Greece: Something will give, austerity or growth or both

The results are in from the poll on Greek sovereign bond default. To the question of "Will Greece default?" a plurality said "Yes, but they will stay in the euro-zone after a managed restructuring." Another 26% answered that Greece will default in a messy and uncontrolled way. Only 16% believed that Greece would be able to see through its austerity measures and avoid default. The results are below.

What is clear from the Greek situation is that Greece faces a tough battle to reign in its high budget deficit. The best example of what is in store comes via the note from Win Thin which I highlighted yesterday. He pointed to only two cases where a primary budget deficit has been reduced as much as Greece would have to reduce its budget deficit. The fact that they can do so over 5 years (2010-2014) instead of three (2010-2012) is helpful. But, they have only enough money to last them through one and a half years of deficits as most prognosticators put the net new borrowing at 65-80 billion euros for this coming year and have received 110 billion euros.

I voted for default (and restructuring). I don’t think the Greeks can make it and for one good reason: the economy. First and foremost, the European economy may be improving but it is still weak. As Win Thin pointed out, a large reduction of the primary deficit requires a robust economic outlook. However, the austerity measures that all European nations are taking to reign in their budget deficits reduces consumer demand across the Eurozone. That makes for a weak economic outlook in the Eurozone. I laid this out in March regarding the situation in Spain, when I said:

If Spain is forced to run austerity measures as seems likely, in stage two, this shifts their government deficit markedly down. Given Spain’s poor labour competitiveness, sticky wage prices and inability to depreciate the currency, all of the adjustment falls onto the private sector in the form of reduced net savings (which could include larger debt burdens). But, the thing to realize is that total GDP in Spain is lower in this scenario, which means total imports are lower, which means Germany’s total export volume is lower. This is a deflationary scenario.

I know for a fact that Germany and Austria (another net exporter) are already cutting back their deficits, Austria via higher taxes. We see Ireland, Spain, Greece and Portugal doing ‘austerity’ measures to rein in government deficits too. Meanwhile, having seen the financial sector balances chart, you know that austerity means higher debt burdens in those countries, but also lower exports in Germany, which is also cutting back its own Government spending. So, austerity not only kills the Spanish economy and makes it prone to a debt deflation scenario, it also hurts the German export economy while they themselves are cutting back on government deficits.

What you have here is a perfect recipe for a double dip and a serious economic nightmare. Unless Germany can get its consumers to start spending more, the Eurozone is going to double dip.

Read more: https://pro.creditwritedowns.com/2010/03/spains-debt-woes-and-germanys-intransigence-lead-to-double-dip.html#ixzz0mtWLl6jw

So, there is no excess consumer demand coming from within the Eurozone. And given what I have detailed in two recent posts (see here and here), the excess consumer demand in the US is unsustainable. The only way that Greece could get around this problem is through exports, which requires currency depreciation or consumer exports to the BRICs which are actually growing at a good clip.

We know that US President Obama wants to export his way out of weakness. A competitive currency depreciation by the Eurozone would not sit well with US policymakers even if the Europeans could pull it off. Another potential avenue out of this problem is via an increase in tax compliance by the wealthy. If the government can raise more tax revenue without hurting the domestic economy, this could be Greece’s saving grace.

I say ‘hats off’ to the Europeans for executing their Hail Mary pass. They have put something workable together and that has put a floor under Eurozone sovereign debt yields. The ECB has even gone along for the ride. The European Central Bank has decided to junk up its balance sheet with subprime sovereign debt collateral much as the Fed has done with US mortgage subprime debt.

Maybe we will see a masterful tax-raising plan that doesn’t crimp growth or Eurozone consumer demand firing on all cylinders. We can always hope. But, the bail out is really just the blind hope kicking the can down the road. It simply is not credible to expect austerity and robust growth at the same time or even one after the next. Something has to give, either austerity or growth or both.

9 Comments
  1. Alex says

    Everybody commenting on everything – how much do you guys know about Greece? The “one good reason: the economy” that says Greece wont make it is near irrelevant in this case, compared to the political (and structural) willingness to tackle the black economy. Don’t know if Greece will make it, but we will know before the year is out.

    1. Element says

      Hi Alex, my best friend and family lives in Athens. I’ve conversed regularly with this friend about the Greek political, social and geopolitical situation for about 11 years. It’s probably the one place on Earth I would love to move to, eventually.

  2. Element says

    Interview on ABC Inside Business – May 2nd 2010.

