Taxpayers pay back the banks: Greece’s tragedy of governance

Imagine you have a gambling problem. You like going to the casino, the occasional flutter on the horses or plain card-playing with the lads. You’ve been warned that this lifestyle is not sustainable. You get lucky sometimes. But when you need cash, you turn to banks and other ‘friends’ to loan you the money to keep playing. And then it catches up with you: time to pay up. You and your dependents are going to have to make some serious changes, live a different lifestyle, cut out some everyday luxuries. Your creditors take your flat-screen TV, some furniture, anything that pays off the loans. Your family pays for your debt as well. Welcome to the Greek tragedy of debt.

There’s a lot to be said about the reasons why Greece today is the sick man of Europe.

Like many familiar stories of electoral priorities and political expedience skewing the country’s economic sanity, Greece had been living beyond its means. Its government’s overspending was fuelled by rising levels of debt – debt that must be repaid.

Take the 2004 Olympics in Athens for example. At a total cost of €7.2 billion – including €970 million over heightened security concerns after the 9/11 attacks – the extravagance of the Olympics left Greece paying millions every year to maintain the Olympic village. The Daily Mail (in its own bid against London’s 2012 aspirations) said it cost Greece €500 million in the years after to maintain the derelict village.

Heavy borrowing was compounded by its huge public sector salary. And the money wasn’t flowing in either. The Wall Street Journal reported that tax evasion had created a shadow economy of some 25.1% of GDP in 2007. In true Mediterranean style, the shadow economies of Spain, Portugal and Italy were all around a fifth of GDP. That compared with just 11.8% for France and 7.2% for the USA. According to Friedrich Schneider, a professor at Johannes Kepler University in Linz, Austria, these countries – mainly latecomers to democracy from the 70s or like Italy prone to frequent political crisis – people aren’t used to governments representing the public interest. What matters is family and not state. Tax evasion is not frowned upon.

So when the worst came in 2008 with the international financial crisis, Greece found itself unable to cope with the massive downturn. In 2010, its budget deficit leapt to 13.6% of its GDP, when under eurozone rules it should be only 3% of GDP.

Which banks are most exposed to Greek sovereign debt?

Socialising debt

Perhaps it’s not only about Greece’s bad habits. As the TV screens relay back images from Athens of riots and protests against soaring unemployment and deep austerity cuts, little it seems is being said of the banks that provided the cash in the first place.

For eurozone countries, the immediate impact of Greece’s worsening status is on the Euro currency. That’s because much of Greece’s debt is held by European banks – if the money is not repaid, the banks will suffer, and in turn it will be their shareholders or people who have their private pensions invested in financial institutions. German and French banks hold €30 billion of Greek debt. Italy too has huge debt, but – like Malta – lives with it because it borrows from domestic savers in the form of bonds.

You have to see the game being played out here. Greece must pay its debt back, to protect the private sector creditors. Greece must cut its deficit radically and pay back the cash it had borrowed so easily in the past. Because over-lending to these countries and the credit default swaps they issued on these bonds are of the private banks’ own exclusive making.

So the bailout actually serves to give Greece the money to repay the debt from the bank loans. But the austerity of its budgetary measures (that is, the way Greece is going to have the raise the money from higher VAT and freezing public sector wages and selling national assets, to pay off the banks) is now being shared by its taxpayers. The profits are still private – the banks get their money back. It’s the austerity that is socialised.

That’s why Wolfgang Schäuble, the German finance minister, wanted Greece’s private-sector creditors (before Angela Merkel and Nicolas Sarkozy decided not to involve private money) and German banks to shoulder part of new bailout – apart from a privatisation programme Greece must undergo to raise €60 billion. The IMF, the European Commission and the European Central Bank must raise another €60 billion. This should keep the country fully funded until 2014, but by then it must have started bringing its deficit down.

It is not a direct payment: it is a loan at lower than market interest rates but at higher rates than other countries would get it for. So we’re not ‘giving’ Greece money. We’re lending it the cash.

Austerity bites

So Greece needs a cash injection to keep the wheels of the economy turning. But its credit status is so bad, that it can only get loans at high interest rates. Last year, Greece was handed a €110 billion bailout deal – Malta’s share, as a eurozone member, was €17 million. Not much perhaps. Or a lot, when you consider Air Malta’s own €50 million bailout.

Like Air Malta’s own rationalisation ‘payback’, Greece committed itself to slash its deficit down to Maastricht sanity. But its austerity measures are failing because it is cutting too deep. The effects of the medicine Greeks have had to swallow sound unprecedented: unemployment shot up by 40% over the past 12 months, with the rate now standing at 16%; 42% among young people alone. It will also freeze public sector workers’ pay, make further cuts in civil servants’ benefits, increase VAT and fuel duty, raise retirement age and reduce pensions.

The Greek government is trying to take its 7.5% deficit down to 1.5% of GDP by 2015, which means cutting spending a lot. And while Greece is trying to pay back its debt to the IMF and the European Central Bank, growth is nowhere to be seen, meaning – the economy is not producing enough goods and services over previous years.

Future options?

Greece’s conservative opposition says the government is cutting too deeply, too quickly to get below the eurozone’s Maastricht criteria, which binds member states like Malta to a 60% overall debt to GDP and the 3% annual deficit limit.

But what do these limits actually mean? These were actually based on the average debt and growth rates of 1990. There is no economic rationale for these figures. Germany was one of the first to break the rule after taking in the costs of reunification in 1990.

Could Greece even leave the eurozone and go back to the drachma? The ECB is against this idea because it would mean Greece defaulting on its debt, leaving the rest – Malta included – to pay the capital our own banks (Bank of Valletta’s loan for example is of €9 million according to UBS) to pay the capital they loaned to Greece.

And if Greece does it, there’s the risk that even the so-called “Piigs” – Portugal, Ireland, Italy and Spain as well as Greece – follow suit and default. What follows in this case would be that their national currencies would fall so much in value that they start resuming competitiveness (remember when Alfred Sant suggested a devaluation of the Maltese lira? It makes buying labour and Maltese goods cheaper). But if Greek exports are a low proportion of GDP, the effects of the increase in competitiveness may not outweigh the costs.

It would also create certain upheaval if other countries are enticed to follow, to the further detriment of the EMU. A currency switch is also costly, and could even prompt a run on national banks by savers who want to take their money in foreign banks instead of seeing its value depreciate.

So what’s happening now is that the European Union, under the guise of ‘solidarity’, is telling Greece to repay back the private banks of eurozone countries by cutting deep with its austerity measures. It’s Greek taxpayers who are paying back the rest of Europe. And the panic is evident, not just in Greece but in the rest of Europe. With Greece fast approaching its Lehman moment, it was left until this week for Germany and France to hit the panic button and get the EU to put in the money needed to recapitalise the financial system of the country.