The headlines this morning are all about the Greek debt deal that European leaders hammered out over the weekend. Good news, I suppose, but as usual, the devil is in the details.
Two-part problem, one-part solution
To recap, two issues define the Greek crisis:
- First, Greece can’t pay its existing debt. There is simply too much of it, and making the cuts necessary to make the payments will actually shrink the economy, worsening the problem.
- Second, Greece can’t afford its existing government spending. That has to be cut.
Greece’s creditors, if you remember, refused to talk about the first point, and Greece was refusing to talk about the second.
The deal, as it has been reported so far, is that Greece will unconditionally give in on the second point. Government spending will be cut, assets will be sold, and its creditors will get at least some of their money back. From a German perspective, this sounds great. The second part of the problem may indeed be resolved, although that depends on Greece actually keeping its promises.
The problem is how this is being done. Loading even more debt onto Greece only exacerbates the first issue. If Greece can’t pay what it currently owes (and it can’t) adding more debt just intensifies the problem. Plus, as I mentioned, the measures being put in place will probably also shrink the Greek economy and make the debt bill still harder to repay.
Basically, the deal potentially solves one part of the problem while making the other part worse.
Debt relief far from guaranteed
To the IMF’s credit, it now recognizes that debt write-offs will be a necessary part of the solution. It’s not politics anymore—it’s math. The debt will not be paid, so you either recognize that formally or you get a default at some point. The IMF, however, is an economic institution. Germany is not; it has to answer to its taxpayers.
Politically, the Germans can't recognize the need for debt forgiveness. The current deal requires approval by the German parliament, which is already inclined to let the Greeks leave the eurozone. Despite hints and nods that some kind of debt relief will be available after Greece takes measures to curb its spending problem, there have been no explicit guarantees.
Just kicking the can down the road?
The deal now on the table will cost much more than expected and contains provisions that are deeply offensive to both sides. It requires approval by the Greek parliament, the German parliament, and others. Approval is likely, but not certain, and the process is sure to generate more political heat over the next week.
Nonetheless, at the end of the day, the deal will most likely go through. That would be good for the markets, as European markets and futures are currently showing. Once more, however, it would just kick the can down the road without fully solving the problem. The current deal is more of the same, ultimately leading us back to where we were last week.
Enjoy the bounce, but watch for the ball to come back down shortly.