    Alan Koehler (AK): Well Oliver how dangerous is the possible default of Greece, given the exposure of European Banks, to Greece?

    Dr. Oliver Hartwich (OH): It’s quite dangerous. We’re talking about a total of about 300 billion euros, um, that Greek, Greece currently, um owes. Er a lot of the money is held by European Banks, mainly by French Banks, Swiss Banks, German Banks, so um, if Greece actually defaults, if we see a haircut perhaps er those banks will heavily suffer and probably have to be bailed out by the National Governments – again.

    AK: Is that the best thing to do, do you think?

    OH: Probably yes, because if er, we are pumping in 45 billion euros this year, more next year and so on, then that money is lost. We are throwing good money after bad. And probably better to have a clean cut now and say ok, let Greece go under, let’s bailout our banks, let the Greek introduce their old currency and then devalue, because that is the best chance for Greece actually, to regain its competitiveness.

    AK: Well what’s the fundamental problem, why – why has this occurred?

    OH: The fundamental problem for Greece actually is that they’re simply not competitive, visa-vis Germany. On a productivity basis Greek wages are currently about 25% higher than they should be, so if Greece actually wants to compete in international markets, with the Germans, they would have to lower their wages 25%. That’s very unlikely to happen, as long as they are members of the Eurozone, but once they have reintroduced their own national currency they could do it, um er, relatively painlessly.

    AK: Well, what’s the risk now of contagion, um and the whole problem of spreading to – to Spain Portugal and Italy, and other countries?

    OH: I think it’s a very real risk, um, and it’s not just Eurozone countries. Think of Britain, think of er, the er British fiscal crisis. The British Fiscal figures look almost as frightening as the Greek figures, so once international investors become really worried, about European nations being able to repay their debts, I think other countries may get infected, not just within the Eurozone.

    AK: I suppose er, at least the Pound can fall?

    OH: Well that’s a big, er advantage the British have, they can print their own money, and they have, they had to quantitative easing. The Bank of England printed about 200 billion Pounds last year. That’s a higher figure than the national deficit actually, um, but er they can devalue their currency, and if you look at er, the Pound Stirling they have already lost about 30% of er within er about the last 3 you 4 years. That’s not possible of course for countries like Portugal, Spain and Italy.

    AK: Do you think that Greece actually must leave the monetary union?

    OH: I wouldn’t put it this way. I think the question really is whether the monetary union can take membership of both Germany and Greece, at the same time, and I don’t think it can. At some stage European Politicians probably have to make a decision, and one of them would have to leave the Union. Whether it’s Greece, or whether it’s Germany.

    AK: Possibly Germany. So what happens if Germany leaves? .. erm, could Germany leave?

    OH: Well, the problem of course is that there are no treaties in place that would actually make it possible for any country to leave. It is possible under the Lisbon Treaty, that one country can actually leave the European Union altogether, including the monetary union, but currently we don’t have er, er due process, under which any country could leave monetary union.

    AK: How do you think Germans feel about what’s going on in Greece? And what’s been – what they’re being asked to do?

    OH: Ah well, they’re, there’s national outrage really, because you have to see one thing, the Germans put an amendment into their constitution last year, and er, basically, er legislating for balanced budgets by the end of this decade. That means that German Treasurer, Wolfgang Schauble has to introduce austerity measures from next year. So, the Germans will be required to cut down their benefits for example, they will cut down on all sorts of public spending, at the same time that their transferring huge amounts of money to Greece. You can imagine that, that is not very popular.

    AK: Especially after it has transferred all this money to East Germany as well?

    OH: Yeah, basically the Germans are used to that, um the er West Germans have transferred 3 or 4% of their GDP every year, for the last 20 years, to east Germany to pay for building of a new economy in the former communist er, part of their country. Er, now they are required to do exactly the same again, but this time it’s not even going to their own country, but to some southern European economy. And I, I think that is not going to be too popular in Germany. And in fact if you look at German newspaper headlines, they’re all discussing if they should bring back the Deutschemark.

    AK: Do you think they should?

    OH: … they probably should.

    AK: … thanks for joining us Oliver.

    OH: Thank you.

    Economist Dr. Oliver Hartwich, recently of Germany and the UK, now a Research Fellow at the Centre for Independent Studies in Sydney.

    And that’s another reasonable summary of why the loans to Greece are rather unlikely to pass the German Parliament, this week, or next, or ever. Personally I don’t think it’s going to happen. Would you do it? I seriously doubt you would.

