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Greek sovereign debt: Exit closed?

Stephanie Flanders | 17:59 UK time, Tuesday, 8 December 2009

Deadbeats or dominoes? It's the question of the day.

Fitch, the ratings agency, would say that its decision to downgrade Greek sovereign debt had nothing to do with events in Dubai. But ever since the Dubai World story broke, investors - and ratings agencies - have been taking a fresh look at the indebted countries on Europe's periphery, wondering whether any of these countries will be next (see my post of 27 November, Just a sideshow?).

Greece isn't the only country which would rather not have the extra attention. There's plenty for the likes of Latvia and Ireland to worry about as well, and a sombre warning for the UK, too - though, as Moody's made clear in its sombre assessment today, Britain is still a very long way from being Greece.

True, Alistair Darling is borrowing nearly as much as Greece this year - its deficit is nearly 13% of GDP, like ours. But there the comparison ends. At least for now.

Greek parliament

Greek debt is forecast to rise to more than 130% of GDP by 2011, almost double the level forecast for the UK. And the IMF forecasts a Greek current account deficit this year of 11% of GDP.

There are not supposed to be any bail-outs for Eurozone economies who can't pay their bills - or no formal ones, anyway. The treaty establishing the single currency expressly forbids them. But for the past two years, Greece and other hard-pressed economies on the Eurozone's periphery have been getting the next best thing to a bail-out, courtesy of the ECB.

Here's how it works: indebted government sells lots of bonds to domestic banks; banks then use bonds as collateral to get shedloads of (nearly) free money from the ECB.

As well as achieving the avowed end of increasing liquidity in the European banking system, the policy had the unstated, but equally welcome (to many European officials) effect of propping up the demand for the indebted country's debt.

It's not a formal bailout. But it certainly helped.

Were it not for the ECB, the Greek government would have been paying a lot more for its debt, and worrying the ratings agencies long before today.

As this chart (courtesy of Capital Economics) shows, since the collapse of Lehmans, Greek banks have borrowed the equivalent of a tenth of their balance sheet from the European Central Bank. Irish banks have been almost as keen. We can't say for sure, but European central bank officials have assured me in the past that the collateral for much of this borrowing was domestic government bonds.

Central bank borrowing

Traditionalists within the ECB didn't like all that "peripheral" sovereign debt landing on the ECB's balance sheet. Yet the politics of equal treatment within the Eurozone - plus a great desire to pre-empt the need for more formal support - meant that the traditionalists didn't get a choice. It was a case of noblesse oblige.

But now comes the tricky part. As part of its cheap liquidity policy, the ECB had been allowing banks to use BBB - that is, debt as collateral - a loosening of the usual rules. But that is due to run out at the end of 2010, with the ECB once again requiring A- or better.

That's a large part of why Greece has been hammered in the markets following today's downgrade to BBB+. Come next year, European officials (and not just Greek ones) may be asking Frankfurt to remain "flexible" a little longer. But there's a limit to what even back-door support from the ECB can do.

If the downgrade sticks, Greece will be under enormous pressure to do more to fix its fiscal hole, despite a weak economy. Ireland has already done it, and they're due to do it again tomorrow.

That is why the no-bail-out clause is there: it's supposed to give governments no alternative but to clean up their act. Germany was particularly insistent that the clause be there when the single currency was created. There would be no running to the Brussels - or Frankfurt - if governments got into a fix.

But that's the theory. European officials don't know how it will work when confronted with a real-life debt crisis within the Eurozone.

Investors have long suspected that the politicians would find a way round the clause if they had to - there are various possible get-outs in the Treaty should they decide to use them. But no-one knows for sure.

That's why there could be plenty more "busy" days for European sovereign bond traders in the months to come.


  • Comment number 1.

    Where's the graph, Steph ?

  • Comment number 2.

    whose fitch?

  • Comment number 3.

