The Greek gov­ern­ment debt

Financial Mirror (Cyprus) - - FRONT PAGE -

Europe and the rest of the world are watch­ing ner­vously these days as the Greek drama (tragedy) is en­ter­ing its last phase.

There has to be some type of com­pro­mise (agree­ment) be­tween the Greek gov­ern­ment and its lenders be­fore the end of June, or else Greece will de­fault on its debt obli­ga­tions that will likely lead to an exit from the Eu­ro­zone and re­turn to the na­tional cur­rency. The Greek gov­ern­ment is de­mand­ing that the so­lu­tion needs to have a clear com­mit­ment on the part of the in­ter­na­tional lenders for a fu­ture debt re­lief which will make the gov­ern­ment debt sus­tain­able.

At this point, the debt of the Greek gov­ern­ment stands at around 177% of the coun­try’s GDP (end of 2014). The aim of this ar­ti­cle is to an­a­lyse what led to this ex­plo­sion in debt level, and what needs to be done to keep the debt-to-GDP ra­tio un­der con­trol.

Dur­ing the pe­riod 2008-2013 Greece ex­pe­ri­enced an ac­cel­er­at­ing debt-to-GDP ra­tio, grow­ing from 103% in 2007 to 175% in 2013.

Why did this hap­pen? One rea­son has to do with the deep re­ces­sion that hit Greece, start­ing in 2008 (at a neg­a­tive real GDP growth rate of 0.4%) un­til 2013, peak­ing at -8.9% in 2011. Another rea­son are the mas­sive fis­cal im­bal­ances through­out the pe­riod 2000-2010 that peaked at more than 15% at the end of 2009. The mas­sive fis­cal deficits and the al­ready high pre-ex­ist­ing debt lev­els raised the yields (in­ter­est) on gov­ern­ment debt as in­vestors ex­pected a higher re­turn to com­pen­sate them for the higher risk, send­ing Greece into a neg­a­tive “in­ter­est rate death” spi­ral.

Iso­lated from the for­eign cap­i­tal mar­kets, Greece was forced to the first eco­nomic ad­just­ment pro­gramme (MoU) in April 2010. In 2012, a hair­cut on public debt held by pri­vate cred­i­tors was im­posed (around EUR 110 bln) to lower the debt level. The aim at that point was that this restruc­tur­ing, cou­pled with lower in­ter­est pay­ments and pro­longed ma­tu­ri­ties on re­main­ing debt, fis­cal con­sol­i­da­tion, pri­mary sur­pluses and pro­ceeds from the pri­vati­sa­tion pro­gramme would lead to a sus­tain­able level of 120.5% of GDP by 2020. By the end of 2014 and af­ter some years of tough aus­ter­ity mea­sures, Greece man­aged to pro­duce pos­i­tive eco­nomic growth for all the first three quar­ters of 2014 (af­ter years of re­ces­sion), a pri­mary sur­plus though fis­cal con­sol­i­da­tion, was able to fully re­cap­i­talise its bank­ing sys­tem and pass the ECB stress tests, which cre­ated the foun­da­tions to sig­nif­i­cantly lower the debtto-GDP ra­tio in the com­ing years (by both low­er­ing the debt bur­den and in­creas­ing the GDP).

How­ever, the events that ma­te­ri­alised since last Jan­uary changed the whole dy­nam­ics with the eco­nomic sit­u­a­tion de­te­ri­o­rat­ing dras­ti­cally with an ac­cel­er­ated pace, and liq­uid­ity has com­pletely van­ished from both the gov­ern­ment bud­get and the bank­ing sys­tem. The un­cer­tainty led to new fi­nanc­ing gaps, and now more dras­tic mea­sures will be needed to cor­rect the sit­u­a­tion.


Greece needs to agree to a deal with its lenders even if this in­cludes harsher mea­sures be­cause the al­ter­na­tive would be far worse. At the same time, the coun­try needs to fi­nally im­ple­ment the struc­tural re­forms that would make the econ­omy more com­pet­i­tive and pro­duc­tive (that in­cludes labour and pen­sion re­forms, as well as pri­vati­sa­tion of sta­te­owned en­ter­prises). That can lead to a sus­tain­able and healthy GDP growth which can help re­duce the debt-to-GDP ra­tio to sus­tain­able lev­els.

In a non-pa­per pro­vided by the Greek gov­ern­ment dur­ing the Eurogroup meet­ings of last Fe­bru­ary, the Greek tech­nocrats ar­gued that GDP growth is as im­por­tant, and even more im­por­tant, than the pri­mary sur­plus to re­duce the debt-to-GDP ra­tio. They also ar­gued that the Greek debt should be cal­cu­lated in net present value (NPV) terms (as op­posed to nom­i­nal terms). With an as­sumed dis­count rate of 5%, this ra­tio is now at 133% of GDP and can reach a sus­tain­able level of 120% in 2020 with an an­nual pri­mary sur­plus of 1.5% of GDP and a nom­i­nal growth at 4%.

I do not dis­agree with the above re­marks, but I would add that in or­der to achieve this rate of growth, struc­tural re­forms need to be im­ple­mented as soon as pos­si­ble.

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