Greece: Rocky Roadmap to a Deal

Published on June 3, 2015

German Chancellor Angela Merkel, IMF Managing Director Christine Lagarde, ECB President Mario Draghi, and their fellow leaders of the “European Institutions” have been careful not to characterize the joint “proposal” just presented to Greek Prime Minister Alexis Tsipras as an ultimatum to Athens.

But even as Tsipras defiantly vows to stick to Greece’s own 47-page budget proposal he now has a clear roadmap from the creditors for what he will in fact need to deliver.

* In closed door negotiations between the creditors, the IMF, ECB, and key Eurozone countries appear to have agreed to put aside differences on priorities and to instead work from “back to front,” by which they have come forth with a top-line agreement on a primary budget surplus targets for Greece, from which all other details will follow. As leaked in the press, those targets have been lowered to a graduated scale of a 1% primary budget surplus to GDP for 2015, 2% for 2016, 3% for 2017, and 3.5% for 2018.

* While we have long been expecting the creditors to agree to around a 1% target for this year, this is the first time they have agreed and formally presented it to Athens. And the Greek counter-proposal of a 0.8% target for this year and 1.5% for 2016 is close enough that Tsipras should now be able to claim these concessions from the creditors as a political victory.

* But to even reach 1%, Athens will still need to deliver a significant adjustment to its budget, without which the creditors believe there would be no primary surplus at all, and probably even a deficit. The leadership of the Institutions is not overly obsessed with every detail of how Greece gets there, but pensions, as one of the largest components of Greece’s budget, continues to be a point of serious contention with Athens.

* The Greek proposal contains pages and pages of documentation outlining amendments to early retirement exemptions and even a timeline for the adjustment to the retirement age, but the proposed phase-in is seen to be too slow, and not capable of generating nearly enough revenue.

* The creditors are willing to ring-fence lower income pensioners and focus instead on adjustments to higher level income groups, early retirement, and the controversial supplemental 13th month pension, but there is no question Tsipras will have to go back to his constituency on pensions reform and cross that political “red line” on a more substantive level than currently proposed.

* On the issue of labor market reforms, we understand the creditors, while unhappy, may be willing to let bygones be bygones and look beyond the recent decision by the Tsipras administration to rehire 4,000 public employees. After all, it is rather unseemly to go back and demand mass firing again of janitors and other administrative personnel. They will, however, need assurances that there will absolutely be no more backtracking from here on the tough cutbacks instituted by the former administration of Antonis Samaras.

* There appear to still be differences on the much discussed VAT reform proposal put forth by Athens, with the creditors still seeking more revenue from those measures. The EU is nevertheless encouraged that Athens has moved off some of its harder to implement proposals, such as imposing a surcharge on transactions above a certain amount. And as opposed to other budgetary measures VAT reform, once agreed, from what we understand can be implemented quickly, perhaps as soon as July 1, and the EU appears to be more than willing to give Tsipras the small political victory of delaying any VAT increase on the Greek islands until perhaps October 1, after the end of the summer tourism season.

* Greek officials are already pushing the EU to enter into negotiations on re-profiling the country’s debt, especially with 6.6 billion Euros coming due in July and August to the ECB for its bond purchases under the SMP program, but we are told it is technically not possible to enter into any negotiations on Greece’s debt profile at this point, if at all, until there is an agreement on the existing program and discussions begin on a third bailout package. Beyond “technicalities,” perhaps more to the point, it is simply not politically feasible for Germany or other member countries (the ones who have to) to go to their Parliaments at this point and propose what is in effect additional funding for Greece.

* In order to break that logjam, and ensure the ECB is paid in full on its bond holdings, at least through July and August, the creditors it appears have agreed, if and once Tsipras delivers on the budget, to allow Athens to draw on the 10.9 billion Euros previously allocated to the Greek banking system but which were forcibly transferred back to the European Financial Stability Fund from the Hellenic Financial Stability Fund after the February 20 agreement.

* The timeline for all this is extremely challenging but not impossible. It will be critical first and foremost for Tsipras to come to an agreement in principle over the next few days with creditors. The plan ideally would then be to obtain agreement from the Eurogroup by the June 18 Luxembourg meeting.

* In the meantime, European officials expect that Greece will pay the 300 million Euro IMF bullet on Friday, assuming negotiations continue in good faith, but that the subsequent payments to the IMF can then be bundled towards the end of the month. That would provide Tsipras time for his most difficult task, passing an omnibus budget through the Greek Parliament, before any disbursement is made. It is however likely in that period, if a deal has been reached but not yet passed, for the ECB to then step in to provide Greece a liquidity lifeline by lifting the cap of T-bill issuance, allowing Greece to self-fund itself as it passes legislation without any formal disbursement of new cash.

* It remains unclear whether the IMF, even if it agrees to participate in a new program for Athens, will agree to disburse its portion of the remaining 7.2 billion Euro tranche from the current program. This may be due to internal IMF guidelines and lack of sufficient flexibility regarding Athens on delivering “prior actions,” and it appears to be a source of some minor irritation between the creditors.

* Any deal struck with the EU on these conditions is of course unlikely to pass muster with Syriza’s Left Platform, and, while not impossible, may be a challenge for Tsipras to get through parliament on the back of his own party and coalition (see SGH 6/1/15, “Greece: Strains within Syriza”). But while passage with the support of opposition parties such as Potami and PASOK, or even some New Democracy delegates, may represent a “poison chalice” or bitter pill for Tsipras to swallow, it is in fact the preferable electoral result for the creditors.

* And that is not because, as some in Athens suspect, the EU is secretly engineering the downfall of the Greek government, (OK, well maybe some might wish for that). It is for the simple reason that legislation passed across party lines – and with broader public approval – has a lower chance of repudiation going forward by successive governments. EU officials point to the example of Portugal, where a controversial budget was passed across party lines and withstood a change of regime, as opposed to their experiences with Greece.

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