How to negotiate debt relief

Negotiations between Greece and its public creditors restart today. If anybody thought that referendum has not made a difference should think again.

Greece’s negotiating position has strenghtened, not only because the government has the overwhelming majority of the country behind it, with the 61% NO vote on Sunday. But Tsipras has since managed to unite virtually all Greek political parties around a strategy which also will have to include debt relief. As a peace offering to the European side, they have sacrificed the Mr. Spock of the negotiations, Yanis Varoufakis, whose impeccably logical arguments, frankly, wound the Europeans up. Rationality and economic logic are suspended for these negotiations, submission to the ideology of austerity is required. Mr. Spock had to go.
Mr Spock would have taken the negotiations to its logical conclusion, perhaps by pushing the Europeans into a corner to force them into an agreement. That is not, of course, Tsipras’ style, who is great at building coalitions and consensus.

The European position has weakened. They have painted themselves into a corner, saying before the referendum that NO means Grexit, which is, frankly, a lie. That is now clear for everybody to see. The ECB continues to provide ELA at the previous level, the increase in security margin of collateral by 10% makes it look like they are tightening the rope, but in practical terms, that is irrelevant. ELA limits at the current level can continue forever, as long as capital controls are in place.

However banknotes are running out, and might soon not be available any more from the banks, unless the banks open again on Thursday, as currently planned, to accept deposits. Restrictions on transfers abroad mean that suppliers cannot be paid. This means shortages, as goods are not delivered. These are the effects of the capital controls, but these can be overcome by the Greek government if they wanted to. It does not push Greece into a Grexit. (I will write about it in my next post.) So pushing Greeks into a Grexit is hard.

Finally 3.5bn is due to the ECB on 20th July, and the ECB cannot pretend that Greece is solvent any longer beyond that date, should Greece miss the payment. These funds will therefore have to be found somewhere. If they are, it is unlikely that Grexit will happen, and that is now the new deadline for an agreement.

For the Greeks to negotiate successfully, the Greeks have to understand the constraints the chief negotiator for the Europeans, Angela Merkel, has to overcome four major obstacles which she believes to be there

1) Greece will need another 50bn in a third bailout package, and there is only the IMF and/or the EU which can lend

2) Debt relief is impossible for two reasons, because German taxpayers, rather than the Greek taxpayers will pay for past profligacy of the Greeks

3) Debt relief is also impossible, because it would encourage other EU countries to try to obtain the same.

4) Greece cannot be relied upon to adhere the conditionality of a bail-out package, so adherence has to come first, before debt relief is granted

So let us take each of these objections in turn

1) Greece will need another 50bn in a third bailout package, and there is only the IMF and/or the EU which can lend

The German government, and the parliament, the Bundestag honestly believes a further 50bn of new rescue funds are required. And that is what the whole of Germany thinks. That is what the IMF has said is needed, even though, as I pointed out previously, that this is not new money at all.

This is clearly a crucial difference: Any creditor is more likely to agree to the statement “We have to continue with our support at the current level” than with “We need to find another 50bn!”.

Possible Solution: Greece will have to try to explain to Germany and the German public, that it is really just a continuation of the existing debt, and that therefore there is no further bail-out of Greece is required. The bail-out is for the public creditors, the Troika, in effect who got their assumptions wrong.

But as the narrative goes, Germany should frame any further help not as a “bail-out”, but a “Greek sustainability project”, which it would be. Both Greek and Germany (and other creditors) should try to work on this “Greek sustainability project”.

Now Greece could offer to make up the 50bn shortfall identified by the IMF, and borrow the money from its own banks. That should reduce the debt interest burden, and increase GDP. The 50bn debts will once again become the responsibility of the Greek tax-payer, and not the European taxpayer.

2) Debt relief is impossible for two reasons, because German taxpayers, rather than the Greek taxpayers will pay for past profligacy of the Greeks

That is not true. The cost of this “Greek sustainability project” has been born so far by many parties. The Greek public had to accept a vicious austerity program, resulting in 25% unemployment. The cost of this in reduced GDP is more than 35bn a year, a cumulative loss over the years of more than 100bn Euro.

The finance sector, the bond holders in 2012 had to accept a debt write-off of 53%, at a cost to them of 106bn.

The public institutions, the EU and ECB, who failed to monitor and enforce rules such as the Maastricht deficit rule of 3% and 60% debt ceiling have, so far, not had to pay. They failed to take account of excessive current account deficits. They should now pay their contribution to the disaster, and a debt write off of 120 bn would probably be appropriate.

3) Debt relief is impossible, because it would encourage other countries

Would other countries be granted debt relief? The EU should say, yes we will. We will grant debt relief to any country whose public debt is 180% of GDP, and will set up a programme on the lines for Greece, to make sure that your debt becomes sustainable again, adjusting in the long term to 60% of GDP.

So if you want 25% of your country unemployed, your GDP down by 25%, no prospects for your youth, no access to credit markets, no stable governments, an invasion of Troika officials to tell you what to do for five years: Go ahead, make all these debts and you can become like Greece! We will then grant you debt relief after 5 years.

