26 April 2010

Greece will not be saved from a default on its debt (chapter 3)

1. Greece budget assumptions and projections
Greece Stability and Growth Program is based on the following assumptions:
I note that all discussions are centered around the baseline scenario, which is overly optimistic. As the SGP plan dated January 2010 outlines (emphasis mine):
“For more than ten years the Greek economy experienced high GDP growth rates... was however largely based on increases in demand, fuelled by the easier availability of credit to enterprises and households at the lower interest rates which accompanied the adoption of the euro”.
This leads me to 2 conclusions:
(1) How do the Greeks expect to have a positive nominal GDP growth when the economy is still uncompetitive and tax increases and wage / pension freeze (at best) are going to weigh on an economy which has been geared for so long towards consumption?
(2) The euro has not been an instrument of convergence but of divergence since interest rates did not reflect the competitiveness of each eurozone country but a melting-pot hiding large discrepancies and not providing any incentive to converge due to the lack of stringent enough and automatic rule’s enforcement of the Stability Pact.
Beyond more fiscal and social austerity measures, has Greece any additional revenues they could fund? I see two sources: selling state owned assets estimated to represent EUR 9.2 billion (figure rather optimistic to obtain when you are a well-known distressed seller) and multi-years pre-payment of EU structural funds (everything is possible in Brussels to save face - it would be counterproductive and disastrous for the EU credibility on the world stage).
Overall, it will not be enough.
2. SGP execution
Prima facie, the implementation of the SGP is going rather well with a 39% decrease in the budget deficit for Q1 2010 vs Q1 2009, but the evil is in the details:
  • First, 45% of the progress comes from a deep reduction in the Public Investment Program which, by the way, is due to slightly increase for 2010; at the current monthly spending, Greece is EUR 6 billion behind. So do not expect any improvement to come from this item; to the contrary, there is a lot of catch up to do by the end of the year to reach the EUR 10.3 billion spending contained in the SGP.
  • Second, interest payments are zooming up. The subsidy that Greece will receive from its eurozone partners will however limit the negative aspect of this item
  • Third, the primary expenditure is making very slow progress
  • Fourth, the EUR 870 million special levy on profitable firms was mostly collected in January
  • Fifth, payment of EU EUR 1.4 billion structural funds is being accelerated
 3. Markets & Beyond projections
It is quasi- impossible to project the success or failure of the SGP measure being implemented or the additional cost of any deviation in unemployment numbers from projections. What is less difficult to assess is the reality of GDP growth and therefore the level of debt requirements and whether the eurozone and IMF subsidy will be enough or not.
I do not believe one second that Greece will have a positive growth in 2010; commentators and analysts are broadly discussing about a 4% GDP contraction.
I started with the SGP numbers and I applied 2 different nominal GDP growth factors under 2 scenarii: one taking SGP alternative scenario and one with less optimistic GDP figures. In each case I calculated the additional debt and cost of interest at 5%, assuming that eurozone members will be willing to continue financing at subsidized rates...
SGP alternative scenario: the debt/GDP ratio continues deteriorating, whilst at a slow pace. This is obviously overly optimistic since any negative delta compared to the baseline scenario would translate in lower tax revenues which are not taken into account in Markets & Beyond calculation. The additional debt is rather sustainable in 2010 and 2011 marginally and increases the debt/GDP ration for the 4 years under review. I do not take on-board this scenario either.
Markets & Beyond scenario: the situation is unsustainable and the GDP projections are quite aggressive and do not take into account lower tax receipts. This will result in a default that would occur at the latest in H1 2011 (and probably by March 20 or May 18 2011 when two bonds are maturing – EUR 8.6 and 6.6 billion) but for additional financing from the IMF and other eurozone countries (it was reported last week that Axel Weber, the Chairman of the Bundesbank, said that EUR 80 billion would be required in 2010). Either Greece will default abruptly (not my scenario) or its debt payment rescheduling / will be negotiated (my scenario).
The rescue package, if finally delivered (watch Germany), will not be enough to plug the widening gap; it is merely buying time and any reprieve will be short lived. The EU, the IMF and Greece should prepare a managed default and start discussing with creditors, which are mainly European (this should facilitate negotiations), to reschedule the debt and the haircut they will need to take (in my view in the 50% region to make the debt burden manageable for Greece and be within the 60% zone of the Maastricht criteria).

Hellenic Ministry of Economy and Finance
Hellenic Ministry of Economy and Finance: Accounting Office