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A Greek Referendum?

01 Nov 2011

Prof. Karl Whelan


Eurosummits now follow now a well-established pattern in which an initially positive response is followed by a realisation that serious problems have not been solved.  However, none of the previous agreements have come apart quite as quickly as last Wednesday’s summit deal. Greek Prime Minister Papandreou’s surprise decision to seek a referendum on the bailout package agreed at the meeting has derailed the process put in place last week and the period ahead threatens to be chaotic.
 
Given the shakiness of Mr. Papandreou’s grip on power, it is possible (perhaps likely) that the referendum will never happen, but if it doesn’t there will almost certainly be an election and the probability that a new government will wish to renegotiate the bailout package. Either way, last week’s agreement already looks in danger.
 
Mr. Papandreou’s has been assuring the world that the Greek public would vote for the package if given the choice. However, one problem with this assessment is that the deal as agreed simply does not solve Greece’s debt problem.
 
Even if the proposal for 50 percent write-downs for private bondholders is implemented, it still seems likely that the path of Greek debt remains unsustainable. The summit statement suggests that this private sector involvement “should secure the decline of the Greek debt to GDP ratio with an objective of reaching 120% by 2020.” 
 
The supposedly-secret but widely leaked debt sustainability analysis from the European Commission, which underlies this projection, makes it clear that achieving this goal requires a favourable growth outcome and the achievement of a consistently large primary fiscal surplus.
 
In other words, even if things go very well, Greece will take eight years to get to a debt level of 120 percent of GDP, a level that many view as currently unsustainable for Italy or Ireland. And Greece is not Italy or Ireland. With a lengthy history of default, which Euro membership has not ended, the likely risk premia on Greek debt will translate into a cost of financing that will make a 120 percent debt ratio unsustainable, even in the unlikely event that this ratio could be achieved.
 
The proposal in relation to private bondholders involves giving them some collateral, so there is a limit now to how much more downside these investors are going to incur. However, given the seriousness of the debt situation, it would be impossible to rule out a further haircut for private investors.
 
Ultimately, though, the end-game in Greece will revolve around the Greek government and its relationship with its official creditors, the EU, the IMF and the ECB. Even prior to the current proposal for a larger write-down than the 21 percent agreed in July, the IMF were projecting (see Table 14) that official loans from the EU and IMF would overtake privately-held Greek sovereign debt in 2014. Factoring in the larger write-down of privately-held debt, and the fact that the ECB refuses to accept any haircut on the Greek debt it bought at a discount in secondary markets, and it becomes clear that most of Greece’s sovereign debts are now owed to official sources.
 
The recent reports do not paint a pretty picture for the EU and IMF. If the package is accepted, the official creditors can get ready for years of being blamed for unpopular decisions, most likely followed by an eventual acceptance of large losses on their loans.  The EU and IMF would probably continue to fund Greece for a number of years, hoping that economic reforms can boost growth in a way that will maximise their return on the money loaned.
 
However, the Commission’s analysis suggests that even a positive baseline scenario will involve official lending to Greece of an additional €113 billion on top of the €107 billion already loaned.  At some point the idea that good money is being thrown after bad may come to dominate official thinking.
 
For the Greek people, the future suggested by the package is perhaps even more grim. Years of fiscal austerity and, most likely, disappointing growth, followed at some point by an acceptance from official creditors that they are not going to get all their money back.
 
Some commentators have suggested that a referendum would pass because it would effectively be a vote on whether Greece should stay in the euro and polls show that this is the preferred option of the Greek public.  It is unlikely, however, that any referendum would be worded as a vote on leaving or staying in the euro, particularly as it is unclear what legal process would underlie an exit.  So a referendum would have to focus on whether the public approve of the current bailout package and, given the facts, my guess is that it would fail to be passed.
 
Even if the proposed referendum never happens, Papandreou’s announcement has set in place a process that may well end with a dramatic dislocation such as Greece leaving the euro.  The likelihood that the consequences of such an exit could be contained to Greece is low.
 

This content forms part of the E View project, which is part-funded by DG Communication of the European Parliament. 

 

 

As an independent forum, the Institute does not express any opinions of its own. The views expressed in the article are the sole responsibility of the author.


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Posted in: Economics and Finance, E View Project, Future of Europe | 4 comments

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David O'Donnell says: 02 Nov 2011 21:59

DEMOCRACY DOWNGRADED TO JUNK STATUS Frankfurter Allgemeine ZeitungFrankfurt November 2, 2011 Horror in Germany, Finland, France, even in England, horror in the financial markets and the banks: horror, horror, everywhere – just because the Greek Prime Minister, Georgios Papandreou, plans a referendum on a fateful question for his country. … Papandreou is not only doing the right thing. He’s also showing a way ahead for the Union. In this new situation, Europe would have to do everything possible to convince the Greeks why the path it is pointing to is the right one. It would then have to persuade itself that it truly is. That would amount tsome self-assurance for the equally highly indebted countries of Europe that could finally gain some clarity on what price they want to pay for the intangible values of a united Europe. http://www.presseurop.eu//en/content/article/1128541-democracy-has-junk-status I, for one, concur. I signed up for a democratic Europe - not for a dictatorship of financialized_serfs.

Georg R. Baumann says: 01 Nov 2011 20:43

The notion that Europe =Euro is fatalistic, it is not the same, but is trumpeted by Merkozy into the public ear with force. As David said, IMF suggested 75% already, and still this is not sufficient. Will Mario Draghi change the Trichet doctrine? I doubt it. Perhaps it would be more useful instead of a referendum to demand the negotiations with the IIF to be broadcasted life instead, just kidding. We had Basel II, then Basel III, and I think it is not unfair to say, too little too late. Captured politicians are being chased by markets, and the other way around. The 500 million people in Europe, and most of these people had no hand in all these matters, they are right in between Skylla and Charybdis.

VincentH says: 01 Nov 2011 20:42

What on earth can the rest of the right-wing governments of the Euro-Zone expect. If the labour movement and political party in Greece enters the concoction of last week without full backing of a referendum. They will have committed hara-kiri and not just for a while but utter annihilation. Which will leave the working class in Greece to the not very tender mercies of the furthest right of the main stream political parties within the EU.

David O'Donnell says: 01 Nov 2011 17:36

Good summary. Relevant links. Key point is that last week's deal was simply not good enough. IMHO, the consequences of Greece leaving the EZ [for which no legal mechanism exists at the mo] are more serious than a Greek default on debt. IMF sugested 75% last week ... and when will the handcuffs be removed from the ECB?

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