Greece's PM Accepts Most Creditor Terms as Merkel Insists on Referendum

Post-bailout expiration dynamics are likely to produce even worse outcomes for Greece than it had on offer from the creditors last month. It isn’t just that the bailout funds of €7.2 billion are gone; it’s that Greece has gone over an event horizon with stringent capital controls on and the ECB ready and able to push the Greek banking system over the brink.

Greece’s weak negotiating position is even weaker now. Even with a boost via a “no” vote on the referendum this Sunday, if the Greek government were to take a firmer stance, the creditors have the means and the incentives to keep crushing the economy via financial strangulation. The ruling coalition would not be able to hold on to power for more than a month or two as the economy continued to decay at an accelerating rate.

This is a ruthless, brutal power play in progress. Too many key actors are driven by their own narrow imperatives, most important of all, their domestic politics, as well as institutional rigidities. Those constraints work against taking a broader view and recognizing that the immolation of Greece will blow back and damage the European project and their own economies. But that would require much bolder, visionary thinking and action. The current crop of leaders has instead become habituated to incremental patches even though it is widely recognized that the architecture of the Eurozone is incomplete and wobbly. But no one is willing to move to a higher level of integration, in large measure because, particularly for Germany, that entails the loss of power and privilege at the national level.

Tsipras has recognized the weakness of his position too late. Yesterday, he tried making a desperate, last-minute deal to ward off an IMF default and secure the bailout funds before the program expired. But that clearly could never happen. It would require approval from all of the other 18 states in the Eurozone, including parliamentary approval in Germany. There was no way that would occur without German legislators having had Greece pass legislation before they voted on the release of funds; the Greek government had been told that that was a requirement and that needed to be done by the end of last weekend, June 28.*

Moreover, Germany wasn’t even the most hardline country; Portugal, Spain, and Latvia are more hostile to cutting Greece any slack since their leaders had their citizens wear the austerity hairshirt. Given that it was obviously impossible at that late juncture for the other Eurogroup members to release the bailout funds before they went poof (at a bare minimum, there was no way the Germany MPs would approve it), the Tsipras appeal was a sign of utter desperation or delusion. And that in turn was an admission of tremendous weakness. Less than two days of capital controls and a bank holiday, and the ruling coalition was folding.

Press reports confirmed Tsipras’ near total capitulation. For instance, per the New York Times account, Tsipras May Accept Creditors’ Terms:

Prime Minister Alexis Tsipras said Greece was “prepared to accept” a deal set out publicly over the weekend by the creditors, with small modifications to some of the central points of contention on issues like pension cuts and tax increases. Mr. Tsipras linked Greece’s acceptance of the terms to a new package of bailout aid that would need to be negotiated.

One can try to argue this move as less terrible than it appears, since the so-called “third bailout” was always expected to include debt relief from the creditors. Both financial analysts and the German press, before the negotiation dynamics became so poisoned, were confident that the lender side would extend maturities and lower interest rates further. That does amount to an economic reduction in the value of the debt.

However, making that offer before the referendum had taken place revealed that Tsipras either did not want to take the risk of loss given that the strain and uncertainty of the capital controls and de facto bank holiday was already starting to work against the government and would only get worse as the week wore on and/or was eager not to lose a day in getting the banks back on a more normal footing. Pensioners, one of the groups that the ruling coalition professed to be fighting to protect, are at risk of coming up short on the current month’s pension payment. As the Financial Times reported:

Greek banks struggled on Tuesday to arrange payments to hundreds of thousands of cash-strapped pensioners amid mounting fears that capital controls imposed this week may not be sufficient to prevent a financial meltdown….

Angry pensioners protested outside the offices of OAEE, the state pension fund for self-employed workers, which was unable to transfer funds to retirees’ bank accounts overnight.

Tasos Petropoulos, OAEE’s director, said the fund’s 350,000 pensioners would receive half the monthly amount due by the end of the day and the remainder next week, provided the lossmaking fund can raise another €130m in the interim.

The finance ministry said 850 bank branches would open on Wednesday where pensioners would be the only customers. The ministry website then crashed as pensioners tried to log on to find the nearest cash machine.

Several other state pension funds, among them TAP-OTE, the main telecoms operator’s fund, and OGA, which covers more than 1m Greek farmers, said they were delaying disbursements normally made at the end of the month.

And this did not help either:

Queues lengthened at ATMs outside closed bank branches across the country. Many cash machines dispensed only €50 even though the daily limit is €60 because of a growing shortage of €20 banknotes.

