Wednesday, 29 June 2011

Voting for the Greek mid-term fiscal plan

The Parliamentary vote for the Greek mid-term fiscal plan occurs this evening. At stake are two key national policies: those of privatisation targets (and the use of funds) of up to EUR 50 bln by 2015, as well as a further EUR 28 bln (estimated) in austerity savings and tax increases over the same time frame.

Passing this vote is a key condition for the release of the EUR 12 bln fifth instalment of the original EUR 110 bail-out plan.

Unfortunately, the situation in Greece as well as internationally has now changed to the extent where it is impossible to speak of a rational debt restructuring process. It would appear that in its place, we have passed into the real of destructive politics, institutional rivalry, and unacceptable profit-making at the expense of Greece.

• The IMF and the Eurozone have now changed directions twice: in the week of 13 June, prior to the vote of confidence in the new Papandreou cabinet, it was indicating that the fifth instalment would be released. As soon as the Papandreou government won the vote of confidence, they reverted to the original strict conditionality, replete with dire warning of economic catastrophe.

• President Sarkozy of France is reported to have arranged a 30 year bond roll-over, in which 50% of the value will be lent at an annual rate of 5.5%, with a potential upside in the case of higher GDP growth. Of the remaining 50%, 20% will be cashed out (apparently by the bail-out package), while the other 30% will be invested in long-term, low interest bonds backed by an EFSF guarantee. While this is an good deal in principle (many details remain to be worked out), the fact is that the French government is negotiating directly with French creditors of Greece, apparently without any role for Greece in the negotiations. This goes against any principle of sovereign or private sector debt restructuring, and is a good indication of the lack of respect for basic principles with which the Greek debt issue is being handled.

• Passing the mid-term plan will undoubtedly increase the short term decline in GDP. In my original forecast, I was counting on a 4% decline in 2011 and a 2% decline in 2012: I believe the 2012 decline will increase to -4%. The austerity plan targets “easy” revenue increases and tax cuts, for instance by raising the price of heating oil to parity with that of gasoline. This measure alone will add between EUR 800 – 1,500 per year to the heating bill, which many lower- and middle-class families simply cannot afford. In contrast, there are insufficient measures to crack down on tax evasion within Greece and in terms of Greek accounts held abroad.

There is, however, one extremely positive aspect of the plan: it establishes that privatisation revenue can (and will) be used to purchase Greek debt. If this can be done on the open market, it will be a key element in any eventual debt work-out.

The key problems affecting the resolution of the Greek debt situation are unfortunately not resolved at the European level:

• Apart from the real interest rate loss implied in the French proposal, there is no systematic approach to managing the problem of the interest rate on Greek debt. Without such a measure, it is difficult to see how how the country can manage its total debt holdings. In most debt restructurings, the first thing to be addressed is the issue of interest rates. The fact that this has not been done by the IMF and Eurozone in the case of Greece is incomprehensible, if not criminal.
• Besides the interest rate issue, there has been no systematic attempt to deal with the second major problem, which is debt maturity. Greek sovereign debt had an average maturity of 7 years in 2010. This means that between 2011-2017, 100% of Greece’s EUR 340 bln debt expires and must be refinanced. It was impossible to conceive how this could be done in May 2010, when the original bail-out package was negotiated: it is equally impossible to see how this can be done today, in June 2011.

• Greece is still not negotiating as an equal partner. The fact that the new Minister of Finance, Evangelos Venizelos, was excluded from the discussion of the communiqué of the last Eurofin meeting is unacceptable. Greece, at the initiative of George Papandreou, has sacrificed any negotiating position vis-à-vis its creditors. As a result, European leaders have stepped in, transforming what should be a simple process into a political free-for-all. Their ability to manage the debt restructuring is a total shambles, to put it lightly.

• The IMF was invited into the Greek debt restructuring deal based on its vaunted ability to manage a sovereign debt restructuring. Yet its initial model was flawed. The IMF then forced the Eurozone to address the issue of Greek debt refinancing in 2012-2013, since it was obvious that Greece would not be returning to the markets any time soon. This has sparked the “negotiation” of a second bail-out, yet this second bail-out does not address the first two key issues mentioned: that of an interest rate freeze and an extension of Greek debt maturities.

