In its halcyon days before the great European recession, Greece conjured up the sunbaked Aegean Islands, the acropolis, the wars of Troy and of course the Greek theatre. After all, Greeks loved tragedy and comedy in their great amphitheaters of the Peloponnesia.
It appears that the Greek economy is once again playing out as both tragedy and comedy. The tragedy is what is happening to the Greek citizens suffering from over 25% unemployment (50% for young people), reduced wages and a dysfunctional economy. The comedy is being played out by the Greek government, the Greek electorate and the European Union. Perhaps a farce is a better description with highly exaggerated, extravagant and improbable situations leading to incomprehensible plots, plot twists and random events. Although we have been following the Greek saga from its beginning in 2008, there have been so many twists and turns that we found it necessary to go back and create a timeline of the major events:
2009 – Socialist government announces that nation’s deficit would soar to almost 112.5% of GDP
- Fitch, S&P and Moody’s all downgrade debt although still investment grade
2010 – Government introduces first austerity programs to include freezing salaries of government workers, freezing pensions and increasing sales taxes on fuel, cigarettes, alcohol and luxury items
- More credit downgrades, which finally result in junk status
- Greek government discloses that there had been three prior recessions in 2007, 2008 and 2009
- Greek government requests international bailout and receives emergency financing from the European Union, the European Central Bank and the International Monetary Fund, soon to be known as the Troika
- $143 billion aid package announced for three years
- Greek government passes pension reform and cap on monthly wages with 10% pay cut for monthly wages above 1,800 Euros
2011 – Continuous downgrades in bond ratings to the lowest levels
- Citizens organize with the Greek Indignant Citizens’ Movement
- New austerity measures including new taxes and new wage cuts
- Violent protests outside Parliament
- New property taxes
- Another austerity bill
- Investors agree to 50% “haircut” in converting old bonds to new issue
- New Greek government
- Second bailout for $175 million
2012 – New austerity package
- Burning of buildings in central Athens
- New elections lead to a four party coalition
- New round of austerity cuts
2013 – Announced cut of 15,000 state jobs by end of 2014
- Closed Public Broadcasting Service
- New austerity measures leading to thousands of layoffs and wage cuts for civil workers
- New property tax
2014 – With a government surplus Greece returns to financial markets with an issue of 3 billion Euros
- Fitch upgrades bonds to B
- Greek government announces snap presidential vote
- Greek stock market falls 12.8%
- Government collapses
2015 – Coalition of the Radical Left wins election
- Euro group agreement for 4 months loan extension
The timeline reads like a bad joke: Greek government gets into fiscal hole – leading to bond agencies downgrading debt – requiring a European bailout – which demands austerity measures – leading to a greater fiscal hole, etc, etc, etc. and a citizens’ revolt.
Those are the facts, but how do you make sense out of them?
- Greece’s debt is not all of recent origin. Greece – and any country wanting to join the Euro in the 1990’s – had to link their currencies to the Deutsche Mark and hold the currency stable to the DM. The Greek government had to borrow money to support the drachma, leading to substantial debt creation. With the onslaught of the recessions of 2007-2009, revenues declined and the government could not print money so it had to turn to the commercial banks. Thus began the progression of rising debt to GDP, fueled by more debt and declining revenue. The result was a need for a bailout.
- Modern Greece has a history of weak and ineffectual governments that have fostered a culture of entitlement for workers in secure government jobs and pensions, avoidance of taxes for a large part of the population and an elitist group of wealthy families who view themselves distinct from the majority of the population. The result was that by the end of 2014, Greeks owed the government over $86 billion of accumulated taxes. The tax avoidance activities of the super rich have been well documented, but a 2012 paper by a group of University of Chicago professors (Artavanis, Morse, Tsoutsoura) has identified that the professional classes and other business owners (about one-third of the Greek population) are self employed and have monthly debt payments that exceed their monthly reported income for tax purposes. How is this possible? The assumption is that there is a massive underreporting of income and therefore a massive under-payment of taxes.
- Despite a debt burden that has accumulated for economic reasons (joining the Euro) and cultural reasons (tax avoidance), the Greek people have said, “enough is enough.” Since 2009 there have been eight austerity programs, three bailouts and three governments. Even with all of these initiatives, the GDP of Greece has contracted 25% and the stock market over the past five years is down over 85%. The result today is that Alexis Tsipras and the Syriza Party, both from the extreme left, are leading Greece. Their platform is based on the belief that there has been enough austerity and new growth policies are needed. But their creditors, the dreaded Troika, have said no. Until Greece can run a sufficient budget surplus and demonstrate that it can start paying off its debts, austerity will still be the European byword.
- February’s agreement to extend the bailout for four more months was based on an agreement by the Greek government to pursue a number of initiatives to balance their budget. But many of the initiatives are very fuzzy and the benchmarks for success are not established. The Greek government has bought itself time, but it is not clear what their endgame will be. There is a lot of resentment among the Greek people against European financial institutions and the German government for their rigid stances that the full amount of the debt must be paid off under their terms. As a Greek pensioner was quoted in The Economist (February 14, 2015), “Whatever happens Syriza has given us back our dignity. The government’s finally standing up to the foreign powers that have made our lives so difficult.”
Since both the positions of the Greeks and the European Union are being driven more by political agendas than economic outcomes, forecasting what will happen in four months is next to impossible. However, there are actually a number of actions that both groups can take that would be seen as positives and yet not weaken their negotiating positions.
Greece, in its response, has said it could continue privatization of some industries, combat tax evasion, tackle the “humanitarian” crisis, introduce collective bargaining, reduce the number of ministries and so forth.
Greece’s creditors could lower the borrowing costs further and still have profitable loans; loan durations could be stretched out and principal balances adjusted downward to reflect the several times renegotiated terms (a point suggested by Paul Kazarian, a large holder of Greek bonds). The possibilities are endless, and an agreement that keeps Greece in the Euro is in everyone’s best interest, but who can predict the outcome when politics trumps economics?
One of the main themes of our 2015 Capital Markets Forecast was the developing opportunity we saw in international markets. Bob Reiser discussed how important it is going to be in the early stages of this opportunity to be highly selective. In the case of Europe, the tragicomedy that is unfolding in Greece is part of a broader set of issues we are monitoring before capitalizing on this investment theme. What we are looking for in Europe is the same set of circumstances that led us to allocate to Japan late last year. While monetary and fiscal policy are important, Balentine’s Investment Team is looking for a credible commitment to structural reform not only in countries like Greece but in other Eurozone countries like France and Italy to consider the possibility of a potential investment theme.