    Now it starts. Contagion. The weak members of the Euro, unable to increase their competitiveness using currency devaluation look to the ECB for finance to fund their "stimulus". Seeing no genuine attempt by the member concerned to address their deficit, the ECB impose conditions that make domestic upheaval in that country inevitable. Faced with political oblivion,the ruling party then defaults on their sovereign debt and walks out on the Euro.
    In the UK, a very similar scenario. Government refuses to address deficit. Moodys downgrade. Lenders get spooked and raise interest rates on loans. Domestic interest rates forced to rise. Recovery ends, double-dip time. But will Gordon Brown have bought himself just enough time to hang onto power? Watch this space.

  • Comment number 4.

    #3 Geoff
    I hope to Ivy the EU can take the hit. Don't think UK can though when its turn comes

  • Comment number 5.

    I get the bit about dubai it was a white elephant. I was never going to invest in that because I didn't share the vision.

    but what I don't get about economics is obviously there's a lot of institutions that play roles I don't know anything about and well it's never really going to give me what I want. You have to be one of those leaders for it to be relevant to you.

    But this is why for some reason people are burning their cars and stuff in the street?

  • Comment number 6.

    Stephanie your figures on the UK public debt do not reflect the real picture. It does not include financial sector intervention and pension contributions and private finance initiatives PFI which the government are obliged to pay. The Centre for Policy Studies (note - at end of 2008) argues that the real national debt is actually £1,340 billion, which is 103.5 per cent of GDP.

    The REAL national debt is well over the total economic output just like Greece. But picking on another loser makes feel good, right?

  • Comment number 7.

    does it mean they are going to kill us?

  • Comment number 8.


    Nice one, I bet she does not respond to it though..outside of the BBC comfort zone I suspect in terms of what may be termed 'acceptable journalism' nowadays ever since the BBC apology for the today programmes '45 minute claim' expose.

    Go on steph, prove me wrong, respond to no. 6.

    We know you read these entries..

  • Comment number 9.

    #5 jobsw32

    "But this is why for some reason people are burning their cars and stuff in the street?"

    Thank you - I had a real chuckle at this.

    I had (obviously mistakenly) assumed they burned other people's cars, but this is better, more of a desperate final attempt to get back at an uncaring government.

  • Comment number 10.

    Isn't it obvious that the threat of default is actually simply based on the population of the countries involved? As we know,the UK and US have taken on apparently crippling amounts of debt to shore up the financial system and various politically sensitive industries. I say 'apparently' crippling because institutional investors and other Governments seem quite happy to keep buying the bonds that finance this debt for as long as we need them.

    Why is this? Basically because with 50 million or so taxpayers in the UK and 200 million or so in the States who can be squeezed for revenue these investors see a long road of juicy tax receipts stretching into the distant future that guarantees they will get their money back.

    Now look at the countries who are at greatest risk of having their sovereign debt downgraded - obviously its already happened to Iceland (pop 320,000) and Greece (pop: 11.2 million). The others (European)in gravest danger are Latvia (pop: 2.2 million), Ireland (pop 6.3 million) and Portugal (pop 10.7 million). Now even if we add Dubai (pop 2.2 mllion) to the list its obvious that these countries combined do not have a sufficient tax revenue base to give investors complete confidence that they will not default on their debts.

    So what? Well, it just seems that hidden behind a lot of pseudo science and economic mumbo jumbo regarding how likely individual countries are to default you can just boil it down to how many or how few taxpayers there are..After all Japan is in an even worse state than either the UK or US but no-one seems to seriously imagine their 70 million tax payers won't be able to bear the burden for a long time to come..

  • Comment number 11.

    6 plamski

    Depends how you add it up. HMG has been moving stuff off account for years. And then there are the imaginary numbers which may (likley) become real. But the players keep spinning the same ol' spin. Lord Turnip was on the box earlier talking about when 'we' get more effluent 'we' will fly more and everybody should pay green tax to enable this to happen, despite the fact most travel is undertaken by 2x national ave income types. Talk about yesterdays man. Put him in a canon and make him fly. And Mr Green, Mr Richard Branson is promoting the most possible energy inefficient form of travel possible, space tourism. And we still have Mr Brown. Is this Reservoir Dogs Day. We have Mr Blue shortly. Mr Pink hasnt come out of the closet yet. Now all they have to fear is each other.

  • Comment number 12.