No one can claim to have performed well in this crisis, and unfortunately it is far from being over. Absent an agreement to freeze interest rates, the revenues from the mid-term fiscal plan will be overwhelmed by the costs of interest to 2015. In this time, Greece will have to spend over EUR 75 bln on interest, which it should not have to do under a normal debt restructuring plan.

I believe the plan will be voted through tonight, at tremendous political cost. Yet even if the plan fails, it will be no more than both the Greek government, its Eurozone and IMF partners, and the banking sector deserve. It is difficult to think of a greater failure in terms of international policy than the handling to date of the Greek debt crisis.

© Philip Ammerman, 2011

Saturday, 25 June 2011

Why the European Commission should not grant additional technical assistance funds to Greece

The European Commission President Manuel Barroso was recently quoted by press sources (Kathimerini: EU sweetens deal for Greece, pushes austerity, 25.06.2011) as outlining a new policy initiative in which Greece would receive an additional EUR 15 bln in aid to “boost growth and employment.” While this initiative is praiseworthy, it is exactly the wrong way to deal with the current crisis in Greece. EU aid has been among the major sources of corruption and patronage in Greece since its entry to the European Community in 1981. This corruption traditionally has two forms:

·       Development subsidies for companies or entrepreneurs are usually based on a kickback of 5-15% of the total fund value awarded. Ironically, this even includes the award of research and development funds: one senior official once informed me that a state research institute had been reduced to bribing the tender evaluation committee in the Ministry of Agriculture to receive EU funds. I don’t know many other countries where one state organisation has to bribe another to access EU funding.

·       Project support, such as infrastructure, IT development, or other works or goods procurement, is typically over-valued by 20-30%, with the balance being paid to the civil service and elected officials in charge of the project, and very often directly to the political parties in charge. This has been amply demonstrated in the Siemens bribery case by the Hellenic Parliament itself, but is also common knowledge among the contractors involved in EU-funded procurement of this kind. 

The fact that numerous EU audits have uncovered major irregularities and lead to demands for fund reimbursement should have been a warning to President Barroso why this approach might not work. It remains a mystery why additional audits are not undertaken: they are clearly needed.

Besides the obvious corruption, however, the use of EU funds for development carries with it a range of additional, insidious effects:

a.     The major projects are usually awarded to a small group of construction firms which are usually linked by cross-shareholdings to powerful media and ancillary interests (e.g. shipping, real estate development, retail operations). This small group of firms exercises unparalleled power in their specific sectors, and were famously referred to the former Prime Minister, Konstantinos Karamanlis, as a group of 4-5 davatzithes (pimps) during a ND party dinner in Monastiraki. Given that these firms now face major economic problems, and that they dominate the main broadcast and print media, it is impossible to see how any future aid could be efficiently and transparently disbursed.   

b.     These projects have a major distortionary impact. Besides the fact that they result in vastly over-priced projects (view my earlier post on the Hellenic Parliament’s million Euro website), they typically feature high capital expenditure which cannot easily be amortised in a normal market environment i.e. outside the distorted, high-cost world of Greek public procurement. In other words, the initial capex, distorted by the fact that it is “free”, leads to an investment which is often impossible to amortise at normal commercial operating terms. We see this most visibly in hospitals which have been expensively outfitted but where the Greek state cannot afford their operation. We also see this in the distorted terms of certain PPP-financed infrastructure projects, which encourage their operators to inflate their expenditure and engage in unnecessary further capital expenditure to justify their operating margins.

c.     Most funding of this sort will inevitably be channeled through state organisations. This will amplify the effects of patronage, lead to yet more losses due to waste and improper procurement, and will carry an unduly high administrative cost versus the actual benefits in “growth and development” delivered. In other words, it will be used to prop up a corrupt, nepotistic and inefficient public sector and its ancillary private sector contractors and consultants, delaying the inevitable work-out and restructuring which must follow.

d.     Finally, it is clear that the EUR 15 bln will not be disbursed immediately, but over 3-5 years, judging by previous technical assistance programmes. By that time, Greece will almost certainly be bankrupt once again, so the impact of this aid will be diminished.

