Wednesday, June 17, 2015

The Endgame For Greece And Europe?

Zack Guzman of CNBC reports, The trump card the ECB could use on Greece:
Greece's economy is living on borrowed time—particularly if you believe the old adage that time is money.

That's because Greek banks have for months been relying heavily on what is called "emergency liquidity assistance" from the European Central Bank for just more than 80 billion euros ($90 billion). Otherwise known as ELA, emergency liquidity assistance is a loan program available for national banks in distress, allowing access to cash at an interest rate set by the ECB's Governing Council.

"It's a bit like printing euros for that one national bank," said Donald Luskin, chief investment officer at TrendMacro, who points out the loan comes at a higher interest rate since it's often backed by the flimsiest of notes. "But ELA doesn't come as an obligation or a risk of the Eurosystem."

All of the risk falls on Greece if the loan can't be repaid, unlike normal circumstances when a country has adequate collateral to offer and can receive a loan from the ECB at a lower interest rate.

"It's strange because normally the banks that take on the risk make the decisions, but in this case it's Greece with the risk, and the ECB making the decision," Luskin told CNBC.

But since the ECB rejected Greek bonds as collateral, ELA has become the last resort for the troubled nation that's seeing deposit outflows in commercial banks peak at 300 million euros a day.

Without ELA propping up Greece's commercial banking system, banks would be called to repay the National Bank of Greece. Without enough cash to do just that, banks could close, deposits could be lost, depression could ensue. It's powerful leverage the ECB holds.

"This is the ultimate pressure point the ECB has on Greece, it's the real thing," Luskin said. "If the ECB says no more ELA, then Greece goes back to the Stone Age."

From all indications, however, the ECB remains dedicated to keeping Greece in the euro zone, and a risky move like that could lead to unforeseen consequences that carry the potential to backfire. But it wouldn't be the first time the possibility has arisen.

When Ireland had become increasingly reliant on ELA—peaking at 187 billion euros in 2011—the ECB reportedly used the notion of cutting the emergency funds if Dublin didn't agree to bailout terms, which the country later did.

In 2013 Cyprus turned to emergency liquidity assistance after the ECB, similarly to the Greece case, refused to accept the country's sovereign bonds as collateral. Cyprus too faced warnings that the ECB's Governing Council was prepared to reject the continuation of ELA. The country later entered a rescue program and imposed capital controls to restore solvency to its banks.

Greece has until the end of the month before its next debt payment is due.
According to Zero Hedge, the ECB might use this "nuclear option" as soon as this Wednesday. Sensing that the axe might fall, the Bank of Greece came out to warn of the perils of not reaching a deal, a move which has caused a political flap in the Greek parliament:
Parliamentary speaker Zoe Konstantopoulou has dismissed the Bank’s hard-hitting report as “totally unacceptable”, and returned it to BoG governor Yiannis Stournaras.

Stournaras was finance minister in the previous coalition government led by the right-wing New Democracy party, which enforced many of the austerity measures which Syriza has vowed to overturn.

As such, there is no love lost with the Syriza-led government, given their views are almost diametrically opposite.

Some MPs are now demanding that Stournaras explain himself to parliament, flags up journalist Sophia Ignatidou.
In my opinion, Stournaras was the best finance minister that Greece ever had and the report the Bank of Greece put out is quite sensible. But this is Greece, so everything gets politicized to the point of absurdity.

Not to be outdone by all the hoopla of cutting off the ELA program, Greece's Syriza government has a nuclear option of its own. In his latest article, the Telegraph's Ambrose-Evans Pritchard writes, Syriza Left demands 'Icelandic' default as Greek defiance stiffens:
The radical wing of Greece's Syriza party is to table plans over coming days for an Icelandic-style default and a nationalisation of the Greek banking system, deeming it pointless to continue talks with Europe's creditor powers.

Syriza sources say measures being drafted include capital controls and the establishment of a sovereign central bank able to stand behind a new financial system. While some form of dual currency might be possible in theory, such a structure would be incompatible with euro membership and would imply a rapid return to the drachma.

