Friday, June 17, 2011

Letter to President Jean-Claude Trichet, ECB

Dear Sir:

having been intensely involved in the debt reschedulings of Chile/Argentina during the 1980s, I am amazed at the messages which come out of the ECB (“we care about tax payers’ money and this is why we oppose a rescheduling of Greece’s debt in whatever form”; “an orderly restructuring is a fairy tale”; etc. etc.).

Greece had per YE 2010 foreign debt of 410 billion EUR. “Only” 190 billion EUR was government debt; the largest portion (202 billion EUR) was foreign debt of the banking sector.

Those 410 billion EUR will have to stay in the country for many years to come. Furthermore, Greece will need out of the ordinary course of business (exports plus tourism minus imports) at least 25 billion EUR annually in Fresh Money (that is already assuming that there will be no debt installments, hardly any interest payments and no capital flight).

To spend one’s energy debating whether or not the government has reduced costs in sufficient manner is like rearranging chairs on the deck of the Titanic. In the grand scheme of things, it really doesn’t matter all that much. Less than half of the net inflow of foreign savings into Greece during the last 10 years (308 billion EUR) were absorbed by the state. The majority went into the Greek banking sector for the purpose of financing: (a) huge trade deficits; and (b) in the last 2 years massive capital flight.

The fact that the ECB has in the last 2 years lent almost 100 billion EUR to the Greek banking sector for the purposes of replenishing short-term credit which private foreign banks cancelled; for facilitating horrendous imports; and for facilitating massive capital flight is totally irresponsible (not to mention the fact that this was done more or less “behind closed doors”).

The foreign debt problem can be resolved in a short time by a few hundred people in a conference room. To convert the corrupt, crony-driven Greek economy into a market-driven, value generating social economy will require the best brains not only of Greece but also from Europe, and it will take years.

It seems to me that the EU-elites have not even bothered to learn from the Latin American debt crisis during the 1980s. Otherwise, one would have known that the first step which needs to be taken (before the government steps forward) is for the debtor country to bring together all creditors and have them form a Steering Committee. Without that, one has no one to negotiate with and, above all, one cannot keep the private lenders “on the hook”. To think that private lenders will voluntarily make presents is the epitome of business and legal naivité.

If handled well, it wouldn’t even take as long as 3 months to come to something like the following as an agreement: Greece will prepay the entire 410 billion EUR of foreign debt. In the absence of necessary cash, Greece will pay with 20-year bonds for 50% of that foreign debt; 10-year bonds for 30% and 5-year bonds for 20%. During the first 5 years, 2/3 of the interest will be capitalized in order to preserve cash. And needed Fresh Money will be in senior position to the bonds. No “haircut” whatsoever and everything so “unanimous” and so “voluntary” that no smart lawyer can construe an Event of Default.

During these negotiations, there would have to be a freeze of bank deposits to avoid a run. But please bear in mind that the “real” run on the Greek banking system began already 2 years ago and the ECB knew that very well (because it refinanced it!).

The banks would have to write-down these bonds to prices in the secondary market but new EU-legislation could allow banks to do that over 5 years. Should the “Economic Development Plan” fail, then these bonds would end up being worthless. If it works, the bonds would recover value: if Greece regains creditworthiness in capital markets, they could even return to 100%. If that happens, the banks could reverse their write-downs and realize windfall profits. The governments should tax those windfall profits at 100% and pass that money on to Greece as a grant for having become a value-generating member of the EU and thereby having contributed to saving the “European Project”. That would be Greece's incentive to bear the restructuring pains.

Greece should hold on to the Euro but it should simulate a situation as though it had returned to the Drachmae. That will violate certain EU-freedoms (free movement of goods and capital) but so be it. It is an emergency and requires emergency legislation: (a) capital transfers abroad only with economic justification; (b) special taxes on imports (up to 100% for luxury goods) and (c) Free Trade Zones where new manufacturing will be built up at internationally competitive conditions.

Foreign equity would have to be attracted to finance manufacturing in the Free Trade Zones. Foreign equity for Greece in times like this??? YES, because there are hundreds of billion EUR in foreign bank accounts which would partially quickly return to Greece if the business framework were right. Why should a wealthy Greek prefer earning 2% in Switzerland when he could earn a multiple thereof in Greece.

What should be produced? To start with, all those goods which are presently being imported but which could just as well be produced in Greece. A Nirwana for the foreign investor: not only is he told which products he should produce but he would also have a market for these products from the start!

The EU might want to consider guaranteeing the political (not the economic!) risk of such foreign investments.

40 years ago at Harvard, I learned the following in Economics 101: a developing economy needs the savings of other countries so that it can achieve the growth which it needs in order to increase the standard of living of the people. In order to generate those foreign savings, the state must have creditworthiness in order to attract loans and the economy must offer a competitive and attractive package for the foreign investor. It is not only the availability of foreign savings but, foremost, their productive applications which determine the future of the economy”.

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