    Yes number 6 (rings a bell!) and 8 and 11. I am with you for getting a real assessment of national debt. I also think that as a financing mechanism PFI will be seen as a gigantic strategic mistake that will encumber public finance for many years ahead.

  • Comment number 13.

    1)Many organisations, and journalists close to them, have a clear and understandable interest in the present 'steady as she goes' messages being issued almost daily, obviously because confidence is seen to be the thing that must be preserved---but it is almost all talk and no action.

    2)Almost the worst thing about the present situation is that the reckoning has been postponed for what seem like purely political reasons...which wouldn't be all that bad if the situation stayed in a sort of stasis, but it doesn't---- it worsens.

    3)With interest rates at zero (basically) an asset bubble is again under way (equities, houses, bonds, antiques) because only an idiot would keep money in a bank at present. In relative terms the bubble is about as bad as it was pre 2007 quarter 3.

    4)When unemployment rises only by 5% its good news but hardly better than half the 90% of the employed population being forced to take significant cuts in take home paying real terms (in ending overtime, stopping annual bonuses, salary standstill, and salary cuts etc.)

    The above seem to be the sort of things that in my experience ordinary people talk about, and see as the realities of the current situation all the time but politicians and 'experts', whether journalists or pundits, hardly ever mention.

    As was said above...'Dominoes are falling' and unfortunately for countries there aren't any that are too big to fail... I feel there is a real split now between what the World Bank, Government, Metropolitan commentariat, and bankers say is happening and what everyone else can clearly see is happening... confidence would be better built by raising interest rates now, you don't hear that much anywhere other than amongst ordinary people.

  • Comment number 14.

    Re: 13

    The problem is that the UK and US economies are now totally dependent for growth on consumer spending.. For instance I was amazed to read that 72 percent of the US 'Economy' is consumer spending, and only 12 percent is based on manufacturing.Not surprisingly its about the same over here. Therefore all government policy is directed towards getting people to spend money, thus zero interest rates for savers (or hoarders as the government no doubt regard them)and everything directed at getting house prices going up again so that people can 'free more equity'.

    Once upon a time banks could only lend out real money that people had deposited with them, now however we know that the wholesale market in effect means that the banks mainly borrow money from each other to lend out and the meagre savings of the ordinary punter is pretty irrelevant..until we all decide we want to withdraw them at the same time viz Northern Rock..the banks multi billion pound economic models showed that such a 'run' was a virtual impossibility so they just ignored the potential consequences..

    Which is how we got to where we are today!

  • Comment number 15.

    China next: Hot money exit stage back from whence it came.

  • Comment number 16.

    As far as Im concerned the rating agencies have been totally discredited (excuse the pun) and no reliance can be placed on their ratings. If you want evidence then the UK should simply not still have AAA... For all the massive amount of borrowing and printing money...erhmmm sorry "QE"...the rating has not budged one bit. Must be a pretty broad set of metrics then, so broad as to be useless.

    In the brave new world of finance "Do your own research, form your own judgements"

  • Comment number 17.

    ah, the best laid plans of mice and men. What we have is a "worldwide" financial crisis and the end apparently is not in sight. Rules are made, rules are broken and rules are changed.
    Lets all pretend that they are smart enough to fix this, when of course they were not smart enough to prevent it.
    It looks to me that the bankers know and are accumulating lots of assets for when the revolutions begin, or the economist take over..

  • Comment number 18.


    I agree.

    Are these the same Credit Ratings Agencies that gave the Credit Default Swaps AAA ratings? It's hard to know who and what to believe nowadays... maybe it has always been this way. In any case, generally speaking, you only get to know about stories that the media think are important.

  • Comment number 19.


    Clearly we need to introduce new ratings (such as A*) just like we did for 'A'-levels when it became clear that everyone was getting 'A' grades.

  • Comment number 20.

    From what I've read the losses in Dubai were as nothing compared to RBS losses - so what's all the fuss about ? Apart from the media stirring up panic as usual, of course. Caledonian Comment

  • Comment number 21.

    So really we can all see that the Euro is just as overprinted as and profoundly overvalued against the pound and the dollar and is now about to crash back to 2007 levels.
    Which will shut up their smug faces in Berlin for a change.

