A Brief History of the Greece Crisis

Prof. Manasi Phadke

“A Lannister always pays his debts”

Wish Greece was a Lannister....

1945 - 1959A peaceful Europe – the beginnings of cooperation

• The European Union set up

• As of 1950, the European Coal and Steel Community begins to unite European countries economically and politically in order to secure lasting peace.

• The six founders are Belgium, France, Germany, Italy, Luxembourg and the Netherlands. Also in 1957, the Treaty of Rome creates the European Economic Community (EEC), or ‘Common Market’.

1960-69The ‘Swinging Sixties’ – a period of economic growth

• Emergence of 'youth culture’• The Beatles: Cultural Revolution• EU countries stop charging custom duties when they trade

with each other.

1970-79A growing Community – the first Enlargement

• Denmark, Ireland and the United Kingdom join the EU• The Arab-Israeli war of October 1973 results in an energy

crisis and economic problems in Europe• The Salazar regime in Portugal in 1974 overthrown• Death of General Franco of Spain in 1975• War creates the need for regional cooperation and end of

fascist regimes creates a platform for cooperation

1980-89: The changing face of Europe - the fall of the Berlin Wall

• In 1981, Greece becomes the 10th member of the EU • Spain and Portugal follow five years later. • In 1986 the Single European Act is signed, creating a common

market• There is major political upheaval when, on 9 November 1989,

the Berlin Wall is pulled down and German reunification happens in October 1990

1990 - 1999A Europe without frontiers and the decade of two treaties

• In 1993 the Single Market is completed with the 'four freedoms' of: movement of goods, services, people and money.

• ‘Maastricht’ Treaty on European Union in 1993 and the Treaty of Amsterdam in 1999.

• Also clauses of the Stability and Growth Pact • In 1995 the EU gains three more new members, Austria,

Finland and Sweden. • Movement with common passports introduced• Europe now ready for common currency• Euro launched with great fanfare on 1st January, 1999

Maastricht and Convergence Criteria

• Inflation: Shall not exceed the unweighted arithmetic average of inflation rates in the 3 EU member states with the lowest inflation plus 1.5%

• Govt deficits: Must not exceed 3% • Government debt-to-GDP ratio: Must not exceed 60%. Or if it does, the

ratio shall at least be found to have "sufficiently diminished and must be approaching the reference value at a satisfactory pace

• Exchange rates: To be stable without "severe tensions“....Reference of the ERM

• Long-term interest rates (average yields for 10yr government bonds in the past year): Shall be no more than 2.0% higher than the unweighted arithmetic average of the similar 10-year government bond yields in the 3 EU member states with the lowest HICP

Maastricht follies

• The 60% public debt ratio is very high by EU standards and was kept there to accommodate Belgium, which always was core

• Hence, movement towards 60% was introduced• Became now potentially very difficult to say no to the others• Once in, the Stability Pact did not say much on imposing

penalty for deviations from the agreed criteria• It was well known that debt taken by the PIIGS economies was

being converted into derivatives; lax financial regulation meant that pertinent questions were not asked at the right time

GREECE

Greece joins the Euro in 2001: Why?

For countries with histories of high inflation, such as Greece, it lowers inflation

expectations (since Central Bank is not directly around to finance the Government)

and, therefore, interest rates.

It eliminates exchange-rate fluctuations, boosts investor

confidence and makes interest rates steady

With low inflation, economic horizons lengthen, encouraging borrowing and lending at longer

maturities.

Lower interest rates allows more consumption and investment,

creating more economic growth

How the interest rates reduced

Effects of low interest rates...Created a HUGE platform for growth: Greek growth rates of 3.9% from 2002-2008 were some of the highest in the

Euro Zone, bettered only by Ireland: Household consumption, housing and business investments were

chief drivers

Inflation “only” at 3.4%; very low by Greek standards

But undercurrents of problems already visible: Fiscal deficits huge (owing to bad

tax payments, Athens, salary hikes)

CAD was worsening (Growth increased the imports and salary and price hikes

worsened their competitiveness)

Normally, the exchange rate would depreciate; but now you get a strong exchange rate in the face of weakening fundamentals: No path to

adjustment. SCARY!

