17/9/15: Greek Crisis: Structural & Institutional Drivers

A lot has been written about Greek economy, with basically two divergent views (ignoring comical extreme perspectives usually harboured by the media) of the core problem:

• The first perspective is that Greek economy has been driven by wrong-footed European policies (austerity, failed restructuring of Private Sector-held debt), as well as by deceptive practices of some private sector players (that somehow facilitated Greek Governments' false declarations of deficits, questionable restructuring of pre-Euro era debts etc).
• The second perspective is that Greece suffers from chronic, long term institutional failures that have left economy deeply non-competitive.

In my view, both narratives coexist in reality, even though the first one became the dominant preferred narrative of the 'Left' while the second one became the dominant one on the 'Right' of political spectrum within Greece and outside.

Ideology aside, here is an interesting and wide-ranging view from the second perspective, courtesy of Edmund S. Phelps. Worth a read... 

As a note to this, one part of the first perspective that is glaringly false is the perception of Greece as being a victim state of the 'international bankers'' manipulation of the national debt accounting (the so-called Goldman Sachs Swap deal). Greek Government, at the time, wilfully and freely contracted Goldman Sachs to execute the deal. Informational disclosures available to the Greek Government at the time were sufficient for the Government to know exactly what it was doing and why. Eurostat was notified of the deal and did not object. There appears to have been no deception nor any coercion involved, except for the deception by the Greek Government at the time, knowing neglect of the issue by the Eurostat and soft coercion of the EU in dealing with Greek Accession to the Euro.  

Far from being a victim, Greek authorities have actively, willingly and knowingly participated, over decades, in shaping numerous institutional failures that strongly contributed to the economic destruction of the country. These authorities acted on the basis of electoral mandates. Their failures are briefly listed in Endmund S. Phelps' article linked above.

This does not, of course, diminish the pain from the crisis and does not eliminate the need for cooperative assistance and support to be extended to Greece, including direct debt relief. But it does call for a better balancing of analysis of the Greek economic situation overall. And it does call for the Greek people to engage in some serious soul-searching as to the nature and quality of the political leadership they elect. Especially, given the fact that they are about to go to the polls on September 20th.

26/1/15: Markets v Greece: Too Cool for School... for now

There is much talk about the impact (or rather lack thereof) of Greek elections on the markets.

In fact, the euro continued to price in the effects of a much larger factor - the QE announcement by the ECB, the stock markets did the same. Only bonds and CDS markets reacted to the Greek elections, and even here the re-pricing of Greek risks was moderate so far (see chart below and the day summary for CDS - both courtesy of CMA).

The reason for this reaction is two-fold.

Firstly, Greece is a small blip on the overall radar map of Euro area's problems. Even in terms of Government debt. Here is the summary of the Government debt overhang levels (over and above 60% of debt/GDP benchmark) across the Euro area:

In simple terms, real problems for the euro, in terms of risk pricing, are in Italy, France and Spain.

Secondly, Greece is a political risk, not a financial risk to the Euro area. And it is a risk in so far, only, as yesterday's election increases the probability of a Grexit. But increasing probability of a Grexit does not mean that this increase is worth re-pricing. It is only worth worrying about if (1) increase in probability is significant enough, and (2) if elections changed the timing of the possible event, bringing it closer to today compared to previous markets expectations.

Now, here is the problem: neither (1) nor (2) have been materially changed by the Syriza victory last night. My comments to two publications yesterday and today, summarised below, explain.


Greek elections came as a watershed for both the markets analysts and the European elites, both of which expected a much weaker majority for the Syriza-led so-called 'extreme left' coalition. The final outcome of yesterday's vote, however, is far from certain, and this has been now fully realised by the markets participants.

The confrontation with the EU, ECB and the IMF, promised by Zyriza, is but one part of the dimension of the policy course that Greece will take from here on. Another part, less talked about today in the wake of the vote is accommodation.

Let me explain first why accommodation is a necessary condition for both sides in the conflict to proceed.

Greece is systemically important to the euro area, despite all claims by various European politicians to the contrary. Greece is carrying a huge burden of debt, accumulated, in part due to its own profligacy, in part due to the botched crisis resolution measures developed and deployed by the EU. It's debt is no longer held by the German, French and Italian banks, so much is true. German and French banks held some EUR27 billion worth of Greek Government debt at the end of 2010. This has now been reduced to less than EUR100 million. There is no direct contagion route from Greek official default to the euro area banking sector worth talking about. But Greek private sector debts still amount to roughly EUR10 billion in German and French banking systems (with more than EUR8 billion of this in German banks alone). Greek default will trigger defaults on these debts too, blowing pretty sizeable hole in the euro area banks.

