European Central Bank President Mario Draghi has taken a decidedly more activist and creative approach than his predecessor, Jean-Claude Trichet, toward supporting the euro-area economy and propping up its banks. Now, he has an opportunity to take the initiative with Greece, the currency union’s sickest economy.
After weeks of wrangling, Greece is close to completing yet another inadequate deal to fix its finances. If all goes as planned, it will get as much as 100 billion euros ($132 billion) in debt relief from private creditors, and 130 billion euros in loans from the European Union and the International Monetary Fund to help cover its borrowing needs while it carries out austerity measures. The stated goal: to lower the government’s suffocating net debt burden of more than 150 percent of gross domestic product to the slightly less suffocating figure of 120 percent of GDP by 2020 -- a level that would still leave it among the euro area’s most indebted.
Greece’s end of the bargain is extremely onerous. The government must reduce its annual primary budget deficit by about 7 percent of GDP, or more than 15 billion euros -- the equivalent of what it spends every year on social programs. With unemployment at more than 20 percent, industrial production down 11.3 percent in the last year and the economy expected to shrink 4.5 percent in 2012, the budget target all but guarantees that Greece will be back for another bailout, if it manages to avoid a descent into civil unrest.
Official creditors, such as the European Union and the ECB, have the power to increase Greece’s chances of pulling through. They hold about 40 percent of the country’s sovereign debt. If they agreed to take losses alongside private creditors, Greece’s net debt burden could be brought down to roughly 80 percent of GDP immediately. The move would halve the deficit reduction required of Greece, significantly improving its economic prospects and reducing the amount of new loans it would need from the EU and the IMF to stay afloat in the years ahead.
Here is where Draghi comes in. By various estimates, the ECB holds between 36 billion euros and 55 billion euros of Greek debt, much of it purchased on the open market at a deep discount to face value. According to Bloomberg News, euro-area officials have said the ECB is considering ways to give Greece a break on that debt, possibly in a deal that would involve selling it at cost to the European Financial Stability Facility.
This would be an excellent move: It would allow the EFSF to lighten Greece’s debt load and would point the way toward more official participation in a realistic solution to the crisis. It would also permit the ECB to avoid losses that could otherwise undermine its ability to keep buying the bonds of other troubled countries such as Spain and Italy.
Action from the ECB would be only a first step. European leaders, in particular German Chancellor Angela Merkel, face serious domestic political obstacles to providing debt relief. They might also believe that the more Greece is beholden to them, the more leverage they’ll have to press for further austerity measures. That approach carries a big risk of pushing Greece -- and possibly the global economy -- straight off a cliff.
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