31 July 2015

IMF involvement was always going to be difficult

The Financial Times reported yesterday that the IMF is unlikely to be taking part in the third Greek bailout – at least not immediately and not until Greece has a begun implementing reforms and until the Eurozone has agreed to significant debt relief for Greece. This could take some time. However, it was not entirely surprising. Since the first leaked debt sustainability analysis, it was abundantly clear that the differences between the Eurozone and IMF on debt relief were “very large” (as the IMF reportedly put it). The IMF requires there to be a clear possibility/willingness to reform and debt sustainability over the long term in order to join any programme. These factors have of course been fudged in the two previous Greek bailouts. Many had assumed the same would happen this time around, however, clearly the broader membership as well as the staff of the IMF believe doing so would further damage its credibility.

What does this mean in terms of funding?

ESM €77.4bn
IMF €9bn
ESM €57bn
IMF €29bn

Working on the assumption that the bailout will total around €86bn (it could well end up being more given the economic decline in Greece) the IMF would have been expected to provide between 10% (as in the Cypriot bailout) and a third of the funding (as in the Irish, Portuguese and Greek bailouts). This leaves the Eurozone having to stump up between a further €8.6bn and €28.7bn. Given that the Klaus Regling, Head of the Eurozone’s bailout fund the ESM, has suggested that he believed the ESM share would total €50bn, it could well be closer to the latter. In terms of specific country exposure this could see Germany’s exposure jump by a further €1.7bn and France’s by €1.3bn (an upper bound). The funding situation, which already looked questionable given the IMF hesitancy, now looks precarious and poses some tricky questions for a number of countries.

Tough questions for a number of countries from Germany to Greece

Germany, along with the likes of the Netherlands and Finland, has steadfastly wanted the IMF involved throughout the crisis. This largely stems from a lack of trust in the European Commission to perform the necessary detailed economic assessments and come up with the reform programmes. They now face a choice of just how badly they want the IMF involved. Are they willing to offer larger levels of debt relief sooner in order to keep the IMF on board? If not, are they willing to force another even larger bailout package (with larger Eurozone exposure) through their hostile parliaments? Will they even be able to?

It also presents some challenges for Greece. The IMF has emerged as an unlikely ally for Greece, at least in its push for debt relief. Having the IMF on board is now seen as somewhat of a guarantee that debt relief will definitely take place and that there will be a voice inside the creditors pushing for it to be as large as possible. Despite having previously wanted the IMF out of the bailouts Greece may now be reconsidering that position.

All of this raises the prospect of the bailout never actually happening. On top of the problems noted above the IMF’s insistence also further skews the view that this bailout will be throwing more money down a black hole and is not sustainable. At the moment I think the bailout will still go ahead given the efforts made to step back from the brink but there are plenty of hurdles to get over and there seems little willingness to drive the agreement at the moment. Maybe that will change as the ECB payment deadline on the 20 August approaches.

Highlights why debt still matters in Greece

This whole situation highlights why the issue of debt is still important in Greece. It is political as much as economic. Of course, Greek debt looks unsustainable in a long term perspective – the targets for a large sustain primary surplus and high levels of growth just seem entirely unrealistic. But as we have pointed out before, once this year’s debt payment hump has been gotten over and once ESM is assured to pay out the ECB and IMF in coming years, the debt issue does not look too bad from a short term perspective. But this misses the bigger picture tied to the fact that long term debt sustainability is part of how the IMF works (you can question this but for now it is a fact/reality), debt relief is now intricately tied into politics in Greece and the government is almost reliant on it happening soon, while it is also a political tool for enforcing reform implementation by linking the relief and pay-outs to reviews.