The Greek economy will undergo a very deep recession in 2020, which can only be compared to the most dreadful year of the financial and sovereign debt crises. The year was 2011 and the GDP growth rate was -9%. Even the 1974 war-like recession had barely exceeded -6%. The consecutive crises between 2008 and 2017 have been the worst post-war economic disruption in Greece. Greece lost more than a quarter of its GDP and we have lived through the painful consequences since then, which have been unemployment, bankruptcies, poverty, brain drain, loss of human and physical capital.
In the Covid-19 induced crisis of 2020, although the depth of the recession is forecasted to be close to that of 2011 (the IMF forecast is even higher), things are different because of concerted European action as the crisis is exogenous and has hit all EU members.
The European Central Bank (ECB) has stepped in early on and provides ample liquidity at minimal cost, which is 100 basis points below the Main Refinancing Operations rate at 0%, i.e. banks are paid 1% to tap liquidity from the ECB through the Targeted Long-Term Refinancing Operations provided they have adequate collateral. On top of the ample liquidity provision by the ECB and the relaxation of fiscal rules, a sizeable Recovery Fund (750 bn euro), called the Next Generation EU, has been agreed upon to provide grants and loans to the pandemic-hit countries. A lot of technical details are still uncertain and one major uncertainty has to do with the time when the funds will be available. Still, the hope is that if we manage to mobilise these resources in time, things will improve soon.
Greece desperately needs growth and growth needs investment, which in turn needs finance. I can see two questions with respect to finance: one related to the loans of the Recovery Fund and the other related to the loans banks are hesitant to extend to the private sector.
- Public investment can be very effective especially in times of uncertainty. The IMF estimated that an increase of public investment by 1% of GDP raises private investment by 10% and growth by more than 2%. It also reduces unemployment and strengthens confidence in the recovery. So, we need public investment projects to be channelled to the areas of green transition, digitalisation, innovation, education, training and employment. Government intervention and public investment can pave the way for the private sector to invest where national priorities are. With the Recovery Fund approximating 32 bn euro for Greece, many worthwhile projects can be financed at least with the grants to become available. But a large part of the Recovery funds come in the form of loans which will increase government debt and are submitted to conditionality. The governments of Spain and Portugal are already discussing that they will not tap any of the loans, or at least they will try to minimise loan funding. With borrowing costs as low as they are today especially for some richer EU countries, many are likely to avoid the loans as well. So, the question here relates to how Greece is planning to face this challenge? Greece is already highly indebted as debt exceeds 180% of GDP and will move close to 200% in 2020. When using these loans, a fine balance must be struck between increasing the numerator (debt) by less than the increase to be caused in the denominator (GDP). Is this achievable and how? A related question has to do with Greece’s potential plans to borrow against future grants before their formal approval so that no time is wasted. Spain has already adopted this view.
- Private investment needs bank credit. The capital market is not developed enough yet and Europe has a bank-based financial system. But bank credit is difficult in Greece. Although private sector deposits have increased from 133 bn euro in January 2019 to 153 bn euro in September 2020, credit to the private sector has shrunk from 169 bn euro in January 2019 to 148 bn euro in September 2020. Such developments do not support private investment and one can say that there are indications of a credit crunch. In contrast to the ample credit expansion of the first decade of 2000, when bank credit had increased at a much higher rate than the GDP amid over-optimistic expectations, it seems that banks have become either over-pessimistic or too hesitant after the 2011 shock. The main reason banks are so hesitant to expand credit is the “mountain” of non-performing loans (NPLs) they are facing. Although deep restructuring took place since 2012 and Greek banks are now well concentrated (four banks control 95% of the sector’s assets), focused into their core business and adequately capitalized, their NPL ratio is the highest in the EU (approximately 35% of total loans are not serviced compared to 3.5% in the EU according the 2020Q1 ECB published results). Post-Covid the NPL ratio is expected climb up further. If banks are not helped to reduce this burden, which consumes away their profits and reduces their capital, they will not be able to finance growth. Therefore, encouraging the creation of a bad bank would be a step in the right direction, especially as the European Commission says it does not see any European Asset Management Company (AMC) to materialize soon but a network of national AMCs, which will cooperate, may be valuable. As with every AMC funding and pricing are very important. Fiscal constraints have obstructed the creation of an AMC until now. The Bank of Greece has recently put forward a detailed plan for a national AMC, which takes into consideration both the impaired bank assets and the weak capital base of Greek banks, mainly deferred tax credit. This can be a particularly useful tool which, if adopted, will help banks start lending again benefiting growth and employment.
An online event related to the topic took place on 27 October 2020, organised by the Hellenic Observatory and the Hellenic Bankers Association UK. For more information please visit the event page.