IMF Throws a Spanner in Proposed Greece Deal, Says Debt Reduction May Not Be Enough

The IMF today took a stronger version of the line it has been taking recently on Greece, that the it may not be able to carry the debt about to be imposed on it. Given that the ECB’s strangulation of the banks has taken the weakened economy to a lower level, and it’s not clear when the ELA will be restored, it’s likely that the the IMF can’t even make an assessment until conditions have stabilized.

One also has to note that the IMF has dropped this shoe before the Greek government has passed any of the legislation required in the pending deal.

The fact that an organization that believes in austerity, at least on the program side, has never been able to make the math on Greece work even with its dubious assumptions is pretty damning. The question then is why is the IMF piping up now?

The issue that the IMF flags, and this is a killer from the Eurozone perspective, is that the way that the Eurozone members want to give Greece debt relief is via interest rate reductions and extension of maturities. They will not reduce the face value of the debt; that was stated explicitly in the letter to Greece. The reason for not lowering the face amount of the debt, as opposed to using other means to lower the economic value of the loans, is that given how the loans to Greece have been structured (the governments did not fund them in cash but gave guarantees to lending facilities) a writedown would result in the need to pay investors for the loss immediately. That means big bills to taxpayers under Eurozone rules, which put strict limits on government deficits. By contrast, the payments on the loans to Greece now are so attenuated that even in the event of a total default, the losses would be recognized gradually over decades, starting in 2020, and would be much less painful.

From the Wall Street Journal:

The International Monetary Fund in a paper made public Tuesday questioned the ability of Greece to deliver on promised bailout overhauls and warned in its starkest language yet that the eurozone must commit to debt restructuring to ensure the program will work.

“The dramatic deterioration in debt sustainability points to the need for debt relief on a scale that would need to go well beyond what has been under consideration to date-and what has been proposed by” eurozone authorities, the IMF said in its latest assessment of Greece’s economy…

IMF says that even extending debt maturities out deep into the second half of the century may not be enough to put Greece’s debt back on a sustainable path after the ravages of capital controls.

In a three-page paper circulated to eurozone officials over the weekend and published more broadly Tuesday, the IMF said one option is “a very dramatic extension” of Greece’s debt. Cutting rates and delaying the grace periods of the entire stock of European debt, including new assistance by 30 years, could kick Greece’s debt burdens well into the second half of the century, when a new generation of Greeks would bear the costs of the current era.

Borrowing at anything but the cheapest rates in the near term “will bring about an unsustainable debt dynamic for the next several decades,” the IMF warned.

While this is entirely logical, it’s also throwing a spanner in the deal. One notion could be that the IMF really does want out. We’ve seen told that the IMF would love to have nothing further to do with Greece. The idea of becoming Greece’s gaoler in chief, with all the negative PR that would be associated with that, can’t be an attractive prospect. As Clive Crook said in Bloomberg:

To guard against any such disobedience, the bailout funds (most of which, by the way, will flow straight back out to creditors) will be released in stages, with strings attached each time. In other words, successive episodes of backsliding and financial crisis are more or less a deliberate feature of the design.

At a mimimum, the IMF is saying loudly and clearly that it warned that this program won’t work from an economic standpoint, which is something that pretty much anyone who is detached would agree with.

The IMF is expected to participate in the funding of this program, as well as supervise it. The developing nations that constitute half of the IMF board votes have been unhappy with the IMF’s role in Greece. They feel the organization has devoted far too much in time and resources to Europe and to Greece in particular, and that Greece has gotten breaks that developing economies would not have been granted. But since it seems impossible for the IMF not to participate, at least as an overseer, from the Eurozone perspective (the Eurostates regard that as essential, they lack the capacity to do the sort of intrusive inspections that the IMF conducts), it’s just hard to see how the IMF stays in if it isn’t a lender in the next round. It seems impossible that its own policies, as well as the developing country board members, would allow the IMF continuing to devote outsized resources to Greece absent a formal role, ie, being a lender.

But if the deal falls apart, the result is continued strangulation of the Greek banks and a possible Grexit. The US, which has been involved in pressing Europe to come to an agreement over Greece, can’t want that outcome. A garrisoned Greece remains in the US/Nato orbit; a destitute and desperate Greece is a free agent that will do what it needs to survive. The IMF’s intent would seem to be to force a fundamental rethink of how to restructure Greece’s debts when the IMF and the Eurocrats get to that point. But warning European voters that they may face big tax bills soon could upend this fragile deal. And as terrible as it is, a Grexit would be even more devastating. It’s the fact that the parties to the negotiations have an appreciation of what a catastrophe a Grexit would be for Greece that has enabled the creditors to press for such an unfair and abusive pact in the first place.

Update 8:10 PM: Here is the memo itself. As Scott points out by e-mail, “And even with the negative outlook, it still looks optimistic.”

IMF on Greece July 2015

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