make sure that Europe grows; and that this growth is distributed among its various states.
