THE GREEK government needs to raise about €53 billion this year to refinance existing sovereign debt and to pay for new borrowing to bridge its huge budget deficit. A default on loan repayments by Greece would not just undermine the credibility of the euro but would mean that other euro zone member states with similar budgetary difficulties - Portugal, Spain and Ireland – would face the risk of contagion.
That would further depress the value of the euro, which has fallen by about 9 per cent since December, and raise major doubts about the future of the single currency. The European Union took a tentative step yesterday towards ensuring that malign scenario does not unfold. But it may have to take further and much greater action in the months ahead.
Greece has not received a bailout – it never sought one – but it has won a qualified vote of confidence from the EU. Euro zone member states, while professing confidence that Greece can handle its debt and deficit problems, stand ready to offer financial support in certain circumstances: where Greece cannot finance its sovereign debt requirements this year but where it has attempted to meet financial targets agreed with the European Commission.
Certainly, bond markets will be heavily influenced by Greece’s success or failure in honouring a key commitment to reduce its budget deficit by four percentage points in 2010. The Greek government’s progress in meeting this target will be closely monitored by the European Commission in liaison with the European Central Bank (ECB), with advice – though not financial assistance – from the International Monetary Fund (IMF).
The EU has signaled its willingness to help Greece and as new EU president Herman Van Rompuy made clear: “Euro area member states will take determined and coordinated action if needed to safeguard stability in the euro area as a whole”. For the EU, the challenge has been to help Greece without creating moral hazard by giving member states at risk of sovereign debt default less incentive to rectify their financial imbalances. That danger has been avoided for now. By not asking for financial support, Greece has accepted that it bears the responsibility to put its national finances in order.
Euro zone member states have offered solidarity and promised support if needed but only if Greece meets its obligations to do everything – including taking extra measures – to rein in its deficit. Whether prime minister George Papandreou can do so is open to question, given the scale of the budgetary adjustment his government faces this year and the lack of social cohesion which is so evident in the divided public response to the country’s mounting debt crisis.
That Greece has accepted responsibility for set financial targets, having agreed these with the European Commission, was a necessary first step. But it may prove insufficient. That will depend on the country itself and on how bond markets regard its government’s efforts at budget management and debt reduction. The European Union remains on alert and on financial standby.