So… what about Greece?

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By:
Kanika Saigal, Euromoney Skew
Published on:

The ECB’s bond-buying plan could be the glue that holds the eurozone together, binding in troubled sovereigns such as Spain and Italy – but not everyone will be saved. Capital Economics argues that a Greek exit is imminent.

Markets rallied before and after Mario Draghi officially unveiled the European Central Bank’s (ECB) bond-buying master plan on Thursday. Finally, after three years of waiting, the ECB has put together a plan to prevent rising government bond yields from unravelling the single currency. Or has it? The new programme will aim to help cap borrowing costs and maintain market access for sovereigns such as Spain and Italy – although there is extensive debate over whether or not Spain will formally request aid – but let’s pause for a moment and consider whether the forgotten problem country, Greece, can reap any benefit.

Bond purchases could be considered for eurozone countries under bailout programmes, when they regain bond-market access, and according to Capital Economics, the new bond-buying plan could potentially have some positive side-effects on Greece:
“In theory at least, the ECB’s plan to undertake OMTs [outright monetary transactions] provides scope for the Bank to step in and prevent a potentially imminent collapse of Greece’s second bailout deal. As things stand, Greece wants to be allowed to tighten fiscal policy less drastically in a bid to kick-start an economic recovery. But this, combined with the fact the economic slump has been worse than the troika had expected, would mean that eurozone policymakers would need to provide Greece with a third loan package – something which policymakers in parts of the core are refusing to sanction... However, if the ECB purchased Greek government bonds in the secondary market, both sides could get their way. The EFSF [European Financial Stability Facility] would also be left with more firepower to bail out Spain, and lower bond yields might allow Greece to be able to issue debt to meet some of its financing needs.”

However, this is a highly unlikely outcome. Instead of insisting that the ECB will be Greece’s knight in shining armour, Capital Economics sticks to its original prediction that Greece will eventually leave the eurozone:
Greece does not meet the ECB’s criteria that countries needing help must be meeting fiscal conditions set out in the bailout packages. What’s more, the troika has indicated that the government must prove it is able to meet the conditions it failed to meet in the first few months of its programme before it will consider renegotiating the existing deal.”

And Capital Economics does not think that Greece will be able to do this due to a number of factors. Firstly:
“...the coalition partners have still not reached an agreement on how to generate the €11.5 billion of spending cuts that the troika originally demanded by June. What’s more, the troika is reportedly unhappy with some of the spending measures that the government has agreed upon. And during the ongoing visit to Athens, the troika may conclude that the government is falling short of other demands that were included in the bailout’s memorandum of understanding.”  

Secondly:
“...it may not be possible for the ECB to purchase Greek bonds without violating the rule prohibiting monetary financing. Unlike Spain, Greece does not even have a badly functioning market for short-dated debt to stabilize. (Short-term bonds not held by the ECB were swapped for much longer-dated bonds earlier this year.) Accordingly, if the ECB were to provide Greece with support, it would probably either have to purchase short-dated bonds directly from the government, or encourage private buyers to buy them by guaranteeing to purchase them subsequently. The Bundesbank and others would argue that either of these actions would breach the ECB’s rules.”

Thirdly:
“...there is a risk that divisions within the troika may build and eventually prompt the bailout to break down, leaving the ECB with no deal to rescue. During the current visit to Greece, we think that the IMF might conclude that the bailout plan’s existing economic and fiscal forecasts are no longer credible and that the public debt-to-GDP ratio will fall more slowly than previously assumed. Since the IMF will in principle only lend to governments if the programme is expected to return their debt to a sustainable level, it might decide to withdraw support unless eurozone governments or the ECB agreed to restructure some of their Greek debt holdings. Needless to say, this would be strongly resisted by some core eurozone policymakers.”
Finally and most worryingly:

“...the ECB’s new bond-purchase plans will arguably make it easier to prevent contagion to larger economies in the event that Greece leaves the eurozone. Accordingly, the ECB’s actions may prompt some eurozone policymakers to take an even tougher line with Greece.”

Perhaps Greece has some other options, such as bill Germany for outstanding Nazi war crimes. However, let’s hope it does not come to that.