  • Comment number 22.

    Do you think they'd let us into the Euro?

  • Comment number 23.

    #21 - correct. But this ignores the real issue that economic power is continuing to shift eastwards.

  • Comment number 24.

    Even in China there have been problems with export collapse and a soaring property market.....50% price rises in Beijing and Shanghai this year ain't that sustainable.
    With wealth and economic sophistication come expectations and economic cyclicity...they had a property crash of 20% in 2004-5.
    We do not get to hear much of China's woes, but that does not mean there aren't any.
    But credit where credit is due, things do look rosy for them, so I agree.
    Remember though that in UK 1993-2008 we had 15 solid years of good growth, whereas in Euroland there was relative decline....growth could have been more in UK if it had not been reined back by BOE.......I think it now looks as though the economy should have been allowed to grow faster than it was in those years.
    We should be a bit more Chinese about economic growth!
    Now that UK is going back into recovery I think we'll see some really good growth in our economy once more.

  • Comment number 25.

    Stephanie - having told us this tale of manipulation by the ECB, I compare what they are up to with our programme of money printing to achieve the same objective. Is it better to print money or to accept debt that you know has zero probability of being repaid (albeit backed up by our sovereign debt which we think will be repaid)?

    Having typed in the previous sentence, I spent some time in thought and decided that I feel more comfortable printing money. At least you know that the coinage is blushing with shame as it is now debased. With the dodgy sovereign debt route, you have no idea which of these houses of cards will be the next to collapse.

    However, I would feel infinitely more comfortable if neither route was taken. Is it next week the inflation numbers are due out for November? Expect the RPI to go positive.

    One thing you have done, Stephanie, is to convince me that we should not join the Euro. What on earth would be the consequences of a default in Greek Sovereign Debt in Frankfurt? All that the ECB has done is to make the effect of the inevitable (when interest rates return to normal) much worse.

  • Comment number 26.

    the booming black market economy gets bigger and bigger.

  • Comment number 27.

    Anybody tell me: Is it better to have a backstop on our debt in Frankfurt or in Bejing? (One can elaborate on this one - but is it a topic open for discussion?)

  • Comment number 28.

    In the midst of all this financial turmoil, countries like Belarus and China are keeping up robust 10% growth with their socialized financial systems. It would be really good journalism to get reports why some countries are doing so well while others have to suffer so much.

  • Comment number 29.

    To understand the significance of this you need an economic model that has an objective basis in value.

    Then we are back to the concept of fictitious capital - capital that has no productive basis.

    The result is inflation, or more accurately stagflation.

  • Comment number 30.

    It's political cowardice manifesting itself in the form of dire economics.

    If I recall correctly EC financial treaties forbid individual Governments from borrowing too much as a proportion of GDP as well, yet when the French breached the rule, (obviously this country was never expected to get into such a dire situation,) there were vague cries of foul from their European neighbours. But no serious sanctions were taken against the French. Meaning rules for EC countries created by various Treaties are, in practice, not strict!

    More importantly Governments do make mistakes, (stating the obvious, I know,) but sparing the embarrassment of any minister in our neighbouring European Government seems to be of greater importance.

    It's a sort of Pan-European National Nepotism, giving a sly helping hand to a "brotherly government" on the (frankly ridiculous basis,) that their carrying out the same sort of activity (i.e running government) as we do makes us closer to each other than we could ever possibly be to those that elected us to represent them?

  • Comment number 31.

    Greece is just a pale imitation of the UK! (As indeed was Iceland and is Ireland.)

    We cannot afford to support the banking sector that we have - no Nation such as ours can - and as soon as we realise this and cull our banks the sooner we can start to recover. It is totally unacceptable for the British unemployed to be sacrificed to 'save' a few bloated capitalist bankers - they already know this and that is why they are fighting tooth and nail to continue to squeeze the last drop of blood from the British people prior to finding some other sucker country to drain!

  • Comment number 32.

