It's been somewhat painful watching European leaders fumble around for a solution to the Greek sovereign debt crisis during the last year. The agreements made to allow the second tranche of bailout money to flow in July were meant to quell fears that the eurozone was frantically searching for a solution and that officials from other member countries had a real plan to get Greece back on track. Unfortunately, despite grand pronouncements that the situation is under control, I'm still worried that the crisis is far from over and that the current plan is just delaying the inevitable.
According to the most recent data from Eurostat, in 2010, Greece's sovereign debt was equal to an astonishing 143% of gross domestic product. And that number has gone nowhere but up since the end of last year as the country's spending still far outpaces the revenue coming in the door. The nuts and bolts of the current plan don't do much to address the underlying issues that there is essentially no way Greece will ever be able to raise enough money to pay down those loans to a reasonable level.
A Temporary Bandage
Let's take a closer look at the current plan to see why it is just a short-term Band-Aid. The first plank was the recently passed austerity plan that creates about EUR 28 billion in savings, excluding asset sales, from a combination of spending cuts and tax hikes. Greece has more than EUR 329 billion in outstanding sovereign debt. The cuts are an important first step in tackling the current budget deficit, but they don't truly tackle the underlying issue. You can't just budget-cut your way out of this problem.
Greece is, of course, also raising taxes, not just cutting spending. But that isn't going to get the country over the finish line either. You can only raise taxes so much before the economy breaks or citizens revolt (witness the reaction to the current crop of measures). And there is the serious problem of tax evasion that would have to be solved as well to make sure that more of the economy didn't just go underground.
In general, austerity plans aren't complete rubbish. Look to the United Kingdom, where deep cuts have been made that over time will bring the country's debt levels to more manageable levels. But the big difference between say Greece and the U.K. is that the U.K. can let these cuts work for years to generate the cash needed to pay back debtholders. Greece is so close to the edge that it doesn't have that luxury.
This brings us to the second plank, the disbursement of more funds from the EUR 110 billion EU bailout loan fund. The money (being lent at a 5% rate) will help the Greeks roll over debt as it comes due in July but yet again does very little to tackle the underlying cause of the crisis. It just kicks the can down the road a few more months until the country needs to go back to the fund to stave off a default for another month.
The third plank is a plan floated by the French and recently agreed to by the Germans that would ask private bondholders to voluntarily accept a reprofiling of their Greek bonds. That is to say, they would agree to accept late payments in order to give Greece more breathing room. This plan has a few flaws. The first is that Greece's problem is not a short-term cash crunch; it is long-term insolvency. Just pushing back when the payments are due isn't going to be all that useful. Secondly, because this is a voluntary programme, there is no way to know how many people will actually take Greece up on the offer. If no one chooses to pitch in for the greater good, then the programme will have even less utility.
Now there is some good that comes from these programmes simply moving the problems a few months into the future. The programmes let banks control their exposure to Greek debt and hopefully help avoid a Lehman Brothers-like moment where a lack of confidence brings the global banking system to its knees. Many are hoping that a huge boost in economic growth or a radical improvement in the global economy during the next few years will help make it a moot problem.
Drastic Measures Ahead?
But realistically speaking that isn't going to happen. For Greece to emerge from this crisis, it will need to fix the underlying competitiveness problems that got it into this mess in the first place. As painful as it will be, the first step to do this will be for Greece to accept that it is impossible to pay back its current debt. The country would need to find a way to negotiate an orderly default that will bring debt down to a more manageable level. But any default deal might force Greece to leave the eurozone which would be a logistical nightmare but could have upsides, as well. By reintroducing the drachma and then subsequently devaluing the currency, Greece could reduce its real debt burden, make its exports more competitive, and bring in more tourism as a result of suddenly more attractive prices.
Default won't be pretty. Devaluation is not a panacea. But this tough course is better than the alternative. German taxpayers are going to grow tired of continuing to spend billions of euros to make Greece's payments, and Greek citizens are going to grow wary of continued austerity without the lifting of the debt burden. If the political will or economic possibility of sustaining the bailout were to suddenly break, the consequences could be severe. Europe needs to figure out a real solution.
What do you think? Will the current plan for Greece work? What's the best way to save Greece?
Bearish markets editor Bearemy Glaser is the worry-prone alter-ego of markets editor Jeremy Glaser. Each week, Bearemy will share what's topping his list of concerns and invites you to reply or add your own in the comments section below.