However, lion's share of Greek public debt is now held in various European institutions. As the result, German taxpayers are on the hook for countless tens of billions in Greek liabilities via the likes of the EFSF and Eurosystem.

And then there is the reputational costs: letting Greece slip out into a default and out of the euro area will mark the beginning of an end for the euro, especially if, post-Grexit, Greece proves to be a success.

In short, one side of the equation - the Troika - has all the incentives to deal with Syriza.

One the other side, we can expect the fighting rhetoric of Syriza to be moderated as well. The reason for this is also simple: the EU-IMF-ECB Troika contains the Lender of Desperate Resort (the ECB) and the Lender of Last Resort (the IMF). Beyond these two, there is no funding available to Greece and Syriza elections promises make it painfully clear that it cannot entertain the possibility of a sharp exit from the euro, because such an exit would require the Government to run a full-blown budgetary surplus, not just a primary surplus. For anyone offering an end to austerity, this is a no-go territory.

So we can expect Syriza to present, in its first round of talks with the Troika, some proposals on dealing with the Greek debt overhang (currently this stands at around EUR 210 billion in excess debt over the 60% debt/GDP limit), backed by a list of reforms that the Syriza government can put forward in return for EU concessions on debt.

These reforms are the critical point to any future negotiations with the EU and the IMF. If Syriza can offer the EU deep institutional reforms, especially in the areas so far failed by the previous Government: improving the efficiency and accountability of the Greek public services, robust weeding out of political and financial corruption, and developing a functional system of tax collections, we are likely to see EU counter-offers on debt, including debt restructuring.

So far, Syriza has promised to respect the IMF loans and conditions. But its rhetoric about the end of Troika surveillance is not helping this cause of keeping the IMF calm - IMF too, like the ECB and the EU Commission, requires monitoring and surveillance of its programme countries. Syriza also promised to balance the budget, while simultaneously alleviating the negative effects of austerity. In simple, brutally financial terms, these sets of objectives are mutually exclusive.

With contradictory objectives in place, perhaps the only certainty coming on foot of the latest Greek elections is that political risks in Greece and the euro area have amplified once again and are unlikely to abate any time soon. Expect the Greek Crisis 4.0 to be rolling in any time in the next 6 months.

So in the nutshell, don't expect much of fireworks now - we all know two deadlines faced by Greece over the next month:

• The IMF review, to start as soon as the new Government is in place;
• February Euro Group meeting (tomorrow one will not be of much substance) with Greek bailout expiring February 28th, although the EU is already signaling, less than 24 hours after Greek election, willingness to extend maturity of the programme (http://uk.reuters.com/article/2015/01/26/uk-greece-election-eu-idUKKBN0KZ0ZB20150126)

These are the markers for the markets to worry about and these are the timings that will start revealing to us more information about Syriza policy stance too. Until then, ride the wave of QE and sip that kool-aid lads... too cool to worry about that history lesson, for now...

3/1/2015: Greek Crisis 4.0: Timeline

Neat timeline of the Greek Crisis 4.0 forward, via @zerohedge

Click on the chart to enlarge

The above shows key points of uncertainty and pressure, with all of these hanging in the balance based on January 25th national elections.

Prepare for loads of politically-induced volatility.

Meanwhile, Greek manufacturing PMI remain in contraction territory:

18/6/2012: Told ya so... Greek tax collection slumps during elections

Yesterday, I commented that during the elections, Greeks have stopped pushing through austerity measures so as not to aggravate the electorate. When challenged to explain what I meant I said that during the elections, Governments pay their debts to businesses on time, pay suppliers on time, stop enforcement actions on taxes due and stop tax reforms. Here it the confirmation that this has happened: link. Note Novotny saying that Greek tax collection is virtually halted during elections and will now be restarted and recent austerity measures are said to add hundreds (if not thousands) of unexpected euros to tax bills.

Update 25/6/2012: this just in - Greece exceeded targets for hiring civil servants and effectively suspended structural adjustments for two months during elections (link). 

17/6/2012: Stability & Greek elections

Quote of the week:

Pamela McCourt: "Stability in language is synonymous with rigor mortis. - Ernest Weekley, lexicographer". To EU & its 'national' elites: watch what you wish for, for it just might happen.

