Greek debt under new management but where will growth come from?

Last week, we had a get-together for charity trustees in City Hall, and one of the topics that came up in discussion was Greece.

There seems to a popular prejudice that Greece’s public finances are much better than they were because Greece reported an overall surplus in January and the Greek public finances delivered a surplus in the first quarter when interest payments are excluded from public expenditure. In other words, Greece had a ‘primary fiscal surplus’ for the quarter.

So far so good, but clearly this surplus wasn’t achieved voluntarily, and there has been the intense downward pressure on Greek public expenditure from the so-called ‘troika’ of the European Commission, the European Central Bank and the International Monetary Fund, who together have been acting for international creditors.

The troika’s strategy is now becoming clear, and put crudely and perhaps simplistically it involves taking the debt almost entirely into official hands, assuming control over the Greek budgetary process, ensuring that a primary fiscal surplus is maintained, and meanwhile offering no new money (although accepting a substantial measure of debt forgiveness because the interest rate being charged on the debt can be very low). There is the implicit hope that growth and dynamism will return to the Greek economy, and this will then start to lower the ratio of debt to GDP, and over time the economy and government finances will be saved.

Whilst parts of the agenda require Herculean leaps of faith, at least the officialisation of the debt (which is almost as ugly a word as the underlying reality that it represents), means that Greece will likely not capture the headlines and upset markets for a while yet.

The trouble with the strategy for many however is that there is nothing here to revitalize the Greek economy, and the challenge as to where growth will come from is now part of the major philosophical and practical debate on austerity across the broad swathe of de-leveraging developed markets. For now Greece is expected to become solvent by spending less and not by producing more – and one problem is that this form of adjustment is that it offers no hope to the Greek people while it is under way, and many of those people will leave Greece. That will reduce Greece’s ability to produce output and exports, and hence its ultimate ability to service the debt. It a salutary fact that Greece’s gross domestic product has fallen in every year since 2007 – and in 2013 it will be down by a quarter from 2006.

The papering over of the cracks has involved European Union institutions crediting about €50bn to the accounts of the Greek state in recent months, giving it a breathing space and apparently discouraging a run on Greek banks. For sure, Greece’s Euroland partners have undoubtedly suffered an immense loss, because – in effect – they have forgiven much of the Greek debt. So it’s very interesting that with Cyprus, the creditor Euroland nations decided that a similar kind of loss should be passed on to domestic deposit holders. What this means is that there must now be a significant risk that some years hence, when Greece’s GDP is at 70% or less of its 2006 level, and the troika see that a large gap has opened up between what Greece can pay and what it is expected to pay, holders of deposit in banks in Greece end up suffering the same fate as those in Cyprus.

So whilst it is broadly anticipated that the troika crafted ‘a solution’ on Greece, in that normal payments mechanisms still function, Euroland is far from exhibiting the economic and political integration and cohesion that had been hoped for by its proponents and architects – and yet markets seem oblivious of the risks.

James Bevan is chief investment officer of CCLA, specialist fund manager for charities and the public sector. CCLA launched The Public Sector Deposit Fund in 2011 to meet the needs of local authorities and other public sector organisations. You can follow James on twitter @jamesbevan_ccl