Greece's Reprieve: In Praise of Kicking the Can Down the Road
The melodrama in Greece has produced demands that Athens and its European partners take decisive action to fix a complicated situation once and for all. In fact, kicking the can down the road—as the players did recently to avert a financial crisis—is an underrated and long-standing feature of debtor-creditor relations. The rattling metallic noise produced by the joyous act of kicking that can is fondly remembered from childhood days. Today it marks the sound of Greece and its official sector partners bound together in a long-run relationship by virtue of their large exposures as debtors and creditors.
No doubt a more orderly and speedy negotiation with less last-minute drama and posturing in public would be welcome. But unconditional fiscal transfers are not envisaged. Complete and unconditional debt relief would run the risk of profligate spending in Greece and elsewhere. At the opposite end of the spectrum, expecting a new government to abide willingly by a detailed list of tough austerity measures in the absence of outside monitoring also does not seem plausible. Anything in-between is messy and requires repeated interaction.
Creditors will continue seeking to influence the economic policies of a debtor country in an effort to get repaid. Greece will be asked for some degree of "austerity" for many years to come. Negotiations on debt relief and the size of the primary surplus are two sides of the same coin. Creditors will ease the pressure only if it becomes apparent that excessive austerity will undermine economic growth to the point that it reduces the debtor's ability to repay.
It will also take time to see whether the new government proves its mettle by pursuing tax evaders, succeeding where previous governments have failed, and to see if the glimmers of hope for an economic recovery last year can return once the uncertainty subsides.
Prolonged negotiations between debtor countries and their creditors are nothing new. Repeated debt reschedulings conditioned on policy adjustment were a defining feature of the Latin American and middle income country debt crisis of the 1980s, when it was called "muddling through." Similarly, renegotiations between defaulting governments and standing organizations of private creditors such as the Corporation of Foreign Bondholders were commonplace during the first era of global bond finance (1870–1913).
But the closest analog to Greece's current predicament is that of the many emerging-market and developing countries that underwent repeated Paris Club debt reschedulings over the past 60 years. In those cases, a large portion of the outstanding public debt was in the hands of other governments. Ever since the first Greek program supported by the International Monetary Fund (IMF) and the European Union was launched in May 2010, the official sector has provided large amounts of financing to Greece. At present, four-fifths of Greek public debt is held by the official sector (European governments and institutions, as well as the International Monetary Fund). Most of this debt is at concessional rates (at least compared to market rates Greece would face).
As is well known, the Paris Club is a forum at which creditor countries (including 20 permanent members, mostly advanced economies) renegotiate official sector debts. Over the past six decades, the Paris Club has been responsible for 430 agreements with 90 borrowing countries, involving reschedulings worth almost $600 billion. Debtor countries have been developing and emerging-market economies in several continents. A few were part of currency unions (such as the members of the CFA franc zone), but the majority had other exchange rate regimes. Sometimes debtors and creditors had close historical and cultural ties, sometimes they did not.
In virtually all cases, reschedulings are conditional on policy commitments, designed to reduce the likelihood of future financial difficulties. The debtor country is invited to a meeting with Paris Club creditors when it has concluded a program with the IMF that demonstrates that country's inability to meet its external debt obligations, requiring new payment arrangements with external creditors. The debtor country is usually represented by a delegation headed by its minister of finance. Representatives of the IMF and other international institutions attend as observers. The similarities with the Eurogroup meetings are considerable, even if Greece is different because of its GDP per capita level, scale of loans, and concentration of government lending from Europe only.
The Paris Club customarily seeks comparability of treatment among creditors. One should not underestimate this aspect of meetings involving all European governments, who may differ in their respective inclinations to provide relief to Greece.
Reflecting on "The Paris Club at 50” (in a 2006 speech), Stanley Fischer, the former IMF deputy managing director who is now vice chairman of the Federal Reserve, insightfully noted that major questions remain about the effectiveness of the combination of conditionality, concessional loans, and debt relief. Many countries, he pointed out, received conditional debt relief again and again.
Indeed, the system is laborious and sometimes ineffective, but many countries have also graduated from it over the years. In the more recent European experience, Ireland and Portugal have returned to the markets, even though European and other international creditors will not stop paying attention to those economies and their policies. Despite the failings of conditional debt relief, it has been a long-standing feature of international financial relations, and it is likely to persist.
Greece and its official creditors are bound together by long-term financial relations for many years to come. They will likely face each other in several rounds of negotiations. To the extent possible, those responsible for the joint, unenviable task of kicking the can down the road should appreciate that it is, after all, a game that has been played many times before. But they should also use the time gained for policy action. With measures that restore growth and increase revenues while maintaining expenditures in check, they might still surprise on the upside with an early graduation.