    On Sunday the 2nd May the Greek Govt agreed to virtually unlimited austerity measures to obtain multi-year loans equal to $157 billion AUD, or $145 billion USD. The result on the streets in Greece was immediate and violent. Several riot police were set on fire by Molotov cocktails, while highly-organised rioters were using full-body flame protection garments, gasmasks, and eye-protection, and small bombs were exploded in front of foreign banks. There were clear images of a flare gun being carefully aimed and fired directly into riot police. Many riot police are now wearing full body armour and gas masks.

    This new $157 billion AUD or $145 billion USD multi-year ‘deal’ should not provide comfort or reassurance either.

    Greek refinancing needs for the next 4 years;

    2010 = 45.18 billion euros
    2011 = 44.573 billion euros
    2012 = 39.037 billion euros
    2013 = 30.366 billion euros

    TOTAL = 159.15 billion euros

    Source: Greek Ministry of Finance (Jan 2010)

    The three year plan is even less likely to pass the German Parliament (considerably less) than the earlier e45 billion 1-year plan, and much less likely to be accepted by the Greek people. It’s actually a perfect recipe for failure in the German Parliament and in Greece’s Streets.

    Then there’s the Greek Finance Minister’s recent comments;
    “Under this program it’s clear that the Greek banking system will be shielded against any attack, and any possible program that it can find in its path.” – George Papaconstantinou, May 1st 2010

    Well, apart from presuming it’s a done deal, which is exactly the facade the Greek Govt IMF and EU are trying to construct, he’s also trying to slow the flight from Greek Banks. But really, is anyone except the less aware elements of the general public going to fall for this stuff? Nope.

    What this is, is the elites are getting scared in the EU Govt, in the Greek Govt, in EU banks, and in the IMF itself.

    “If you exit too early then the risks are much bigger,” Strauss-Kahn told the Swiss gathering. If the economy relapses “I don’t know what we could do as most of the things we had in the toolkit have been used.” – Feb 1 2010.

    “We will follow this road for this is the only road that is going to save the country. Through this mechanism and through this financial help, Greece will be shielded from the international markets and will be able to put its house in order.” – Greek Finance Minister George Papaconstantinou, 3rd May 2010

    i.e. bailout and protectionism, despite the no-bailout clauses in EU treaties, so desperate is the situation.

    “The steps er, being taken, while difficult er, are necessary to restore confidence in the Greek economy.” – Olli Rehn, EU Monetary Affairs Commissioner, 3rd May 2010

    But in reality the this assures a deep and protracted D-epression, and radical revolutionary sentiment and action.

    “I think that we would definitely have a sense of that the, the worst is well behind us, and that there’s light at the end of the tunnel.” – Poul Thomsen, IMF Negotiator, 3rd May 2010

    This guy is just living in a parallel reality where things are very different from this one.

    “Society will disintegrate. This will cause an uprising by people who won’t be able to live under this burden” – Ilias Iliopoulos, Greek citizen activist, 3rd May 2010

    Bingo! Give the man a cigar. This bailout is a non-starter from the outset. The yawning chasm between the political mirage/conceit, and actuality, is revolting – in the literal sense. The only thing that will work is no-strings attached temporary IMF loans (write-offs really, and something I do not believe was the original purpose of the IMF) and a major haircut of Banks.

    Which will now definitely occur.

    The flight of capital means Greece may be leaving the EMU in a rather disorderly way, treaty arrangements or not. And this will severely impair the EU vision-splendid. And then the IMF must provide the loan difference and call the shots with regard to Greek austerity measures (i.e. Germany will not pass on these loans). Well, until IMF agents get lynched by rioting mobs and the Greek Parliament is over-run. And that’s why there will be essentially no strings attached to IMF rescue credits, despite the claim that stringent austerity policy will be voluntarily imposed.

    It definitely won’t. The austerity will come then the Govt fails and default occurs and the loans stop.

    The whole emphasis is to put out this agreement on the weekend before markets re-open and pretend there really is a viable super agreement, but it’s now far less viable than before.

    The only person to listen to is Merkel, but even she does not have the final word, though I’m sure she knows what it is. So far I see nothing that indicates she’s changed her mind about providing money to Greece. Even at the EMF agreement’s signing-ceremony she dressed in all-black, like she was attending a funeral.

    And I’m pretty sure she did not agree to provide the major-share of a e120 billion 3-year loan provision to Athens and she was definitely conspicuously absent on Sunday.

