What? Greece has to raise capital in 2012 and meet a 7.5% deficit target this year?
Over the last couple of months, a string of events made policy makers and investors alike say, what? Greece must raise capital next year and meet a 7.5% deficit target this year? Yes, they do, unless circumstances change. It’s near impossible to bet successfully on what Euro area policy makers are going to do, so let’s just review the facts here.
Greece missed its 2010 budget deficit target by near 1%, 9.6% of GDP projected (see .pdf page 45) vs. 10.5% actual (see Eurostat release, .pdf). The 2011 target is 7.5% of GDP.
Greece needs to raise roughly 30 bn euro in the private market next year – see .pdf page 50 here, where the IMF projects that Greece will finance 40.3bn in 2012, up from the 11 bn required in 2011. Furthermore, they’ll need to issue debt with longer maturity than the 3-month bills they’ve been marketing this year. At 1200 basis points over German bunds on a 10yr note, Greece cannot ‘afford’ this and is very unlikely to be tapping markets for term loans anytime next year.
Greece’s privatisation plan – selling state-owned assets – is probably too aggressive, amounting to roughly 4% of GDP per year through 2015 (10 bn euro average per year, see .pdf of presentation here, as a percentage of average GDP spanning 2010-2012).
But here’s something that is really important, and another reason why I do not believe that Greece would voluntarily default until at least next year: they’re expected to run a primary surplus in 2012. I take note that one can challenge the IMF’s forecast, but it’s the best information that I have at this time.
The chart illustrates the IMF’s 2011 and 2012 primary balance forecast across the Euro area (16) from the April 2011 World Economic Outlook. Those countries above the zero axis are expected to run 2012 primary surpluses – Greece, Germany, and Italy.
The primary balance is general government net lending (borrowing) excluding net interest expense. Better put: if the government runs a primary surplus, tax revenues are sufficient to pay all the government’s bills except the interest payments on the outstanding debt. Restructuring when an economy is in primary surplus makes much more sense.
If Greece runs a primary surplus in 2012, it will have a strategic ‘default card’ to play. This year it doesn’t, or Greece still needs the EFSF/EU/IMF to finance its spending. Next year, Greece can say “hey, we don’t need your money anymore.”
What to expect
Barring an immediate secession, I anticipate that Greece’s ‘circumstances’ will change in one of two ways over the near term: (1) Greece terms out its loans – a very soft restructuring – in the amount of 30 bn euro (or roughly thereabouts), or (2) the EFSF raises another 30 bn – that’s what it’s for.
On default, there’s a body of literature that attempts to quantify the costs of sovereign default – see the Economist article for a short literature review. Broadly speaking, the true economic impact could be ‘short-lived’ but is difficult to measure (see specifically this IMF paper).
It all comes down to this: I’m Greece, and I’ve put through structural reform that gets me a primary surplus next year – why subject the economy to further depressionary austerity measures rather than haircut my creditors and start from scratch? It’s been done before (see Table 2 of this paper). Or, I’m Germany (or France), do I want to write a check to Greece? Or recapitalize my banks outright.
Rebecca Wilder
“But here’s something that is really important, and another reason why I do not believe that Greece would voluntarily default until at least next year: they’re expected to run a primary surplus next year.”
Jeebus. That does rather change things. I hadn’t realised that at all.
You mean they should keep selling assets and give the surplus to French and German banks ?
Also look at Portugal and…Italy. Amazing. This means that there is just an interest rate problem for these countries….
So the ECB prints euros and Greece has to pay newly “created” euros back with real taxes and real savings. While no one can condone the Grecian profligacy, subjecting them to austerity to pay back money that the ECB created out of nothing and subjecting the Greeks to the difficulties of these measures is nuts. Greece needs to return to the Drachma and then attempt some type of balanced measures. Until then, the bondholders and other lenders need to take a serious heaircut.
