Greek default must equal a Grexit

By Alan Kohler, BUSINESS SPECTATOR

Greece’s central bank says any default would be a general default, which would leave the nation’s banks without liquidity, in which case they would have to close immediately. The government, through the central bank, would be forced to issue IOUs — in other words, a new currency.

In a private briefing late last week, a senior Bank of Greece official told me that the banks are not insolvent but are suffering a stream of cash withdrawals as Greeks look for safer alternatives to bank deposits, so the banks are tapping the European Central Bank for about €1.5 billion a week, and rising.

“If there is a sovereign default, the banks will also default because their collateral for liquidity is sovereign debt,” he said. “In that event, the banks would have to close and the economy would collapse: there would be no next day.”

“Default within the eurozone is an illusion.”

The official, who spoke on condition of anonymity, thus put paid to the notion, currently in circulation, that Greece could default and stay inside the eurozone.

He added: “If there is a willingness to find a solution, there will be no default because there is mutual interest in avoiding it. Default would have to be a political decision, and it would mean the probability that Europe gets its money back declines very sharply — it would be almost impossible.”

And defaulting and/or leaving the euro would not mean the debt would be cancelled: a few years ago Greece paid the last tranche of a loan from the UK taken out just after the First World War, and it had defaulted several times since then.

Meanwhile, in an article published a few days ago, Greek finance Minister Yanis Varoufakis waved an olive branch towards Europe (although it was typically unwise of him to do it in public, and it was heavily qualified): “The current disagreements with our partners are not unbridgeable.”

He listed a number of things that have been agreed already, such as the need to boost entrepreneurship, reform the tax system, proceed with “partial privatisation” and rationalise the pension system.

The talks are bogged down over the pace of fiscal consolidation: Varoufakis says the previous program caused an “austerity trap” because the budget cuts and reforms led to a deep recession, with the result that sovereign debt doubled as a percentage of GDP.

After calling in an estimated 2.5 billion euros in cash reserves from the broader government sector last week, it is believed the government has enough money to last until the end of June. Also the banks are continuing to receive liquidity assistance from ECB, although the amount of collateral needed for that is rising because of risk adjustments to the collateral ‘haircuts’.

Greece has already undergone a massive fiscal adjustment and some significant reforms.

According to the central bank, Greece’s fiscal consolidation has been double that of Portugal, Spain and Ireland and three times that of Cyprus. The structural deficit has been tightened by 20 percentage points of GDP; the real net deficit was 16 per cent of GDP and is now 1 per cent.

In addition, wages have been cut 25-30 per cent and enterprise bargaining has replaced the centralised wage fixing system.

In 2014 the Greek economy grew 0.8 per cent and Nikos Vettas of the Foundation for Economic and Industrial Research told me he thought this year it would grow 1 per cent, adding that “the Greek economy could grow very significantly over the next few years”.

That’s because it has already become significantly more competitive, says Vettas: “Greece has now become a low wage country — within Europe.”

In fact, the Bank of Greece has modelled the Greek economy over the next 10 years and found that with the reforms already done, it would be likely to grow between 1.5 and 2 per cent faster per year than it would have done before, and could “surprise on the upside”.

The senior official told me: “In the 1950s and 60s, Greece’s economy outperformed the OECD average … in fact, right up to the military junta takeover in 1967.”

The big problem is Greece’s sovereign debt — but the Bank of Greece argues that the debt is actually sustainable.

Figures supplied to me by the central bank show that total debt right now is €319 billion with a weighted average servicing cost of 1.9 per cent and term to maturity of 16.2 years.

The key is that interest on €142 billion of the debt, from the European Financial Stability Fund, is capitalised until 2022, so it carries no interest till then.

The ECB is owed €27 billion at 4.2 per cent, the IMF €24 billion at 3.7 per cent, private sector lenders €37 billion at 2.3 per cent and euro area states €24 billion at an average of 0.55 per cent interest.

However, there is a punishing repayment schedule over the next few months. More than €2 billion is due to the IMF and the private holders of Treasury notes in May, and another €3.5 billion in June. In July €3.5 billion worth of bonds held by the ECB are due to mature, along with €2.5 billion in IMF loans and T-bills.

That’s a total of more than €11 billion, for which Greece has no hope of finding the money unless the “troika” — the EU, IMF and ECB — release funds due under the previous bailout program as a result of the negotiations now going on.

The real deadline is the end of June: the government can get by till then, but can’t meet the ECB debt due in July.

So, they have two months to reach a deal, and over the weekend Slovenia’s finance minister Dušan Mramor revealed that the EU is considering a Plan B if the deadline looks like not being met, but did not say what it was, beyond denying that it involved Greece’s exit from the eurozone.