The confidential plans were circulating over the weekend and have the backing of 30 MPs from the Aristeri Platforma or 'Left Platform', as well as other hard-line groupings in Syriza's spectrum. It is understood that the nationalist ANEL party in the ruling coalition is also willing to force a rupture with creditors, if need be.

"This goes well beyond the Left Platform. We are talking serious numbers," said one Syriza MP involved in the draft.

"We are all horrified by the idea of surrender, and we will not allow ourselves to be throttled to death by European monetary union," he told the Telegraph.

The militant views on the Left show how difficult it could be for premier Alexis Tsipras to rally his party's support for any deal that crosses Syriza's electoral 'red-lines' on pensions, labour rights, austerity, and debt-relief.

Yet they also strengthen his hand as talks with EMU creditors turn increasingly dangerous. Talks between Greece and its EU creditors fell apart once again on Sunday, leaving a final decision on a default to eurozone finance ministers.

Mr Tsipras warned over the weekend in the clearest terms to date that Greece's creditors should not push him too far. "Our only criterion is an end to the 'memoranda of servitude' and an exit from the crisis," he said.

"If Europe wants the division and the perpetuation of servitude, we will take the plunge and issue a 'big no'. We will fight for the dignity of the people and our sovereignty," he said.

It may soon be too late to push any accord through the German Bundestag and other EMU parliaments before June 30, when Greece faces a €1.6bn payment to the IMF. The interior ministry has already ordered governors and mayors to transfer their cash reserves to the central bank as a precaution, but even this is not enough to avert default without a deal.

Yet an official document released this evening in Athens appeared to throw down the gauntlet. "The government reiterates, in no uncertain terms, that no reduction in pensions and wages or increases, through VAT, in essential goods - such as electricity - will be accepted. No recessionary measure that undermines growth – the experiment has lasted long enough," it said.

European officials examined 'war game' scenarios of a Greek default in Bratislava on Thursday, admitting for the first time that they may need a Plan B after all. "It was a preparation for the worst case. Countries wanted to know what was going on," said one participant to AFP.

The creditors argue that 'Grexit' would be suicidal for Greece. They have been negotiating on the assumption that Syriza must be bluffing, and will ultimately capitulate. Little thought has gone into possibility that key figures in Athens may be thinking along entirely different lines.

Tasos Koronaki, the party secretary, said on Sunday that attempts to split the party will fail. "The government will not enter into any agreement that is not accepted by the parliamentary group. We are more united than ever," he said.

Finance minister Yanis Varoufakis told Greek television that his country cannot accept an "unachievable fiscal plan" and warned creditors that the minimum damage from Grexit would exceed €1 trillion for the European financial system.

Syriza's Left Platform has studied the Icelandic model, extolled as a success story by the International Monetary Fund itself.

"The Greek banks must be nationalised immediately, along with the creation of a bad bank. There may have to be some restrictions on cash withdrawals," said one Syriza MP.

"The banks will go ape-s*** of course. We are aware that there will be a lot of lawsuits but at the end of the day we are a sovereign power," he said.

Deposit outflows from the banks are running near €400m a day and could at any moment turn into a national bank run. This is alarming in one sense, but it has advantages for Syriza hard-liners.

The immediate problem is landing in the lap of the European Central Bank, which has had to raise its emergency liquidity support (ELAs) for the Greek banks to €83bn. The ECB is ever further on the hook.

While Greek citizens are hiding their money in mattresses or parking it in foreign accounts, the wealth still exists and could be used to replenish new banks in the future.

"The more the deposit flight goes on, the easier Grexit will be," said one Syriza MP. "It is a trump card," said another (click on image below).

Syriza has a strong ideological motive to strike at the financial elites. They view the banks as the nerve centre of an entrenched oligarchy that has run the country for more than half a century as a family business. Forcing these institutions into bankruptcy provides cover for a socio-political purge, best understood as a revolution.

Iceland is a tempting model for Greece, but the parallel can be pushed too far. The Nordic country seized control of its three big banks - Glitnir, Kaupthing, and Landsbanki - when the crisis span out of control in late 2008.