    # 14 - the fact that we are so dependent on consumer spending is the reason why, in my view, the government will do anything to avoid deflation taking root. The government's analysis will be that if there is deflation and the real value of our debt is going up then we can't continue to consume at the same rate. They will therefore do almost anything to attampt to inflate away debt; this includes much more QE if rerquired (and I think it will be). It will also have the effect of devaluing sterling further which the government hopes will make the UK more competitive in the export market. The rest of the EU will of course not btake well to the UK using this as a competitive advantage a la China. Of course, controlling inflation is not a precise science.

  • Comment number 33.

    Government provides QE & buys debt from banks.
    Banks borrow at next-to-zero and lend at 5-6%, rebuild their balance sheets (and have the nerve and idiocy to pay bonuses)
    Man-in-the-street (MITS) is still paying large amounts of interest and had income shaved (if not already redundant)
    Net-net the Government carries a load of debt transferred from banks and MITS is worse off and about to be taxed even more.
    Surely it's time to stop QE and raise interest rates (and constrain the banks from monopoly behaviour in passing on to MITS)?

  • Comment number 34.

    Let us pause and reflect for a moment on the sad demise of Alex Salmond's vision of an arc of prosperity from Ireland, Iceland and to the Baltic including RBS and HBOS as the basis for the economy of an independent Scotland.

    Dreamtime, methinks!

    We now have the reality check that shows up all the political fanatasists of Left, Right and Centre as nothing more than dealers in bovine biological solids. They might even have to get real jobs like the rest of us now: assuming someone would be kind enough to employ such otherwise useless individuals.

    The presbyterian part of me thinks there is nothing quite like a bracing walk in the cold winds of an austere winter!

  • Comment number 35.

    # 12
    On PFI I wrote sometime ago:

    Anent PFI in Ian Bell's Holywood sketch today, I find it remarkable that before New Labour adopted PFI as their pet funding strategy, senior Labour and Tory politicians were on record against PPP/PFI as being a flawed concept:

    Yvette Cooper, now a Treasury Minister, clearly voiced her concerns in an article in the Independent on July 26, 1996 when she attacked the then Conservative Government's proposals: "so long as the PFI is viewed as a wheeze to invest and provide services without the bill showing up on today's government balance sheet, serious problems will remain. The wheeze for the public finances and taxpayers of today risks being a burden on the public finances and taxpayers of tomorrow".

    In his book " Pretty Straight Guys", Nick Cohen says " PFI had been introduced by Kenneth Clarke when he was Chancellor in the Major government.He cheerily admitted afterwards that the PFI was a dreadful idea. He had only accepted it as a temporary expedient because the Major government had enormous debts and he couldn't raise money any other way ------- New Labour turned Clarke's stopgap into a foundation of public finance."

    So it appears that New Labour adopted a Tory wheeze and even now, when the costs are beginning to hurt they still push on with it; even in Scotland blaming the SNP for not using PFI to build the new Forth bridge.

    You couldn't make it up

  • Comment number 36.

    Stephanie, a bit off-topic although relevant to our sovereign debt position - see today's press release on Public Expenditure update from Treasury - Total managed expenditure outturn equals £617 billions,£31.6 billions on public sector debt interest payments - it goes on - health expenditure exploding to nearly £110 billions, social protection payments exploding to £203 billions. To be honest the bank bail-out at £117 billions is starting to look like peanuts in the round!!

  • Comment number 37.

    Hi Stephanie

    This is an interesting post. I have also been following the sovereign debt issue covering Japan and Greece on who has some interesting insights.

    There is a lot going on!

  • Comment number 38.

    Here in the Netherlands, we view Greece in the Euro zone much as we view California in the Dollar zone. All be it, the Euro members have more influence over Greece than the other 50 states over California. Currently the Greece woes help exporters in The Netherlands a bit, since it keeps the Euro at a lower level than it should be.

    I would not worry too much about Greece, when push comes to shove, the other Euro members will find a more or less satisfactory solution. All be it from pure self interest. Maybe even build some sort of common bond market, with internal redevision. Keepig Greece in some sort of limbo just as California is in the USA. Or, give a cheap loan to Greece, or in the extreme take over part of the Greece debt. Just like many banks, Greece is too big to fail from a Eurozone perspective. Ofcourse, Greece will pay a price for that kind of help in the future. Greece will probably be forced to really restructure its economy, as should have been done a decade ago.
    Kind regards, from The Netherlands,


  • Comment number 39.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • Comment number 40.

