Confidence or confidence trick in the eurozone?

Illustration by Manos Symeonakis http://xpresspapier.blogspot.gr/

At a meeting of eurozone finance ministers in February, Greece’s Yannis Stournaras asked a fairly straightforward question: Could the troika explain what, if any, impact the International Monetary Fund’s miscalculation of fiscal multipliers had on the Greek adjustment program?

The question came in the wake of the IMF admitting a few weeks earlier that it had underestimated the recessionary impact that rapid fiscal adjustment would have in the current negative economic climate. The IMF assumed the fiscal multiplier of spending cuts and tax hikes was around 0.5 percent of gross domestic product – in other words, austerity measures equivalent to 1 percent of GDP would produce a 0.5 percent decline in economic activity. Its economists, however, discovered that the real fiscal multiplier was between 0.9 and 1.7 percent of GDP.

In Greece, critics of the bailout saw this as evidence that its austerity formula should be consigned to the rubbish bin. They put considerable pressure on the government to respond to the IMF’s revelation. Fearful of what implications an admission that the program had been built on unsound foundations might have on public opinion, the coalition played down the Fund’s findings.

Bearing this in mind, Stournaras put a rather tame question to Greece’s lenders after admitting to journalists that he could draw no reliable conclusions from the new analysis on the fiscal multipliers provided by the IMF’s chief economist Olivier Blanchard.

The response to Stournaras’s low-key request was a full-on blast from European Economics and Monetary Affairs Commissioner Olli Rehn. So forceful was the response, in fact, that one had to wonder whether the level of protest suggested that Greece might have a serious case.

Cyprus: The eurozone’s omnishambles moment

Petros Karadjias/AP

At the beginning of last week, Cypriot politicians insisted they would not choose a “suicidal” option for their country. By the end of the week, they picked one that would inflict mortal wounds instead.

Nicosia’s handling of its unprecedented predicament has been cataclysmic. But the approach adopted by the European Union and International Monetary Fund to Cyprus’s problems has also been disastrous. The eurozone has been building up to an omnishambles moment throughout the debt crisis and it finally struck in a small island state in the Eastern Mediterranean.

The agreement arrived at in Brussels early Monday, following hours of talks involving Cypriot officials, eurozone finance ministers and EU and IMF chiefs, is being billed as the least worst option after all sides took successive wrong turns on the way. That may be the case but it will be little consolation to thousands of Cypriots who have lost a big chunk of their deposits and face uncertain times ahead.

Cyprus: It’s not about the numbers

The Eurogroup agreed on Monday night to allow Cyprus to change the make up of its controversial deposit tax. Instead of imposing a levy of 6.75 percent on savings under 100,000 and 9.9 percent on those above 100,000 – as agreed in Brussels in the early hours of Saturday – Nicosia can play around with the numbers, just as long as it raises the arranged amount of 5.8 billion euros.

Cyprus’s new but already beleaguered President Nicos Anastasiades is proposing that bank customers with deposits under 20,000 euros should not be taxed at all, while keeping the levy the same for the remaining depositors. Cypriot MPs have already shown a reluctance to approve the tax, mindful of the impact on depositors but also the long-term damage it could do to the island’s banking system and economy.

However, what’s happened over the past few days and what’s likely to happen in the days and weeks to come has little to do with numbers. It is much more about perceptions. Even if a financial meltdown is averted in Cyprus this week, the decision to tax depositors there in order to reduce the eurozone and International Monetary Fund contribution to the island’s bailout has sown the seeds for a future eruption.

After Cyprus, eurozone risks transmission failure and running out of road

The Eurogroup’s decision on Friday to impose a one-off tax on depositors in Cyprus may mark a turning point in the euro crisis. Only, the single currency’s decision makers might soon realize that in taking this particular turn, they also ran out of road.

Under pressure from several members of the eurozone – Germany in particular, if reports are accurate – the new Nicosia government agreed that deposits above 100,000 euros would be taxed 9.9 percent and those under 100,000 at a rate of 6.75 percent.

This is an unprecedented decision for a eurozone country. It is also one whose potential consequences reach much further than an island in the eastern Mediterranean. It threatens to cause the transmission system between the economic and financial sectors on one side and the political and social on the other to seize up. Without this, the euro cannot be propelled forward. It cannot function.

Goodbye uncertainty, hello uncertainty

For Greece, the underlying theme of this crisis has been swapping one set of uncertainties for another. In fact, sometimes the uncertainties have been exactly the same, simply repackaged and rebranded. From George Papaconstantinou’s “loaded gun on the table,” to the first bailout in May 2010, from the mid-term fiscal plan in the summer of 2011 to the October 27 haircut agreement last year, from the PSI and second bailout early this year to the European assurances ahead of this summer’s elections: each development has promised stability, continued membership of the euro and better days ahead; each has crumbled into an empire of dust.

Now, hopes are being pinned to the Brussels debt deal agreed in the early hours of Tuesday morning. The immense relief at an agreement being reached is both understandable and justified. The prospect of the eurozone and International Monetary Fund failing to find any common ground on how to make Greek debt sustainable would have led to potentially devastating economic and existential implications for the single currency area and Greece. However, as this relief subsides, it becomes more evident that this deal takes a stab at providing a definitive solution to Greece’s debt problem but falls short, leaving the sword of Damocles dangling over the country. Even if the debt reduction program goes according to plan – and there are doubts whether it will, especially due to questions over the bond buyback scheme – Greece will still have to contend with a debt of 124 percent of GDP in 2020. It is also doubtful whether enough has been done to remove the niggling doubts about Greece’s future in the minds of investors, who are so necessary to helping change the course of the Greek economy. JP Morgan referred to the Brussels pact as a moment of “creative ambiguity.”