Towards the tipping point...•Even with the sub-prime unfolding in the US in 2007, the interest rate differentials held on right upto the fall of Lehmann in 2008

•However, fundamentals deteriorated rapidly as tourism, shipping and agriculture revenues fell

•The fiscal deficit rose

•Cross currency swaps, that were earlier used to mask the true level of debt, became dysfunctional

It’s over...•In October the newly elected Greek government announced that the 2009 fiscal deficit would be 12.7 per cent of GDP, more than double the previous government’s projection of 6.0 per cent.

•Further, in November2009 Dubai World, the conglomerate owned by the government of the Gulf emirate, asked creditors for a six-month debt moratorium.

•That news rattled financial markets around the world and led to a sharp increase in risk aversion in light of the rapid worsening of the fiscal situation in Greece

•Rating agencies turned their attention to the sustainability of Greece’s fiscal and external imbalances. The previously-held notion that membership of the euro area would provide an impenetrable barrier against risk was shaken.

•It became clear that, while such membership provides protection against exchange-rate risk, it cannot provide protection against credit risk.

How did the core group react?

•They failed to send Greece to the IMF, which was perhaps their biggest mistake•The stance taken by the Germans was that this needs to be resolved internally

•So a bailout was arranged with fiscal tightening norms put onto Greece as conditions•This is anyway what the IMF does

•Had the IMF come in earlier, it would have saved the necessity of Germans and others paying higher taxes to support Greece; funds which would have come handy at a later stage

The Troika

The EC, ECB and the IMF gave Greece a bailout of Euro 110 billion with

conditions of austerity imposed on them

A year later, a new package with additional Euro 130 billion

introduced

To be effective till December 2014

Additional Euro 8.2 billion given by IMF to tide over the problem

till March 2016

The Greek response2013 and 2014 have been high

austerity years and Greece actually achieved a fiscal surplus

Created confidence in the market and was actually able to get more debt for its bonds

from private investors in this period!

But in December 2014, snap elections were held and the Syriza led Government came to power refusing to accept the terms and conditions of

the package signed by their predecessors

Troika suspended all further payments till such a time that

some clarifications came in

Pushed Greece into a liquidity issue; stocks plummeted and yield

spread rose, as expected

June and July 2015

25th June is when the

agreement was

supposed to expire

It was important that the Greeks sign some kind

of an agreement

before this date, making it possible to extend it

This was not done and the

stalemate continued

upto the last date

The referendum was held on

whether people were comfortable with the bailout conditions, long

after there ceased to be a

bailout program

Greece has largely voted a

NO for the continuation

of the austerity

conditions of the bailout

Banking issues..• Ever since December 2010, depositors have

been shifting Euros from Greek banks to banks elsewhere in the Eurozone, notably Germany

• The loss in deposits has been huge and banks are genuinely facing liquidity issues

• It was largely expected that the bailout package would help to keep banks liquid but the bailout has been suspended

• As banks came close to closing on Monday, Tsipras had to “sign the document he did not believe in”

Immediate funding requirements

IMF Short term bills ECB

June 1.6 bln (overdue)

5.2 bln None

July 452 mln 3 bln 3.5 bln

August None 2.4 bln 3.2 bln

Total 2 bln 10.4 bln 6.7 bln

How the funds could come in..

Who will give How much For what

European Stability Mechanism (ESM: This is the EU bailout fund) and IMF

86 bln Bailout over 3 years against tax reforms, increases in retirement age and tight monitoring of Govt expenses

Greece Govt (through privatization of assets like aircrafts and banks)

50 bln Recapitalization of banks and for investments

ESM 12 bln extra Bridging loan to make payments back to ECB

EU 35 bln extra (we will try) For growth

TOTAL 183 bln

References• http://europa.eu/about-eu/eu-history/index_en.htm• http://www.bankofgreece.gr/BogEkdoseis/Paper2011124.pdf• https://en.wikipedia.org/wiki/Greek_government-debt_crisis• http://www.businessinsider.in/Piketty-calls-Germanys-moral-stance-on-Gr

eek-debt-a-huge-joke/articleshow/47964537.cms• http://www.thenation.com/article/austerity-has-failed-an-open-letter-fro

m-thomas-piketty-to-angela-merkel/

• manasiecon.wordpress.com

More blogs coming up on the Future of Greece

at manasiecon.wordpress.com

“Winter is coming....”