The Troika setting a “default trap”?

13 February 2013

Controversy erupted in January after the IMF implied lenders to Greece may need to provide yet more debt relief, while the social and economic sustainability of other Troika programmes is still in question. The Fund’s commitment to bailing out eurozone states is also being questioned because it commits poor countries to “come to the rescue” of much richer countries.

Disputes over further bailouts in Europe resulted after the Fund published its first and second reviews of its extended finance facility to Greece in mid-January and Fund managing director Christine Lagarde welcomed the decision of eurozone members to “provide additional debt relief if necessary.” The IMF staff reports pointed out that “Greece is attempting to achieve an unprecedented amount of fiscal and current account adjustment … with a massive debt overhang”, adding that even while attempting to mitigate these risks, if they do “play out, additional debt relief and financing would be needed from Greece’s European partners”, which could equate to as much as €9.6 billion ($13 billion) in additional loans.

Given the tensions between the IMF, key EU lender nations such as Germany and the Fund’s Troika partners, the European Central Bank (ECB) and European Commission (EC), over the provision of new funding (see Update 83), the prospect of more loans is highly unwelcome.  Writing in the Financial Times in December, EC vice-president Ollie Rehn signalled the hostility to further support, emphasising instead the need to “continue to remove structural obstacles to sustainable growth and employment … we need to stay the course.” The staff reports suggested that economic recovery failing in Greece would lead to EU lenders, including the ECB, taking losses of up to 25 per cent of their bailout loans. The report also noted the political risks to the strategy in Greece, highlighting “dwindling support for coalition parties and growing support for Syriza and other anti-programme parties”, which could lead to “implementation delays.” Greek economist Yannis Varoufakis suggested on his blog that the sensitivity to these unwelcome implications is driven by the “German and Dutch governments … [who] feel it is impossible to tell their parliaments, and voters … that some of the money they have put up … will not be retrieved.”

institutionalise economic austerity

A December paper by Giorgios Argitis of the University of Athens described the likelihood of the Troika deal creating a “default trap” in Greece and other programme countries which will force lenders into the scenario of renewed bailout funding. The Troika’s imposition of a mechanism to “institutionalise economic austerity” in order to “safeguard” new wage and spending cuts and privatisation is tantamount to a “self-defeating cycle of extremely tight fiscal and wage policies followed by recession … [which] subverts the country’s ability to meet its debt obligations.”

Portugal’s vicious circle

In early January, Portugal’s president Anibal Cavaco Silva ordered a legal inquiry into the legitimacy of the austerity policies adopted by the government within the terms of the bailout agreement. He described the current economic situation in Portugal as a “recessionary spiral” that risks becoming “socially unsustainable”, adding “fiscal austerity is leading to declining output and lower tax revenue (see Update 83). We must stop this vicious circle.”

Later in January a leaked IMF report emerged, written prior to the approval of an €838.7 million disbursement in the same month, revealing recommended spending cuts, including pensions,  higher medical fees, a 50,000 reduction in teacher numbers and reduced public salaries in a number of secretaries. The general secretary of the Portuguese National Federation of Teachers, Mário Nogueira, said that it would be “absolutely impossible to go through with the measures proposed by the IMF without demolishing the current education system.”

In December, as the final €890 million tranche of the €85 billion Troika agreement with Ireland was authorised, David Lipton, the first deputy managing director, applauded the Irish authorities who “have consistently maintained strong policy implementation” and “demonstrated their commitment.” This included the 2013 national budget reducing child benefits, increased taxation of pensioner incomes and new property taxes. Ireland is supposed to borrow directly from private capital markets within a year.

A January study by the US think-tank the Center for Economic and Policy Research assessed Article IV consultations by the Fund in all European Union states, finding that there is “a consistent pattern of recommendations on fiscal policy, as well as policies concerning employment and social protections.” It identified an “overwhelming emphasis” by the Fund on “fiscal consolidation, reduction of social expenditures” and “measures that would weaken the bargaining power and income of labour.”

Fund’s role in the Troika

Alok Sheel, of the Department of Economic Affairs of the Indian government, writing in the Indian magazine Economic & Political Weekly in December, argued that from developing countries’ perspective the IMF’s role in the Troika is an “anomalous situation where big, poor countries with large developmental needs of their own are being called upon to assist much richer countries.” Pointing to the size and strength of the eurozone as a bloc, Sheel questioned whether it is appropriate for the IMF to be participating in bailouts, arguing “no external lender of last resort is necessary.” The contradiction Sheel emphasises is that IMF financing entails using resources partly provided by “large emerging countries with relatively low per capita incomes”, while the ECB chooses not to deploy its power to issue currency: “[the] eurozone’s collective firepower … far exceeds anything the IMF can hope to mobilise.”

Marcus Faro de Castro, of the Universidade de Brasília, pointed out that “the unfair distribution of voting rights among member countries has been the permanent backdrop to the ad hoc and varying ‘interpretation’ of IMF lending decisions. The relative increase in commitment of BRIC countries’ reserves, to be channeled through the Fund’s programmes including assistance to troubled eurozone countries, is only the most recent twist in this very same trend. As such, public opinion in emerging market economies needs to pay increasing attention to the details of the politics of international monetary cooperation.”