In fact, there is a far easier solution for this EUR 15 bln which is apparently available: use the funds to purchase Greek debt on the open market. Greek 10-year bonds are trading at a 45% discount. This would immediately retire EUR 23.25 bln in debt, which is about 6.8% of the outstanding EUR 340 bln in debt. There would be no possibility of corruption in Greece, provided that the deal was handled through the European Financial Stability Facility, which is already in operation in Luxembourg. The transaction will have to be handled with the utmost secrecy if it is to be successful.

This would have a triple beneficial effect:

a.     EUR 15 bln could immediately retire EUR 23.25 bln in outstanding debt (45% discount)
b.     It would remove a further interest rate burden of at least EUR 1 bln per year
c.     It could, under some circumstances, partially reverse the negative sentiment affecting Greek debt.

Unfortunately, I see next to now chance that such a solution will be adopted. As with the European Investment Bank’s EUR 1 bln loan to the Greek Railways Organsiation, or the Eurozone’s insistence on a 5% initial interest rate on the EUR 110 bln bail-out, it is painfully clear that one of the greatest sources of policy error in terms of the Greek debt situation is the European Union itself.

The Greek debt problem can only be solved by a combination of policy initiatives which:

·       Replace short-term, commercial debt with longer-term debt (by longer term, I mean 20-25 years) at zero or concessionary interest rates (e.g. up to 2%)
·       Lead to greater rates of investment in Greece, either from foreign or domestic sources;
·       Radically streamline the Greek public sector while making it more productive in certain areas;
·       Implement a range of structural adjustments in justice, education in other sectors.

So far, the IMF and Eurozone have been replacing short-term debt with short-term debt, in many cases at higher interest rates, without taking any measures to deal with the cost of interest. This approach is doomed to failure.

© Philip Ammerman, 2011

Monday, 20 June 2011

Why the next Greek Bail-out is Doomed to Fail

Monday, June 20, 2011

The cacophony regarding the current and future Greek bail-out packages reached fever pitch this past week. Last Thursday, 16 June, the Greek Prime Minister volunteered to resign if a national coalition government could be formed; this offer was quickly rejected after talks with the main opposition party broke down. Instead, a cabinet restructuring was implemented, including a change in the position of Minister of Finance.

Today, the Eurozone members announced that the disbursement of the fifth instalment of the original bail-out would be provided once a new austerity plan had been voted. The Hellenic Parliament has been debating precisely this, which calls for EUR 50 bln in privatisations and EUR 28 bln in short- and medium-term spending cuts and revenue rises by 2015. The government's vote of confidence is set for tomorrow evening (Tuesday, 21 June); the decision on the new austerity programme will come thereafter.

The vote of confidence and the austerity plan both depend almost exclusively on members of PASOK’s party. Currently ruling with a 155-seat majority, the party was shaken last week by the resignation of two deputies (who will be replaced with nominations from the party, not through by-elections).

I can’t predict the decision tomorrow, but if I were in Parliament, I could not say whether I would vote for this plan. Not because I’m against austerity or a reduction in the public sector—far from it. But because the plan as it is currently defined will again not be sufficient to solve the problem of Greek debt service costs and total debt levels.

On the European and IMF side, it has been painfully clear that the original conditionality in the May 2010 loan agreement was both poorly defined and did not present an adequate forecast of interest costs, GDP growth or total debt burden. The fact that the original plan called for a 2% deficit in 2015 and a return to the markets in 2012-2013 is nothing less than hallucinatory—evidence of the wishful thinking and flawed analysis behind this plan.

The fact that the plan was drafted at a time when most observers were aware of the hidden Greek debt (which was finally added to the public sector balance sheet in November 2010), displayed equally poor judgement. The plan should have foreseen a downside, given what was known, but what also could have been assumed or measured on the spot.

The other irony, of course, is that the IMF, which was responsible for the flawed plan in the first place, is now insisting that the Eurozone come up with a plan to cover Greece’s funding needs in 2012-2013, assuming that no return to the market is possible. This has led to the definition of a second bail-out, ignoring and confusing the fact that the first one was broadly on track, but suffered from a range of factors which remain in place in the second bail-out proposal.