And in light of the Greek elections results, 'stability' in the euro area is, indeed, a form of rigor mortis. Need proof? Here's the EU statement on the Greek elections results, quoted in full [emphasis mine]:

"The Eurogroup takes note of the provisional results of the Greek elections on 17th June, which should allow for the formation of a government that will carry the support of the electorate to bring Greece back on a path of sustainable growth.

The Eurogroup acknowledges the considerable efforts already made by the Greek citizens and is convinced that continued fiscal and structural reforms are Greece’s best guarantee to overcome the current economic and social challenges and for a more prosperous future of Greece in the euro area.

The Eurogroup reiterates its commitment to assist Greece in its adjustment effort in order to address the many challenges the economy is facing.

The Eurogroup therefore looks forward to the swift formation of a new Greek government that will take ownership of the adjustment programme to which Greece and the Eurogroup earlier this year committed themselves.

The Eurogroup expects the Troika institutions to return to Athens as soon as a new government is in place to exchange views with the new government on the way forward and prepare the first review under the second adjustment programme."

So you have to be a bit of an optimist to read any of the above as a commitment by the Eurogroup to any sort of change in the Greek bailout terms. And absent significant and rapid changes in the programme, there is not a snowballs' chance in Hell that Greece is going to satisfy these conditions in the medium term. Stability of status quo reaffirmed in the Greek elections results is, in fact, the death warrant to the yet-to-be formed Greek Government.

7/6/2012: Sunday Times May 13, 2012

This is an unedited version of my Sunday Times article from May 13, 2012.

With Greek and French elections results out last week, the European leadership is rapidly shifting gears into neutral when it comes to austerity. Within two weeks surrounding the French elections, the Commission has issued a set of statements pushing forward its ‘growth budget’, and issued new proposals for enhancing European investment bank.

This, of course, is a classic rhetoric of damage limitation, contrasted by the reality of the currency union that is in the final stage of the crisis contagion. Having spread from economic to financial and subsequently to fiscal domains of the euro area, the cancer of Europe’s debt overhang has now metastasised to its political leadership. And the financial pressures are back on. Since the late March, credit default swaps spreads have widened for all but two core euro area states (excluding Greece), with an average rate of increase of 10.6%, implying that the markets-priced cumulative probability of the euro zone country default within the next 5 years is now, on average, close to 24%.

Next stop is a period of extended navel-gazing, with summits and ministerial dinners, contrasted by the European electorate moving further away from the centre of power gravity.

By autumn we will be either in a selective euro unwinding (Greece exiting) or in a desperate policies u-turn into mutualisation of the national and banking debts, supported by a return to high pre-2011 deficits and an acceleration of the debt spiral.

The former is going to be extremely disruptive in the short run. Portugal will be watching the Greeks closely, while Spain and Italy will be sliding into unrest. If properly managed, Greek and, later Portuguese exits will allow euro area to cut losses. With a stronger ESM balancesheet, euro area will buy more time to deal with the markets panic, but it will still require serious structural adjustments to shore up the failing currency union. Mutualisation of debt will remain inevitable, but deficits run up can be avoided in exchange for slower reduction in deficits.

The latter option of starting with mutualising debt, while allowing for new deficit financing of growth stimuli will be a road to either a collapse of the common currency within a decade or a Japan-style stagnation. The central problem is that the current political dynamics are forcing the euro area onto the path of growth stimulation amidst a severe debt overhang. The lack of real catalysts for economic recovery means that a temporary stimulus will have to be replaced by sustained debt accumulation. In other words, the political cure to the crisis a-la Hollande, not the austerity, will spell the end of the euro zone.

There are two sides to this proposition.

Firstly, the villain of the European austerity is a bogey. In 2011-2012, euro area fiscal deficits will average 3.7% of GDP per annum, identical to those recorded in 2010-2014 and deeper than in any five-year period from 1990 through 2009, including the period covering the recession of the early 1990s. The ‘savage austerity’, as planned, is expected to result in historically high five-year average deficits. At over 3.2% of GDP, 2012 forecast deficit for the common currency zone will be 6^th largest since 1990.

Instead of shrinking, euro area governments over-spending will remain relatively static under the current ‘austerity’ path. Per IMF, general government revenues will account for 45.6% of GDP in 2011-2012, well ahead of all five-year period averages since 1990 except for 1995-1999 when the comparable figure was 46% of GDP. The same comparative dynamics apply to the government expenditure as a share of GDP.

In other words, euro area voters are currently revolting against the austerity that, with exception of Greece and Ireland, is hardly visible anywhere.

