A couple of years ago while strolling at a flea market in Berlin looking for Cold War memorabilia, I stumbled upon a t-shirt with a caricature of Karl Marx, his hands in his pockets, stating, “Sorry folks, it was just some kind of idea…” A similar t-shirt would now very likely suit the economists and staff at the International Monetary Fund (IMF).
Having acknowledged at the end of 2012 that forecasting models were significantly understating the negative effects of restrictive fiscal policy, the IMF last week published yet another mea culpa about the first Greek rescue plan of 2010.
It is as if Guy Fawkes masks are becoming the new fashion accessory for the IMF staff. Indeed, the country report on Greece acknowledges in hindsight what Greek protesters and angry German citizens already knew three years ago. The first rescue plan of 110 billion euros didn’t really rescue Greece or the Greek population. In fact, by not immediately enlisting the private sector to share the burden, as was done only in March 2012, the IMF’s delay granted financial intermediaries time to reduce their exposure and transfer it to the public sector instead.
The report qualifies this as a mistake in hindsight and lists reasons why it wasn’t done: “Some Eurozone partners emphasized moral hazard arguments against restructuring. A rescue package for Greece that incorporated debt restructuring would likely have difficulty being approved, as would be necessary, by all the euro area parliaments. […Moreover,] debt restructuring would directly hurt the balance sheets of Greek banks.[…Finally,] European banks had large holdings of Greek bonds – but also, and of more concern given the scale of their exposure, had large holdings of the bonds of other European sovereigns that would drop in value were Greek creditors to be bailed in. For the Eurozone as a whole, there might be limited gain in bailing in creditors who subsequently might themselves have to be bailed out.”
This blunt, honest assessment by the IMF can be summarized thus: not Greece, but the European banks were rescued with taxpayers’ money. The IMF also revisited a previous assessment of the vastly optimistic forecasts on Greece back in 2010: “The economic downturn proved considerably more severe than projected. […] real GDP in 2012 was 17 percent lower than in 2009 compared to a 5.5 projected decline. […] The unemployment rate in 2012 was 25 percent compared to the original projection of 15 percent.” In its World Economic Outlook of April 2013, the IMF projects that Greece will return to growth by 2014. In its April 2010 and again in its April 2011 reports, the IMF had forecast the return to occur in 2012, while in 2012 it said 2013; the IMF is now projecting a decline in GDP of ‑4.2% for 2013.
Finally, the IMF highlights the difficulties of working with the other members of the so-called “troika” (the European Commission and the European Central Bank). Those difficulties glare in the recent discovery of a funding gap of 4.6 billion euros for Greece next year, with the IMF seeking new debt relief for the country. In the middle of the election campaign, this cannot be what Angela Merkel and her government want to hear. Hence the rather harsh reaction from a German official, “The German finance minister can only grant aid loans if he can reliably expect funds to be returned. This would hardly be the case after debt restructuring.”
There has been, in my view rightfully, an increase in hope that the worst of the euro crisis is behind us. However, the IMF report on Greece reminds us that the different rescue plans that have been implemented are produced by economists working with partial information – assumptions and forecasts more likely to be wrong than right – and under constant pressure to reconcile the conflicting interests of national politicians.