At the heart of this new bail-out is the following assumption: that if Greece privatises EUR 50 bln, and cuts a further EUR 28 bln in spending to 2015, it will be able to service its debts.

Absent fundamental reforms in other areas, or a far higher GDP growth rate, this assumption is unlikely to materialise. The simple fact is that the current interest on the EUR 340 bln debt, assuming a 4.5% interest rate, is EUR 15 bln per year. EUR 15 bln x 5 years = EUR 75 bln in uncompounded interest.

This EUR 75 bln is nearly the amount of EUR 78 bln the government (and the Eurozone) are insisting will be sufficient to save the situation. And this does not take into account the risks in the second bail-out plan:

a. That it will be extremely difficult or impossible to achieve the privatisation targets by 2015;
b. That even with these new plans, the Greek government deficit remains;
c. That there remains no compelling strategy for growth or development in the remainder of the “real” economy.

A far more comprehensive set of reforms is needed, namely:

a. Use of privatisation proceeds to purchase Greek debt on the open market, retiring the interest costs and benefitting from the discounted value of government bonds;

b. A condition in any bail-out that a 1:1 redemption in value be accompanied by an extension of debt maturities at preferential rates;

c. A strategic, ambitious investment promotion campaign, together with a radical streamlining of the government bureaucracy, reduction of public sector spending, and implementation of e-government;

d. A campaign to investigate the Greek holders of international bank accounts: an estimated EUR 230 bln is held by Greeks abroad;

e. A major crackdown on corruption in Greece, including the funding of political parties, as well as bribery in public sector procurement.

Unfortunately, while there are some spasmodic efforts in some areas, there is still no uniform direction. In fact, the Eurozone debate remains free on any consensus or even realism on the correct way forward.

The European Central Bank insists on a full debt roll-over, without the participation of private lenders in a “voluntary” maturity extension. This position has been backed by most rating agencies, who claim that in the current situation, a “voluntary” extension is impossible. The fear is that any such extension would trigger the credit default swaps currently held by international banks and other firms. Germany has apparently backed down from its position that private lenders should participate; France apparently now supports Germany.

Viewing this divergence of opinion, it is difficult to imagine a worse way to solving a debt crisis of this magnitude. There is clearly no consensus on what responsibility the private sector must pay for unsustainable lending. The fears of a financial downside are consistently exaggerated: if it’s not the fears of a banking collapse due to a “haircut” on the value of Greek bonds today, it’s the fear of a collapse of the CDS market tomorrow.

Yet what is the purpose of a CDS or insurance, if it cannot be utilised? Is it not to compensate holders of bonds in the case of a default? The insurance has been paid for: why not use it?

To suddenly claim—as the ECB or the ratings agencies are—that a CDS event would bring down the world economy is ridiculous on too many counts:

• The international banks are already being bailed out at 100% of their face value plus interest (at a time when the market itself is discounting Greek bonds by up to 45%). This means that under any rational mark-to-market accounting rules, the banks should have already written down a significant portion of the value of their Greek government bonds.

• Any European stress test, and certainly any national regulator’s assessment, should have taken into account a 30%-50% haircut on Greek government bonds, reflecting current market bond values and CDS default indicators. This has not been done. This exposes banks, their shareholders and national regulators to yet more credibility damage in the future. It is difficult to understand why this is permitted to happen, although I can suspect the reasons behind it.

• The fact that many banks have managed to offload their Greek government bonds to the European Central Bank, or roll them over to the original bail-out, means that their exposure, although still large, is more limited than it was a year ago, and will be even less a year from now.

• The fact that the CDS/insurance policies are meant precisely to serve against a default insurance. That’s their role. It’s like saying that because there are too many car accidents, the car insurance companies should be bailed out. Whatever happened to the responsibility of the underwriter? Whatever happened to core capital standards? Could it be that, as with the mortgaged-back securities, the CDS market is yet another industry with absolutely no capital backing, no regulation and no intent to pay? Is there yet another emperor in the room with no clothes?