It wiped out shareholders and defaulted to foreign creditors - including British and Dutch retail depositors - setting off a storm of protest. Britain's Labour government briefly invoked anti-terror legislation. The governor of Iceland's central bank showed this reporter a document listing his institution along side al-Qaeda on the global blacklist, calling the British move "18th century gunboat diplomacy".

Iceland's internal banking system was rebuilt from scratch under state control with public funds equal to 30pc of GDP, and was shielded by capital controls. The boards were sacked. Some executives were prosecuted.

The banks kept their old names to maintain continuity for local depositors but they were essentially new institutions. Iceland gradually recovered and has since racked up impressive growth. Contrary to apocalyptic warnings, a 50pc devaluation proved to be part of the cure. The krona has since strengthened slightly against the euro.

However, Iceland has a very different society and economic structure. Quick stabilisation was possible only because the IMF and the Nordic countries stepped in with a $5bn rescue package.

Greece has already exhausted its IMF quota in the two failed rescues of 2010 and 2012, and is now at daggers drawn with the Fund's team in Athens. Some Syriza leader are demanding the head of Poul Thomsen, the IMF's programme chief.

They accuse him of working in cahoots with the oligarchy and pushing austerity beyond economic logic. The latest demands include a rise in VAT and pension cuts together worth 2pc of GDP by 2016, amounting to a pro-cyclical fiscal squeeze in an economy already in depression.

Tensions reached breaking point last week when the IMF pulled out of talks and flew back to Washington, though part of frustration is with the European institutions. It is hard to see how Greece could turn to the IMF for friendly help if the crisis leads to rupture. Much would depend on the quality of European statesmanship, and on how much political capital the US was prepared to spend sorting the problem out.

The IMF's view is in any case complex. It has warned EU officials behind closed doors that it will not continue to take part in Greek loan programmes unless the creditors accept a serious reduction in Greece's public debt burden.

While Greece's interest costs are just 2.5pc of GDP at the moment, they will jump to nearer 5pc in 2022 when the current debt deal expires. There is a high risk that the country would then be bankrupt again with little to show for a decade of austerity and depression.

Mr Tsipras faces a critical choice. If he accepts creditor demands, he may lose a large bloc of his own party and have to rely on the establishment parties to push the deal through the Greek parliament.

Such a course of action would render him a Greek version of Britain's Ramsey MacDonald, the Labour prime minister in the 1930s who enforced austerity and became the socialist figurehead of a Conservative national government.

MacDonald never overcame the accusations of betrayal by the Labour movement. He died a broken man.
What a mess! As we fast approach another cliffhanger in Greece, I'm reminded of what Michael Sabia, the president and CEO of the Caisse, once said about Europe's 'dark night':
“There’s a dark night going on in Europe, a dark and foggy night where bad things come out of trees and bite you,” Sabia said. “It’s a pretty scary place. In Europe there are investments to be made, and I think it’s possible to be successful there but there’s no place in the world, other that maybe emerging markets, where the word selectivity is fundamentally important.”
Perhaps his Italian heritage is what led Sabia to those comments but even he didn't fathom the extent of the mess going on right now in Greece and how it can spread to the rest of Europe.

The crisis in Greece has brought about a slew of anti-Greek articles in Germany and elsewhere. Some of these articles border on racist and others like the ones recently written by Anatole Kaletsky and Roger Cohen are equally idiotic and serve no purpose but to fan the flames of hatred toward "lazy Greeks" who "don't understand the gravity of the situation."

What are my thoughts on all this? I've written two comments recently on a Greek suicide and on who will blink first. I've explained why far from being an enemy to Greece, the ECB has aided and abated Varoufakis's great game with its emergency liquidity assistance (ELA) program.

This is why I don't see the ECB moving ahead to cut off its life-support to Greek banks. A move of that magnitude will be viewed as political blackmail by the radical Left in Syriza and basically cement their views to go ahead with the 'Icelandic option', at which point all hell will break loose.

I still maintain that cooler heads will prevail and that eurozone's creditors will cave in to the IMF's demands to write off some of Greece's debt. Importantly, Tsipras and Varoufakis won't blink; they simply can't. If they do, they risk a huge uproar from the radical left fringes within their government which sees more austerity measures as the perpetuity of failed policies which have destroyed the Greek economy.

