Angel Gurria, the secretary general of the Organisation for Economic Co-Operation and Development, could not have been clearer last week. The Greek crisis threatened the stability of the world’s financial system. Contagion — the spreading of Greek’s problems to neighbouring countries — had already happened. “This is like (the) Ebola (virus). When you realise you have it you have to cut your leg off in order to survive,” he said.
Gurria could not have been more right, or more wrong. Greece’s crippling debt burden, and its inability to repay what it owes, threatens a financial catastrophe that could far exceed the collapse of Lehman Brothers in 2008.
If it defaults on those debts or tries to “restructure” them — a default by another name — then the market traders who have made their killing will use their profits to mount an assault on another sovereign victim. Portugal is the next in line, but the actual target for sustained attack could equally be Spain, Ireland, Italy or even the United Kingdom after this week’s election.
The contagion that Gurria fears is very real and is not confined to countries within the eurozone. But when he talks of amputation, Gurria starts to veer off track. There is no known cure for Ebola — the best a victim can hope for is medicine to stop the bleeding and reduce the fever. Amputation would lead to almost certain death, not cure, and the blood splatter would infect all that it touched.
Greece, no matter how hard it falls, cannot be cut away from the rest of the European Union or the euro. Its problems are our problems, its fate inextricably linked to our own. The solution, if one can be found by Europe’s leaders, has to be far more ambitious, and far more radical. If they concentrate solely on Greece, hoping to persuade the international markets that its problems can be isolated, then their efforts will be wasted.
London’s bond traders — and they are mainly based in the British capital — are not attacking Greece for the hell of it, or because there’s easy profit to be made. Their disdain for Greek debt is based in the fundamentals of the Greek economy, just as their growing nervousness about Spain, Portugal, Italy and Ireland stems from the economic fundamentals.
High debt, high budget deficits that have to be funded by more debt, high unemployment (Spain is close to 20 per cent, Ireland over 13 per cent and still rising) and an over-priced currency all contribute to that nervousness, and all cause the risks associated with those countries’ debts to rise.
Greece’s debts are high, particularly when expressed as a percentage of its gross domestic product, but for the moment its budget deficit is actually lower than Ireland’s, while Ireland’s debt at less than 70 per cent looks almost comfortable when stacked in a league table of eurozone countries. But Ireland’s debt is mounting fast and its economy has shrunk: this time next year Ireland’s budget deficit may have shrunk a point or two, but its debts as a percentage of GDP will have soared.
Greece’s problems come not just from its recalcitrant trade unions or its rioting people, but from the sheer size of its debts. Simply put, no matter how austere its spending cuts or how swingeing its tax increases, Greece cannot hope to repay them.
Even assuming sharp reductions in its annual borrowing needs over the next four years — an assumption that stretches credulity because it requires the resolute implementation of an austerity package that its people will not accept — Greece needs to borrow at least €150bn to keep its head above water and avoid default, including more than €100bn of maturing debt that has to be either repaid or re-borrowed. That is about double Ireland’s requirement over the same period (excluding the demands of the National Asset Management Agency) and it is difficult to see how it can be achieved.
The bailout that is currently being orchestrated by the International Monetary Fund and the European Union may buy Greece time, but it cannot buy a solution. If there is no default this month, or this year, it will still come because it has to. Greece cannot devalue its way out of trouble because it is part of the euro, and cannot contemplate abandoning the euro because all its debts will still be denominated in the currency that it leaves.
If Greece was forced out of the euro then the market traders would know that they could blow any of the weaker countries out of the system. Selling the euro and the debt of its weakest members would be a one-way bet. So if default is inevitable, why delay? And if the markets, and Gurria, already believe that the contagion has spread to Spain, Portugal, Ireland and Italy, why not devise a solution that embraces all five countries rather than treat each one as a separate problem that has to be resolved in a separate way?
Together, the five countries known disparagingly as the Piigs have to refinance almost €2 trillion of debt by 2013 (Italy accounts for just over half of that total). It is a staggering total that dwarfs the combined capacity of the IMF and the eurozone’s strongest members.
A default — or a restructuring, as it would be called — would not eliminate the need for austerity measures in Ireland or in any of the other debt-burdened economies, but it would most likely trigger a sharp devaluation in the euro. Ireland, like Greece, would still need to pursue aggressive cuts in government spending, because current spending exceeds total tax revenues by at least €20bn.
Closing that gap to a sustainable level is essential if Ireland is ever to edge free of the markets’ grip. There can be no revisionism on public-sector pay and Finance Minister Brian Lenihan will have to introduce a series of tough, unpleasant budgets if we are to stay on course. If we do not, the mandarins at the IMF will demand even tougher action.
The Greeks have been told to cut the bonus salaries that their public servants enjoy — an extra month’s pay at Christmas and Easter — and to freeze basic pay for at least three years. Along with a cut in allowances, those pay reductions match or exceed the cuts in the Irish public service.
Instead of retiring as young as 53, Greeks will now work until they are at least 67. Privatisation of state-owned industries — still resisted in Ireland even though it would raise billions and ease the debt burden — will be fast-tracked by the Greek government under IMF direction. Hundreds of state agencies will be shut down and general government spending will be slashed.
None of those measures, however, will lift Greece out of the mire unless they are accompanied by a debt restructuring and a euro devaluation that actually reduce the size of the debt burden. They might contain the debt burden, but they will not reduce it.
Ireland’s problems are not as terminal as Greece’s, but without a sharp drop in the value of the euro the fight back from depression to recovery will be grindingly slow and painful. The Irish economy’s hopes for recovery are pinned first on exports and then on a steady recovery in consumer confidence and domestic demand. It needs a devaluation more than most. Without it, Ireland’s immediate future is one of anaemic growth that creates few, if any, jobs while individuals, businesses and the public sector operate in the shadow of their debts.
Yet the option of restructuring (by, say, doubling the length of time over which they must be repaid) and triggering a devaluation is anathema to the Germans, who effectively call the shots on European economic policy.
As the crisis in Greece has escalated, Angela Merkel, the German chancellor, has dithered: frightened away from a Greek bailout by her own electorate and frozen, too, by the prospect of a crashing euro. The result is wearily familiar to the Irish: instead of the crisis prompting strong political leadership, it induces paralysis. And the longer the European Union’s leaders take to deal with the problems of Greece, Spain, Portugal, Italy and Ireland, the more dangerous the situation becomes.
Merkel needs to recall Margaret Thatcher’s pithiness when facing a sterling wobble: the exchange rate is just a price, not a virility symbol. Europe’s leaders need to focus on the appropriate price for the euro, and not its status as an expression of the European project, and they need to accept that averting another financial market meltdown requires far more than a bailout for Greece. If they cannot do that, they are fooling themselves and condemning us all to a drawn out war between the markets and the governments who rely on them to provide the cash that allows them to pay their bills.
The contagion will not stop with sovereign debt. Already Greek banks are being downgraded because they hold so much Greek government debt and the same fate awaits banks in the other target countries. For Ireland, which is still limping towards a bank resolution 18 months after the Government issued its blanket guarantee, a second banking crisis would tip us into the abyss.
Europe’s response to the Greek crisis will be revealed this week.
If that response echoes Gurria’s belief that the problems can be amputated rather than treated to stop the haemorrhaging, if Europe’s leaders cling to the delusion that a bailout of one country will cause the markets to overlook the evidence of economic fundamentals that are underscored by a debt burden that is simply too big to handle, then the war will continue, and it will get worse.