    The situation in Greece is really really complicated. I mean we would hardly find the same example in the history of Europe in 20th century. Almost all country is falling in the hole of bankrupt. People are protesting in the hole Greece and tourists are really afraid to visit this country which, let me remember that, is the greatest historical monument along with Italy in the world. People are going there every single year to see the roots of this ancient civilization and visit such famous places as Parthenon or some moments of the ancient Greece gods. So how do you think: have the situation changed now? Of course it has. People are afraid going there. Afraid because of many protests, of burning cars and other disastrous things. It is not difficult to understand that tourism is one of these sectors which gives a huge sum every single year to the economy of Greece. Now they will suffer downturns in the number of tourists and it will make their debt even bigger. What I am trying to say here is that Greece made some horrible things for the European Union just because they weren't able to cope with their economical things by themselves. There were even some concerns that Euro will fall down because of the huge debt of Greece. I hope it won't be like that. It is really sad when one country is making the trouble for others. But why do they have such a debt? Of course everything is because paycheck loans, mortgage and other things taken by people and by country representatives by themselves. The situation is similar to the situation in United States, however USA has much stronger economy, that's why they have coped with that and they are experiencing some better times now. So... Should European Union give another loan to Greece? I mean should European Union help to Greece or leave it for international monetary fund? I don't know. I don't think that EU must help to all member countries just because they are not able to rule the country. However I don't see any other way. Maybe throw away Greece and that's all? We will live and see how it goes. Thanks for the interesting article by the way.

  • Comment number 41.

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  • Comment number 42.

    The decission of Fitch to downgrade Greek sovereign debt is right. But I think it's not problem of Greece it is problem of whole the world. There are some countries as Greece and Irland that appeared the weakest countries as for financial situation. Such problems appear everywhere from time to time. As I know in Hong Kong real estate's prices are rising very fast and government try to settle the situation because if it will continue we will see how another bubble will burst. In China the government manage to stop such unjustified growth. So money movement from country to country and more precisely from corp to corp makes trouble here and there and officials I think have their interest in it. That's why they do almost nothing to settle the problem. The same I can say about persons that borrow money to buy anything they want through payday loans online and then they can't pay off their debt applying for debt consolidation. Let's make less debts and try to count our possibilities.

  • Comment number 43.

    Interesting to see that the Greek economy contracted 1.8% in the second quarter, much worse than expected. The joint EU and IMF loan for €9 billion probably can't come soon enough, but whether it will help to stimulate some growth into 2011 is anyone's guess. There have to be real lessons learned from this situation, providing these advance loans is all well and good to help a single country, but does it send a message to other debt laden EU members that they can expect a free bailout as well?

  • Comment number 44.

    I agree, the situation in Greece is not the best one but still it is not the worst one either. A lot of countries all over the world have large and sometimes huge debts because the financial situation in the whole world is rather difficult after the crisis. But it doesn't mean that there is no way out. To my mind, in some years the financial system will be more stable, of course, if authorities try a lot and don't let the other wave of crises begin. Economics can't be constant all the time. Remember the history, liftings and falls are naturally determined. The financial situation all over the world changes during the time flow. At sertain periods each country has to take the loans as far as simple people sometimes have to take the payday loans online.

  • Comment number 45.

    Leading economists and editorialists say Greece will restructure its debt. Many say so because they see so much in common between the spiraling European crisis and past crises in the emerging markets. The analogy has merit, and until recently, I too subscribed to it. Now I am not so sure. This is because the benefits of restructuring now are oddly remote, because Greece has the legal leverage to extract a deep debt haircut if and when it can maximize its benefits, because the EU needs time to get its act together and seems willing to pay for it—and because, as a descriptive matter, the global political commitment behind the no-restructuring option is without precedent. And sovereign debt is nothing but political commitment.
    [Unsuitable/Broken URL removed by Moderator]

  • Comment number 46.

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