Whether or not you like Syriza -- and I certainly don't -- there is a lot of truth to these "radical left" arguments. Imposing harsh austerity on a country suffering debt deflation will only exacerbate its economic crisis, not solve it.

And the situation in Greece is really screwed up because as I've repeatedly stated, austerity measures have disproportionately hurt the private sector. The over-bloated and inefficient public sector is thriving and expanding, which makes the situation that much more twisted.

Why? Because all this uncertainty hanging over Greece is decimating private sector jobs and that ratio I keep talking about -- 1.5M Greek public sector workers vs 2.5M Greek private sector workers -- keeps surging higher, forcing the few remaining in the private sector to pay more taxes to support this bloated and inefficient public sector.

Of course, the way things are going, every Greek will be called upon to "save" public sector jobs and pensions. It's ridiculous, which is why I agree with Harry Theoharis, an MP for Greece's To Potami party, who wrote in the Guardian, Greece blames everybody but itself for its economic woes:
At the start of a make-or-break week for Alexis Tsipras’s government, it is a fact that Greece is now seen in many European capitals as a state that refuses to modernise and must therefore depart the eurozone, if not the EU altogether.

This view might be understandable, but it is wrong. Understandable due to the antics of a Greek government that has refused to engage in a constructive and competent manner with its creditors. Wrong because it is based on false assumptions about what has been accomplished in Greece over the past five years, about what a consistent majority of the Greek population wants, and about what the consequences would be for Europe.

Ultimately, this view is the mirror image of the – similarly understandable but similarly wrong – view held by the current Greek government, that the economic adjustment programme, widely known as the “memorandum”, is the sole source of all the country’s ills. Understandable because there is no doubt that the austerity prescribed as part of the memorandum has contributed to Greece’s great depression in terms of lost output (-25% in real terms) and unemployment rates (peaking at 27.5%).

But this view is wrong because austerity was inevitable when Greece was locked out of financial markets in 2010 with a structural fiscal deficit exceeding 18% of GDP the previous year, and wrong because the impact of this was always going to be severe for a chronically uncompetitive economy dependent on domestic public spending.

Austerity has played the role of the useful idiot for populists and nationalists in Greece who don’t want to accept that the roots of Greece’s economic and political problems were largely home-grown: chronically weak fiscal institutions and a dysfunctional legal, regulatory and tax system that for decades prevented the emergence of globally competitive private enterprises.

This is not to say the memorandum has been well-designed. Independent analysts, including the IMF’s own internal evaluation office, have identified a number of critical design faults: the massive debt haircut of 2012 should have been implemented in 2010, which would have allowed a smoother fiscal adjustment path and resulted in a shallower recession.

Even after that, the “troika” of European commission, European central bank, and International Monetary Fund has consistently placed more importance on adherence to overly ambitious fiscal targets rather than structural reforms and state-building.

In addition, structural reforms that were implemented early on – such as the necessary but abrupt adjustment in labour market regulation and the minimum wage without consultation with social partners – were poorly sequenced and proved insufficient to boost exports given the sclerotic business environment.

In short, there is plenty of blame to go around. There is no question however that the bulk of the blame lies with successive Greek governments that have only fitfully shown true understanding of the economy’s problems and a willingness to confront them. It is ultimately this lack of political ownership of reforms that separates Greece from other programme countries, and which is the main source of angst in European capitals.

Many, including myself, held hopes that the Syriza-led government elected last January would change this dynamic given its lack of ties to the clientelist system. Unfortunately, its performance to date has shown them to be just as conservative, tribal, power-hungry and ideological as their predecessors.

Not only do many of its appointments in key positions owe their jobs to party allegiance rather than competence, but the only common thread to their governing strategy thus far has been a blanket reversal of reforms, good or bad, undertaken by previous governments – seemingly for the sole reason of making a symbolic break with the past.

