Looking back at Greece and a necessary re-posting on Brexit
Greece: What’s in a Deal? (looking Back)
The deal to complete the review—Against difficult negotiations, the Eurogroup and IMF agreed (see statement here) to release more than €10bn in bailout money in order for Greece to meet its short-term financing needs. The IMF signed on in exchange for debt relief in the future, as Daniel Gros reports—given its analysis that Greek public debt is unsustainable at 180% of GDP, shared by Darvas and Huettl in a Bruegel blog post. The institution also believes a target primary surplus of 3.5% is unreachable. In its DSA, the Fund called for (i) a lower target primary surplus at 1.5%, (ii) gross financing needs to be limited below 10 percent of GDP up to 2040 and under 20 percent until 2060 and most importantly (iii) upfront, unconditional debt relief (through haircuts, caps on interest rates, extended maturities or a repayment moratorium). The agreement was criticized, notably as the IMF was viewed as making concessions to the German stance (Yiannis Mouzakis and Nick Malkoutzis, in Macropolis), on the 3.5% primary surplus target and on postponing debt relief talks to 2018 (Yiannis Mouzakis in Macropolis). Unlike Mouzakis, Martin Sandu holds that the Eurogroup went most of the way to taking the IMF’s advice.
The ECB on hold—The ECB is yet to reinstate the waiver on Greek bonds posted as collateral at its refinancing operations, de facto discriminating against Greece for access to it QE program according to Paul de Grauwe in a VoxEU entry.
An ambiguous outcome for Greece—On the positive side, Greece got the review completed and brought debt relief talks firmly on the table, but not necessarily the significant, game-changing debt relief the country needs, according to Nick Malkoutzis. The difficult relationship of the government with the IMF was highlighted as a constraint: for Eurointelligence, this puts Tsipras on the defensive over why he accepted the 3.5% primary surplus target and a delay in debt relief talks (see Yannis Tournaras’s op-ed calling for a new deal, siding with the IMF argument).
The credibility of further debt relief is in doubt, because debt talks would start long after the 2017 German federal elections (Wolfgang Munchau in the FT). More generally, the political balance in the eurozone may have shifted by the end of the Greek program with major elections taking place in France and the Netherlands as Nick Malkoutzis points out—and this would come after two years of a challenging adjustment program.
Kicking the can down the road again—The deal is therefore not a game-changer: for Daniel Munevar and Yannos Palaialogos, as long as the eurozone continues to put off the day when losses will be accepted and the Greek economy placed on a sustainable footing, it may find that it waited too long, and the spectre of Grexit will reappear.
For Wolfgang Munchau and Martin Wolf, Europeans continue their path of “extend and pretend” as political considerations have once again trumped economic logic (see also Adair Turner in Project Syndicate). The reasons being that (i) Eurozone leaders are trapped in the lie that Greece is solvent, (ii) Greece pretends it will reform and (iii) both are playing for time.
Should the IMF stay on board? With uncertainty about debt sustainability, the IMF should make a clear case by walking away from the program, according to Martin Wolf (FT entry and see also Ian Talley in the WSJ). Wolfgang Munchau goes further and argues that if the Europeans want to continue to “extend and pretend”, they should buy out the IMF bailout loans to Athens. Daniel Gros is harsher on the IMF as he argues that its assessments of debt sustainability in Greece are undermined by a deep conflict of interest. If Greece’s creditors, mostly other Eurozone countries, accept a haircut, the IMF’s credits would become more secure. That is why the IMF’s debt sustainability analysis can hardly be considered neutral. Second, and more importantly, he views IMF credits as too expensive (see also Andrew Watt in a Social Europe piece).
Re-Posting: Brexit: The Economic Argument and the Political Risk
An uncertain outcome, with noisy polls—‘Remain’ is in the lead, but both campaigns agree that the referendum will be determined in the final days—with turn out being key for the outcome.
A consensus among economists for Remain—88 percent of recently surveyed economists believed an exit from the EU would most likely damage Britain’s growth prospects over the next five years (The Guardian), a point also made by World Leaders in their recent full G-7 statement (see also Reuters’ summary). Simon Wren-Lewis (Mainly Macro) reports on Martin Sandbu’s argument that there is a strong consensus among economists that Brexit will involve significant short term and long term costs (see also Mainly Macro and the Times).
