In the lead up to the previous EU summit there were statements from a number of participants that it would be the “summit to end all summits” as it would provide a comprehensive plan for the future of Europe. As I noted at the time, that summit certainly didn’t meet expectations with the “comprehensive plan” turning out to be more of the same.
On the eve of yet another summit there doesn’t appear to be anywhere near the same anticipation of a meaningful outcome, in fact the lead-up to this summit has turned into a bit of a mess.
According to information from the Troika Greece has most likely missed key programme objectives again in 2011. In particular, the budget deficit has not decreased compared to the previous year. Therefore Greece will have to significantly improve programme compliance in the future to honour its commitments to lenders. Otherwise the Eurozone will not be able to approve guarantees for GRC II.
II. Proposal for the improvement of compliance
To improve compliance in the 2nd programme, the new MoU will have to contain two innovative institutional elements on which Greece will have to commit itself. They will become further prior actions for the second programme. Only if and when they are implemented, the new programme can commence:
1. Absolute priority to debt service
Greece has to legally commit itself to giving absolute priority to future debt service. This commitment has to be legally enshrined by the Greek Parliament. State revenues are to be used first and foremost for debt service, only any remaining revenue may be used to finance primary expenditure. This will reassure public and private creditors that the Hellenic Republic will honour its comittments after PSI and will positively influence market access. De facto elimination of the possibility of a default would make the threat of a non-disbursement of a GRC II tranche much more credible. If a future tranche is not disbursed, Greece can not threaten its lenders with a default, but will instead have to accept further cuts in primary expenditures as the only possible consequence of any non-disbursement.
2. Transfer of national budgetary sovereignty
Budget consolidation has to be put under a strict steering and control system. Given the disappointing compliance so far, Greece has to accept shifting budgetary sovereignty to the European level for a certain period of time. A budget commissioner has to be appointed by the Eurogroup with the task of ensuring budgetary control. He must have the power a) to implement a centralized reporting and surveillance system covering all major blocks of expenditure in the Greek budget, b) to veto decisions not in line with the budgetary targets set by the Troika and c) will be tasked to ensure compliance with the above mentioned rule to prioritize debt service.
The new surveillance and institutional approach should be formulated in the MoU as follows: “In the case of non-compliance, confirmed by the ECB, IMF and EU COM, a new budget commissioner appointed by the Eurogroup would help implementing reforms. The commissioner will have broad surveillance competences over public expenditure and a veto right against budget decisions not in line with the set budgetary targets and the rule giving priority to debt service.” Greece has to ensure that the new surveillance mechanism is fully enshrined in national law, preferably through constitutional amendment.
Depending on your economic ideology you may read that document as anywhere from a logic next step to an act of war. However, it doesn’t really matter what you or I think about it, what matters is how the Greeks themselves see it and in that regard the message wasn’t particularly well received:
A Greek government minister on Saturday poured scorn on reported calls by Germany for Athens to surrender control of its budget, as Greece said it was close to a deal with its private creditors.
Greek Education Minister and former EU commissioner Anna Diamantopoulou rejected the notion as “the product of a sick imagination”.
Greek officials reacted angrily to the leaked German proposal for an EU budget commissioner with veto powers over Greek taxes and spending.
“It’s going to be impossible for the Greek government to accept such a deal – I don’t think it would be supported by any of the heads of the parties that are involved in the coalition,” said Mr Yeroulanos.[Greek Culture Minister]
“We have been giving up quite a bit, but I think sovereignty is a red line that no-one would dare cross.
“I would rather resign as a minister than allow anybody to tell us the way we should be spending our money.”
Whether the document was actually intended to be enacted or was just some sort of strategic leak as a final test on what should be done about Greece is an outstanding question, but it certainly didn’t take long for the EU to respond in support of Greece:
The European Union’s executive body is rejecting calls from Germany to establish a eurozone budget commissioner who would directly control tax and spending decisions in debt-ridden Greece.
The European Commission said Saturday that “executive tasks must remain the full responsibility of the Greek government, which is accountable before its citizens and its institutions.”
The Commission, the European Central Bank, and the International Monetary Fund already have unprecedented powers over Greek spending, after negotiating with Athens stringent austerity measures and economic reforms in return for a first, multi-billion euro bailout.
As I have noted previously, while the EU leaders fiddle about trying to decide what to do with the symptoms of their problems, the problems themselves continue to get worse:
Greece’s international lenders think the indebted country will need 145 billion euros of public money from the euro zone for its second bailout rather than the planned 130 billion euros, German news magazine Der Spiegel reported on Saturday.
The magazine said the extra 15 billion euros were needed because of the deteriorating economic situation in Greece, echoing a Reuters report on Thursday.
Der Spiegel quoted a representative of the troika of foreign leaders — the European Commission, IMF and the European Central Bank — saying: “We’re assuming that it won’t be possible to collect missing money solely from the private creditors.”
