By Tom Ellis
Greece should take up the issue of separating the 50 billion euros that went toward recapitalizing the country’s banks from the country’s public debt with its European partners and the International Monetary Fund, says Mohamed El-Erian, chief executive officer of PIMCO — one of the world’s largest bond investors — although he admits it will be a hard sell. He also notes that the markets are still anticipating a Greek euro exit.
What does the recent decision of the EU summit regarding the banking system mean for the eurozone and Greece?
European leaders took three important steps at their summit last week toward the policy breakthrough that has been eluding them since the onset of the regional debt crisis almost three years ago.
First, they clearly defined the structural initiative that, together with monetary union, can place the eurozone on a solid footing: fiscal union, banking union and greater political integration. Second, they enhanced the flexibility of the regional firewalls, including expanding the scope of the European Stability Mechanism (ESM) to break the disruptive feedback loop between weak banks and deteriorating sovereign creditworthiness. And third, they agreed to a regional growth initiative that, at the margin, can help countries strike a better policy mix.
This is all good news. But it is not yet the decisive regional policy breakthrough that is urgently required. The implementation timetable is too stretched, national political differences are already surfacing, and the funding of the emergency funding mechanisms is too limited while the procedures are too cumbersome.
Was this the critical turning point for the eurozone?
Because of these limitations, more progress is required before one can declare with a sufficient degree of confidence that Europe has reached a turning point. The limitations also suggest that the immediate impact on the outlook for Greece will be limited. Indeed, here the issue is much more immediate and it boils down to the upcoming negotiations between the new government and the troika. And they will be far from easy.
Which points do you find the most difficult?
As the assumptions underpinning the prior agreement have been overtaken by unfavorable economic and financial developments, a program redesign is necessary and, indeed, overdue. Among the many uncertainties, it is not clear as yet who would put up the money to compensate both for the slippage in initial program assumptions and for the new government’s electoral commitment to stretch out the pace of domestic economic adjustment.
Could this decision also be applied to Greece with respect to the 50 billion euros that went toward the recapitalization of the country’s banks?
That is an issue that the Greek government should take up with its European partners and the IMF. I suspect that it may prove hard to change, but it is definitely worth putting on the table.
Should the ESM be able to buy the bonds of indebted countries such as Greece?
It is crucial for Europe to quickly break three unfavorable feedback loops: that between weak banks and deteriorating sovereign creditworthiness, that between bad politics and bad economics, and finally, that of economic contagion.
After the private sector involvement deal, should there be a haircut on the debt held by the official sector (ECB, eurozone countries)?
The reality is that, already, the official sector is lending money to Greece in order for the country to meet the debt service obligations on both multilateral and bilateral government debt. It is up to the official creditors to decide whether they wish to continue with this approach or opt for a more explicit OSI, or official sector involvement. Given their concerns about precedents, I suspect that they would prefer to continue as is for quite a while rather than agree to a haircut.
After all is said and done, do you think the Greek debt is sustainable?
I think that Greece will require additional debt relief. It is not just an issue of debt-servicing obligations. It is also about removing the debt overhang that discourages the level and type of long-term private capital inflows that are essential for growth, job creation and investment.
Do the markets see Greece remaining in the euro?
Markets remain very concerned about a Greek exit. While recognizing that an exit would involve significant upfront costs and disruptions, many see it as part of Greece being able to offer its citizens a light at the end of a very long austerity tunnel.