Grice: "What Is The Difference Between Greece And Rest Of The OECD? Only That It Is Small Enough To Be Bailed Out"

Tyler Durden's picture

We all know what is going on in Greece. Here is Dylan's eloquent summary:

Greece misrepresented the true state of its finances, it has enormous off-balance sheet liabilities, it is expected to run a double-digit budget deficit to GDP this year, it has a heavy bond issuance schedule this year – it was bound to have a crisis at  some point wasn’t it? But what’s the difference between Greece and the rest of the OECD? Only that it is small enough to be bailed out ….

Greece, as we have long been claiming, is just the beginning.

Back in January, when Greece?s problems first surfaced, I thought it would be the first in a series of fiscally driven market seizures in the following months which would potentially offer up some decent opportunities to buy stuff cheap ? I guess I got that one wrong ... but I still think Greece is the beginning of a wave of government funding crises, not the end.

For starters, we’re not out of the woods yet. The chart below shows my back-of-the-envelope calculations for the colossal amounts of debt governments need to issue this year relative to that already outstanding. I?m not a bond strategist and I?ve not done anything sophisticated or clever, but by taking Bloomberg?s data for existing debt maturity for each government (red) and using the OECD?s projected 2010 deficits as a proxy for net new issuance (grey) my numbers shouldn?t be too far out. But if my numbers are even roughly right and issuance is the problem, Greece should have had almost the least to worry about!

But it’s not just about getting this year out of the way. If it can happen in Greece, it can happen everywhere else too, because Greece just isn’t that different. OK, so it misrepresented the size of its liabilities ? but so too do most other governments; its real fiscal problems are hidden off-balance sheet in the enormous welfare obligations it can?'t afford to pay ? and so are most other governments? (first chart inside); its debt maturity isn?t notably different from the rest of the OECD?s (at about eight years it?s actually longer than those of the US and of Japan ? second chart inside); and its projected budget deficit is lower than those projected in the UK and the US (third chart inside).

In fact, the charts above show that there are no clear thresholds which say when a country will undergo a fiscal crisis ?- the UK had to call in the IMF in 1976 with a debt to GDP ratio of around 45%. Japan has a debt to GDP ratio in excess of 200% and hasn?t had any funding problems (yet). What counts is confidence, and what hurts is when weakening confidence pushes up the market risk premia on a country?s debt, pushing bond yields and therefore interest costs to such a level that government finances becomes unsustainable.

To be sure confidence is certainly buoyed by the knowledge that the deranged madmen at the money printing asylum have full access to the seemingly infinite pulp resources of northern national park neighbors. That and ink. And Greece has neither. But at its core the problem is simple: if you can't outgrow your debt, you die. To wit:

The unavoidable arithmetic behind debt sustainability is that the interest a country pays on its debt must equal the nominal growth rate of that country. If it does, the incremental government revenue generated by the economic growth will pay for the coupons on the debt. If it doesn?t, a shortfall develops between incremental revenues and incremental coupon payments and in the absence of further austerity, more debt is required to finance the deficit.

And here is the Catch 22 of the EMU. When will the Euro bureaucrats finally realize the euro is doomed?

This might sound abstract, but it?s exactly what happened in Greece. When the first austerity plan was presented, Greece cut public sector wages by a painful 10% causing angry protest and social unrest, although it saved the government ?650m. But the same austerity plan assumed Greece?s interest cost would be 4.7% and by late February it was paying 6.25%. According to the WSJ, this has blown a ?700m hole in its budget, more than offsetting the savage public sector wage cuts already enacted. Public sector pay would have to have been cut by an additional 10% to achieve the same budget repair that had originally been intended because interest costs were spiralling faster than expenditure could be brought under control. Even after the bailout agreed this weekend (which at ?30bn falls significantly short of the ?75bn The Economist believes is required) the cost of borrowing from Mr Market as I write still stands at (a bestial ...?) 6.66%, and that is even after the EU rescue plan was announced.

