Greece is being squeezed, Europe is being squeezed, and the markets are not in a mood to be generous. In Brussels, Finance Ministers and Central Bankers argue over burden sharing and the finer points of the definition of default – all in recognition of what the markets and most lay observers of Greece have known for a long time: Its debt is impossibly large for its economy to service.
The additional aid from Europe has so far only added to its burden and offered little hope that Greece will be able to return to the markets anytime soon for additional financing. And while the Greeks – with their Mediterranean temperament – have so far been surprisingly stoic in accepting their new fate, knowledgeable observers know there is a volcanic social and political eruption building just below the surface, as recent demonstrations have shown.
The current debate raging in Brussels – which focuses on whether private bondholders should bear some of the next round of support to Greece – is so vociferous because both sides are right.
Those against forcing private bondholders to rollover debt through some form of “voluntary coercion” are dead on when they argue that it requires mental contortions worthy of a Houdini to convince everyone that this is not just a structured default. And they are right to be worried of a default -- for the consequences of Greece to accessing bond markets in the future, for the Eurozone more broadly, and for the “Lehman Brothers” effect on other weak members of the Eurozone.
At the same time, those arguing that the private sector needs to contribute to returning Greece to financial viability are now recognizing the truth that there is not enough political support among the voters of the contributing countries to continue on a path that not only does not have a clear end in sight, but continues to bail out Greece and allows the bankers and private institutional investors to walk away whole when their bonds expire.
The current impasse requires something more than just the choice between equitable burden sharing or avoiding a technical default. We need to be honest in recognizing the basic math – that Greece cannot ever hope to repay its current debt burden through austerity and eventual future growth – but at the same time a sovereign default in the Eurozone should be avoided. The answer comes from the markets themselves. When a company requires a financial workout it usually turns to a combination of additional equity and new debt. This happens frequently before companies declare bankruptcy and is done on an entirely voluntary basis.
How could this work in Greece’s case? For starters, rather than just disbursing additional loans to an already overburdened Greece, the EU could invest in shares of Greek public companies slated for privatization. Privatization in Greece has had a slow start as it is both politically very sensitive and very complex to get right, as the experience of Eastern Europe and Russia have shown. But everyone acknowledges that it needs to be done, both out of financial necessity and for the long-term health of these companies.
An EU investment at the initial stage would provide immediate revenues to the Greek Treasury, additional time to work out future private sector auctions, time for the economic picture to improve to avoid a “fire sale,” and room to work through the political and social challenges in a democracy of managing significant and multiple privatizations. The EU would be a constructive and invested player in assisting in the future privatization of the Greek assets with its interests aligned with Greece in designing and timing the privatization to maximize returns and not just generate quick liquidity for a desperate Greek Treasury.
While other many Northern Europeans are likely to continue to balk at further transfers to Greece, investing in real assets should be politically more manageable. And Greek authorities will have a better shot at managing the political fallout in Greece, if the process is seen as staged, professional, and well prepared in conjunction with the EU as partner.
By itself an equity investment by Europe will undoubtedly be insufficient to meet the financing gap of Greece. While avoiding adding further debt to Greece’s burden, it would do little to address the fact that the current size of debt is unserviceable. To this end, additional EU and IMF lending to Greece should allow it to use some of the funds to “buy back” its debt at market prices. With bonds priced at a significant discount, Greece could achieve significant reductions in its debt through repurchases on the secondary market. While it would have to be done in a measured and timed way to avoid dramatically raising the cost of the repurchases and losing the desired result, careful management could accomplish this. By attacking the root cause of the problem – a growing debt burden – “buy backs” could contribute to an advancing the day when Greece can return to the markets for its financing needs.
It is understood that “EU equity investments” and “buy backs” are not a panacea to solving the financing gap and ending the debate in Brussels, and in the end a “soft restructuring” or structured default may be needed. But for now, there is a desperate need to introduce some new thinking that goes to the heart of the problem and provides light at the end of the tunnel. Solutions need to be seen and understood by the average voter in both Greece and the rest of Europe as contributing to the fundamental need to reduce the size of the debt. Without this, the patience of Greeks and European counterparts will run out and push a solution out of reach. In Greece you will see social unrest cause a political change that will all but guarantee a default and in the rest of Europe voters will make it impossible for politicians to continue to contribute to a work out that Greece can accept.
Europe seems to be stuck in impasse – and as often happens in political negotiations – the parties start confining themselves to the box they placed themselves in, narrowing the options for an outcome, and begin focusing on potential hybrids of a compromise or face saving language or incomprehensible technical fixes (e.g. “voluntary participation of bondholders with an element of incentivized coercion”) However, in this case, there is another participant that will influence the result and that does not have a seat at the table – the financial markets. To avoid potentially disastrous consequences for Greece, the Eurozone, and European economy as a whole, European leaders and their counterparts in the IMF and ECB need to introduce some dramatic new efforts to cause the markets and voters to see that there is a way out of this seemingly “damned if we do, damned if we don’t” conundrum. Equity investments and buy backs may in the end not be the answer, but it is unorthodox and creative new steps that offer the only hope with the current approach only prolonging inevitable failure.