The second rescue package for Greece that was agreed upon yesterday by euro-area finance ministers should reduce the probability of a near-term Greek bankruptcy and possible euro exit. But substantial implementation risks remain and the latest analysis by the country’s own lenders suggests that more needs to be done in the medium term.
This week’s deal closes the latest funding gap in the Greek program and tries to provide additional assurances for official creditors. It is already setting off a flurry of activity. In the next few days, the Greek government is expected to take the first steps toward implementing the agreed private sector involvement (PSI)—i.e. “haircuts” for private sector investors in its bonds. National parliaments in other euro-area countries will also need to ratify the agreement. Final approval by euro-area leaders is expected in early March. This will require a successful PSI operation together with confirmation that the Greek government has implemented several measures that should have been done under the existing program. It’s still possible that something could go wrong during this period, but the risk of a near-term bankruptcy in Greece is clearly lower than it was a few days ago.
Even so, the latest debt-sustainability analysis undertaken by the international “troika” (consisting of the European Commission, the European Central Bank and the International Monetary Fund) negotiating with Greece casts considerable doubt on the design—and likely success—of the whole Greek program. Although the baseline forecast shows a much lower debt-to-GDP ratio by the end of the decade, there is also an alternative scenario in which Greece fails to deliver the agreed structural reforms and policy adjustments. In this case, the troika estimates that the debt-to-GDP ratio would still be 160% in 2020.
Moreover, the rescue package only provides funding until the end of 2014. So even in the baseline scenario, the troika estimates that €50 billion of additional official financing will still be required between 2015 and 2020. Last night’s communiqué emphasises that these funds will be available, but only if “Greece fully complies with the requirements and objectives of the adjustment program.” Whether that happens is anyone’s guess, especially with a general election scheduled for April.
Even if Greece does make good on its promises, the troika admits that the economics behind the program may be flawed, noting that “there is a fundamental tension between the program objectives of reducing debt and improving competitiveness, in that the internal devaluation needed to restore Greece competitiveness will inevitably lead to a higher debt-to-GDP ratio in the near term.” In other words, the whole program might be self-defeating, with more austerity simply stifling the economic growth needed to cut the country’s debt.
A growing number of policymakers have probably reached a similar conclusion. Indeed, the decision to lend more money to Greece may have had more to do with concerns about the impact that a bankruptcy and possible euro-area exit would have on the rest of the periphery than any real faith that the adjustment will work. Policymakers have postponed the day of reckoning for Greece, but maybe not for long.
The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams.
Darren Williams is a Senior European Economist at AllianceBernstein.