Βy Vassilis Kostoulas
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A precautionary credit line under "strict and effective conditions" for Greece in the coming post-bailout period would maintain the waiver for Greek bonds, prevent volatility in deposits, step up the process to eliminate still-imposed capital controls and even allow the possibility for the country's inclusion in the quantitative easing (QE) assets-purchasing program, a top European Central Bank (ECB) official told "N".
ECB mission chief in Greece, Francesco Drudi clearly outlined the Eurozone central bank's position for such a precautionary credit line, mostly echoing the position by the IMF and even Greece's central bank, while adding, nevertheless, that such a decision is up to the Greek government.
Asked about the fourth review and last review of the current memorandum program, Drudi referred to a need to accelerate efforts, becoming the latest top European official to point to the June 21 Eurogroup as an unofficial deadline.
In touching on what the government has referred to a "holistic growth program" for the post-memorandum period, Drudi first said that it had "positive elements", but should avoid actions that increase the state's liabilities or initiatives that are in competition with the banking system.
Asked about recently completed "stress tests" on Greek banks, Drudi said the process was not a "pass or fail exercise... Overall, the results of the stress test showed that the Greek banks are resilient to a relevant downturn of the economy and are able to withstand a severe stress scenario. However, the stress test is considered an important, but only one of many supervisory instruments."
How do you classify the priorities within the context of the 4th review of the program? Which points do you focus your attention on?
The current review is the last review of the European Stability Mechanism programme, so the focus is now mostly on implementing reforms. For financial sector policy, the focus is on improving existing instruments for non-performing loan (NPL) resolution, such as out-of-court workouts and NPL sales. An important step will also be revising the household insolvency framework, where the need to protect weak parts of society needs to be made consistent with giving the right incentives to debtors and, especially, discouraging strategic behaviour on the part of defaulters. Moreover, e-auctions need to continue in a sustained manner, in line with the commitment taken in the context of the third review in February. Overall, it is important to restore a payment culture that, for many reasons, has been severely weakened during the crisis years.
Beyond financial sector considerations, important commitments also affect the privatisation programme, energy markets, and fiscal, structural and public administration reforms, among other things. We are confident that the Greek authorities will be able to deliver on their commitments in time, although this will require efforts to be stepped up in the coming weeks. Ideally, we would like to see all the conditions in place for the review to be completed by the Eurogroup meeting in June.
Some officials and analysts estimate that Greece needs a safety net for the post-program period. Others believe that a new kind of program for Greece will not be easily approved by the European parliaments. How do you approach the discussion on the precautionary credit line and what is the basic scenario for the following day? What would the impact of the absence of waiver for the Greek banks be, and to what extent is waiver maintenance linked to a precautionary credit line after the end of the program?
In the years ahead, Greece will have to return to financial markets in a sustainable way. In order to guarantee this, some conditions have to be in place.
One precondition is that Greece returns to a path of sustained growth. This can only be ensured through continued commitment to reforms.
In addition, a convincing agreement on the debt relief package will be an important factor to ensure lasting access to capital markets. In order for this to happen, the programme must be implemented in full, as the Eurogroup has said repeatedly. If progress is made in the coming weeks (e.g. by reaching soon a staff level agreement), we will know by the beginning of the summer how extensive the package of debt measures will be.
Francesco Drudi, ECB Mission Chief for Greece
A strong post programme framework would also reduce risks stemming from unexpected shocks. From a monetary policy perspective, it is important to keep in mind that a well-defined programme (also of a precautionary nature) with strict and effective conditionality needs to be in place for the ECB to maintain its waiver on the eligibility of Greek government bonds while credit ratings remain below investment grade. While the direct impact of the loss of the waiver should not be over-emphasized, maintaining it could help better face periods of enhanced volatility in financial markets, in case they were to arise. A credible post-programme arrangement would also help prevent volatility in deposits, thereby facilitating the relaxation of capital controls, which is indeed a very important factor for the health of the banking system. The waiver is also a precondition for the inclusion of Greek government bonds in the PSPP, also known as quantitative easing, which will include purchases related to the reinvestment of reimbursed bonds.
Having said this, after eight years in a programme it is crucial that the reform agenda returns to Greek people, who should have the full ownership of it. The decision on whether to apply for a precautionary programme should therefore fully rest in the hands of the Greek authorities.
How do you assess the performance of the Greek state via the recent moves in the capital markets and what messages does it send regarding Greece's ability to stand alone in the markets after August 2018?
