The Hollande-Merkel-Tsipras agreement on Monday is being described as a capitulation by many major newspapers [Telegraph, Bloomberg, Times, BBC, MSN, EU Observer]. “Brutal” and “humiliating” is how The Economist choose to describe the terms of the agreement. The Western press seems to be suffering a bad case of sensationalism and hyperbole. The deal is nothing so dramatic.
The Europeans have done what they do best: Kick the can down the road. It has been manifest for a while that the only way to end the Greek tragedy is substantial outright debt relief. The €86 billion deal is the third bailout package for Greece; the first one was for €110 billion in 2010; and the second in 2012 brought Greece’s debt to foreign creditors up to €246 billion. The probability that Greece will be able to pay back the €320 billion it now owes to foreigners, with or without reform and with or without austerity, is for all practical purposes zero. Major sovereign crises do not get resolved without substantial debt write-offs; as Reinhart and Trebesch have demonstrated. In the official statement, there is so far no recognition of this reality: “The Euro Summit stresses that nominal haircuts on the debt cannot be undertaken.”
Around the time of the Greek referendum, German policymakers were converging to the hardline position that Greece should be pushed out of the eurozone; a position championed by the veteran German finance minister Wolfgang Schäuble. The political optics changed after the results of the referendum were announced. Apparently, Luxembourg Foreign Minister Jean Asselborn’s dire warning to Angela Merkel, that pushing Greece out would be a “catastrophe for Europe”, pulled the Germans back from the brink. Merkel agreed to let Hollande play the good cop routine with Tsipras. Hollande arm-twisted Tsipras to concede on far-reaching reforms in exchange for relief on austerity.
Tsipras has agreed to push through a package of reforms through the Greek parliament. It includes an overhaul of VAT and income taxes, pension reform, labor market and financial reforms, and the privatization of utilities. This is certainly a surrender of sovereignty. But consider that Greek institutions were and are highly dysfunctional and in dire need of reform. That the Greek governement has to push through these difficult reforms under EU supervision is not the worst thing in the world. Even the much-feared labor market reforms only aim to bring Greece up to Western European standards. It is reasonable to expect that the Greeks themselves will be strictly better off as a result of these reforms.
As for austerity, the agreement calls for a primary surplus target of 1, 2, 3, and 3.5 percent of GDP in 2015, 2016, 2017 and 2018. This is an improvement over the 2012 bailout agreement which called for 4.5 percent of GDP in 2014, 2015 and 2016. The numerical proximity of these numbers is an optical illusion. The difference is that between catastrophic and mild austerity. The agreement also calls for what amounts to a medium-term stimulus of €35 billion for Greece. This is a substantial concession to macroeconomic reality.
Greece gets to keep the euro as a ward of the European Union. The ECB will now ensure than the Greek banking system does not implode. The government has to undertake substantial and far-reaching reforms under EU supervision. In exchange for a surrender of sovereignty over national policy to the European Union, the Greeks are spared from continuing to endure the equivalent of a Great Depression. The deal is nowhere close to being ideal. But for what it is, it is not catastrophic for the Greek people.
The Greek saga, of course, is very far from over. It will continue until a substantial portion of the debt is written off. Meanwhile considerably more significant market developments are underway half-way around the world. As I predicted, the asset price bubble in China is beginning to unravel. The stock market collapse is likely just the beginning of a major bust that will eventually lead to a lower-growth trajectory for the Asian giant. We are entering a new, perhaps more violent, phase of turbulence in global markets.