And the ECB may tighten the screws further on Greece today. The ECB is meeting to consider, among other things, whether to increase collateral haircuts on Greek banks in light of the government default on the IMF, a move that could push some of even all of the banks over the edge. And even if the ECB stands pat, the banks will continue to bleed. From a later Financial Times story:

Doubts abound in Frankfurt and Brussels about whether all of Greece’s four biggest banks can survive the week. Even with bank branches closed until next Tuesday and ATM withdrawals limited to €60, officials fear some of the country’s lenders are so weak that they will struggle to honour their customers until Sunday’s referendum, when Greeks will decide whether to accept the terms offered by international creditors.

But despite Tsipras doing the negotiation analogue to rolling over and showing his belly, Merkel did not attempt to fake magnanimity. From the Sydney Morning Herald:

“We’ll negotiate about absolutely nothing before the planned referendum is held,” Merkel told reporters in Berlin.

Even if the “absolutely nothing” was less caustic in German, the message to Tsipras was clear: you pulled your little referendum stunt. You live with the consequences. The Financial Times confirms, not surprisingly, that support for a “no” vote has eroded:

Several private opinion polls seen by the FT since the weekend showed the Yes vote rapidly gaining ground..

One poll conducted on Wednesday showed the Yes vote narrowly ahead after more than 20,000 pro-euro demonstrators gathered outside parliament on Tuesday evening.

“Polls are trending towards a reversal of the strong No vote that we saw when the referendum was first announced,” said a pollster who declined to be identified.

Consider how this might play out. An op-ed in Reuters by Hugo Dixon titled, Tsipras looks like he is crumbling, describes what happens if the referendum delivers an anti-Syriza “yes” vote:

Still, it would be wrong to think that a “Yes” vote would lead to a quick or straightforward solution, because of the complexities of Greek politics.

One might think that opposition parties and SYRIZA could form a national salvation government. Something similar happened in 2011. But creditors would have little confidence that any government relying on SYRIZA would do what it promised. As a result, it would struggle to reach a new deal with its lenders and get the banks open.

Knowing all this, the Greek political parties might conclude that it would be best to clear the air by calling new elections. But there’s no guarantee that the opposition would win such a vote because it is fragmented. It has not yet managed to rally behind a single figure and a common program.

Even if the opposition won such an election, it would not be ready to start talks with its creditors until August. By then, the banks would have long run out of cash unless the ECB supplied more emergency liquidity, and the economy would be in a terrible state.

Benoit Coeure, the ECB executive director responsible for negotiations with Athens, said this week that if Greeks vote “Yes” in the referendum, he had “no doubt” euro zone authorities would find ways to meet commitments towards the country. The snag is that it may struggle to find a legal route to provide more liquidity until a new agreement is reached.

So even if voters cry “uncle,” it will take time to sort out a new coalition or worse, have an election, and in the meantime, conditions in Greece will become more desperate. Bank holidays are a form of strangulation. As Nathan Tankus wrote last month:

Two years ago in Cyprus, an emergency bank holiday was declared and capital controls installed. The bank holiday only lasted for twelve days yet supply chains started drying up instantly. An ex-Cyprus central bank governor told the Guardian:

Supplies of food are being exhausted and there are cases of raw materials like iron and timber being held up in customs because importers don’t have the cash to pay for them … No one expected, myself included, that the EU, ECB md IMF, would behave like this. Cyprus has been treated very badly … Where is the solidarity principle that is supposed to underline Europe?

Even 6 months later after the banks had reopened and capital controls were loosened, businesses were still having trouble getting basic supplies.

And remember, Cyprus was in vastly better shape than Greece is now.

If voters deliver a “no”, the game will become more complicated and potentially destructive. Even if Tsipras does not try to retrade his offer of Tuesday, which some view as an effort to curry favor with the ECB and forestall the imposition of haircuts, the lenders are in a sour mood. From the Financial Times:

But a European official cautioned: “The question now is not whether Greece agrees to certain measures. It’s the political will to reach a deal among the other eurozone partners. And this is very difficult to predict given all the bad will.”

Even with Tsipras conceding on almost all conditions demanded of last weekend, his counterparties still saw his offer as coming up short and requiring more adjustments. And sadly, they have a defense: conditions have changed and the economy is in worse shape now thanks to the bank holiday. And if the ruling coalition were to use voter approval in the referendum to try move back from its offer yesterday, it would be seen as yet another retrade. The ECB would be certain to keep asphyxiating the banks until the economy was in such distress that the government failed. To change metaphors, the ECB has now laid siege to the Greek economy. There is no scenario under which it will not prevail. If it shows any mercy, it is because it is to the ECB’s benefit, not Greece’s. The open question is whether the ECB breaks more banks than it intends to or forces a Grexit by accident.