The volatility in Greek financial markets over the past few months was certainly affected by global developments, following the global stock market declines in February. The increase in Greek government bond spreads, which was sharper than for other countries, indicates that market sentiment on Greece remains rather volatile.
Given this volatility, the issuance of the new seven-year bond in February may have helped accelerate the upward trend of yields in a thin market. Recently we have seen positive signs in the bond market, but sentiment remains fragile.
This experience highlights the need to proceed with caution in order to gradually restore broad-based investor confidence and build up the resilience of the government’s financial position against sudden shifts in market sentiment. Continuing to implement policy commitments is the best way to address this and support market confidence.
Is the ECB satisfied with the Greek progress in managing non-performing loans? How are the auctions evolving and where is the “cubit” practically placed for the Greek banks and the Greek government?
As we have publicly highlighted on numerous occasions, Greek banks must make swift progress on resolving NPLs, in line with the targets that they have communicated to the ECB. This is crucial both for the economic recovery and for the banks’ forward-looking capital adequacy. We will continue to monitor their efforts very closely.
The performance of Greek banks has so far been broadly in line with their approved NPL targets, as shown in the Bank of Greece’s quarterly NPL monitoring reports. However, a step-change in NPL resolution efforts will be needed to meet target reductions in 2018 and 2019, given that the envisaged reduction in Greek banks’ NPLs [by approximately 38% from mid-2016 to the end of 2019] is backloaded.
Further to what has already been done on the NPL front, and now that more experience has been gained following the conclusion of the first NPL sales in the second half of 2017, we would welcome the removal of some remaining impediments which stakeholders have identified as crucial in resolving legal uncertainties which are currently associated with the sales and the restructuring of NPLs and compress the prices downwards. We think that these issues need to be addressed as a priority given that sales of loans have gained in significance and are core to an effective resolution of the NPL problem.
For e-auctions, a comprehensive approach involving all stakeholders must remain in place at all times to ensure that the e-auction system continues to be successful. We have seen a clear improvement here. Further progress in raising the number of auctions is needed, especially for properties located outside Attica. To this end, we will continue to monitor the situation closely in cooperation with the authorities. Progress in this area is a precondition for the disbursement of the second sub-tranche related to the completion of the third review – the other condition is meeting the targets on the payment of arrears.
What is the ΕCB’s opinion with regard to the protection of the first residence from auctions? What changes are being routed concerning the existing institutional framework?
The level of private debtor and household protection which is in place in Greece through the applicable legal framework and in particular the household insolvency law (Law 3869/2010) is oriented towards providing protection to vulnerable Greek families that have defaulted on their mortgage or consumer loans. At the same time, the initial application of this law to a wide circle of households and individuals without submitting them to sufficiently concrete eligibility criteria has led to significant shortcomings in practice, and undermined the payment culture by encouraging strategic defaulters, which is to the detriment mainly of the really vulnerable debtors and households. The additional protection of primary residences has provided strong incentives to apply to the law even to ineligible borrowers, who counted on the long time it takes for the respective cases to be dealt with by the judicial system.
In order to stress this, let me tell you that from the data we have received so far, approximately one third of the auctions scheduled are either cancelled or suspended mainly because the debtors resumed payment or sought to settle their debt. To be clear: Households will continue to be able to apply to courts for protection, which consists of the radical restructuring of the debt, and ultimately to its write-off, if the debtor complies with an individualized payment plan decided by the court. This protection will of course remain in place. However, we would like to see the law amended in a way which would discourage those that have no right for protection from applying.
Another shortcoming that has arisen from the application of this law is that the overwhelming number of petitions which have been filed with Greek courts and the relevant court hearings which can protract for years in the distant future, has trapped a large amount of lending funds in court proceedings, thereby preventing them from being otherwise used for granting new funding to the Greek economy, which goes against the objective of swift NPE resolution. For all these reasons, the Greek authorities have made a commitment to address these shortcomings in the fourth review, with the aim to further discourage strategic defaulters and be able to apply the protection afforded by the law to the cases in need of it. Of course, households will still benefit from the rest of the protections of the law, which is of unlimited duration and general application.
What is your assessment of the trust of depositors in the Greek banking system? How close or how far are we from the obviation of capital controls?
