New IMF report says Greek debt is unsustainable

July 14, 2015

A new leaked report from the IMF, which the eurozone leaders had seen before the completion of the deal on the third bail out program, makes it very clear that Greece will need far bigger debt relief than is currently under discussion. The reason the necessary debt restructuring must be bigger is entirely due to the devastation of Greek economy and banks in the last two weeks resulting from the ECB decision to force the Greek banking system to close.

The updated debt sustainability analysis (DSA) was sent officially to eurozone governments late on Monday, hours after Athens and its 18 partners agreed in principle to open negotiations on a third bailout program of up to 86 billion euros in return for tougher austerity measures and structural reforms. However IMF managing-director Christine Lagarde attended weekend talks among eurozone finance ministers and government leaders that agreed on a roadmap for a new bailout and EU sources are saying (according to Reuters) that the new debt sustainability figures were given to eurozone finance ministers on Saturday and were known by the leaders before they concluded Monday’s deal with Athens.

The fact the eurozone leaders knew about the new IMF report means that they imposed another crushing round of austerity on Greece even though they knew it was economically pointless. The real function of the severity of the measures imposed at the weekend were political. To drive the Greeks into Grexit and/or send a strong deterrent message to any other eurozone electorate considering voting for anti-austerity parties.

“The dramatic deterioration in debt sustainability points to the need for debt relief on a scale that would need to go well beyond what has been under consideration to date – and what has been proposed by the ESM,” the IMF said, referring to the European Stability Mechanism bailout fund.

European countries would have to give Greece a 30-year grace period on servicing all its European debt, including new loans, and a very dramatic maturity extension, or else make explicit annual fiscal transfers to the Greek budget or accept “deep upfront haircuts” on their loans to Athens, the report said.

The IMF study said the closure of Greek banks and imposition of capital controls on June 29 was “extracting a heavy toll on the banking system and the economy, leading to a further significant deterioration in debt sustainability relative to what was projected in our recently published DSA”.

European members of the IMF’s executive board tried in vain to stop the publication of that earlier debt sustainability analysis on July 2 just three days before a Greek referendum that rejected earlier bailout terms.

The latest IMF study says Greek debt would now peak at close to 200 percent of economic output in the next two years, compared to a previously forecast high of 177 percent. Even by 2022, the debt would stand at 170 percent of gross domestic product, compared to an estimate of 142 percent issued just two weeks ago.

Gross financing needs would rise to above the 15 percent of GDP threshold deemed safe and continue rising in the long term, the updated IMF study said. Moreover, the latest projections “remain subject to considerable downside risk”, meaning that euro zone countries might have to provide even more exceptional financing.

The IMF report notes that few countries had ever managed to sustain for several decades the primary budget surplus of 3.5 percent of GDP expected of Greece. As soon as Athens had swung into a small surplus before debt service last year, the government had failed to resist political pressure to ease the target, it noted. See my previous article about the viability of sustained primary surpluses.

Not only was the deal that was agreed over the weekend punitive and economy illiterate, but it is clear that it does not stand a chance of ensuring that Greek debt is sustainable. All the eurozone leaders managed to do was kick the can down the road, only pausing to kick the Greeks in the head.

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