Monday, January 12, 2015

Is Greece’s debt really so unsustainable?

by Lorenzo Bini Smaghi

Financial Times

January 12, 2015

Many discussions about Greece’s debt, which currently stands at about 175 per cent of gross domestic product, start from the presumption that it is unsustainable and cannot be repaid. The argument is highly questionable.

First, sovereign states never repay their debt. They refinance it by issuing new debt. From this viewpoint, Greece doesn’t currently face serious problems, since its debt is largely held by official creditors, ie the European Financial Stability Facility (EFSF), and other eurozone member states. The debt has a relatively long maturity, which has been extended to 30 years, as part of the conditionality associated with the adjustment program. It could be further extended, if needed and if the conditions are met. Overall, Greek debt has far fewer refinancing risks than eurozone countries who need to issue billions of euros in the market every year.

Second, the sustainability of the debt depends on the dynamics over time rather than on the overall level. A high debt-to-GDP ratio can be more sustainable than a lower one, if the former component is expected to stabilise and fall over time, while the latter continues to grow unabated. In fact, the sustainability of the debt is inversely related with the level of interest rate paid on the debt, and positively related to the expected growth rate of the economy and the primary budget balance which has been achieved.

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