As you are aware, a number of capital controls have been gradually relaxed, signalling improvements in the liquidity situation of banks. Moreover, many capital flows are exempt from the controls, such as investments coming to Greece from abroad. This implies that the “new money” entering the Greek banking sector is not subject to the capital controls and investors can freely take this money back out of Greece if they wish to do so. This is important for foreign investors who are currently looking to invest in Greece.
Having said this and based on available data, there are some signs of improvement in depositors’ sentiment, as confirmed by a limited return of private sector deposits to the Greek banking system and a decline in cash holdings. Government and non-financial corporations’ deposits continue to account for most of the recovery in deposits since the implementation of capital controls. For households, although there are some positive signs, the reduction in the accumulated outflows since December 2014 is still rather limited.
As the situation continues to improve, we expect the government to take further steps to reduce capital controls, at first mainly (but not exclusively) in the area of internal payment restrictions, and later external payment restrictions, in order to normalise the economic situation in Greece and reap the full benefits of participating in monetary union. While capital controls protect financial stability in the short term, they carry significant economic costs and should be completely lifted once the risks to financial stability disappear. The decision on the timing of further relaxation steps lies fully in the hands of the Greek authorities.
Was the IMF’s approach of the Greek banks’ likely need for a new recapitalization sound? What is the picture you are getting from the stress tests?
The stress test was not a pass or fail exercise. Its results, which were announced on May 5th, are used by the ECB Banking Supervision to form an overall supervisory assessment of the situation of the respective banks and will feed into the Supervisory Review and Evaluation Process (SREP), which is among others used to determine the banks’ Pillar 2 guidance.
Overall, the results of the stress test showed that the Greek banks are resilient to a relevant downturn of the economy and are able to withstand a severe stress scenario. However, the stress test is considered an important, but only one of many supervisory instruments.
Greek banks have made notable improvements over the last two years, but they still need to repair further their balance sheets and reduce their NPLs. The ECB continues to monitor very closely their efforts in this respect. Progress on NPL resolution will also depend on the stabilisation of the economic environment and, importantly, the uninterrupted effective implementation of adopted legislation by the Greek authorities, such as electronic auctions for the sale of foreclosed property.
What do the institutions think of the “holistic” growth programme that was presented to them by the Greek authorities?
The strategy contains a number of positive elements. In general, the government should press on along the path of the reforms implemented during the macroeconomic adjustment programme, and broaden and deepen their implementation.
In the financial sector, the priority should be facilitating the reduction of NPLs and creating the conditions for banks to expand their supply of credit. This implies filling legislative gaps if needed, and strengthening the capacity of the judicial system. For example, the judiciary is currently flooded with cases related to the application of the household insolvency law, which creates a lot of uncertainty. Initiatives that would put the government in competition with the banking sector would be problematic. In light of the need to retain continued market access, actions which could increase the liabilities of the state should also be avoided.
Under which conditions will the Greek public debt be sustainable? Are the measures already in place adequate? If the debt measures that are expected to be agreed during the summer result in the ECB’s debt sustainability analysis showing that Greek debt has finally become sustainable, and given that the Greek programme will expire in August, is there any chance of Greek bonds being included in the QE?
In addition to the full implementation of the programme, restoring Greek debt sustainability will also require additional debt-mitigating measures to be implemented that build on the conditions and commitments set out in the Eurogroup statements of 25 May 2016 and 15 June 2017.
From the ECB’s perspective, the debt measures should be sufficiently ambitious and clearly specified so as to credibly convince investors and, ultimately, ensure long-lasting market access for the Greek government. To this end, the measures should address the concerns surrounding debt sustainability and also cater for all the relevant risks for both macroeconomic and fiscal outcomes. The bulk of the measures should not be linked to policy conditionality. In this respect, in order to secure sustainability, a large part of the measures should be delivered up front at the end of the programme.
Having said this, the ongoing reform process could be supported by putting conditions on a limited set of debt measures (such as euro area countries transferring income related to Eurosystem holdings of Greek government debt).
The debt measures described in last year’s Eurogroup statement are not sufficiently detailed. Work is still ongoing to set out more precisely the extent and design of the measures. Only when euro area countries have agreed on the final and complete design and calibration of all the debt measures will the ECB be in a position to conduct a fully-fledged debt sustainability analysis and assess the adequacy of the overall package for debt relief granted to Greece.
Once all the conditions are in place, the ECB’s Governing Council may examine PSPP eligibility. At the current juncture, it is too early to speculate on the feasibility and timing of a discussion on the inclusion of Greek government bonds in the PSPP.
