Follow by Email

Friday, October 11, 2019

Borrow To Improve Your Credit Risk!

On Wednesday this week, Greece raised 487,5 MEUR in short-term debt (13 weeks) at an overall yield of minus 0,02%. A week before, Greece had raised 1,5 BEUR in ten-year money at a yield of 1,5%. What has caused this dramatic increase in Greece's creditworthiness?

The Greek state currently does not need to borrow to finance budget deficits. There is a significant primary surplus, large enough to pay interest on debt which means that the overall budget will at least be in balance, possibly even positive.

Neither does the Greek state need to borrow in order to refinance maturing debt. The amount of debt which matures in the next few years is minimal. Apart from the fact that the Greek state is sitting on a ton of cash in the first place (allegedly upwards of 25 BEUR).

So what is the investors' risk by making new loans to Greece? Virtually none as long as maturities stay within the next 10 years. During this time, Greece has very little debt maturing and the interest expense is very low, too. Given this situation and considering the high cash reserves, the risk of another external payments crisis in the next few years is virtually zero.

So why does the Greek state borrow?

There is an old saying that "banks like to lend money to borrowers who don't need it". Well, there is some truth to it in the case of Greece. As pointed out above, Greece currently does not need money. Greece could use money to voluntarily prepay more expensive debt with less expensive debt where loan agreements permit that or to increase its cash reserves. Even if cash reserves yield no interest income at this time, as long as the debt incurred to build up cash reserves is zero, there is no harm in doing that. Put differently, Greece can increase, at zero cost, cash reserves which, in turn, motivate investors to lend more money to Greece because Greece doesn't need the money and has enough reserves to pay the loans back.

And the moral of the story?

THE HIGHER GREECE'S ZERO-COST DEBT, THE BETTER THE COUNTRY'S PERCEIVED CREDIT RISK AND THE HIGHER INVESTORS' MOTIVATION TO LEND MONEY, PROVIDED THAT THE MONEY IS USED TO BUILD UP RESERVES WHICH, IN TURN, FURTHER IMPROVE THE PERCEIVED CREDIT RISK.

We didn't learn that at university...

2 comments:

  1. I am not sure whether there are any controls on the state budget by the lenders. If (as highly probable) there are not, the new borrowed money will be probably spent on civil servants subsidies ("epidomata") and voter bribes.

    ReplyDelete
    Replies
    1. Well, there is the 3,5% primary surplus requirement. Not a control but certainly a requirement. So it's not going to be all that easy for the state to give away presents.

      Delete