What I find most interesting about the Greek response is that the entire idea of the new “fiscal compact” is that the Eurozone is supposedly heading towards a fiscal ( and therefore quasi-political ) union. The response from Greek authorities to the suggestion that a centralised European authority should be allowed to control its budget certainly doesn’t support the idea that Greece has the political appetite for a move in that direction. The statements from the EU’s executive body are even more odd given the wording of the latest draft of the EU treaty . As far as I can tell the treaty contains statements that are somewhat equivalent to the latest proposal:
1. The Contracting Parties shall apply the following rules, in addition and without prejudice to the obligations derived from European Union law:
a) The budgetary position of the general government shall be balanced or in surplus.
b) The rule under point a) shall be deemed to be respected if the annual structural balance of the general government is at its country-specific medium-term objective as defined in the revised Stability and Growth Pact with the annual structural deficit not exceeding 0.5 % of the gross domestic product at market prices. The Contracting Parties shall ensure rapid convergence towards their respective medium-term objective. The time frame for such convergence will be proposed by the Commission taking into consideration country-specific sustainability risks. Progress towards and respect of the medium-term objective shall be evaluated on the basis of an overall assessment with the structural balance as a reference, including an analysis of expenditure net of discretionary revenue measures, in line with the provisions of the revised Stability and Growth Pact.
c) The Contracting Parties may temporarily deviate from their medium-term objective or the adjustment path towards it only in exceptional circumstances as defined in paragraph 3.
d) Where the ratio of government debt to gross domestic product at market prices is significantly below 60 % and where risks in terms of long-term sustainability of public finances are low, the lower limit of the medium-term objective specified under point b) can reach a structural deficit of at most 1.0 % of the gross domestic product at market prices.
e) In the event of significant observed deviations from the medium-term objective or the adjustment path towards it, a correction mechanism shall be triggered automatically. The mechanism shall include the obligation of the Contracting Party concerned to implement measures to correct the deviations over a defined period of time.
So once again we get conflicting messages from Europe which is sure to add to the agenda of the EU summit.
As I noted last week , even though they were implicit in creating the situation in the first place, it appears that Germany is giving up on Greece’s ability to rescue itself. I am obviously speculating here, but on top of the ever-worsening financial situation there does not appear the political will to join the “fiscal compact” even with a technocrat government in place. Last week’s vote against extending pharmacy hours is the latest example that Mr Papademos is struggling to push through reforms even though he claims to have complete support.
It is possible that Germany now believes that Europe has the firewalls in place to deal with the fallout so now is the time to force Greece’s hand. Again I am speculating, but I am finding it increasingly difficult to work out what Germany’s Plan B for Greece actually could be even if the PSI+ does manage to get past its perpetual “almost there” phase. If the political will of the country cannot be bent to the liking of the creditors then why would they continue to extend lines of credit. Possibly we will find out more from today’s summit.
One of the other outstanding questions around Greece is what is to be done in the case that the PSI negotiations fail. If that turns out to be the case then Greece will need to enact collective action clauses to force, or at least threaten to force, bond holders into a new deal. CDS issues aside, the problem is that this will require the ECB to come to the table as it holds a large proportion of Greek debt. However, the ECB has previously stated that it does not intend to be part of any such deal and given its position as the “backstop” will not enter entertain any such discussions. Therefore, for a collective action clause to make sense, even as a threat, the ECB will need to offload its holdings of Greek debt to another European institution that could credibly support a collective action against other bond holders.
In this case it would make sense for the ECB to pass its holdings of Greek debt over to the European Financial Stability Facility at cost. That way the ECB is not seen to take a loss and the EFSF can then go into bat against the other creditors and force a deal for Greece. There are obviously some other outstanding issues around this scenario which would have to be worked out, but if we see any announcements out of the EU summit in regards to transferring bonds from the ECB to other European institutions then you can be sure that the threat of collective action is being ratcheted up.
Making the already confusing political situation even more confused is that Angela Merkel is being hamstrung in negotiations around Europe’s future plans by her own party:
Volker Kauder, the floor leader for German Chancellor Angela Merkel’s Christian Democrats, blocked a plan to put unused funds from the euro region’s financial backstop into its permanent successor, Bild am Sonntag reported.
Merkel wanted to endorse combining the lending power of the European Financial Stability Facility and the 500 billion-euro ($659 billion) European Stability Mechanism, the euro region’s future permanent financial backstop. Christian Democrat members of parliament opposed the move because Germany then would be liable for more than the 211 billon euros originally approved, prompting Merkel to drop the plan
But it isn’t all negative on the political front for Ms Merkel. Oddly, she appears to be taking “Merkozy” to the next level:
German Chancellor Angela Merkel is so concerned that a shift to the left in France after the coming French election could derail the German-led austerity drive in Europe that she plans to join French President Nicolas Sarkozy on the campaign trail in the coming weeks to forcefully support his re-election.
In other news, Spanish unemployment has officially reached 22.8%, the Irish want a referendum on Europe’s treaty, European investment banks are forecast to take a hit, Cypriot officials claim their banks are fine, and finally Fitch joined S&P on the European downgrade tour.