    Here’s another very relevant earlier quote from Dr. Oliver Hartwich, from immediately after Merkel’s signing of the e45 billion EMF agreement;

    “The big problem for Angela Merkel is German taxpayers are giving 8 billion euro in loans to the Greek Government, and Angela Merkel had previously promised that not a single German taxpayer cent would be paid to the Greek Government. … There is a no-bailout clause in the EU treaties, EU countries are not allowed to help each other in times of financial crisis. Whether the German Constitutional court will actually allow this facility, that was agreed to over the weekend, remains to be seen.” – Oliver Hartwich, Centre for Independent Studies, ABC Lateline Business, 12th April 2010.

    So Merkel signed on to something she could no longer avoid signing, but she knew it required German Parliamentary approval, and it probably would not get it, but even with legislative OK, it’s still legally highly contestable, and can be delayed for a long time.

    Too long to be of any use for Greece’s needs. Merkel knew all this and played it out perfectly, and the new deal announced on Sunday, was an attempt to sideline Merkel, but it won’t work, if they don’t get Merkel, the loans don’t happen. So the IMF will be forced to make up the difference – with no strings attached.

    That is what the IMF don’t want, and it’s what Germany is going to insist on. Bail ’em out yourself, we are not doing it.

    So the new loan deal solved nothing, it in fact draws even greater attention to the financial, legal and political impossibility of the situation, and virtually ensures the plan’s failure. At best it will buy some time, and that is in fact the aim, because the IMF know the plan will eventually fall to pieces. They want to slow things down, especially the bond rate contagion.

    But now the blame will not fall on Merkel when it fails. Even if the German Parliament rushed through legislative approval (let’s get real, they won’t, there’s no constituent desire for that), it can still be held up for months or years by the courts, and there appears to be good grounds for it to be legally disallowed.

    And this ignores that the German voters themselves are resolutely against it and also quite capable of rancorous demonstration, and will surely gut any politician that pushes this. And I don’t think the EU and German banks can scare the German people into more and bigger bailouts. And it ignores that the Greek people are more adamant than ever that this will not be allowed to occur. However you look at this, these loans are very unlikely to eventuate, and a default is very likely.

    The IMF and EU are simply playing for time to prepare and reduce the effects, but they are not able to control it now, and this deal will flounder and they will lose credibility.

    Merkel definitely knows this, and it seems clear to me she’s decided this actually must occur, in order to clean up the mess so that a sustainable recovery can take place. She knows that extend and pretend will be a far worse disaster, and has determined to have the lesser disaster earlier. She won’t involve herself too much now, as she knows this will now proceed. All that’s coming from Germany now is the formal German Parliamentary version of Merkel’s earlier ‘No’, to wasted loans for a failed Greece.

    Once that occurs, haircuts or rather clean-cuts (i.e. like bald) are assured. Then the bad banks have to come cap-in-hand to respective Govts but this time the German Banks at least are going to be nationalised, gutted, cleaned up, or closed down. And people jailed. Why do you think major banks were being raided last week for millions of files, by thousands of German Govt agents and police?

    Some banks will survive, but most won’t, and the ‘D-Process’ will progress.

    Merkel wants to create the political circumstances in which to slaughter bad banks, eliminate their ‘assets’ (because there are far to many loans to ever be sold on), and she’s prepared to forego the EMU and EU, if necessary, to get this done. I expect she and Wolfgang Schauble informed the French and the Brits of this decision at the end of March, and strongly suggested they prepare to do the same as the wheels come off the banks.

    And this is why the Brits and French are laying low, and staying out of the EMF/IMF loan circus act, they already know what Merkel is going to do. It’s the EU Leadership clique that doesn’t seem to be facing up to where this is going, and how fast.

    And of course, these events are going to totally transformation the US dynamics, and I expect Obama and Geithner fully grasp what’s coming, and are pre-positioning the public debate for the next banking system convulsion (possibly before the mid-terms).

    The political old-normal is dying on both continents.

    The illusions supporting it are being uprooted by events. Greece is a collective sneak preview into what will occur more generally, and it should teach us a great deal if we pay attention, rather than listen to the myths.

    For one thing, Democracy in the form of people-power is re-asserting itself, and can not be suppressed by legality or police or troops. And propaganda will not work like before anymore. In the US the Tea Party will become an extremely powerful political force as these things unfold. They are the result of the last global banking convulsion and bank bailouts, and their policy sentiment means voluntary austerity is coming, and a sharp fall in consumption, and the total gutting of the big banks and severe regulatory incursion.

