A couple of weeks ago, I sat on the speakers’ podium during the opening panel of the Euromoney Bond Investors’ Congress in London. Together with leading industry experts, including senior ratings agencies officials, we engaged in a detailed discussion of the contentious aspects of the Greek debt debacle and the fate of the eurozone.
The audience was “top drawer”, the room packed with 500 of the world’s biggest bond market participants, the combined assets under management measured in the trillions of dollars. “Who thinks the upcoming Greek bail-out will be the last, drawing a line under the eurozone’s sovereign debt crisis?” asked the senior Euromoney staffer chairing the panel. “Put your hands up”.
Delivered with a serious demeanor, this was exactly the right question. So deadly was the inquiry, and so germane, that the mood in the room grew uneasy, barely camouflaged by an outbreak of coughing. Scanning this ultra-influential audience, I saw rows of delegates cowed, keeping their eyes locked forwards, but staring down slightly, not daring to look elsewhere.
Not a single hand was raised. Not a single hand among hundreds of the world’s leading bond market practitioners was stirred to support a debt swap now presented as the key to the world economy shaking off the post sub-prime torpor and taking us into the sunlit uplands of sustainable global growth.
On Friday, Greece indeed pressed ahead with the largest sovereign debt restructuring in history. By “securing adequate participation” from the private sector, Athens avoided a big, disorderly default in late March. Holders of €172bn (£143bn) of the €206bn of eligible bonds agreed to take part in the write-down, or 83.5pc. Participation has since risen to 95.7pc after the Greek government triggered retrospective “collective action clauses”, forcing objecting investors to play ball.
This deal was “voluntary”, in the words of one market wag, “in the same way confessions were voluntary during the Spanish Inquisition”. In other words, unless this deal was agreed, bond-holders faced ending-up with nothing at all. Under the current terms, investors swap their bonds for new ones worth 53.5pc less and with easier repayment terms for Greece.
In the aftermath of Friday’s deal, French President Nicolas Sarkozy remarked “how happy I am that a solution to the Greek crisis, which has weighed on the economic and financial situation in Europe and the world for months, has been found. Today the problem is solved”. Christine Lagarde, International Monetary Fund supremo and Sarkozy’s former Finance Minister observed that “economic spring is in the air”.
While this debt swap was obviously important, there is still a very real danger of Greece needing yet another bailout quite soon and eventually leaving the euro – probably of its own volition or, if not, under pressure from Germany, Finland and the other eurozone “nominally solvents”. In May 2010, a €110bn EU/IMF package proved inadequate to contain the spiraling Greek debt problem. This new bail-out, of around €170bn, is also unlikely to be the end of this saga.
For now, Friday’s “deal” paves the way for further payments of official aid to Greece, to be formally agreed on Monday. That will allow Athens to meet its obligations under a bond redemption later this month. But there are still two serious and wide-ranging sets of problems not captured in the Sarkozy-Lagarde analysis.
The first concerns economics. This debt write-down, together with continued adherence to a brutal austerity program, is supposed to slash €100bn from Athens’ €350bn outstanding sovereign debt pile, moving the Greek government away from its current 160pc debt-to-GDP ratio and reaching its EU-mandated ratio of 120pc by 2020.
That’s all very well on paper, yet under the cover of Friday’s announcement, the Greek national statistical authority said that the recession during the last quarter of 2011 was deeper than initially forecast, amounting to a staggering 7.5pc GDP drop. The Greek economy is will likely shrink for a fifth straight year in 2012, stagnate in 2013, modestly expanding only the year after. Even this grim trajectory assumes a relatively steady and robust global economic recovery.
If Greece meets all the economic conditions demanded of it over the coming years then, under the terms of this latest deal, it is guaranteed aid ensuring its debt financing needs until the end of 2014. Yet Greek adherence is a heroic assumption. The country’s business and consumer sentiment are on the floor. Private sector credit is extremely scare, which can only add to the economic malaise. Unemployment is meanwhile soaring, pushing 20pc, with around half of young Greeks out of work.
In a bid to make their numbers add up, the “troika” of the IMF, the European Central Bank and the European Commission has allowed itself to inhabit a parallel universe were Greece is “almost” out of recession. When that is proved to be wrong, as it will be, the Greek debt predicament will turn out to be much worse than anticipated.
These economic realities suggest the political backdrop to this debt-swap is also likely to deteriorate. Please don’t shoot the messenger – I am simply conveying what strikes me as basic common sense. Greek elections are due in April or May. No agreement has been secured from opposition politicians that they won’t attempt to renegotiate the terms of the “austerity program”. That could obviously lead to the funding package being withdrawn. As the screw turns, and the Greek economy remains locked in stagnation, the potential for ever more serious social unrest will obviously escalate. Very real questions could be asked, surely, about the future of Greek democracy.
Then we must consider the political realities across the rest of the eurozone too. Last week’s debt swap, for all the rhetoric about “hammering” the private sector, effectively shifts the bulk of Greece’s remaining sovereign debt into public hands – namely taxpayers in eurozone and IMF members contributing to the bail-out. Try as it might, the “troika” has been unable to generate quite enough economic fog to prevent that fundamental truth becoming widely known among the broader European electorate. That’s why, leading backers of this desperate effort to maintain the euro in its current form could find their support politically impossible to sustain.
Sarkozy, for instance, is in line to win 27pc of the vote in the first round of the French election on 22nd April, according to the latest polls, just 2 percentage points behind Francois Hollande. In a straight second-round battle between these two front-runners, though, Sarkozy is seriously lagging, polling just 45pc, compared to Hollande’s 55pc. Hollande, of course, is far from committed to further support for Greece. That, in fact, is one of his major pitches to the French electorate. So the possibility of a Hollande victory, and an unraveling of this package, simply cannot be ignored.
The on-going support of Germany too, funding the lion’s share of the deal, cannot be taken for granted. Last week saw the outbreak of open diplomatic warfare between Bundesbank President Jens Weidmann and ECB boss Mario Draghi, over the multi-trillion euro expansion of the central bank’s balance sheet – in other words, “eurozone QE”.
Within a few years, if we get that far, Draghi and Weidmann will need to agree how to roll-over the ECB’s so-called long-term refinancing operations. And continued high yields on Portuguese sovereign debt suggest bondholders don’t trust bigger eurozone economies not to follow the Greeks towards default.
Far from being the end of this eurozone debt crisis, or even the beginning of the end, Friday’s debt-swap was probably just the end of the beginning.