The Economist

GREECE’S fragile coalition government only narrowly averted disaster on November 7th when it won parliamentary approval for a drastic new austerity package. The package scraped through with 153 votes to 128 in the 300-member house. Antonis Samaras, the prime minister, made the best of it, saying that “Greece has turned a page.” Meanwhile furious anti-austerity protesters outside parliament hurled stones and Molotov cocktails at police in what has become a grim ritual.

The debate over the latest austerity measures, the toughest yet, had turned angry even before lawmakers studied the 500-page “poly-law” before them. Presenting the four-year programme to parliament’s economics committee, Yannis Stournaras, the finance minister, fended off attacks from Syriza, the leftist opposition party, pointing out that if it were voted down Greece would lose a desperately needed €31.5 billion ($40 billion) slice of its bail-out funding, would default on its next debt repayment and would surely then make a disorderly exit from the euro.

Mr Stournaras had gradually given ground over four months of negotiations with the “troika” of the European Union, the European Central Bank and the IMF on the package to be implemented in 2013 and 2014. Greek proposals for cuts in government operating costs were rejected as unrealistic. So they were replaced by “permanent” spending reductions, code for slashing salaries and pensions.

Many elderly Greeks’ worst fears were realised when the law was unveiled. The biggest chunk of savings next year, about €4.6 billion, comes from reducing pensions, starting with a 5% cut for those on a modest €1,000 a month. “It feels as if the troika has selected the old for special punishment,” commented Constantina Athanassakis, a 70-year-old retired hairdresser.

Salaries of better-paid public-sector workers such as central-bank employees, university teachers, judges and hospital doctors, will also be cut. Salaries at public-sector corporations are being reduced by 35% and capped at €5,000 a month, which means take-home pay of just €2,900 for bosses and fewer perks. Some cuts will be backdated. Next year’s budget assumes the economy will shrink by another 4.5%, but local economists predict that a collapse in spending by cash-strapped consumers could lead to an even bigger fall.

Antonis Samaras, the centre-right prime minister, promises this will be the “last and final” round of cuts. But Greece’s creditors are not so sure, given the poor record of all Greek governments on reform. The economy is not expected to start growing again before 2015. Few observers expect the government to keep to its new timetable of cutting 110,000 civil-service jobs by 2016. The privatisation programme has been disappointing. With Greece looking politically unstable and facing two more years of recession, it will be hard to attract foreign investors.

It does not help that Mr Samaras’s three-party coalition is increasingly fragile. His centre-right New Democracy party is expected to stay loyal at the next parliamentary test, approving the 2013 budget this weekend. Fotis Kouvelis, leader of the small Democratic Left, has also pledged to back the government. But his decision to abstain from the vote on November 7th has undermined his credibility with Mr Samaras. Mr Kouvelis could soon face a leadership challenge.

Many observers also believe that Evangelos Venizelos, leader of the PanHellenic Socialist Movement (Pasok), may be unseated. Mr Venizelos’s reluctance when serving as finance minister to investigate the so-called Lagarde list of 2,000 Greeks with bank accounts in Geneva has annoyed many in his party. Several former ministers think they could do a better job of rebuilding Pasok’s popularity, which is at an all-time low of around 6%, according to the polls. Yet if Pasok fragments, the government risks losing its majority—and the prospect of a Grexit will loom yet again.

How to end the agony

Greece will remain a disaster until it gets the treatment given to heavily indebted poor countries in the past

 

A GENERAL strike; protesters on the streets; parliamentary battles over austerity measures needed to unlock rescue funds; and a sinking economy with an ever bigger debt burden. The situation in Athens this week is grimly familiar—and not just because Greece has had so many similar weeks over the past couple of years. There are also eerie echoes of the developing-country debt crises of the 1980s and 1990s.

The experience of dozens of debt-ridden countries in Latin America and Africa holds lessons that Greece’s rescuers ought to heed. For years, the IMF and rich-world governments tried to help them with short-term rescue loans. But the most indebted started to recover only when their debts, including those owed to official creditors, were slashed. In Europe, Poland also provides a precedent: its economy took off in the 1990s after it too was given a break by its creditors.

 

Greece is in the same boat. Provided that the country’s parliament passes the 2013 budget on November 11th, a fresh infusion of rescue funds will stave off imminent catastrophe (see article). Yet Greece’s economy won’t recover until it has more debt relief. That should involve, broadly, a two-part process: first, agree on a plan to reduce debt if certain targets are met; then cut the debt in stages over the next decade.

The starting point is that Greece is still bust. Earlier this year private-sector bondholders reduced their nominal claims by more than 50%. But the deal did not include the hefty holdings of Greek bonds at the European Central Bank (ECB), and it was sweetened with funds borrowed from official rescuers. For two years those rescuers had pretended Greece was solvent, and provided official loans to pay off bondholders in full.

So more than 70% of the debts are now owed to “official” creditors (European governments and the IMF). The chances of repayment are sinking with Greece’s economy. Government forecasts now suggest the country’s debt will exceed 190% of GDP in 2014, some 30 percentage points higher than the IMF predicted six months ago. This debt burden cannot fall to a remotely sustainable level without additional relief.

 

In private, many Europeans admit this. In public, they deny it categorically. Germany’s government is now willing to grant the Greeks more time to implement their austerity. But it will not even discuss any forgiveness of official loans.

Politically, this is understandable. Germany worries that any debt relief will reduce Greece’s incentive to undertake reforms. And it would enrage German voters, who might then punish Angela Merkel’s government in the general election next autumn. Economically, it is a disaster. As long as everybody knows Greece cannot repay its debts, the country will remain shut out of private bond markets and uncertainty about how those unpayable debts will eventually be resolved will deter investment. It will slow the privatisation of state assets, which is central to Greece’s turnaround strategy.

HIPC, HIPC, hooray!

That’s why Greece needs another debt-reduction deal. Its official creditors, particularly the euro zone’s governments and the ECB, should set out a plan for reducing the country’s debt burden while sharpening Greece’s incentive to reinvigorate reforms. One guide could be the “HIPC” initiative, the 1996 scheme where lenders agreed to reduce the debts of the most Heavily Indebted Poor Countries if they implemented reforms to reduce poverty. Another could be newly democratic Poland, which had run up huge debts under its communist rulers; in 1991 sympathetic creditors agreed to cut its debt burden if reforms were undertaken.

A bargain with Greece’s official creditors could follow the same principle. A deal would be agreed now: if Greece sticks to its reforms, its official debts would be reduced, in stages, to a level where the stock was manageable (say, 120% of GDP by 2020), the burden bearable and the repayment schedule feasible. The reduction could come through cutting interest rates and pushing out maturities, perhaps to as much as 50 years. That way, Mrs Merkel can explain to voters that the principal is being paid in full. The ECB, which holds Greece’s remaining unrestructured private bonds, should act fastest, accepting terms similar to those imposed on private bondholders.

There are complications. The IMF sold gold to finance its share of HIPC debt relief. Since Greece, even now, is far richer than most of the IMF’s members, Europe’s creditor countries should shoulder the Fund’s share of Greek debt reduction. Greece might flunk its reforms or its budget numbers. But the impact of laying out a credible path to debt sustainability could be powerful. Greeks could start to believe they have a way out of the crisis; investors could put money in the country with more certainty. It could create a positive circle of confidence and growth. Without it, Greece’s prospects are dire.