Eight years after the start of the first aid program for Greece, the time has come – Greece should be on its own again. The Eurogroup should today decide on the end of the third aid program and define the modalities for the time after. The goal now should be to reach a viable exit from this very painful time for all sides – in such a way that future generations no longer have to deal with the topic on an ongoing basis.
The first aid program in 2010 started in an unprecedented situation. The budget deficit exceeded 15 percent of the gross domestic product in 2009 and financed an unproductive government sector, where official salaries, for example, were disproportionately high.
The consequence was an inevitable and hard austerity program. Expenditure had to be cut and revenues increased. Fundamental, structural weaknesses in the economy had to be addressed. But the then government under Socialist Prime Minister Giorgos Papandreou tackled many reforms only half-heartedly. The prescribed austerity, however, was respected.
The Syriza government under Prime Minister Alexis Tsipras and Finance Minister Yanis Varoufakis 2015 turned against this austerity measure in 2015. The conflict between the Greek government and the Eurogroup escalated. Greece’s exit from the program was again delayed. In particular, the loss of confidence in this episode led to less investment and growth in Greece.
But you should not only look for the mistakes of the past eight years in Greece. From the beginning, the International Monetary Fund rated the debt ratio as unsustainable. Nevertheless, at the beginning of the first program, there was no haircut – the country was instead imposed an impossible austerity program. The result was an even stronger decline in gross domestic product, which would not have been necessary.
The haircut came way too late
The haircut then came, but only in 2012. The banks then waived half of their claims against the Greek state. Private creditors, especially in Central Europe, were only marginally involved in the adjustment costs due to the late debt restructuring. It is clear that a previous haircut could have improved Greece’s debt burden.
Another problem is that the Eurogroup has still not agreed on a long-term credible perspective for Greece. In order for Greece to grow steadily in the long term, people, businesses and investors must trust the sustainability of the country. Not only is it important that the government is stable and has a competent policy. Equally central is that the country’s debt is sustainable.
But that is not the case so far. According to analyzes by the IMF and calculations by our institute, the sustainability of debts depends crucially on future growth. But without certainty about long-term sustainability, investing in the country becomes a risk-averse bet. Then growth will be rather weak – a vicious circle. As a result, financial markets remain skeptical and continue to demand a substantial risk premium on ten-year government bonds of around four percent. When leaving the program, it is therefore necessary to break this vicious circle.
One approach is to make interest payments to European partners dependent on Greek economic growth. Should Greece be hit by a deep recession, the interest service could be suspended. Conversely, the government should repay the debt faster if the economy grows better than expected. Already in 2015, I proposed such an approach with the lawyer Armin von Bogdandy and the economist Marcel Fratzschereinen. The idea is compatible with European law as well as German constitutional law. The former German Finance Minister Wolfgang Schäuble (CDU) rejected this possibility but. Although the European rescue fund ESM has reduced the debt burden several times by lowering the interest burden. The fundamental problem remains.
Today, the Eurogroup has the opportunity to make Greece’s future viable. The new automatism improves the chances that more will be invested in Greece again. This strengthens growth and reduces the risk of debt default. The mechanism would have to be complemented by a kind of “emergency brake”, as creditors, of course, must be able to respond to new political constellations in Greece. It is also important that the IMF and the European Commission continue to monitor Greece and review progress on reforms.
The proposed automatism would also be in their own interest: the Eurogroup could avoid having to decide every year whether there had to be an adjustment of the debt service. Given that Greece’s debt to its European partners has a very long duration of 32 years on average, the new mechanism would make life easier for future politicians.
-GUNTRAM B. WOLFF