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News : EU Economy Last Updated: Jun 22, 2015 - 8:44 AM


Greece could become a failed state like Venezuela
By Michael Hennigan, Finfacts founder and editor
Jun 19, 2015 - 7:35 AM

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Greece's public debt repayments 2015-2054 - click for full-scale version

Alex Tsipras has a difficult choice to make at Monday's Greek crisis emergency meeting of EU leaders in Brussels. He risks losing his job either way but the risks of a default and sudden exit from the euro are greater for both him and Greece — while the chaos that would inevitably follow the replacement of the euro at the height of the tourist season would likely resemble Argentina's experience more than a decade ago, absent a commitment to reform the economy, Greece would risk becoming another failed state like Venezuela.

According to Moody's, the credit ratings service, in the period 1997-2013 there were 24 defaults on government bonds — all involving developing countries with the exception of Greece in 2012 when the biggest sovereign-debt restructuring in history allowed it to wipe some €100bn from its debts of around €350bn.

An analysis published Thursday that was led by Jeffrey M. Chwieroth , professor of International Political Economy at London School of Economics and Political Science, says that "a Greek default is more likely to strengthen voter support across southern Europe for existing policies than to precipitate a new wave of defaults. This effect could in turn strengthen the euro.

Historically, governments that have chosen default have experienced a much higher risk of losing political office – due largely to the unusually sharp economic downturns that typically follow default.Given this high risk, incumbent governments in democracies usually do their best to avoid it, which is why Greece’s high stakes negotiating tactics have been so shocking to many of its interlocutors.

Since 1870, the average number of years between defaults among democracies that have defaulted at least once — even including negotiated debt restructurings — is 42 years. (Note: this has been calculated with the default measure from This Time is Different: Eight Centuries of Financial Folly by Carmen Reinhart, and Kenneth Rogoff (2009).)

Default is thus a once-in-a-lifetime experience for most voters; many will never experience it. Compare this with voter experience of standard economic recessions, which have occurred about every five years since 1870 in advanced economies."

Defaulting on debt due to the International Monetary Fund at a time when relations between Fund personnel and Greek officials are poor, does not appear wise.

China Development Bank has lent almost $37bn to Venezuela since 2008, helping to prop up the regimes of Hugo Chávez and his successor, Nicolás Maduro, but the lending is tied to oil supplies. Greece has Europe's most closed economy and apart from tourism (depending on the trend in inflation), a devalued currency would not magic up exports as it is not a commodity producer.

Europe's Worst Exporter: Poor export performance of Greece

In a poll last February, 81% of Greeks supported the approach of the governing SYRIZA political group in negotiating with the Eurogroup partners while in a euro-referendum, 73% would vote in favour, 20% against.

George Pagoulatos, a professor of European politics and economy at the Athens University of Economics and Business, wrote this week about the seven-day rule in December 2001 of President Adolfo Rodríguez Saá of Argentina. Saá began his tenure with a bold plan to introduce a new currency and suspended foreign debt repayments, which won public acclaim. Days later he resigned after the announcement of capital controls triggered mass protests by angry depositors.

The Financial Times in an editorial today while acknowledging that the European bailout since 2010 has been bungled, concludes: "The creditors’ reasons for intransigence are weightier. It is not just for €2bn that they hold out, but a sign that the government in Greece will not endlessly backslide on reforms. Under the shelter of the euro, and fed by streams of EU structural aid, Greece’s clientelism grew worse. Experience has shown that even centrist governments need external prods to carry through reforms. SYRIZA, for all its professed outrage at the oligarchy dominating its economy, has shown little resolve for tackling it. Its resistance to reform betrays a contempt for market forces. If unwilling to concede on VAT and pension reforms, Mr Tsipras must offer something better: ideally, to break the cartels that hold back the Greek economy.

Were either side to back down, Grexit would be avoided, at least for the moment. But the creditors’ offer has the best chance of preventing a repeat of this saga. Mr Tsipras should accept it."

