HEARD ON THE STREET
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September 25, 2012, 1:23 p.m. ET
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Greek Debt Odyssey Returns to the Fore
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By RICHARD BARLEY
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All eyes may be on Spain, but investors shouldn't forget about Greece. Despite two international bailouts and a debt restructuring, the country is adrift on its fiscal targets and stuck deep in recession. Negotiations over €11.5 billion ($14.9 billion) in budget cuts for 2013 and 2014, needed to unlock €31 billion in fresh loans, have been under way for weeks. But if the new Greek government led by Antonis Samaras can deliver more cuts, then it is in Europe's own interest to find compromises.
The deep recession has blown Greece off track. The International Monetary Fund had expected the economy to contract by 4.8% in 2012, and then flatline in 2013. That looks optimistic: Moody's sees a contraction of 7% in 2012 and a further fall in 2013. Unemployment was expected to be around 19.1% in 2012, but by June had reached 24.4%. And new budget cuts will hit the economy further.
The deeper downturn means the second bailout is already off track. Greece is also asking for an extension of two years on its budget-deficit targets, pushing back the goal of a deficit of 3% of GDP to 2016, creating a further financing gap as higher deficits accumulate over that time. Finance Minister Yannis Stournaras on Tuesday told Reuters the two-year extension could cost €13 billion to €15 billion; analysts like those at Bank of America Merrill Lynch peg the figure at €20 billion. All of this has created fears that Greece needs a second debt restructuring that may involve loans from euro-zone governments.
There are some small signs of hope. Greek banks saw deposits rise 2% in July after political uncertainty subsided. The budget deficit as of August was in line with targets, although revenues were 4.6% lower than expected, compensated for by spending being 9.5% below target. There may be ways to narrow the financing gap without new cash being provided: For instance, the current program earmarks €9.2 billion to pay down Treasury bills, which Greece could instead roll over, Nomura notes.
And the euro zone's decisions on Greece can't be taken in isolation. Ultimately, they are more about politics than economics. The European Central Bank's declaration that the euro is "irreversible" and its targeting of "unfounded" convertibility premiums in euro-zone sovereign bonds have applied pressure to keep Greece in the euro zone. After all, if Greece returns to the drachma, the ECB's declaration that there is no currency risk in euro-zone bonds would be undermined completely.
However, there appears to be little appetite among northern euro-zone states for a third bailout for Greece, particularly since it would involve parliamentary approvals in many countries. Some politicians now say a Greek exit might be manageable.
That sets the stage for further fraught negotiations, with Greece very short on credibility after failing to deliver on previous pledges. But the ECB's plans, coupled with the still delicate situation in Spain, boost the odds that the euro zone will find a way to keep Greece's bailout going.
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