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Greece: is it time for “Extend & Execute”?

Money in the jar and paper with default on white background

June 24, 2015 Comments (0) Views: 1821 Homepage

Why Greece could still default on the IMF

“Countries don’t default on the IMF”, or so it’s often said. Why not? “They just don’t” is the usual answer. It isn’t immediately obvious why, however. I mean, it’s not like the IMF has its own army, or police force. Or that it can impound your airplanes at JFK Airport any easier than activist investors such as Elliott Associates can (which they’ve tried over the years, by the way). Actually, the IMF admits this particular shortcoming itself, noting in one of its official history books:

When the arrears problem [initially] arose, the Fund had little available in the way of sanctions;

Beyond that, all that the Fund could do— short of compelling the country to withdraw from membership—was to issue a series of declarations of increasing displeasure.

You don’t default on the IMF, you run up arrears

It turns out, then, that “running up arrears” (IMF-speak for a default against it) has happened to the IMF from time to time over the years. At present, for example, Somalia, Sudan & Zimbabwe are three countries in its bad(-loan) books. Look further back in time, though, and there are quite a list of others, too: try Cuba, Iraq, the Democratic Republic of Congo, Sierra Leone, and Vietnam, for example. But they, too, will all seem like admissible special cases (basket cases, you might say) to anyone with even a middling history of the geopolitics of the past fifty years.

In contrast, most of the really big debtors of recent years – and really big restructurings – never incurred arrears to the IMF. Take Brazil, Mexico and Argentina during the course of the 1980s Latin American Debt Crisis: none of them ever had any arrears to the IMF. Nor, too, did Russia, nor any of the Former Soviet Union states even after the Soviet Union imploded in 1991. And nor did anyone go into arrears with the IMF as a result of the 1997/1998 Emerging Markets Debt crisis. In fact, for all of the rise in global indebtedness of the past twenty years, and for all of the crises, only one nation has fallen into arrears with the IMF: Zimbabwe, in 2001.

So for all its problems, you wouldn’t think that Greece would want to be joining the IMF arrears club anytime soon, on the face of it at least.

Prepare yourselves for a shock

Well, I’m not so sure. In fact, this time next week, I’m going to suggest that Greece will be in arrears to the IMF. Not that we might know it, though: in its early years, countries and the IMF didn’t always say so. In fact, I think I’m right in saying that neither Greece nor the IMF is under any obligation to report any overdue debts publicly, not initially at least.

A Man, A Plan, A Canal: Panama (or maybe Tsipras)

One of the reasons for this prediction, it turns out, is Panama. Because it turns out that Panama is another of the countries on the IMF arrears list, which it got added to in late 1987. OK, so what do you know about Panama? A canal, yes. A sizeable shipping industry, yes. Tourism, maybe. What about Greece, though? Well, there is the Corinth Canal, if you think hard enough. And a sizeable shipping industry, of course. And, yes, also lots of tourism. But that’s not enough for a serious link between the two, is it? Maybe. But – then again – I have missed out the really big similarities, which are their exchange rate arrangements, regional political squabbles, and IMF borrowing histories. And these make a lot of difference, it turns out (by the way, ‘A Man A Plan A Canal: Panama’ is one of the great palindromes in the English language, if you didn’t know: try reading it backwards if you don’t trust me).

Panama’s economy is dollarized. It’s the next toughest exchange rate regime to a full monetary union. It’s great for achieving low inflation, which Panama has been very good at over the years, but it’s a right pain the neck if you over-borrow because there’s no friendly Central Bank to fall back on with any flexibility to expand its balance sheet. Panama’s exchange rate arrangements have been in place for a century or more, actually. So, on their own, they weren’t enough to cause the IMF arrears problems in the late 1980s. But, with more limited borrowing options under the exchange rate arrangements, Panama had become something of an addict with respect to IMF programmes, particularly in light of the region’s ongoing debt problems (err and also the weakness of US banks at the time, it turns out). In fact, by the late 1980s, Panama had clocked up more IMF programmes in the preceding twenty-five years – eighteen of them, remarkably – than any other nation in Latin America.

But no, the straw that finally broke the camel’s back with respect to Panama and the IMF was a certain General Manuel Noriega and the bad blood between him and the US government, which eventually resulted in the imposition of US economic sanctions (and an invasion). On December 28th 1987, Panama missed a scheduled IMF payment. Here’s what the IMF had to say, some year later:

It placed the Fund awkwardly in the middle of a noneconomic dispute between two member countries. To tell Panama to take the actions necessary to settle its arrears was, in effect, to tell the government to acquiesce to the United States in the political dispute over the status of General Noriega, who functioned as de facto head of state for much of 1988 and 1989.

Certain similarities between Panama & Greece

OK, now just to be clear: I’m not equating Alexis Tsipras to Manuel Noriega in any way with respect to the alleged atrocities carried out by the latter. But it is interesting, to me, to note the similarities between certain aspects of Panama’s predicament in the late 1980s, and Greece’s predicament today. In case you haven’t noticed it, for example, trust between the Greek government and its Euro zone counterparts isn’t exactly high at the moment.

And it just turns out that the IMF is next in the queue to be paid by Greece, right at a time when Greece has very little cash to spare.

It also turns out, though, that this whole Greek debt business is not just a negotiation between Greece and its creditors, but – rather – a game between Greece and its creditors and its creditors. And while most men believe that all men are created equal, most creditors definitely do not believe that all creditors are created equal.

Finally, it also turns out that the next big ‘name’ in the whole Greece negotiation facing re-election (Eurogroup President aside) is none other than Christine Lagarde, who faces re-election as IMF Managing Director sometime in 2016.

Let me stick my neck out even further. Because I’d even go so far as to say that certain Eurozone governments might actually relish a technical default of Greece versus the IMF at this point, not only to prove themselves tough with respect to Greece, but also as a test of how financial markets will respond to the consequent news and uncertainty.

A 1st July Greek default on the IMF might suit more people than you think

For all these reasons, and also considering the slight air of mystery surrounding Monday’s sudden Euro Summit (‘Veni Vidi Tweeti’, The Top Note, 23rd June 2015), I’m going to suggest that Greece is not going to pay the IMF by 30th June. As I said, I’m not entirely sure whether anyone will tell us about the missed payment on 1st July, but I do think it’s a bigger risk than is commonly believed.

In a way, it’s the only way for everybody to make their point without the financial world, as we know it, ending!

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