Greece and Its Creditors Get Back on a Collision Course

Greece’s woes oblige the eurozone to do something it has rarely appeared capable of doing: take a collective political decision, Simon Nixon writes.

The Wall Street Journal

By SIMON NIXON
Updated Dec. 4, 2016 1:44 p.m. ET
9 COMMENTS
In a continent beset by multiple crises, Greece remains the cradle of European dysfunction. The country may have dropped out of the headlines in recent months, its multiple challenges seemingly buried under a tide of bailout cash. Yet it still presents the greatest risk to the survival of the eurozone. That is because Greece’s circumstances oblige the eurozone to do something it has so far appeared incapable of doing, except under conditions of extreme financial stress: take a collective political decision.



The first test of the eurozone’s decision-making capacity will come at a meeting of eurozone finance ministers in Brussels on Monday. On the face of it, the decision facing them appears straightforward: They need to complete the second review of Greece’s bailout, which will set the targets for the remaining two years of the program. That decision, in turn, will unlock the next tranche of funding. The outlines of this deal are already in place: Greece has more or less reached an agreement with its creditors—the International Monetary Fund, the European Commission and the European Central Bank—on what it must do to get the cash.

In fact, the situation is far from simple. Germany and the Netherlands have promised their parliaments that they won’t ask for more money for Greece unless the IMF also resumes lending to Greece. But the IMF says it won’t do this unless it is satisfied that Greece’s debt burden is sustainable. For the IMF, this is a question of institutional credibility. It has already put its name to two failed programs, and it is determined that it will only join a third program if it is convinced that Greece can return to the markets at the end of it, its financial sovereignty restored.

Can the IMF and the eurozone reach a deal that will bring the IMF into the program and allow Germany and the Netherlands to sign off on the review? That depends on whether all sides can reach an agreement on what Greece’s long-term fiscal targets should be after the current program ends in 2018.

Under the terms of the bailout, Greece committed to running a primary budget surplus before interest payments of 3.5% for the medium term. Germany believes “medium term” should mean for these purposes at least 10 years. But the IMF considers the idea that Greece could sustain a primary surplus of this size as wholly implausible. Few countries have ever managed such a feat before—and none with such weak governance as Greece, whose political system has traditionally proved highly susceptible to the demands of vested interests.

In fact, the IMF is skeptical that Greece could deliver a primary surplus of 3.5% in 2018 and would be more comfortable with a target of 1.5% for the following decade. But a deal on those terms is politically toxic for Germany given that under the eurozone’s fiscal rules, several countries will need to run similarly large primary surpluses for many years. Of course, the lower the deficit target, the larger the debt relief that Greece will require.


How this impasse gets resolved is far from clear. Privately, politicians and policy makers across the eurozone are deeply worried. This standoff has already threatened to derail the program twice before. On both occasions, it was Germany that blinked, agreeing to disburse money to Greece on the basis of a commitment by the IMF to come on board by the end of this year. But it seems unlikely that this fudge will work a third time, not least because the Dutch parliament has made IMF participation a legal requirement for any future disbursement.

Meanwhile, the window of opportunity for a deal may not stay open long. The Netherlands holds a general election in mid-March, which means it will be in no position to agree to any deal from early February, when parliament is dissolved, until a new coalition government has been formed, possibly not until May. At that point, the French presidential election will be under way, creating a further delay. Without a deal before summer, Athens would likely once again start running into liquidity constraints, with consequences for its recovery.

Officials fear there are two ways this might end. The first is that Germany and the IMF agree to a compromise on Greece’s medium-term surplus targets. But the price of such a deal is that for every year beyond 2018 that Greece is still required to deliver a surplus of 3.5%, the IMF will insist that Athens legislates sufficient additional austerity measures to convince it that the target will be met. But as things stand, it isn’t clear that any Greek government would be capable of legislating further austerity measures, raising the prospect of fresh political instability.

The alternative is that the impasse continues through the summer and beyond the German elections in September, by which point the damage to the economy would likely be so great that Greece would require a fourth bailout to stay in the euro.

Either scenario risks a rerun of last year’s Greek crisis. But does the eurozone any longer possess the decision-making capacity to stop it?