Moreover, the government has failed to articulate a concrete, progressive, forward-looking reform agenda, and move beyond its populist talking points to aggressively embrace the urgently needed structural reforms, many of which are outlined in the memorandum. These include market liberalisation, business environment simplification, an expanded and better targeted social welfare system, a truly meritocratic public administration, privatisation in sectors dominated by inefficient state monopolies, and pension reform.

As a result of the government’s lack of concrete reform proposals and general intransigence, the creditors have reverted to requesting ambitious fiscal targets and further horizontal austerity measures (ie VAT hikes) that are easily monitored in order to justify further aid to their parliaments, while the structural reforms are pushed back again.

So is all lost? Actually, beneath the hype in the news about austerity, default and Grexit, a genuinely exciting structural political opportunity has emerged: several opinion polls show that there is a silent but strong majority of Greek people who want two things: an agreement that ensures eurozone membership, and a cross-party government of national unity that can deliver.

If the current Greek government – comprised of two parties who for five years railed against the bailout – would sign its own memorandum, this would potentially create closure and an opportunity for renewal. Under previous Greek governments, there had always been at least one large populist opposition party deluding an electorate under severe stress that there were painless alternatives to the bailout. This structural political problem has now been addressed, and the conditions are ripe for a government that finally owns its reform programme.

The frustration and fatigue felt in many European capitals regarding Greece is understandable, but these aren’t good reasons to miss this unique opportunity for both Europe and Greece.
I couldn't agree more. Unfortunately, just like Greece's former finance minister Stefanos Manos who warned Greeks to leave their statist policies behind, I am not optimistic and agree with him, problems will remain unsolved unless Greeks (a) commit to achieve increasing budget surpluses, (b) drastically reduce the size of the civil service and (c) cut back on statism.

This is why I empathize with creditors who don't want to write down Greece's debt and keep squeezing the Greek government hard. Even if they forgive all or part of Greece's debt -- a move which is politically unacceptable -- the country will be back in the same position down the road because it's incapable of cutting the public sector down to a more manageable size.

Having said this, eurozone creditors are only pouring gas on the Greek debt fire and will get burned with their increasingly asinine demands. They simply can't risk Grexit and the "unknown" of contagion in the periphery economies and a possible backlash in Spain and Italy where leftist parties are waiting to seize their moment.

Moreover, the Americans won't stand idly on the sidelines as all this unfolds and possibly triggers a liquidity time bomb and another global economic crisis. There will be pressure on Merkel to step in and force a comprehensive solution to this ongoing crisis.

On that note, I leave you with an excellent commentary from Columbia University professor Jeffrey Sachs, The Endgame For Greece:
After months of wrangling, the showdown between Greece and its European creditors has come down to a standoff over pensions and taxes. Greece is refusing to acquiesce to demands by its creditors that it cut payments to the elderly and raise the value-added tax on their medicine and electricity.

Europe’s demands – ostensibly aimed at ensuring that Greece can service its foreign debt – are petulant, naive, and fundamentally self-destructive. In rejecting them, the Greeks are not playing games; they are trying to stay alive.

Whatever one might say about Greece’s past economic policies, its uncompetitive economy, its decision to join the eurozone, or the errors that European banks made when they provided its government with excessive credit, the country’s economic plight is stark. Unemployment stands at 25%. Youth unemployment is at 50%.

Greece’s GDP, moreover, has shrunk by 25% since the start of the crisis in 2009. Its government is insolvent. Many of its citizens are hungry.

Conditions in Greece today are reminiscent of those in Germany in 1933. Of course, the European Union need not fear the rise of a Greek Hitler, not only because it could easily crush such a regime, but also – and more important – because Greece’s democracy has proved impressively mature throughout the crisis. But there is something that the EU should fear: destitution within its borders and the pernicious consequences for the continent’s politics and society.

Unfortunately, the continent remains split along tribal lines. Germans, Finns, Slovaks, and Dutch – among others – have no time for the suffering of Greeks. Their political leaders tend to their own, not to Europe in any true sense. Relief for Greece is an especially fraught issue in countries where far-right parties are on the rise or center-right governments face popular left-wing opposition.

