8th August 2012
The situation in Greece looks as though it is about to heat up again and I am not referring to the heat wave which has driven temperatures above 40 degrees. Regular readers will be aware that I was always worried that the debt haircut which was called PSI or Private Sector Involvement would prove insufficient. A major reason for this was that so many of Greece's government bonds had ended up in non private hands such as the European Central Bank and here there was no haircut at all. In an unintended own goal the tactic of supporting Greece's government bond market has in fact torpedoed it. And further moves were made more difficult by the fact that upwards of 75% of Greece's government debt would be in official hands going forwards.
Why might this be so?
At the time of the PSI deal we were told that a national debt to Gross Domestic Product ratio of 120% was significant and that Greece would achieve it in 2020. Actually even those who were telling us this had undertaken analysis telling them that this was unlikely to be true. And even worse the 120% target had no real credibility in terms of meaning much. Research on the subject has suggested 90% or 100% for example as significant levels. In a link with yesterdays update many suspected it was chosen as choosing a lower number would make Italy (who has such a level of public-sector debt) look bad.
Indeed at the time Reuters published an internal troika (IMF, ECB, European Commission) report which warned of dangers with the whole process:
"This would result in a much higher debt trajectory, leaving debt as high as 160 percent of GDP in 2020. Given the risks, the Greek program may thus remain accident-prone, with questions about sustainability hanging over it"
Let us consider one likely accident and to do it let us return to what we were officially told at PSI time. From the Financial Times:
"The baseline scenario in the report forecasts 4.3 per cent decrease in GDP this year, followed by flat growth in 2013 and 2.3 per cent growth in 2014"
This illustrates my theme that official forecasts are always rose-tinted and are happy to forecast returns to economic growth in spite of the lack of any evidence to back it up. Greece was continuing to spiral downwards at the time and there was simply no evidence of any uptick, which sadly is still true. Even the forecast of a contraction of 4.3% in 2012 was in doubt.
In essence such unrealistic forecasts were the only way they could get the numbers to add up and of course fantasies do not merge well with reality.
Standard and Poor's enter the fray
Last night Standard and Poor's put Greece on negative watch (from CCC) and their basis for this highlights the problem discussed above and brings a touch of reality to it:
"We project GDP will contract by 10%-11% cumulatively during 2012-2013, versus the negative 4%-5% assumed by the EU/IMF Program for 2012-2013."
Ouch! As this will have its impact in quite a few areas. Firstly dealing with the budget deficit will be harder as tax revenues come under downwards pressure and social security spending such as unemployment benefits rises. And as the deficit adds to the national debt the economy is shrinking so more debt is divided by a smaller economy. So we are seeing exactly the reverse of what we were promised.
Standard and Poor's also gave an estimate of what effect this might have:
"the related worsening of the fiscal position imply a high likelihood that Greece will require additional financing of as much as €7 billion (3.7% of GDP) for 2012"
What is actually happening?
We are back to the Mad Hatters Tea Party I discussed a while back as the Greek government is in fact discussing some 11.5 billion Euros of spending cuts. This will give the economy another downwards push. Also in a regular theme we have been told that these have been agreed several times now only to hear this from the Greek Finance Minister Yannis Stournaras according to Kathimerini:
"11.5 billion euros is a significant number and we haven't reached it yet. We still need to find 3.5 to 4 billion euros (of cuts)"
In every respect it looks as though the situation is spiralling out of control. The economy continues to weaken and the government tries to apply more of the same failed medicine a bit like when doctors in the past thought it was a good idea to bleed a sick patient.
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