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What is Greece’s future?

June 2, 2011

Moody’s reduced Greece’s credit rating today to Caa1 from B1.  According to the method that Moody uses in its ratings, Caa1 is just five notches short of default and implies that Greece is 50% likely to default on or restructure its debts in the next five years.  While Greek interest rates continue to hover in around 16%, they declined from 16.8% to 15.7% on Tuesday after word that another rescue package for Greece worth €60 billion ($86 billion) was being negotiated.  This is still significantly higher than when Greece received its first bailout in May 2010—back then, rates were around “only” 10%.

Even if this newest bailout is approved and Greece can delay having to borrow on the international market until 2012, how will Greece recover from the staggering debt it has already accumulated?  Last week’s Economist had an interesting article that examined Greece’s options.  Of course, none of them are good and the question then remains, “who should pay for the Greek debt?”  Currently, it is all of Europe in the form of rescue packages for Greece and the Greek people as their welfare net and economy shrink.  Were there to be a debt restructuring, then it might be bondholders, who with hindsight appear to have been too eager to lend to Greece in the first place.

However, so far European politicians seem to be opting for the most painless option (at least in the short term) of forcing the Greek government accelerate privatization and collect more taxes.  This might indeed produce more revenue for the Greek government, but issues remain, such as it is not allows clear who actually ones a piece of land in a country that has existed in some form for over 2,500 years.  More importantly, will this cure actually fix the cause of Greece’s problems in the first place?  After all, privatizing an island might produce revenue when it is sold, but it is a one-off event. Once it’s gone, it’s gone, and the government will only ever receive more revenue from that island if it is able to tax it later.

What Greece really needs right now is for its economy to grow.  The first bailout bought the country a year to try to get things moving forward.  However, the Greek economy is heading in the wrong direction, as it has been declining and austerity will probably only make it worse in the short term, as it is estimated the they will need to cut another €7 billion in government spending.  As a result, be prepared to revisit The Economist’s chart of Greece’s options in the near future, and this time, the options may be even less cheerful.

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