If Dylan is right,look for the upcoming Sotheby's auctions of various Cyclades islands to move to the Chunnel quite soon.

So I?d be surprised if this is the last we?ve heard of the Greek crisis. But without wishing to belittle their plight, the more terrifying spectre is of similar dynamics unfolding in larger economies. For the most chilling similarity between the Greeks and everyone else isn?t in the charts above showing that their various debt metrics are in the same ballpark, it’s in the realisation that we too are subject to the same iron-clad laws of budget sustainability and that we too are as helplessly vulnerable to any reassessment of sovereign risk by the famously fickle Mr Market. The Greek tragedy of being unable to pay for the debt built up during the years of unprecedented low yields reads across to the rest of our governments all too well. The fact is most of us are living on the same knife edge.

But Greece is a small enough economy to be bailed out by Europe. If we add in Portugal, Ireland, Ireland and Spain (the rest of the so-called PIIGS group), the risk could be systemic (see table overleaf). And in recent months I?ve written about the time bomb that is Japan?s government bond market, where I think the end game is in sight. Who, when the time comes, will bail them out? US health costs are escalating explosively and represent arguably the least tractable of all sovereign issues today. They too are subject to the arithmetic of budget sustainability, from which there is no hiding place. The difference between the rest of the OECD and Greece is merely that Greece could be bailed out.

For our previous perspective on the $1.5 trillion in total exposure by European Banks to "Club Med", read here.

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
tmosley's picture

Problem is the Schiff kind of sucks when it comes to foreign policy.  I'm still not clear about what exactly he would do about Iraq, Afghanistan, and/or the war on terror.  He's clearly free market, and that alone makes him better than 99.5% of the congress, but Paul is more consistent.

QQQBall's picture

Peter Schiff is a goof. He wants to means test SS - another effing politician that is for bailing out the imprudent by taxing the prudent. BTW, look at the drawdown his clients experienced in the last blow-up.

HEHEHE's picture

Why don't they just sell the Parthenon to Soros or somebody to put in their backyard?  They have lots of antiquities like that.

Leo Kolivakis's picture

There is something going on here that most people forget. The financial oligarchs desperately want to avoid debt deflation. They will do whatever it takes to reflate global assets and bring back some inflation. If it means issuing tons of debt, they'll do it. the only problem is that someone has to buy that debt at higher yields. Enter global pension funds that are looking to lock in returns around 8%. Your pension contributions will fund this reflation experiment. All is good, go back buying US stocks.

trav7777's picture

You got it...the elites are also on the hook.

If the debt defaults, they don't get their real assets.

Hulk's picture

The fed has also stated it will fight a deflationary death spiral with everyhing it has and would greatly prefer an inflationary environment

THE DORK OF CORK's picture

Interesting article today by Russell Napier in todays financial times where he states that the real fundemental truth is that the wests free market system has buckled under the presure of Japan and now Chinas subsidised production system.

He argues that the fight againist deflation waged by Greenspan and others failed.

He now argues that it is now to late for free markets now that goverments have fostered monstrous debt loads to fight imported asian deflation.

The ultimate weapon is to force private savings to fund goverments via capital controls.

Amish Hacker's picture

We're nearing the Lake Wobegone stage in the world's economies, named for Garrison Keillor's mythical place where "the children are all above average." In order for the game to continue, every nation must be a net exporter. Every country must weaken its currency against every other currency. Every creditor must get repaid, but every debtor must escape without paying his debts. Every military battle must be won, but no war can ever be allowed to end.

SgtShaftoe's picture

We are not at war with Eastasia, we are at war with Eurasia...

No one escapes, Winston. There are no martyrs here.
All the confessions made here are true.
We do not destroy the heretic because he resists us.
As long as he resists us, we never destroy him.
We make him one of ourselves before we kill him.
We make his brain perfect before we blow it out.
And then...
when there is nothing left but sorrow and love of Big Brother...
we shall lift you clean out of history.
QQQBall's picture

Grease is now taxing German vacation homes by up to 20%.