To be sure, European politicians are not blind to what is happening in Greece. Nor have they been completely passive. At the beginning of the crisis, Greece’s European creditors eschewed debt relief and charged punitive interest rates on bailout funds. But, as Greeks’ suffering intensified, policymakers pressed private-sector banks and other bondholders to write off most of their claims. At each stage of the crisis, they have done only what they believed their national politics would bear – no more.

In particular, Europe’s politicians are balking at steps that would implicate taxpayers directly. The Greek government has asked Europe to swap existing debts with new debts to lock in low interest rates and long maturities. It has also requested that interest payments be linked to economic growth. (It has notably not asked for cuts in the face value of its debt).

But debt relief of this sort vis-à-vis European governments or the European Central Bank has been kept off the table. Such measures would likely require parliamentary votes in countries across the eurozone, where many governments would face intense public opposition – no matter how obvious the need.

Rather than confront the political obstacles, Europe’s leaders are hiding behind a mountain of pious, nonsensical rhetoric. Some insist that Greece finish its payment program, regardless of the humanitarian and economic consequences – not to mention the failure of all previous Greek governments to meet its terms. Others pretend to worry about the moral-hazard implications of debt relief, despite the fact that the country’s private-sector debt has already been written off at EU insistence, and that there are dozens, if not hundreds, of precedents for restructuring the debts of insolvent sovereigns.

Almost a century ago, at World War I’s end, John Maynard Keynes offered a warning that holds great relevance today. Then, as now, creditor countries (mainly the US) were demanding that deeply indebted countries make good on their debts. Keynes knew that a tragedy was in the making.

“Will the discontented peoples of Europe be willing for a generation to come so to order their lives that an appreciable part of their daily produce may be available to meet a foreign payment?” he asked in The Economic Consequences of the Peace. “In short, I do not believe that any of these tributes will continue to be paid, at the best, for more than a few years.”

Several European countries now seem content to force Greece into an outright default and provoke its exit from the euro. They believe that the fallout can be contained without panic or contagion. That is typical wishful thinking among politicians. Indeed, it is the type of heedlessness that led US Treasury Secretary Hank Paulson to let Lehman Brothers fail in September 2008, ostensibly to teach the market a “lesson.” Some lesson; we are still digging out from Paulson’s monumental mistake.

Similarly, Keynes watched in horror as economic policymakers blundered repeatedly in the years following WWI, through the upheavals of the 1920s, and into the Great Depression of the 1930s. In 1925, Keynes criticized the insouciance of those “who sit in the top tier of the machine.” He argued “that they are immensely rash in their regardlessness, in their vague optimism and comfortable belief that nothing really serious ever happens. Nine times out of ten, nothing really serious does happen – merely a little distress to individuals or to groups. But we run a risk of the tenth time…”

Today, Greece’s European creditors seem ready to abandon their solemn pledges on the irrevocability of the euro in order to insist on collecting some crumbs from the country’s pensioners. Should they press their demands, forcing Greece to exit, the world will never again trust the euro’s longevity. At a minimum, the eurozone’s weaker members will undergo increased market pressures. In the worst case, they will be hit by a new vicious circle of panic and bank runs, also derailing the incipient European recovery. With Russia testing Europe’s resolve to the east, the timing of Europe’s gamble could not be worse.

The Greek government is right to have drawn the line. It has a responsibility to its citizens. The real choice, after all, lies not with Greece, but with Europe.
Sachs's devastating critique should be borne in mind as European politicians meet in Luxembourg for yet another "emergency meeting" where they will keep pressing their demands on Greece and Tsipras and Varoufakis will tell them to "stick it where the sun don't shine."

The world is waiting for real European leadership. There is no more time left for Greece and Europe. If they bungle this up, they will risk another global economic crisis, and possibly worse.

Below, ahead of a crucial meeting of finance ministers on Thursday which could decide the fate of Greece in the eurozone, investors are gearing up for further heightened volatility in European government bond markets.

Also, the Greek central bank has warned the country will be put on a "painful course" if the government and its international creditors fail to reach an agreement on an aid-for-reforms deal. David Pollard looks at the latest developments


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