IIF: Greek program revision needed to facilitate recovery

Economic activity in Greece continues to fall at an alarming pace, explains IIF in a report published September 4th. This is making deficit reduction targets difficult to meet, once again, and increasing losses among banks.

After a difficult six months, during which privately-held government debt was written down and two rounds of elections had to be held, the time has come to give greater priority to restarting growth. Doubts will otherwise persist that Greece will be able to avoid default and retain the euro. A sizable boost in public investment and quick action on bank recapitalization would do much to reinvigorate activity. More investment could be accommodated by an extension of the fiscal adjustment timetable, a speedier release of EU funds and the use of privatization proceeds. Lowering interest rates on EU credits and on bonds held by Euro

Area central banks would yield interest savings well in excess of the €11.5 billion cost of extending the adjustment timetable by two years, as the government has proposed.

Restarting output growth will be essential if Greece is ever going to stabilize its public finances. The longer recovery is delayed, the harder it will be for any government to muster and sustain the political will needed to press ahead with the remaining fiscal adjustment.

Delayed recovery will also make it more difficult to overcome the vested interests, administrative weaknesses and bureaucratic inertia that have contributed to slow progress enacting essential structural reforms. Ongoing economic contraction will also make it difficult to avoid further debt writedowns, this time of official credits, or eventual default and euro exit.

Mindful of these considerations and the need to begin bringing down record high unemployment, now at 23%, the economic policy agenda of the new government elected in June calls at its core for the EU-IMF program to be renegotiated to postpone by two years achievement of the 4.5% of GDP primary surplus targeted now for 2014. Other things equal, this would entail additional financing needs — due to smaller primary surpluses and larger overall deficits — equivalent to €11.5 billion over 2013-2015. Financing needs could be reduced by more than this, however, were interest payments lowered via a shift to floating-rate EFSF credits from fixed-rate credits and if interest charges were reduced on other EU credit and bonds held by Euro Area central banks. The resulting interest savings might then amount to €2.0 billion in 2012 and €5-€6 billion a year in 2013-2015.

Other things equal, a one year extension of the fiscal adjustment would increase the overall deficit by €2.0 billion in 2013, compared with the current program, and €3.8 billion in 2014. (Deficits thereafter would return roughly to levels projected under the EU-IMF program.) A two-year extension would increase the deficit by €2.9 billion in 2013, €5.7 billion in 2014 and €2.9 billion in 2015. (Deficits after 2015 would also return roughly to those foreseen under the program.)

Source