If the fundamental contracts and roles of different market and social actors are to be ignored in this manner, I can see little justification for continuing with the Greek austerity programme in terms of its effect on debt restructuring. It is almost pre-destined to fail.

Furthermore, I am quite sad to see the European Central Bank making mistakes of this magnitude. It has failed in its regulatory role, both in the run-up to the crisis, as well as during the crisis itself. The fact that today it is doing everything possible to safeguard the banking sector, while doing nothing to regulate it or ensure that basic market processes are allowed to work, is incomprehensible.

A heavy opinion, perhaps, with which to close this post. But I have rarely seen such fundamental mismanagement, dishonesty and stupidity in the realm of public policy and economics. The lessons of the 1997, 2001 and 2008 crashes have clearly not been absorbed; standards to change the practises of the dysfunctional banking and public sectors have clearly not been adopted. The results are plain for everyone to see.

© Philip Ammerman, 2011

Wednesday, 8 June 2011

The Art of Complaint, and the Media Gullibility Thereof

If there’s one thing we do well in Greece, it’s to complain. And if there’s one thing foreign journalists appear to do well, it’s to listen to us, uncritically and without an apparent sense of irony or critical reason.

About an hour ago today, France 24 led with a segment on the Indignant protests in Syntagma Square in Athens. There were four interviews that I remember:

a. A lady looking suspiciously like a former TV journalist turned former parliamentary candidate for ND, who was shouting from the steps of the Grande Bretagne that these people have nothing, no hope, no future, nothing to eat, etc.

b. A middle-aged lady shopping in a laiki, who was shouting the same thing. The irony was not so much that she was shopping at the laiki, which is where you find the best prices, but that she claimed to be retired – at about 50. (She was complaining that her pension was cut).

c. A taxi driver, who was shouting that he would never again buy European products. This is a joke beyond all reckoning. I’m not sure what’s worse – that he earns his living entirely by imports, or that the best France 24 could do was to interview an Athenian taxi driver, a caricature of the species.

d. A young gentleman in designer clothing, one of the Indignant we hear so much about, who couldn’t remember how long he had been sleeping in a tent in the square. Honestly speaking, he seemed to be having a much better time there than being in university or at work.

I’m not sure quite where to start, but it’s simply amazing to me that France 24, or any news outfit, takes these statements at face value.

Since this crisis began, I haven’t seen a single interview with any of the professionals or entrepreneurs who, like myself, are out working 10 and 12 hour days, 6-7 days a week, to meet their commitments and try to keep this country going.

I have never seen a reportage based on the reality of this country, that yes, people do complain a lot, but yes, they have probably been avoiding taxes and legal commitments for most of their lives. In other words, they are hypocrites in the true sense of the word.

Instead, we hear from all the lunatics, coming out of the woodwork, who are allowed to speak without any serious questioning. Here’s what I would have asked these four people:

a. To the politician in the square: How many of these young kids are really interested in working? How many are being supported and coddled by their parents? How many of them have really been outside their comfort zone in the past 12 months? How many of them have sacrificed something for their country or their family? How can you possibly say “they have no food to eat”, when not only are they not starving and are well-clothed, but have abundant cash for cigarettes and coffee and loitering in Syntagma on a work day?

b. To the middle aged lady at the laiki: How many receipts did you collect from the laiki today? Are these vendors really reporting their income? Did their suppliers report any income? If you are in your 50s, why aren’t you still working, since you can’t make ends meet with your pension?

c. To the taxi driver: How much of your actual income do you report? Why are you taxed at a lower rate than I am, or most professionals and salaried employees are? Why is it so difficult to find a clean, well-maintained taxi in Athens with a professional driver in it?

d. To the Indignant: If things are so bad, why don’t you get a job? Do you really expect the taxpayers to feel sorry for you, if you have the luxury to camp out in a public square? Do you really think we owe you a public sector job or a university education? You complain about many things: what’s your solution?

Today, we have one simple choice before us: Accept the commitments we have made and work hard to clean up the mess. Or default, with all the consequences this has not just for us, but for the future.

Sitting and complaining achieves nothing, particularly when we have made an art form out of it for the past 30 years.

I’m still waiting for the news article, or the TV reportage. I will probably wait in vain.