Time for a delivery of Eurofudge

It’s been a popular joke in every Communist state, but these days it’s most often used about employees of state-owned corporations in Cuba — “we pretend to work, and they pretend to pay us”. It captures the same kind of attitude that is going to have to be taken to the Greek debt deal when it comes in the next month or so.

“We pretend to work” — or equivalently, “Greece pretends to target a primary surplus”. Ever since I started writing about the Greek debt deal on Medium, I’ve tried to make the point that more or less the only thing which matters is the target for the budget balance. This determines whether the budget is stimulative or contractionary, and in turn whether Greece has any hope of economic recovery. And two, five and ten years down the track, the well-being of nearly all Greek workers, pensioners and citizens will be affected a lot more by whether there’s a cyclical recovery than by practically anything that might get done in the nature of structural measures.

But I think I made a mistake in presenting the issue. Because, of course, the stimulative effect of the Greek fiscal balance isn’t determined by what they target or what they negotiate — it’s determined by what they actually achieve. And my rule of thumb would be something like:

Actual likely primary balance ~= Negotiated primary balance in the program minus 2.5%

It is an ugly little secret of IMF programs that they are made to be missed. For obvious reasons, the IMF makes a fuss about this, and the ECB and Eurozone will too, but this late in the day, there’s not really much excuse for being surprised when a borrower country with a tough political economy and a bad cyclical position, like Greece, structurally and systematically misses its targets.

“They pretend to pay us” — or in this case, “The institutions pretend to give Greece debt relief”. How much would it change things if the Eurozone partners were to agree to a 20% face value reduction in all of Greece’s liabilities? In my view, it would change things not at all. Greece needs, and one day will get, a much larger reduction than that, and everyone knows it (although plenty of people find it more convenient to suppress this knowledge and pretend they don’t). So announcing it would make no difference to the real debt burden on Greece, and no difference to the amount of repayment that the Eurozone can reasonably expect. But it would make things hugely politically easier for Syriza, which is beginning to realise that it is going to have to back down on some “red line”issues in order to get a deal.

Of course, a face value reduction would make things more difficult politically for some of the Eurozone partners, and would probably be impossible for the IMF to agree to. But a face-value constant NPV reduction would be less so — extending the term (again) and reducing the coupons (again). The IMF could even certify that this was equivalent to a debt reduction, and Yanis Varoufakis could certainly explain the equivalence on Greek television.

We should not be too far from a deal by now, and so everything hangs on whether it can be presented politically in an acceptable manner to both sides. For this reason, it’s worth everyone being a little less precious about fudging a few presentational issues. Because all of this capital is going to be needed for the structural reform debate, which is going to be a lot more difficult to pretend that something’s being done if it isn’t.