So what are the policy options on Greece?
In the last blog I asked the somewhat rhetorical question at the end of the review of the Greek election and the rise of the anything-but-austerity message and de-facto mandate of the Syriza party.
Listen to Syriza’s young Turk – sorry Greek! – leader, AlexisTsipras and you will get a sense of the policy cul de-sac that faces the Eurozone and indeed Greece. Strip bare the posturing in the run-up to the Greek re-election and the core message is blunt:
- we want to stay in the Eurozone because the alternative is worse – including a likely further widening of gulf between the Euro-have rich and the rest of Greek society left with a devalued drachma.
- but we want growth, jobs and an end to austerity
- we’ll renegotiate the austerity package with the EU and the IMF
- and …here’s the trump card:
- if we leave the Euro then Portugal is “toast” by mid-morning next
The risks of contagion is the key reason why the Greece will not be forced out of the Eurozone and why the stand-off will continue into the summer, and beyond the 2nd election in June.
And the key risk is that of bank runs – both in Greece but across the Eurozone. Purportedly close to €1bn was withdrawn in recent days in Spain, itself set against a tide of de-ratings of its banks. The Greek banking system is itself on a €100bn life-saver drip feed via the ELA – the emergency liquidity assistance from the ECB – which was used successfully to save the Irish banking system after it went belly-up.
By corollary preserving confidence in the banking system must be a key policy goal for the Eurozone.
The inherent problem of a single currency without a single fiscal companion is a root concern. But another – and equally important – concern has been the lack of a formal Lender-of-Last-Resort function at the ECB. The ECB was coy about asserting this necessary central bank function when the Greek crisis started in Greece in 2010 with deposit withdrawals and subsequent deceline in Greek lending.
In effect the ECB under Draghi has started to ramp up liquidity financing to its banks in the Eurozone that has helped to dampen immediate risk of bank-failures. But given recent German recalcitrance on the extent of monetary easing underway, there is a palpable need for a firm Eurozone wide blanket deposit protection scheme.
Secondly, the focus on growth will require banks to start lending. And here we have a conundrum. The EBA is busy dealing with a lagged policy concern on bank capitalisation. Paradoxically lending will decline as banks, already risk-averse in the current economic climate, are forced by regulators to focus on building capital buffers.
But these measures will only go so far.
The current institutional dynamics will continue to mean a step-by-step approach.
Pooling fiscal risk at a Eurozone level is not likely in the near term but interestingly a step in this direction has been made through a common €230m project bond that will be signed-off by Eurozone leaders for project finance financed under the European Investment Bank. According to the EC there is potential demand for €1.5-2 trn to 2020 in order to modernise infrastructure.
Unsurprisingly there has been angst by the northern Eurozoners to what could become a contingent fiscal liability.
And there will be problems with anyone familiar with EU structural funds let alone large-scale financing generally – ready made projects are hard to find and “absorption capacity” is often the key problem rather than of obtaining funding, particularly if real rate of return exceeds a notional benchmark of 4%.
As well as the other obvious issue that often co-financing requirements will actually lead to rising fiscal indebtedness for the very countries such as Greece, Portugal or Spain that need this rise in Gross Investment to boost GDP when private demand remains moribund.
But on the bright side, the idea does suggest we may be moving down the road of some form of EU-style shift toward on how to raise Aggregate Demand. It will be interesting to see how the Hollande presidency emerges in its discussions with Berlin on the issue of EU-wide bonds generally.
It may also lead to co-opting with the slush of excess global savings sloshing – both with Asset Managers and petro-rich Sovereign Funds.
Greek ownership of the structural reform will still be required and the signs are that the re-election there – seen in the EU as a de facto referendum on its membership of the Eurozone – will lead to a government willing to continue implementing the austerity medicine.
A massive scale-up of funding to ensure a safety net is needed, particularly as the economic compression has exceeded forecasts/expectations in the IMF-EU programme. And here the rise of Syriza may actually have worked to shake the EU body politic a few degrees, even if Syriza does not come to hold power (it will be mightily interesting if it does come to play a part in government, although I expect Greece to still stay in the Eurozone).
Notwithstanding these above possibilities, ultimately there has to be some form of fiscal transfer for the Monetary Union and the Economic Union to which it is linked to work.
These already exist in the form of Structural Funds to the tune of 4% of GDP that were designed to reduce asymmetries across the Union, and through the Cohesion Fund that was specifically a political pay-off to the southern EU in return for the “convergence pain” of having to ditch their currencies in favour of the common Euro in the first place.
This also shows that – leaving aside the niceties of possible modification of the EU Treaties – that in practice scale-up of targeted financing through an established transfer mechanism is feasible.
It all depends alas, as always, on…politics and political will.