Economic realities push Europe closer to a Greek decision

Raoul Ruparel is head of economic research at Open Europe.

ONE down, one to go. The Greek government has got through one crucial vote this week, and looks likely to ride out its budget vote on Sunday. Although markets and Eurozone leaders will breathe a sigh of relief, as Greece makes it through another crucial week in its economic crisis, the government has not been left unscathed.

Pushing through this latest, and supposedly last, package of stringent economic reforms and budget cuts has exposed deep cracks within the governing coalition. The Democratic Left and Pasok parties put up a fight to slow the process of public sector cuts, led by Prime Minister Antonis Samaras’ New Democracy party. It took two days to push the package through parliament, while a reported 100,000 Greeks took to the streets in Athens to protest against austerity.

However, a bigger problem for the government is the flurry of economic figures. They have again exposed deeper flaws in the Greek economy, propelling talk of a Greek exit from the Eurozone back into the headlines. The new budget projects Greek debt peaking at 192 per cent of GDP, rather than the 167 per cent estimated previously. But even this revision seems to be built on optimistic assumptions. These projections anticipate unemployment, investment and exports to stabilise, despite most indicators predicting the opposite. In fact, it is abundantly clear that Greece will need an extension to its current bailout.

The questions to ask therefore are: how much would such an extension cost and how could it be funded? We estimate that slowing the Greek fiscal consolidation programme by two years could cost an extra €28.5bn (£22.7bn), rising to €39bn if Greece fails to borrow from the markets – which looks increasingly likely. The main options being proposed include: reducing the interest rates which Greece pays on its current bailout loans (which could raise around €3bn over two years), or putting a hold on interest payments for a few years (which could raise more than €10bn, but would be much trickier legally). These options would likely be combined with some further austerity and increased short term debt issuance by Greece – both of which could actually increase Greek debt levels. This is not exactly what is needed. The kicker is that even this is unlikely to be enough.

The question of an extension drives home that a larger decision on Greece’s position in the Eurozone is closing in on EU leaders. Even talk of using bailout loans to buy back Greek debt at a discount and then retiring it – to provide extra funding – would require a big political decision on further loans to Greece. However the funding is found, it will likely involve breaking a taboo – either by the European Central Bank helping to fund states, or more likely by Eurozone countries allowing permanent transfers to a country whose future funding is far from assured.

The Greek government and the Eurozone will make it through this week but this short-term success is likely to belie the massive decisions ahead.

Raoul Ruparel is head of economic research at Open Europe.

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