Greece: Preliminary Debt Sustainability Analysis—Updated Estimates and Further Considerations, May 2016
Summary: Greece continues to face a daunting fiscal consolidation challenge. After seven years of recession and a structural adjustment of 16 percent of GDP, Greece has only managed to achieve a small primary surplus in 2015, and this due to sizeable one-off factors. This is still far away from its ambitious medium-term primary surplus target of 3½ percent of GDP. Reaching this target still requires measures of some 4½ percent of GDP. Low-hanging fruit have been exhausted, and the scope for new significant measures is limited.
BACKGROUND
1. The changes to staff’s DSA discussed in this note are an extension of the gradual evolution in the DSA that has taken place since the approval of the first program in May 2010. The key features of this evolution relevant to the understanding of the updated DSA are as follows:
Debt was deemed sustainable, but not with high probability, when the first program was adopted in May 2010. Public debt was projected to surge from 115 percent of GDP to a peak of 150 percent of GDP, primarily because the expected internal devaluation implied declining nominal GDP while fiscal deficits were expected to add to the debt burden, but also because of the decision to forgo a private sector debt restructuring (PSI). The latter reflected concerns about systemic risks to the euro-zone in the absence of a firewall, among other considerations. Only under assumptions of ambitious long-term targets for growth and the primary surplus and, later, for privatization did the DSA suggest that debt could become sustainable. Staff did not consider this likely with high probability, and Board approval of the program was preceded by a change in the Exceptional Access policy, allowing Fund support in cases of high risks of international systemic spillovers even if debt was not deemed sustainable with high probability.
The much deeper-than-expected recession necessitated significant debt relief in 2011-12 to maintain the prospect of restoring sustainability. Private creditors accepted large haircuts (concerns about contagion had largely subsided by then with the creation of a firewall); European partners provided very large NPV relief by extending maturities and reducing and deferring interest payments; and Fund maturities were lengthened by replacing the SBA with an EFF. European partners also pledged to provide additional debt relief—if needed—to meet specific debt-to-GDP targets (of 124 percent by 2020 and well under 110 percent by 2022).
Critically for the DSA, the Greek government at the time insisted—supported by its European partners—on preserving the very ambitious targets for growth, the fiscal surplus, and privatization, arguing that there was broad political support for the underlying policies. Despite the significant relief and still very ambitious assumptions, the DSA’s baseline debt trajectory was considerably worse than projected in 2010. In this context, and taking into account the new commitments by European partners to provide additional debt relief, if needed, staff maintained its assessment that debt was sustainable, but not with high probability.
Serious implementation problems caused a sharp deterioration in sustainability, raising fresh doubts about the realism of policy assumptions, especially from mid–2014. The authorities’ hoped-for broad political support for the program did not materialize, and implementation problems became evident soon after approval of the EFF, causing long delays in concluding reviews, with only 5 of 16 originally scheduled reviews eventually completed. The problems mounted from mid-2014, with across-the-board reversals after the change of 2 government in early-2015. Staff’s revised DSA—published in June 2015—suggested that the agreed debt targets for 2020-2022 would be missed by over 30 percent of GDP. Critically, this deterioration reflected largely an increase in financing needs, as there were only modest downward revisions to the DSA’s ambitious targets, because the new government insisted—like its predecessor—that it could garner political support for the necessary underlying reforms.
Staff warned that growth and primary balance assumptions still remained very ambitious and imparted significant downside risks to the outlook in view of the evident implementation problems, and that key targets would have to be lowered in a program that the Fund could support unless upfront actions suggested political support for the ambitious underlying policies.
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