Another Victory for Finance?

C.P. Chandrasekhar

Days after the July 22 deal on a second bail-out package for debt-strapped Greece, the full import of the package is still being unravelled. There are two basic messages that seem to be emerging. First, the banks, which were initially seen as having been forced to take a well-deserved hit for their lack of diligence as lenders,  have gotten away with a good deal. Second, as a result, while European governments have staked a lot of their money in the hope of saving the eurozone and preventing another crisis, and so have governments elsewhere through the involvement of the IMF, the crisis has not been even partially addressed, but merely postponed.

The second bail-out package is worth 109 billion Euros, just a billion euros short of the 110 billion provided in the first bail-out more than a year ago. According to observers much of this money will come from eurozone governments in the form of new 15 to 30-year loans carrying an interest rate of 3.5 percent. The IMF, which provided €30 billion in the course of the first bail-out, is expected to provide around that much this time too, if Christine Lagarde, its new European head, has her way. And private creditors will swap or roll over 135 billion euros of existing loans into new, longer-term instruments.

This split, it is now estimated, lets the banks off very lightly.  This should have been expected when the Institute of International Finance, the Washington-headquartered association of leading international banks, emerged an important player in the negotiations. According to the IIF, as a result of the deal the banks are set to lose a possibly overestimated €54 billion. But that is far short of the more than €200 billion they would have lost if Greece was allowed to spiral into total default.

It was clear that eurozone governments were keen to avoid that outcome because it would have meant the break up of the zone and a devastating hit for the euro. But so were governments elsewhere scared of the consequences for a financial world that has been just bailed out of a crisis at huge cost and for a real economy that is still limping back to recovery. Using this fact, finance first mobilised the much-discredited rating agencies to hold all to ransom by declaring that any debt restructuring would force them to declare “selective default”. That did not prevent restructuring but was enough to persuade the others involved to soften the hit that finance capital would be required to take.

In this effort, another member of the “epistemic community” that finance has built to validate its demands, the European Central Bank (ECB), also played a role. The ECB, too, opposed any restructuring on the grounds that it would reduce the value of the collateral that Greek banks provide for the support it provides them. This combined effort, orchestrated by the IIF, allowed banks to substantially lighten the loss they would have to suffer.

But eurozone governments and the IMF are paying a much higher cost for the deal. According to an analysis reported in the New York Times, this loan-tranche of €109 billion euros that they are providing would be worth only 54 billion euros when discounted, implying a 50 percent haircut. Not surprisingly, emerging market directors on the board of the Fund have objected to the IMF’s involvement in the deal. According to the Financial Times, Paulo Nogueira Batista, who represents Brazil and eight other countries on the IMF’s executive board, declared in an interview that since this is the “first big decision” that Lagarde is taking as head of the fund, she has an ideal opportunity to dispel suspicions of bias towards European bondholders. “The community of fund-watchers around the world will be looking to see if she can transcend her European origins,” he reportedly said.

What is galling to most is the fact that at the end of all this, the problem remains unresolved. Greek public debt is still in excess of its gross domestic product. Servicing that even on slightly lighter terms seems near impossible in the midst of austerity that spells recession. Another bail-out is inevitable. The danger is that next time around governments across Europe and elsewhere may be overcome with bail-out fatigue and just risk wholesale default. The banks and private creditors would then get their due. But that is small comfort, since the fall-out for the rest may be too much to bear.