Secondly, the talk about Europe’s growth stimulus is nothing more than a return to the policies that have led us into this crisis in the first place. In 1990-1994, euro area public debt to GDP ratio averaged 59%. By 2005-2009, the average has steadily risen to 71%. In 2010-2014, the forecast average will stand at 89%, identical to the ratio in 2011-2012. Euro area is now firmly stuck in the policy corner that required accumulation of debt in order to sustain economic activity. Since the mid-1990s, the EU has produced one growth policy platform after another that relied predominantly on subsidies and public investment.

By the mid-2000s, the EU has exhausted creative powers of conceiving new subsidies, just as the ECB was flooding the banking system with cheap liquidity. At the peak of the subsequent sovereign debt crisis, in March 2010, Brussels came up with Europe 2020 document – yet another ‘sustainable growth’ scheme through featuring more subsidies and public investment.

At the member states’ level, private debt-fuelled construction and banking bubbles were superimposed onto public infrastructure investments schemes and elaborate R&D and smart economy bureaucracies as the core drivers for jobs creation. State spending and re-distribution were the creative force driving economic improvements in a number of countries. Amidst all of this, euro area overall growth remained severely constrained. For the entire period between 1992 and 2007, euro area real economic growth averaged less than 2.1% per annum, while government deficits averaged over 2.5%. The only three years when public deficit financing was not the main driver of growth were the peaks of two bubbles: 2000, and 2006-2007.

In brief, Europe had not had a model for sustainable growth since 1992 and it is not about to discover one in the next few months either.

Which brings us to the core problem facing the European leadership – the problem of debt overhang.

As a research paper by Carmen M. Reinhart, Vincent R. Reinhart and Kenneth S. Rogoff published last week clearly shows, “major public debt overhang episodes in the advanced economies since the early 1800s [were] characterized by public debt to GDP levels exceeding 90% for at least five years.” The study found “that public debt overhang episodes are associated with growth over one percent lower than during other periods.” Across all 26 episodes studied, “the average duration …is about 23 years.”

Now, according to the IMF data, the euro area will reach the 90% debt to GDP bound in 2012 and will remain there through 2015. Statistically, the euro area will be running debt levels in excess of 90% through 2017. Between 2010 and 2017, IMF forecasts that seven core euro area states will be facing debt to GDP ratios at or above 90%. Of the four largest euro area economies, Germany is the only one that will remain outside the debt overhang bound. Increasing deficits into such a severe debt scenario would risk extending the crisis.

After two years of half-measures and half-austerity, the euro as a currency system is now less sustainable. The survival of the euro (even after Greek, Portuguese and, possibly other exits) will depend on structural reforms, including change in the ECB mandate, political federalisation and fiscal harmonisation beyond the current Fiscal Compact treaty.

The real problem Europe is facing in the wake of the last week’s elections in Greece and France is that traditional European elites are no longer capable of governing with the tools to which they became accustomed over decades of deficits and debt accumulation, while the European populations are no longer willing to be governed by the detached and conservative elites. Not quite a classical revolutionary situation, yet, but getting dangerously close to one.

CHARTS: 

Box-out:

This was supposed to be a boom year for car sales as the threat of getting an unlucky ‘13’ stuck on your shiny new purchase for some years was supposed to spell a resurgence in motor trade fortunes. Alas, the latest stats from the CSO suggest that this hoped-for prediction is unlikely to materialise. In the first four months of 2012, new registrations of all vehicles have fallen 8.5% year on year and 60% on 2007. New private cars registrations have suffered an even deeper annual fall, down 10.2% year on year although since the peak they are down ‘only’ 56%. The news of the motor trade suffering is hardly surprising. Unemployment stuck above 14%, fear of forthcoming tax increases in the Budget 2013, plus the dawning reality that sooner or later interest rates (and with them mortgages costs) will climb sky-high are among the reasons Irish consumers continue to stay away from purchasing large ticket items. Cyclical consumption considerations are also coming into play. Over the last 4 years, Irish households barely replaced their stocks of white goods. Given the life span of necessary household appliances, the households are likely to prioritize replacing ageing dishwasher or a fridge over buying a new vehicle. Families compression with children returning back to parental homes to live and grandparents taking over expensive crèche duties are also likely to depress demand for cars. Lastly, there is a pesky consideration of the on-going deleveraging. Irish households have paid down some €36 billion worth of personal debts and mortgages in recent years. Still, Irish households remain the second most indebted in the Euro area. New cars registrations fall off in 2012 shows that in the end, sanity prevails over vanity and superstition, at the detriment to the car sales industry.