    The people-power thing is going global; Iran, China, Kyrgyzstan, Thailand, Burma, Spain, Greece, France, Iceland. In some countries it’s directed at dictatorships that create misery, in others like France and Greece, it’s directed at economic and social unfairness, bank exploitation, bailouts and political corruption and public coercion.

    This is going to spread for years and could easily emerge in Germany, and Merkel knows it. So delevering and systemic reconstruction are being dramatically bought forward, she’s not going to let it just drift on into even more dangerous waters.

    Then we’re going to muddle through to a real recovery process (with real statistics this time).

    Think of it as a disorderly informal ‘Debt Jubilee’. It’s not going to require the garnering of ‘political support’, as it’s just going to be demanded, on threat of mass civil insubordination and riot, and thus the system will reset.

    Merkel is very smart. She plans to use it to advantage with the people behind her, rather than wait for it to become a big disadvantage, with the people against her. The only thing domestic politicians wish to avoid more than a failed banking system is being on the wrong side of mass civil demonstrations and riots.

    This will be the political and banking equivalent of squeezing a giant pimple to get out the bad debt and crippling tax liability, and to end the wonton spending. And once done the population will settle-down and re-adjust to what results and begin a progressive recovery to prosper once more (putting it in the best possible light here). I’m quite sure Germany is going to come out of this way ahead of the other big players in Europe. The Brits are in it deep.

    Merkel grew up in an era when Germany was still in ashes and rebuilding from something far worse than mere global banking failure, and currency collapses. Don’t expect her to go weak-at-the-knees, and opt for the extend-and-pretend regimen – she won’t.

    Merkel plans to radically renovate the family home, while the family is still living in it, and the occupants are going to deal with the inconvenience and noise and mess, and have a lot less comfortable and peaceful life while it happens, but the end result will be a better, stronger and more comfortable home.

    i.e. what her predecessors did with regard to the former East Germany, so Merkel is taking a long-term view.

    It’s a renewal paradigm and it’s why Merkel is the one who’s not going to waste time with extend and pretend, she’s instead going to force the needed demolition phase to force the renovation and recovery phases to commence. She’s one of the few politicians that’s actually prepared to face up to the facts, and LEAD, and who will force the other ‘leaders’ to act similarly. Though I think they will resist that as long as possible, and thus make things much worse.

    It’s shoving a knife in the political old-normal’s heart, but it’s not as if they can stop it now, the knife’s already gone in to the hilt – the rest unfolds, the political old-normal bleeds-out in complete shock.

    Creditanstalt Bank is a befitting parallel Ed.

    The question I wonder is, did the FDIC actually halt bank failures after 1934, as per the myth, or did initial FDIC operation coincide with an exponential peak of bank failures? (anyone looking at a graph of failures can see it did)

    i.e. like a viral infection peaks then quickly dissipates to nothing – so did bank failures in the following year to the peak.

    The S&L crisis bank failure spike appears to confirm this. For if the FDIC was so completely effective at halting bank failure in 1934, then why did the S&L crisis occur at all? So I don’t buy the myth the FDIC saved anything, the bank failures burned themselves out in 1934.

    The FDIC did not stymie simultaneous failures of hundreds of banks in 1992. In which case, in the current context, deposit insurance and government guarantees are dewy-eyed sacred cows on a well-supervised fieldtrip to an abattoir.

    You may have noticed that the CMIGI Index predicted a US fall to about +2.5% GDP in the QTR-1 with the initial official figure at +3.2%. If QTR-2 is below +1.5% the statistical evidence should start to show up rather clearly from about early to mid June of the US economy is going into recess in QTR 3 (and remember, Uncle Sam is pedal to the metal still).

    A giant stimulus package before the mid-terms? Nah, there’s been far too much recent happy-talk about recovery. No one is going to go there, until it’s too late. Denial will be difficult to dislodge this time. But I wouldn’t rule out direct stimulus via cheques – that could help things fast.

    But in the lead-up to an election about spending and taxation? Again, not very likely.

    And this is why I think the first half of 2011 will be one of economic annihilation. Just as CRE rollovers will finally be kicking in, in earnest.

    Despite the negative aura of all this stuff, I think life will soon enough go on and we’ll re-adjust to whatever happens, like always, and get through it and create a generqlly better overall situation in the developed world after this. It’s just going to be a very different version of reality.

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