The deal to save Greece

Over the weekend Greece, the International Monetary Fund and the European Union agreed to a bailout plan for the Greeks.  Here are some of the details:

* The Greek government has agreed to new budget austerity measures.  The goal is to cut the national budget deficit from 13.6% of GDP in 2009 to less than 3.0% of GDP in 2014.  The cuts necessary to get the budget to this level are worth $40 billion and include…

– public wages and pensions are held fixed for three years
– value added taxes (VAT) on alcohol, fuel and tobacco will go up 10%
– an increase in the VAT from 21% to 25% on every good sold in Greece
– new taxes on business – the amount is not specified
– taxes on illegal construction
– an increase of the retirement age for public employees from 61 to 67

* Finance ministers of the member states of the EU now must approve the Greek budgetary cuts in order for the IMF and EU aid package to be released.  These monies amount to approximately $159 billion (!) to be awarded over the course of several years.

What is the likely affect on Greece?  Well the first thing is that the budget cuts are to be made law when its parliament meets on May 7.  Over the last several years there has been intense and violent rioting in Greece for budgetary cuts that were for far less money.  So it seems inevitable that Athens is going to witness numerous protests over the coming months.  In turn, this will deeply affect tourism which is around 15% of Greek GDP.  Lower revenues from tourism will, in turn, make it even more difficult for Greece financially and may lead to them failing to achieve budgetary milestones.  Further, this may bring the Greek government down which would again throw the Eurozone into paroxysms.  If it doesn’t bring the government of Greece down, the Greek’s, already in deep recession, will still see a deepening recession because public sector spending is a giant proportion of Greek GDP.  Additional austerity measures are nearly guaranteed to deepen Greece’s recession.  Thus, it is likely that Greece misses budgetary milestones.  What will the EU do then?  Who knows.

Certain other nations are more affected by this news than others.  For example, Germany, as the most solvent nation in the Eurozone, and long its primary financial backer, now must pony up a tremendous amount of money for a foreign nation that glutted itself on debt.  If approved in Germany the cost to that nation will initially be around $11.3 billion.  The total could get as high as $33.1 billion over the next three years.  Needless to say, the public response in Germany deserves monitoring.  The German public is already weary from the effects of the global recession and it may balk at these monies being provided to foreigners.

Recall that both Portugal and Spain are in nearly the same situation as Greece in terms of each nations’ public finances.  This week the government of Portugal is to hold a public debt auction in the financial markets.  It will be interesting to see the effect of this Greek bailout package on the worth of Portugal’s debt interest rates.  If the markets are calmed by the bailout deal for Greece then this will be indicated by a lowering of Portugal’s interest rates secured on new debts.  If the markets are not calmed then the EU has big reasons to worry.

Because of Germany’s likely acceptance of the bailout the other member states of the Eurozone will also now likely approve the package.  The aid package is now being sold to the European public not as an aid package to Greece but as a stabilization package for the EU’s currency, the Euro.  Once the Euro has stabilized it will be interesting to see just how much stomach there is for continuing aid to Greece for the full three years.  I have been saying that this existential crisis calls the whole EU endeavor into question.  It appears that the Europeans may have averted dissolution for now.  However, the crisis has shown the deep structural faults in the European Union.  It will be important to monitor any changes to EU structure going forward.

Jason