Europe debt cri­sis forces na­tions to make tough calls

The Washington Times Weekly - - Geopolitics - BY PA­TRICE HILL

The United States is just be­gin­ning to wres­tle with its mas­sive debt prob­lem, but in Europe the debt cri­sis is ad­vanc­ing rapidly with wor­ries about de­faults and tur­moil re-emerg­ing in global mar­kets.

Ef­forts to re­vive Greece, the first nation to get a bailout from the Euro­pean Union and In­ter­na­tional Mon­e­tary Fund a year ago, ap­pear to be fail­ing as the coun­try’s aus­ter­ity pro­gram has sent its econ­omy into a tail­spin and wors­ened its bud­get deficits rather than cured them.

An­a­lysts say the kind of a “debt trap” Greece has fallen into also could emerge in other debt-bur­dened states such as Ire­land and Por­tu­gal, which was the lat­est to get a bailout this month.

With so­cial and po­lit­i­cal re­sis­tance al­ready in­tense to the deep bud­get cuts Greece has car­ried out in the past year, Greece is faced with two stark op­tions: Ei­ther de­fault­ing, that is, re­struc­tur­ing its debts and of­fer­ing cred­i­tors par­tial pay­ments to lower bur­den­some debt pay­ments, or get­ting more loans from the IMF and EU, adding fur­ther to its huge and al­ready un­sus­tain­able debt load.

“Greece has reached the point where, un­der re­al­is­tic sce­nar­ios, debt dy­nam­ics are un­sus­tain­able. The count­down to re­struc­tur­ing has started, in our view,” said Piero Ghezzi, an an­a­lyst at Bar­clays Cap­i­tal.

Un­der its own ef­forts, and with help from the EU and IMF, Bar­clays es­ti­mates that Greece could achieve only about half the deficit cuts needed to be­come sol­vent again, he said.

As in the United States, debt pay­ments con­sti­tute a large and fast-grow­ing part of the bud­get in Greece, crowd­ing out spend­ing on other pro­grams and mak­ing it even harder to curb the debt.

“Fis­cal con­sol­i­da­tion will need to be helped by an ef­fec­tive debt re­duc­tion” to get Greece out of this debt trap, Mr. Ghezzi said.

Ex­pect­ing the worst

Bar­clays is not alone in be­liev­ing that Greece is es­sen­tially bank­rupt and has lit­tle al­ter­na­tive to reneg­ing on its debts. Global fi­nan­cial mar­kets have been brac­ing for the pos­si­bil­ity for weeks, cre­at­ing a ma­jor dis­trac­tion that has helped take in­vestors’ fo­cus off the United States’ own big debt prob­lems.

A sur­vey by Bloomberg News found that 85 per­cent of in­vestors world­wide ex­pect Greece, Por­tu­gal and Ire­land to de­fault. Many even view that as the best al­ter­na­tive since fur­ther dra­co­nian bud­get cuts would only worsen such debt­strapped coun­tries’ re­ces­sions and zap the re­vival of tax rev­enues needed to close gap­ing bud­get gaps.

But debt re­struc­tur­ing in Greece presents many risks. It could trig­ger a re­newed cri­sis in global fi­nan­cial mar­kets by forc­ing Por­tu­gal, Ire­land and larger coun­tries like Spain into the same kind of debt trap.

It also threat­ens the sol­vency of Euro­pean banks that hold the ma­jor­ity of the out­stand­ing debt of Greece, Por­tu­gal and Ire­land and would be forced to take big losses on those hold­ings.

Be­cause of the threat of con­ta­gion to the banks, Euro­pean coun­tries and global fi­nan­cial mar­kets, Mr. Ghezzi ex­pects Euro­pean authorities and the IMF to try to post­pone de­fault by of­fer­ing more loans and soft­en­ing the terms on their ex­ist­ing $156 bil­lion loan pack­age for Greece.

“We ex­pect con­ta­gion fears to con­tinue to dom­i­nate EU de­ci­sions,” he said. But by early next year, “the sta­tus of Ire­land and Por­tu­gal should be clearer” and the EU and IMF will prob­a­bly bow to the in­evitable and agree to a debt re­struc­tur­ing in Greece, he said.

