Like many of the important discussions in the economic world today, the negotiations between Greece and its European creditors has become increasingly absurd (see “A Patient Fed Considers Losing Patience” in our latest newsletter) . Late on Friday, February 20, in a tense meeting between the new Greek Finance Minister and a host of ministers from 19 Eurozone countries, Germany apparently 'authorized' negotiators to accept a four-month extension of the $272 billion bailout so long as the Greeks promised to make a series of difficult fiscal steps needed to stay solvent over that time frame. Given that they desperately need the money, it should be no great surprise that the Greeks complied.
This of course put Greece's new left wing government, led by Prime Minister Alexis Tsipras, into a difficult position. After all, his Party had recently come to power on the promise that it would not extend the bailout and that it would no longer negotiate with creditors. To save face, he insisted that the new austerity commitments, which would likely be the same as commitments previously agreed to by the former government, would at least be "self-imposed" by the Greeks themselves, rather than crammed down by creditors. This fig leaf apparently provided enough cover for Syriza leaders to claim victory in its first battle with the creditors.
It should also come as no surprise that the Greek policy blueprint, which was delivered under the deadline, was largely vague and came with no new or novel approaches to fiscal sustainability. Notably the document did not touch any of the "elephant in the room" issues like the size of public pensions, revisions of Greece's sales tax, and the sale of state-owned assets. Instead they promised to do the same thing that nearly every Greek government has promised to do, namely crack down on tax evasion, government corruption, and smuggling, etc.
The policies were accepted with muted relief by most Europeans (as they were preferable to the provocations that had been issued by Athens in the first few days after the elections). The official European Commission statement on February 24 said that it considered the proposals to be "a valid starting point for a successful conclusion of the review."
However, others could not even muster this tepid enthusiasm. In a letter to Eurogroup President Jeroen Dijsselbloem, IMF Managing Director Christine Lagarde, who is not known for fiscal hawkishness, noted that "there are neither clear commitments to design and implement the envisaged comprehensive pension and [valued-added tax] policy reforms nor unequivocal undertakings to continue already-agreed policies for opening up closed sectors, for administrative reforms, for privatization, and for labor market reforms." In other words, she is looking for substance that is not there. This is a theme that can be traced in a great many discussions about our debt-fueled global economy.
The real issue, that no one is fully prepared to address, is whether Greece's decades-long experiment with failed debt-financed socialism will be allowed to survive much longer.
Eurozone membership gave Greece access to vast amounts of cheap debt, offered largely under the assumption that a single political union would offer an implied EU guarantee for Greek debt. As a result, for years Greek governments were able to borrow almost as cheaply as German governments, even though the Germans had far superior fiscal health.
But for a while this debt accumulation was looked at as a sign of health (much as it is now in the United States). Between 2002, when she entered the EU, and 2007, when the Great Recession hit, Greece was a 'growth champion'. Indeed, her economic growth exceeded even that of the U.S.
Under the camouflage of debt-financed liquidity, massive consumption erupted in the public sector and flooded into the private sector. However, the debt crisis of 2007-8 revealed this over-consumption combined with major gaps in productivity and competitiveness, especially under a strong euro currency. This led to serious recession.
It was this gravely flawed economic model that Germany hoped to dismantle through its 'austerity' demands. But as you can imagine, the Greeks themselves have clung to this fairy tale as if it were their birthright.
A 2012 McKinsey and Company report, Greece 10 Years Ahead, highlights five key areas that need to be reformed before the Greek economy can become viable.
- Large scale business operations had been discouraged by hostile regulations. The generally small scale of businesses that remained, combined with over regulation, complex and restrictive licensing, and a highly volatile tax framework, has deprived the Country of an industrial base sufficient to support its spending.
- The public sector had become too expensive and offered low quality output.
- A framework of collective, inflexible, and binding labor agreements had led to a disconnection between education and the job market, which led to reduced innovation and under representation of women and young adults in the workforce.
- A cumbersome legal and judicial system led to an over abundance of vague and sometimes conflicting laws, which discouraged economic activity.
- Widespread tax evasion, which had become endemic in Greek culture, had led to substantial wealth creation outside the formal economy, and had led to a seemingly permanent fiscal shortfall.
These are the issues that any successful policy proposals need to address. Little doubt that the Germans have scoured the Greek proposals in vain looking for signs that these great challenges will be confronted in earnest. Instead, they were likely treated to idle posturing and promises.
It has long been recognized that the ability to repay a loan is secondary to the willingness to repay. Many argue that Greece could repay much of its $365 billion in debt if she wanted. Greece has numerous islands affording valuable sea front real estate that could fetch billions on the open market. In addition, according to the World Gold Council, Greece holds still 112.4 tonnes of gold. Apparently, however, Greece is unwilling to use any of its national assets to satisfy even a part of its debts.
It is likely that for the sake of unity and stability, the more stringent German demands for restructuring will be pushed aside. Fears of a Eurozone collapse perhaps even eclipse fears of deflation as the single greatest anxiety of European politicians. However, resistance to 'easy' terms for Greece is stiffening in Northern EU nations like Finland, Holland and even France, where Eurosceptic Marine Le Pen has seized on the issue with some success. Now, even in Southern nations like Spain, the government wants stiff terms to avoid encouraging its own Eurosceptic Podemos party.
In short, the solution to the Greek debt crisis is likely to be political. Effectively, it will likely seek to expand the central control of the EU with a covert transfer of wealth from rich to poor nations. Typical of socialism, hard working citizens will be left to pay for the political and economic errors of their masters. As President Reagan said, 'Socialism only works in two places: Heaven where they don't need it and hell where they already have it."
© Euro Pacific Capital