Deal to unlock Greek bailout funding at this week’s meeting of eurozone finance ministers unlikely
By SIMON NIXON, Wall Street Journal
It’s still possible that Greece can remain in the eurozone—though that is no longer the base case for many policy makers. At the very least, most fear the situation is going to get much, worse before it gets any better. No one now expects a deal to unlock Greek bailout funding at this week’s meeting of eurozone finance ministers in Riga—originally set as the final deadline for a deal. The new final, final deadline is now said to be a summit on May 11.
But among European politicians and officials gathered in Washington DC last week for the International Monetary Fund’s Spring Meetings, there was little optimism that a deal will be agreed by then.
The two sides are no closer to an agreement than when the Greek government took office almost three months ago. “Nothing, literally nothing has been achieved,” says an official. In fact, it is worse than that: so far, the bulk of Athens’s reform plans would actually cost money or reduce government revenues, according to eurozone officials.
They say that when you add up all the government’s proposals, the budget surplus required under the current program turns into a 10-15% deficit while debt soars far above the 120% of GDP targeted for 2022. There is no way that the eurozone—let alone the IMF—could disburse funds on the basis of such fantastical numbers.
The bottom line is that Athens won’t get any money unless it can reach a deal that satisfies the IMF that Greek debt is on a sustainable path and that it has a medium-term funding plan in place. The eurozone won’t disburse its own bailout funds without a deal that carries this IMF seal of approval. The IMF has agreed to streamline its demands, but that hardly diminishes the scale of the compromise required of Prime Minister Alexis Tsipras; even a slimmed-down deal will require either Athens to commit to an ambitious third bailout program or the eurozone to agree to provide substantial debt relief—which it won’t until Athens can convince the eurozone it is serious about reform.
Perhaps Mr. Tsipris will step back from the brink, ditch his party’s hard-line left-wing and recast his coalition with moderate pro-Europeans willing to back reforms, thereby securing a last- gasp deal to avert disaster. One senior policy maker closely involved in the process attaches a 5% probability to this scenario. The more likely scenario is that Greece defaults.
How things play out after that will depend on who Greece decides to default on and the reaction of bank depositors. If Athens defaults on a government bond or loan, then the ECB will have to raise the price that banks pay to access emergency liquidity from the Bank of Greece, effectively depriving them of access to fresh supplies of euros.
If Athens decides instead to default to its own citizens, perhaps by issuing IOUs to pay pensions and salaries, bank customers may start emptying euros from their accounts. Again, banks would quickly run out of collateral for emergency liquidity.
In both cases, Athens would have to introduce capital controls and bank holidays to stop the financial system imploding.
Some officials believe Greece could carry on for several weeks if not months in this state of limbo while still technically remaining part of the eurozone. They cite the situation in Cyprus after its 2013 financial implosion as a precedent, where the banks were closed for almost two weeks and capital controls imposed, the last of which was only lifted this month.
On this analysis, there could still be time following a default to hold a new election or possibly a referendum on eurozone membership which could lead to a new political configuration in Athens willing to strike a deal to keep Greece in the eurozone. Several senior eurozone officials now privately say that this is their baseline scenario.
But not everyone is convinced that Athens would have much—if any—time after a default before a euro exit became inevitable. After all, the situation in Cyprus was very different: there, the capital controls and bank holidays were part of a plan to restructure the banking system and put it back on a sounder footing. In Greece’s case, they would be closed to avoid the system collapsing with no plan to restore economic and financial stability in sight.
Meanwhile, the loss of liquidity would have a devastating impact on the economy, both in the short-term and on long-term growth prospects, further raising the bar to any deal to stay within the eurozone. Some officials believe that the situation post-default could quickly spiral out of control, leading Athens to quit the euro.
Not surprisingly, some governments now argue that the eurozone’s priority should be to focus on how to minimize the impact of a Greek euro exit. There is a broad consensus that the eurozone is better able to withstand the shock than earlier in the euro crisis, not least thanks to the ECB’s government bond-buying program, now fortuitously to be extended to Cyprus following a key vote on mortgage foreclosures agreed over the weekend.
The eurozone economy is growing, with former crisis countries growing the fastest. Economic and financial linkages to Greece have been sharply reduced. Portugal, widely considered most vulnerable to renewed market stress, has the protection of a large cash buffer; Lisbon is confident it can withstand the shock.
Even so, some contagion is inevitable, not least as financial markets absorb the realization that the eurozone is not after all irreversible.
Peripheral country bond yield spreads over German bunds picked up slightly last week—albeit from very low levels—and bank stocks fell. Some officials in Brussels and at the ECB believe that the eurozone may need swiftly to strengthen its common backstops, including speeding up the creation of its common fund for dealing with troubled banks and even agreeing common deposit insurance.
Others believe that the eurozone will also need to bring forward plans to create a common fiscal capacity: a centrally-managed eurozone budget funded by eurozone borrowing.
Of course, this would involve very tough political decisions for eurozone governments. But they always said that Greece was a unique case. The markets may demand that they prove it.