A year away you say? This is coming much sooner than that. 2 year money now costing 25%. That is the end game. Your pals and S&P just rated them default. Bofinger, (german advisor) just came out from Greece to exit Euro/EU.
I think this blows up before the 4th of July.
I don’t know if BK is correct, but the markets appear to pricing in a default/restructure. S&P just lowered them to B from BB-. ” Some sort of restructuring seems priced in with the yield on Greece ten year bonds is at 15.6% today and the two year yield at 25.2%.”
Quote was from CR here: http://www.calculatedriskblog.com/2011/05/another-downgrade-for-greece.html
Hi CoRev and Bruce,
Yes, the curve is inverted – but that effectively doesn’t matter. The curve in Argentina was inverted forever before it actually defaulted. My point is, that Greece doesn’t need the market’s capital, or at least until the second half of next year. The ECB holds a truckload of debt and doesn’t want a writedown – French and German banks, too. I guarantee you, they’ll exhaust every possible resource before ‘allowing’ a disorderly default.
An orderly default seems very unlikely, given the stock of debt held by the ECB, GErmany, and France – they don’t want it. Greece will get their new terms (or somethign of the sort), and Europe will buy time.
Who cares if Greece was downgraded! They’re already trading at distressed levels. What matters is if France is downgraded….
Bruce, you keep pushing your timeline back – it’s like a moving 2months forward for Europe’s demise. What evidence do you have that ‘this whole thing blows up before the 4th of July’. If you have some, I’d sure like to know about it and short the euro.
Rebecca
Italy is the ONLY economy in the G7 countries that is expected to run a primary surplus in 2011, according to the IMF. Yes, it’s remarkable, and why Italy trades closer to the core – that economy is rather well balanced for having a potential growth rate of sub 1%.
Rebecca
“Jeebus. That does rather change things.”
Yes, it does.
The Euro is down 5 big figures in a week. That is already a big move. Beware of getting long the dollar. That is not Ben’s plan.
I would change that opinion if It thought this was a problem that would reach up to France. I don’t think that will happen. The more relevant questions, Could it hit Spain? Could it reach Italy?
If those apples fall, then we have a different ball game.
As for insights, I don’t have any. But I talk with people who do. I wrote about this on 4/27. I quoted a fellow who lives in Greece as saying “two weeks”.
http://brucekrasting.blogspot.com/2011/04/shipping-news-pirate-update-thoughts-on.html
You might be interested in the video. Just a dozen or so murders….
I think you missed another thing. I have it estimates that almost 40 bilion EURO (14% of the Greek GDP) of the debt is actually held by Greece banks. If Greece defaullts in 2012, they will have to recapitalise their own banks or face domestic bank crisis leading to further depression, lower revenue and primary drficit. And how are they supposed to recapitalise their banks if they won’t have access to financial markets?
Hi J.V. Thanks for the point about the Greek recapitalization. I have written about the European banking system overall many times – but this is an interesting twist. This is a common theme with bank crises: the sovereign bonds get pressured, as foreigners sell off positions – then the only ones left holding the hot potato are the banks, which are funneling bonds to the ECB and turning the funds back to the sovereign.
The same story holds for Portugal, Ireland, etc. It will be interesting to see what policy makers come up with in terms of ‘stress test’ results.
Rebecca
Nice to find your very prophetic post written over a year ago. I agree with you on the primary surplus and I can give you some brief current data (jul 2012) to back it up.
First, the months that Greece traditionally present better primary results are the second half of the year. For the 2012 case almost the majority of the regular tax collection will be made as there was an election delay. Note that these taxes are around 4-5 bl more than of 2011.
In 2011 the primary deficit was at 3,6 bl Euros. In Jun 2011 it was in the order of 6 bl euros.
Today, the central government has a deficit of 3 bl euros, while until May the general government has surplus of 555 m euros.
I hope that these facts were en-lighting enough and they will be verified by the actual progress of things.
Andreas