What Greek Officials are Missing: The Link between Sovereignty and Solvency

Technical talks between Greece and its official creditors have been bogged down. The purpose of the talks is for the creditors to have a better understanding of the true financial conditions of Greece in light of the disruption caused the election and the subsequent political uncertainty.  Tax collection suffered.  Economic activity slowed.  Deposits have left the banks.

The creditors claim Greek officials have not been forthcoming.   Instead, the Greek government is attempting another end-run.  Prime Minister Tsipras is betting on a political solution coming from the EU Summit that begins today.

Tsipras is trying to put together a mini summit with Draghi, Juncker, Merkel, and Hollande.  Tsipras seeks a political solution to the heightened financial crisis.   Greece's debt servicing cots this month, including the payment due by the end of the week is around 2 bln euro.  This is more than is due in April and May combined. 

While the Greek government has been very slow to enact its pledges to its European partners, it has continued to press ahead with legislation of unclear fiscal impact without consultation.  These include subsidizing electricity, food and housing for those in poverty.  The Greek  government has called this a humanitarian crisis. 

The Troika's plan for Greece has failed.  It was predicated on macro-economic assumptions that proved too optimistic.  Until last summer, Greece had fulfilled its commitments sufficiently for the creditors to extend more assistance.  

The observation the some countries, such as Italy, commit a greater share of GDP to debt servicing than Greece has been repeated ad nauseum.  What is less appreciated is that sine 2009, spending cuts and tax increases in Greece have reached 45% of household disposable income.   In Italy and Ireland, the comparable figure is 15%.   The hit on Portugal's disposable income is less than half that of Greece while the comparable figure for Italy and Ireland is a third of the Greek experience. 

The idea that Greece has been bailed out is a myth, purposely propagated by the creditors.   Repeating a myth does not make it true.  Greece's economy has shrunk by a quarter, unemployment has more than tripled, taxes have increased, and wages have been cut.  Where is the bail out?  

If Greece has not been bailed out, who has?  Trichet's SMP (Securities Market Program) provided an opportunity for many banks to divest themselves of Greek bonds by selling them to the ECB. Those banks, primarily foreign banks, were bailed out.  Greek banks and pension funds, and by extension, Greek tax payers, not German tax payers, bore the bulk of the cost associated with the restructuring of Greek bonds in the private sector (PSI).  

Greece needs to borrow money not to fund the government's operations, but to pay back its creditors. If and when Greece gets another tranche of aid from the Troika, it will simply turn the check over, endorse it, and give it back to the official creditors.   The official creditors are being bailed out, and they bailed out the banks that previously held Greek bonds.  

We can be sympathetic to Greece's plight.  However, Greece is not helping itself.  Instead, it continues to shoot itself in the foot.  The Greek government thought that the other debtors in the periphery would side with it, and Germany would be isolated.  Wrong.  The Greek government thought it could offer some vague programs to replace part of the austerity it did not favor and  that would renew its funding.  Wrong.  

Greek officials cannot get their heads around an important link.  That is the link between solvency and sovereignty.  The less solvent an EMU member is, the more sovereignty they must give up. Greek officials act as it this critical trade off does not exist, but it does.   Moreover, their refusal to accept this fact is a major source of the underlying friction.  In order to restore its sovereignty, Greece must restore its solvency.   

This is easier said than done.  Eurogroup head Dijsselbloem suggestion that Greece can resort to capital controls is not very helpful.  Greece's debt burden must be lightened, and Greece must restructure its economy.  If the Greek government showed the same commitment to restructuring the economy as it has shown implementing some of its campaign promises, it would likely find its creditors more willing reduce the net present value of the debt (by postponing the start of repayment, lengthening maturities and reducing rates and surcharges).  

The Greek government has a weak hand, and it is playing poorly with it.