Mike Callaghan is Director of the Lowy Institute's G20 Studies Centre.
The IMF recently released a self-assessment of its 2010 Greek bailout program. The media commentary is summed up in the Forbes headline, IMF on Greece: We Screwed Up, But it's Really the Eurozone's Fault.
Is this an example of refreshing honesty or a statement of the obvious? Stephanie Flanders from the BBC says 'the soul-searching merely tells us sadly what we already knew, that the Eurozone crisis has been handled pretty badly'. To go further, the Fund assessment confirms that the 2010 Greek bailout program was based on excessively optimistic assumptions and would not work. This was known at the outset.
Why did the Fund endorse this program? What was the internal decision-making process, the involvement of the then Managing Director Dominique Straus Kahn, and the role of the Executive Board? The IMF's Independent Evaluation Office (IEO) needs to urgently review the IMF's involvement in the Greek crisis.
The understatement in the IMF's elf-assessment is the conclusion that the program was based on 'ambitious assumptions'. They were unrealistic assumptions.
The Greek economy was uncompetitive, but being in a monetary union, it could not rely on depreciation in the exchange rate to boost competitiveness. It had to rely on an internal devaluation, based on reforms to free up rigid labour and product markets. Yet the IMF admits that the program projections assumed only about 3% of the estimated 20-30% of required improvement in competitiveness would be achieved by 2013. And as the IMF goes on to note:
...even if structural reforms were transformative, a quick supply response was unlikely. Partner country growth was also expected to be weak. Nonetheless, the program assumed a V-shaped recovery from 2012.
Mario Draghi, President of the European Central Bank, responded to the IMF's assessment by saying that hindsight is a wonderful thing. But the wisdom of hindsight was not required to conclude at the outset that the growth assumptions were unrealistic. Stephanie Flanders notes: 'Literally no-one I spoke to at the time thought the official forecast in the plan was plausible'.
The program assumed that the Greek economy would decline in total by 5.5% between 2009 and 2012, with growth returning towards the end of the period. In reality, by 2012 Greek output had fallen by over 25% and the unemployment rate was double that originally assumed.
Weaker growth contributed to a significantly weaker fiscal position. Public debt was assumed to peak at 154% of GDP in 2013, but by the end of 2011 this was revised to 170%. The scale and pace of structural reforms included in the program was excessively optimistic. As the IMF assessment notes, privatisation outcomes were disappointing but were based on 'extremely optimistic assumptions'. Progress on ambitious product market and regulatory reforms were also disappointing.
In summary, the Greek bail-out was based on unrealistic assumptions and assumed impeccable implementation of ambitious structural reforms, all at enormous cost to the Greek people. And even then, it was inconsistent with the IMF's rules for exceptional access to the Fund's resources.
Exceptional access rules apply when a country wants to borrow more than 200% of its quota. The Greek program was to peak with borrowings at 3212% of quota. This was unprecedented. One criterion for exceptional access is a high probability that the country's public debt would be sustainable in the medium term. From the outset, and even assuming excessively ambitious projections, the Greek program failed this test. Nevertheless the program was approved because of a fear of contagion.
But if the concern was contagion, the most the program could do was to buy time. The Fund concluded that the program did serve as a holding operation and gave the euro area time to build a firewall to protect other vulnerable members. But the importance of Europe rapidly moving to address contagion concerns was never explicitly acknowledged in the design of the program.
The message that comes through in the IMF assessment (and this was also known at the outset) is that the program design was heavily influenced by what was acceptable to the euro area. A less aggressive pace of adjustment, based on more realistic assumptions, would have required additional financing. But as the report notes, additional financing was 'politically difficult' for the euro area. Moreover it would mean that Greece's public debt would have risen even further and would have brought to a head what was finally recognised, namely that debt restructuring was required. This should have been incorporated at the start, but at the time this was not acceptable to the euro area because of concerns over moral hazard and contagion.
So it is one thing for the IMF to admit the mistakes in the Greek program, and to blame the euro area. But the real question is why the IMF allowed itself to be so heavily influenced by European views and go along with a program that was so flawed at the outset. Bring on the IEO evaluation.
Photo by Flickr user Eric Vernier.