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Finally, Greece Has a Chance to Rebound



The agreement announced on Monday between Greece and its international creditors—consisting of the Eurogroup of finance ministers, the European Central Bank (ECB), and the International Monetary Fund—is good for Greece. But the process has been detrimental for Europe and for the euro.

Greece is now committed to accomplishing in a couple of months most of the reforms it has refused to put in place over the last five years, since the first program imposed by the creditors in return for financing was agreed in May 2010. If done credibly and with political ownership, Greece has a shot at recovering confidence among investors and business owners that restores growth in a sustainable manner. On the other hand, in many ways we are back to 2010, unfortunately, with Greece needing to frontload reforms and regain credibility sufficient to restore market access. But the hole in which the Greek economy finds itself is so big that the economy could rebound strongly if the program is implemented well.

The main elements of the deal, reached after days of bargaining and a final all-nighter in Brussels, include loans of €86 billion, a short-term economic stimulus plan for Greece, and the promise of at least some debt forgiveness in the future in return for tough measures to be approved by Athens—including pension cuts, tax increases, international oversight, and possibly a sweeping privatization program to pay off some of the country's debts. Prime Minister Alexis Tsipras has been told that he must win parliamentary approval for the deal by Wednesday, July 15.

For all its tough terms, however, politically Greece is in a better position today than at any time in the last five years. The hawkish leftist party of Syriza is mostly out of the picture. Former Finance Minister Yanis Varoufakis is gone and the dialogue with Europe has been restored. Former Prime Minister Antonis Samaras is gone as opposition leader, opening the door to a renewal of political leadership in Greece. The political churn has come full circle. There is now a broad political agreement on doing whatever it takes to stay in the euro. If the Greek parliament approves the program, as expected, it will deliver a majority to engage with the "troika" of creditors for the first time. Tsipras is in a position to lead a new governing coalition that, however unstable, will hopefully get things done for a while.

If the Greek government shows ownership of the process and effectively implements all the prior actions required in the agreement, there will be OSI (official sector involvement, mostly a rescheduling of the official European debt with longer grace periods and maturities) by the year's end. In addition, if all goes well, Greek bonds will be eligible for the ECB's quantitative easing program of bond purchases, which should lower interest rates on Greek debt. This could create a policy mix of mildly tight fiscal policy (the path of primary surpluses has not been specified yet, though, and it may depend on the political commitment the Greek government shows: more commitment, less tightening), easier monetary policy and financial conditions, and reforms. Finally Greece will have a well-designed program, even if this happy result followed a messy process. The key reason why Greece's earlier program led to such a large decline in growth was not simply that the deficit was massively reduced; the decline also resulted from the tightening of monetary conditions. A combination of tighter fiscal and monetary policies created a much bigger multiplier for deficit reductions on growth. This mistake is being avoided now.

The tumultuous and confusing process that has led to the latest agreement has been very negative for the euro because it has ended the impression of the irreversibility of the euro. When German Finance Minister Wolfgang Schäuble decided to use Grexit as a negotiating tool, he killed the euro as we know it. This is as important, potentially, as the Deauville declaration that opened the door to pricing debt restructuring in periphery bonds and sharply tightened financial conditions. From now on, markets will have to incorporate the possibility of a euro exit as a plausible scenario, whenever there is a crisis in the euro area. This development could have unpredictable negative consequences in the future. One day the Eurogroup will come to regret it.

The process has looked much worse than it has been in reality, but Europe has never been good at public relations. The 19 countries in the euro area create a cacophony difficult to control. However, some US commentators, such as Jeffrey Sachs, have got to the point of comparing European policymaking to the United States in 1781, prior to the adoption of the US Constitution in 1787 (see here), arguing that Europe lacked a strong executive branch that could offset national politicians caring about national interests, rather than about European welfare. That seems a gratuitous comparison; he seems to have forgotten that the US Congress almost killed the global economy with the first failed vote in Congress on the bank bailout fund known as TARP (for Troubled Asset Relief Program), all due to the petty domestic issues of opponents. That was five years ago, not 234 years ago. But it is also true that Minister Schäuble has finally lived up to the US Tea Party standard and threatened the stability of the euro by prioritizing his personal and domestic political interests over the welfare of the euro area.

There is no question that the tone of the negotiation since the referendum should have been softer on the European side. Germany did not seem to know when to just declare victory and let it go. France has emerged as the reasonable leader, flanked by Italy. But it should also not be forgotten that most of Greece's pain is self-inflicted. Most of the blame lies with Tsipras' government, for having adopted such a confrontational attitude from the moment he started in office, refusing to play by the rules of engagement of the euro area. One cannot be a member of a club without following the rules of the club. The result is that now the Greek economy has to start the healing process all over again, five years later.

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