4) Debt relief can only be granted after conditions have been met.

Here the pea-counting really will have to be stop. What difference does it make if corporation tax is 28% or 29%. Or if pensions are cut or not?

What matters at the end of the day if Greece can pay back its debt, or at least reduce it in relation to its GDP. Its GDP nominal growth rate, will have to become higher than the interest rate it pays. Only then will its indebtedness fall over time. That is all what matters and that is why the only conditionality to a debt relief programme should look at the GDP nominal growth rate (that is real growth rate + inflation), and the interest payments.

At the moment Greece pays an interest rate of 2.9% of GDP. (As estimated by the IMF in its latest report, 17.2 bn over the next 40 months, on a GDP of 180bn , that is 2.9% p.a. ). So currently it would have to grow nominally by around 3% or more to make the debt sustainable.

That seems ludicrous, as Greece has only seen falling GDP, why should Greece manage that with 25% unemployed in the long term?

Conditionality 1:

To align debtor and creditor, the money paid back to the creditors for interest should be the GDP nominal growth rate (up to a maximum of 4%), subject to a minimum of 2%.

So if there is no GDP growth, then Greece pays its creditors 2%. If the Greek economy grows by 3%, it pays 3%. If it grows by 5%, it will only pay 4% back. In other words, Greece signs up to a minimum primary balance of 2% and a maximum primary balance of 4%.

Conditionality 2:

Greece does not take out any further loans, other than rolling over existing loans until debt/GDP ratio is back to 60%!

That is it, no further conditionality.

(However, the European creditors have to be seen to be winning, too. So Greece should sign up for the austerity package designed by the Troika before the referendum for one last time. But no further Troika agreements will, from now on, become necessary.)
In return, the European creditors will grant debt relief over 24 years at 5 bn per year. A total of 120bn debt relief from 2016 to 2040.

Will that be enough?

If we assume an interest rate of 3%, nominal growth of 2%, and Greece generating a 2% primary surplus to pay interest on the debt, total indebtedness will fall from about 180% of GDP now, to around 90% of GDP in 2040.

If we assume a lower interest rate, of 2%, due to debts being moved to Greek banks from the European institutions, indebtedness will fall to around 70% of GDP.

Clearly, there is not much room for further external shocks. But an exit of the Troika from Greece will bring stability to the country, which will kick-start growth.

What is the incentive for Greece to adhere to the conditions?

The sum of 5 bn debt relief per year is a pretty strong incentive, being equivalent to 2.5% of GDP! Greece will be better off by 2.5% if it commits to the programme.

How much will it cost the European taxpayer?

Debt restructuring costs 350 Euro per Eurozone European as a one-off payment 120bn, that is over 24 years around 15 Euro per European per year!

Maybe the above is the proposal which the Greeks should take into the negotiations.


The 50bn the IMF identified as new funds are just needed to repay existing public debt considerations.

European institutions, which were equally at fault will now have to pay.

Debt relief will always be available to any country which finds itself in the predicament similar to Greece, after it has adhered to a strict austerity programme.
Debt relief can be structured in a way that Greece has a long term incentive to adhere to it, while at the same time reducing its debt/GDP ratio over time. It is an incentive for the Greek government not to over-spend. It only costs a little more than 1 Euro per month for each European for the next 24 years.

Even at 3% interest rates and 2% growth rates, the debt ratio will halve to 90% over 24 years, whereas previously, without debt relief it would have risen to 200% or more!


One thought on “How to negotiate debt relief

  1. Wow I am impressed!

    There are definitely a lot of doable ideas in your article.

    But you are lacking the most important part again as ALL the proposals that have come out of Greece.

    Greece HAS TO change a lot within its own economy!

    Take a look at your own statement:

    “The finance sector, the bond holders in 2012 had to accept a debt write-off of 53%, at a cost
    to them of 106bn.”

    My point was and will always be: If Greeks don’t change their own ways no amount of money will help to avoid the destruction of THEIR economy”

    That is also the problem I (and a lot of other Europeans) have with all the grandstanding and radical talk coming out of Greece.

    It is time to DO radical reforms.
    Will this be easy on the Greek people? NO

    It is a sign of what’s wrong inside the country that the olive oil industry has to send the raw product abroad to be refined into a viable and sellable product.
    Grow up Greece and take responsibility for YOUR own country, economy and actions.
    Don’t complain about being remote controlled by others. DO something right for yourself.

    PS: Don’t call YV Mr. Spock there is no logic in wrecking the country and run around to give endless interviews writing constantly on his blog during the time he should (and had the power) to implement the radical things needed. ALL you Yanis lovers fail to see that he is brilliant in theory ONLY.
    I would call him the drag queen of Greece.

    If he had done the necessary things to change the playground for negotiations (made reforms) the “Terrorists” would not have a chance to stand in the way of the resurrection of the Greek economy. (That’s Spock he is a DOER not a TALKER)


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