Opportunity to reduce budget target
The Greek bond rally allows for a realistic attempt to trim primary surplus goals after next year
The drop in Greek state borrowing costs since last summer, when Athens agreed with creditors on primary surpluses of 3.5 percent of gross domestic product up to 2022 and 2.2 percent from 2023 to 2060, is paving the way for a reduction to those targets, analysts have told Kathimerini. This also comes at a time when Greece has just tapped the markets with a new seven-year bond at a rate below 2 percent.
The government intends to put this issue on the negotiating table in the fall of 2020 so that targets are reduced as of 2021. Already, economists tell Kathimerini, the average interest rate for servicing Greece’s debt in the long term has shrunk considerably compared with the calculations of the creditors on which last summer’s deal was based. Therefore, thanks to the very good course of Greek bonds, the government can achieve an agreement with its creditors for a reduction to the targets by 0.5 to 1 percentage point, i.e. to 3 percent or 2.5 percent, from 3.5 percent of GDP today.
Speaking with journalists while on his visit to Cyprus last week, Prime Minister Kyriakos Mitsotakis expressed optimism over efforts to persuade the institutions to accept lower primary surplus targets, arguing that these targets were agreed in a different economic environment and when interest rates were at twice the current level (back then 10-year yields were at 5 percent; now they are at 2 percent). He said that “if markets have shown such confidence in the new government why shouldn’t the creditors do the same?”
Commenting on the recent seven-year bond sale in a recent interview with Kathimerini, European Stability Mechanism chief Klaus Regling had also said that lower interest rates can create some fiscal space.
According to Raffaella Tenconi, founder of Ada Economics and chief economist of Wood & Co, “reducing the primary surplus target from 2021 looks highly achievable given the improvements in the economy and provided the new government does deliver on the reforms agreed.
“I think the cut of one percentage point is viable if the government proves that it can speed up the reforms, stick to what has been done so far and go even further on reducing red tape for small and mediumsized enterprises,” she adds.
Tenconi also says that “in terms of savings, the average interest rate on official lending to Greece is 1.4 percent with a very long maturity. Since in theory Greece has cash until 2021, we are not really booking savings right now, but the yields compression is so significantly beyond what the fiscal metrics would suggest and so rapid that indeed it should support an improvement in investment confidence and that helps the economy growth – eventually perhaps at a faster rate than 2 percent.”
Holger Schmieding, chief economist at Berenberg Bank, argues that according to the European Commission’s Enhanced Surveillance Report from February, Greece has medium and long-term amortizations of 6 percent of GDP in 2019 and 2.5 percent in 2020 and 2021. “If Greece can borrow at interest rates that are 2 percentage points lower than otherwise, the difference will be small initially (less than 0.2 percentage points of GDP in 2020) but rise substantially year by year. For 2020, it does not create significant fiscal space. For 2022, the impact could be 0.5 points already (very rough calculation).
I fully agree with Regling, it can create some fiscal space,” he says.
“More importantly, it can encourage lenders to interpret Greece’s fiscal plans flexibly, for instance by assuming significantly stronger privatization revenues and/or by assuming stronger trend growth in response to pro-growth economic policies,” Schmieding adds.
The yield reduction is also key from a debt sustainability perspective, according to Fabio Balboni, chief economist at HSBC. “If maintained, it could reduce gross financing needs by some 2 percent of GDP by 2033, when the current grace periods on EU loans comes to an end, reducing the need for possible additional debt relief measures and helping support investor confidence.”
He reminds that “Greece has refinancing needs of around 20 billion euros between the second half of this year and 2022. The recent reduction in yields means savings could amount to about 400 million euros, or 0.2 percent of GDP, by 2022. So it would create some fiscal space to undertake certain fiscal measures, given financing needs are relatively limited in the next few years. Further liability management could increase the gains. For example, paying back most of the International Monetary Fund loans and leaving only 2 billion euros outstanding (to ensure continued post-program monitoring) could save another 200 million euros per year (0.1 percent of GDP). More important than the fiscal space per se, however, would be in our view the policy mix which should support investment and growth.”
Greece and its creditors will need to reach an agreement on reducing the targets after 2020 as long as the leeway created is put to good use, Jens Peter Sorensen, chief analyst at Danske Bank, tells Kathimerini. He argues that having “lower rates does create some more fiscal room – simply as the government saves on the interest rate costs – and thus they may not require such a significant primary surplus. Furthermore, since this is expected from 2021 – then the impact in market is likely to be modest, and EU and Greece should most likely find a solution, where the targets are lowered.”
“As I see it, there are two issues then: First, how are the lower targets being ‘used’ – if the extra fiscal room for spending is used for growth-driven initiatives such as improvement in infrastructure, making companies more competitive etc., then this should improve the long-term growth prospects for the Greek economy – then it is good, and second, it will probably be also seen as positive from a rating perspective – and thus Greece will get a positive feedback from the rating agencies,” Sorensen adds.
“However, if it just used on spending such as an increase in the minimum wage, lowering the pension age etc. then it is just raising future costs and this will not really be that positive and will most likely not be seen as a credit positive. In this case it might be negative for the Greek government bonds,” he warns.