Yet a political choice, that economic argument may fail to win—An independent political strategist (hat-tip Politico) writes that the Out camp cannot win the economic argument, but it can try to neutralize it by saying that nobody really knows what will happen if Britain left the EU, while focusing on immigration fears. Simon Wren-Lewis (Mainly Macro) notes that Brexit is popular because immigration is a big issue among voters—yet Jonathan Portes has shown that immigration has positive effects from higher growth and better public finances. The In camp has so far failed to make a convincing positive case for the status quo, relying instead on concerns about economic consequences. Kingsley Chiedu Moghalu (OMFIF) stresses that in the end, the vote will be driven by a political, rather than economic, choice.
Ray Kinsella (OMFIF, as part of a series on the referendum) argues that the Brexit debate is much deeper, and more nuanced, than often suggested—with other countries reining back sovereignty in areas such as the Schengen agreement. This reflects the democratic deficit in Europe, the failures on values such as subsidiarity and solidarity, and the concentration of power – and trade surpluses –at the centre.
There are large variations over the expected costs. Brexit would entail big economic costs for Britain, according to Philippe Legrain (Project Syndicate). The uncertainty and disruption would depress investment and growth. Permanent separation would reduce trade, foreign investment, and migration, hurting competition, productivity growth, and living standards. And “independence” would deprive Britain of influence over future EU reforms – notably, the completion of the single market in services – from which it would benefit. The LSE’s Centre for Economic Performance calculates that costs from trade losses as high as 9.5% of GDP, while the fall in foreign investment could cost 3.4% of GDP or more. Renegotiation would take a long time (it took 3 years for Greenland in the 1980s), be uncertain (requiring unanimity among the EU’s 27 remaining members), and complex (50-plus trade deals that the EU has with other countries).
The largest risks and uncertainties to the UK economies relate to the upcoming EU referendum, according to the IMF, which would have the potential to crystallize other risks, such as a low household saving rate; still-high levels of household debt and fiscal deficits, despite substantial reductions in both since the crisis; a wide current account deficit; and risks that productivity growth may remain low for an extended period. For Goldman Sachs, a Brexit would be associated with a weaker Sterling, but the BoE's reaction would depend on the relative strength of the drivers of that weakness, i.e., whether the BoE sees a need to support foreign investor confidence (implying weaker Sterling and higher rates to compensate for that higher risk premium) or to support the weaker economy in the face of weaker domestic confidence (which implies lower interest rates and even weaker Sterling as a result).
The long-run effects on UK output and incomes would also likely be negative and substantial, according to the IMF. London’s status as a global financial center could also be eroded, as UK-based firms may lose their “passporting” rights to provide financial services to the rest of the EU and much euro-denominated business may over time move to the continent. The wide range of estimated losses—from 1½ to as much as 9½ percent of GDP—does not represent fundamental disagreement among these experts that exit would be costly, but largely reflects differing assumptions about the UK’s future economic relationships with the EU and the rest of the world. Martin Sandbu (FT) reviews some of those studies—from the NIESR research to the Treasury report. The Brexit supporters assert that after “Brexit”, the UK could quickly negotiate a bespoke agreement with the EU that offers all the benefits of free trade without the costs of EU membership; strike better trade deals with other countries; and reap huge benefits from scrapping burdensome EU regulations (see Philippe Legrain (Project Syndicate). Gerard Lyons (in a book reviewed by William Keegan (OMFIF)) views problems that might arise in renegotiating trade and other arrangements as limited.
The final configuration will bear on the costs. The least painful option would be to seek membership of the European Economic Area, along with Norway, Iceland, and Liechtenstein—for almost full access to the single market, albeit with customs controls and other trade barriers such as rules-of-origin requirements; but with the need to comply with single-market rules and legislation with no say in creating them and with the obligation to contribute to the EU budget, and to allow EU citizens free entry (Philippe Legrain (Project Syndicate). The option with the fewest political constraints would be reverting to WTO rules, but it would entail import tariffs on British goods, non-tariff barriers, and loss of passport for UK firms to export freely to the EU, but even WTO trade talks with be tough according to Roberto Azevêdo.
Concerns may have already begun to affect UK markets (the IMF): plunging commercial real estate market transactions, currency depreciation, doubling of the cost of insuring against a UK sovereign default, and spiking cost of insuring against exchange rate volatility.