A leaked paper shows that as a ratio of GDP, Greek military spending is only second to the UK in Europe.

The Greek government "has an extraordinary portfolio of assets" and the balance sheet of the government’s Real Estate Development Company amounted to €280bn, an IMF official said in 2011. “I’m only signaling that we are talking about a low percentage of the total,” he added in relation to proposed privatisations.

In 2013 Greece received a net payment of 2.9 % of GDP from the EU budget. This was a transfer (not a loan) and the country would receive similar transfers in the future too. These funds are included in the primary surplus budget target (ex-interest payments).

Debt relief

If at a stroke Greece's public debt was cut from about 175% of GDP to 75%, it would boost confidence but the same short to medium term economic challenges would remain and it's not clear that the new government is ready for a task that will take many years.

That is not an argument against the need for debt relief as part of a long-term strategy.

In 2014 Greece’s nominal interest spending was 4.3% of GDP and an net 2.6%, much lower than Italy's or Portugal's. When allowing for the fact that Greece did not pay any interest on some of the bailout loans and got refunds from the ECB and national central banks, total interest expenditure in 2014 has been estimated at 2.6% of GDP while according to a UBS bank economist Greece’s debt maturity in Jan was 16.5 years, double that of Germany and Italy while Portugal and Ireland, which also benefited eventually from favourable terms for their own bailout loans, had average maturities of 11 and 12.5 years, respectively.

See page 3 of a Greek government report: "Weighted average residual maturity of State Budgetary Government Debt on 30/09/14: 16.50 years."

Zsolt Darvas of the Bruegel think-tank in Brussels estimated in January that "even without any change in bailout terms: actual interest service costs of Greece will likely be below 2% of GDP in 2015."

Greece’s per capita GDP (in dollars) and based on IMF data, which had risen from 41% of German levels in 1995 to 71% in 2009, had fallen back to 47% by 2014. On a purchasing power basis the drop was nearly as significant, from 77% of German levels in 2008 to 57% in 2013.

Since 2010, about €100bn in private sector deposits have left Greece and despite repayment of foreign creditors, Greece was a net receiver of troika funds from 2010 to mid-2014 according to Jeremy Bulow and Kenneth Rogoff, professors of economics respectively at Stanford and Harvard.

Venezuela

The official Venezuelan Bolívar/ US dollar rate is 6.35  but the unofficial or black market rate is above 400.

Steve H. Hanke, a professor of Applied Economics at The Johns Hopkins University in Baltimore, estimates Venezuela’s annual inflation rate at 335% — the highest rate in the world.

The price of Venezuela's 10-year US dollar-denominated bonds tumbled 60% from July to as low as 31 cents on the dollar in January. Wednesday, the debt traded at 35.15 cents, with a yield of 26.4% according to The Wall Street Journal. Bond prices move inversely to yields.

In January the government said China pledged $20bn in new investment in housing and infrastructure,, which would bring total public Chinese lending to $50bn.

Venezuela has the largest oil reserves in the world. It should be rich but it is an example of how economic mismanagement can wreck an economy.

Ricardo Hausmann, a former finance minister, and now a Harvard professor, wrote in the FT last January that "By 2012, when Venezuelan oil averaged $103, the country was spending as if the price was $194, running up a fiscal deficit of 17.5% of gross domestic product. That is why the economy went into crisis in early 2014, when the oil price was still $100."

The government has a three-tiered exchange rate system to try to control prices, profits, and production in the economy but it doesn't work.

Oil accounts for about 95% of exports.

Vladimir Lenin is reputed to have said: "The best way to destroy the capitalist system is to debauch the currency."

Venezuela shows that it can also destroy a socialist economy and a Greece taking the advice of "experts" in comfortable armchairs advising it to go it alone with the help of another Russian communist, should be aware that there are seldom magic solutions for ingrained economic and social problems.

The World Bank's ease of doing business index for 2015 has Venezuela at 182 of 189 countries. Greece is at 61, behind Tunisia but up from 109 in 2010. Ireland is at 13.

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