The ECB’s incentives are to get a government that the Eurozone leaders deem to be workable in place. That means one with Syriza out or in a very diminished position, while keeping Greece in the Eurozone, since a Grexit entails unnecessary risks and complications and would therefor be best avoided. But the European politicians have had it with Syriza and it appears, particularly since the ECB was able to keep periphery bond spreads reasonably under control on Monday after the shock referendum announcement, that the Eurocrats will let Greece fail into a Grexit if that’s what it takes to get a more tractable government.

A must-read article from Deutsche Wirtschafts Nachrichten from last month (hat tip guurst) described how the EU could use its “panic provision” to discipline Greece. Key sections, via Google Translate (emphasis theirs):

Therefore, there is now the possibility that the EU presses on the so-called panic button, so enabled a panic paragraphs. This hides under the number 352 in the EU Treaties . It reads:

Article 352 TFEU

(1) If there is any action by the Union under the conditions laid down in the Treaties policies needed to attain one of the objectives of the Treaties, and the Treaties the necessary powers not provided, the Council shall, acting unanimously on a proposal from the Commission and after assent of the European Parliament take the appropriate measures. If these provisions are adopted by the Council in accordance with a special legislative procedure, it shall also act unanimously on a proposal from the Commission and after approval by the Euro-pean Parliament.

This article puts the EU in a position to carry out coercive measures against Member States without legal basis. The scheme is roughly equivalent to what we know from the national legislation as emergency legislation. The only restriction in paragraphs is that it must not be used as a basis for attaining objectives pertaining to the common foreign and security policy. So it’s almost a paragraph in order to maintain the EU’s internal order…

What coercive measures, the EU can now impose on Greece, is unclear. It is conceivable, for example, the establishment of a debt Commissioner. This could, sent from Brussels, see in Athens after things. In the history of such debt commissioners are well known. So Germany had to accept such an inspector in Berlin after World War II, many years. Curiously, this man had the Allies warned in good time before the oppressive debt burden and the risk of a social explosion in Germany. They did not listen to him.

This line of thinking is troublingly consistent with the saying of the so-called crown jurist of the Third Reich, Carl Schimtt: “Sovereign is he who decides on the exception.” And the bureaucratically justifiable but inhumane and politically reckless tightening of the banking choke chain looks too close to the Nixonian “make the economy scream” approach for comfort.

The eighteen nations of the Eurozone united against Greece are caught in a modern-day version of the dynamic described in Karl Polanyi’s The Great Transformation: that the foundation of the self-regulating market, namely the gold standard, the liberal state, and in his day, the balance of power system, which today would be the Eurozone government. Polanyi’s insight was that despite the ability to operate with an appearance of stability over long periods of time, this order was destined to fail catastrophically, since it eroded the underlying social order by treating things like labor, meaning human beings, and land as market goods. The destructiveness of letting market forces loose on those two commodities led to pushback and curbs on market activity, which ultimately undermined the operation of the entire system.

Polanyi wrote The Great Transformation in 1944, and hoped that the ravages of the two world wars would lead to a new and truly more durable and humane order. Instead, with only some modifications, the old system was restored. The Eurozone has instituted a particularly poor version, with a gold standard type system even worse than its predecessor. The classical gold system allowed cheating by resetting one’s currency price in gold terms; the accommodation for an overpriced “currency” in the Eurozone system is crushing wages, which even in the case of Greece hasn’t produced a commensurate level of trade benefits.

By siding with the preservation of the system, Greece’s opponents have no latitude to do anything other than continue to pommel uncooperative social orders, meaning communities and people. What we are seeing in Greece is thus no surprise, even though that does not make it any less a tragedy.

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* Some pundits have depicted these deadlines as artificial. They weren’t. There are many areas where the lenders’ conduct can correctly be called unreasonable, but the hard deadlines were the result of past agreements and Eurozone procedures make them extremely difficult to change. This is one reason for the current creditor hostility. Greece consumed an enormous amount of time, running up against deadlines in what the other side saw as brinksmanship, which was a bizarre strategy given that Greece had a weak bargaining position. But the lenders felt compelled to accommodate Greece on that front as much as possible because the optics would be terrible if they didn’t, particularly if the situation were to devolve into a Grexit. Compounding that problem, an lawyer with considerable knowledge of European practice pointed out by e-mail: “Europeans have a very hidebound and literal view about their EU rules and documents. Americans see a contract as a basis for negotiation.”