Greece’s Problems Are Only Getting Worse

The Greek economy is shrinking and its debt burden growing at a faster pace than previously projected.

Greek debt talks are reportedly at an impasse just as the troubled European nation’s fiscal predicament tightens. Even if private bondholders are willing to accept a 50 percent “haircut” on their investments, Greece’s debt will likely increase by €20 billion more than was previously anticipated this year.

The Greek economy, which shrank about 6 percent last year, is projected to shrink another 4 percent by the Credit Suisse and Goldman Sachs investment banks which is worse than the International Monetary Fund forecast in November.

With the rating of Europe’s temporary bailout fund in jeopardy because of Standard and Poor’s downgrades of Austria’s and France’s creditworthiness last week, a refinancing of Greece’s debt obligations may prove difficult in the short term. There isn’t the political will in the few euro countries that maintain their treasured AAA ratings — Finland, Germany, Luxembourg and the Netherlands — to loan billions more to insolvent nations in the periphery of the single currency zone.

European leaders agreed to a second Greek bailout package last year worth €130 billion. A chunk of that money may need to be spent soon if Greece is to recapitalize its banks and persuade private bondholders to accept a restructuring.

Investors are asked to swap more than €200 billion of Greek bonds for new paper nominally worth half that value. In order to “sweeten” the deal, Athens would need to borrow some €30 billion from its dedicated bailout fund but northern politicians are reluctant to write it such a check. Given that the Greek government has failed to deliver on austerity promises repeatedly in recent years, leaders elsewhere fear that they’ll undermine the incentive to implement necessary budget reforms if they don’t make life difficult for their Hellenic counterparts.

There will also be elections in Greece soon, probably in April, which the opposition conservative party are expected to win. Antonis Samaras, if he becomes prime minister, may seek to renegotiate his country’s financial pacts with the other eurozone governments as well as with private bondholders. His New Democracy party has signed onto the terms of the most recent bailout package but previously rallied against austerity measured introduced by George Papandreou’s socialist administration.

European and IMF inspectors have seen very little progress in terms of fiscal consolidation. Public spending has been cut substantially but tax revenue has simultaneously decreased. The government’s shortfall didn’t much improve between 2010 and last year. In both years, the deficit exceeded 10 percent of gross domestic product.

Structural entitlement and labor market reforms remain politically sensitive as people have seen their paychecks and pensions cut without the government offering any prospects for growth. A comprehensive privatization effort has yet to be initiated. Business confidence is fading while nearly one out of five Greek workers is unemployed.