Srini­vas Thiru­vadan­thai, an an­a­lyst at the Jerome Levy Fore­cast­ing Cen­ter, agreed that Euro­pean authorities will con­tinue to stren­u­ously in­ter­vene to try to stave off de­fault and help Greece and other in­sol­vent na­tions, if only to avoid hav­ing to bail out the banks that lent to those na­tions.

“In bail­ing out Greece and then Ire­land, the stronger eu­ro­zone coun­tries were ef­fec­tively bail­ing out their own banks,” he said. But there’s a dan­ger that the toxic com­bi­na­tion of deep bud­get cuts and ris­ing in­ter­est rates they’re pre­scrib­ing will over­whelm ef­forts to cut the debt and jeop­ar­dize the eco­nomic re­cov­ery in Europe, he said.

With dif­fi­cult and del­i­cate de­ci­sions fac­ing Greece, Por­tu­gal and other Euro­pean coun­tries, mar­kets grew anx­ious last week when tur­moil en­gulfed the IMF and its man­ag­ing di­rec­tor, Do­minique Strauss-Kahn, who was ar­rested on sex­ual as­sault charges in New York.

Mr. Strauss-Kahn was a key ar­chi­tect of the res­cue plans for Greece, Ire­land and Por­tu­gal, and was ex­pected to lead ef­forts to keep those plans in place and work to make them suc­ceed.

“The IMF to­gether with its part­ner-in-arms, the Euro­pean Cen­tral Bank, have most strongly re­sisted any talk of re- struc­tur­ing debts,” said Alex Jur­shevski of Re­cov­ery Part­ners, a cri­sis man­age­ment firm, not­ing that the in­ter­na­tional in­sti­tu­tions mostly rep­re­sent the in­ter­ests of big banks and cred­i­tors.

The IMF wants to rem­edy Greece’s predica­ment by adding to its loan pack­age. The prob­lem is, Mr. Jur­shevski said, “there is no way out of a debt prob­lem by adding more debt to the mix.”

Re­cov­ery Part­ners was in­stru­men­tal in talk­ing Ice­land, an­other fal­ter­ing debt-strapped state, out of ac­cept­ing bailout loans from the EU in 2009, he said. In­stead, the coun­try forced its cred­i­tors to sac­ri­fice along with its tax­pay­ers, in a move that trig­gered a big fi­nan­cial col­lapse and re­ces­sion.

But to­day, “Ice­land is re­cov­er­ing al­beit slowly, and with­out the millstone of ad­di­tional debt,” Mr. Jur­shevski said.

Tough con­se­quences

Len­ders ev­ery­where should be forced to reckon with the con­se­quences of mak­ing bad loans just as bor­row­ers are be­ing forced to con­tend with their ex­cesses, he said.

“EU banks are go­ing to have to take a chop and likely be re­struc­tured them­selves,” he said. “The peo­ple of the EU have no de­sire to ef­fec­tively be­come per­ma­nent tax slaves of the banks.”

Wall Street credit agen­cies have been sound­ing warn­ings about the in­creas­ing like­li­hood that Greece will seek to re­struc­ture its debts. That, along with wide­spread spec­u­la­tion about de­fault in global mar­kets, has helped to drive the yield on Greek bonds to as high as 25 per­cent.

With such pro­hib­i­tively high lend­ing rates, few ex­pect the coun­try will be able to re­turn to the mar­kets for fi­nanc­ing next year, as orig­i­nally planned un­der the terms of its EU bailout.

Sarah Carl­son, vice pres­i­dent at Moody’s In­vestors Ser­vice, noted that the coun­try is in­creas­ingly boxed in with few ap­pe­tiz­ing choices. While bor­row­ing is get­ting in­creas­ingly dif­fi­cult, fur­ther bud­get aus­ter­ity mea­sures threaten to “deepen and pro­long the re­ces­sion and fur­ther un­der­mine do­mes­tic po­lit­i­cal sup­port” for eco­nomic and bud­get re­forms.

ASSOCIATED PRESS

ANGER OVER AUS­TER­ITY: Pro­test­ers clash with po­lice out­side the Greek par­lia­ment dur­ing a demon­stra­tion by the Pan­hel­lenic Fed­er­a­tion of Work­ers As­so­ci­a­tion on May 18. The union is protest­ing the de­ci­sion to in­crease work­ing hours from 37.5 to 40 per week.

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