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Sunday, May 27, 2012

Prof. Yanis Varoufakis vs. Kantoos Economics

Below is a very interesting exchange of views: an article by Prof. Yanis Varoufakis and a comment on it by Kantoos Economics.

Prof. Varoufakis on "Fiscal Waterboarding versus Eurobonds"
Comment by Kantoos Economics

Both authors are very sophisticated economists (which is evidenced by the fact that they can disagree but still respect one another...).

The bottom-line of this sophisticated exchange is the question: how can the debt service burden (i. e. the interest expense) be lowered for the deficit countries? The underlying asumption is that the current interest expense is far to high for countries living through enormous adjustment periods.

First of all: this assumption is correct! In "normal" times, interest rates should be market rates in order to optimize the allocation of financial resources. Restructuring times are not normal times. During restructuring times, the guiding principle must be to do everything which makes it possible for normal times return again. Available resources must be predominantly used to making the return of normal times possible and not for the payment of market rates.

To accomplish this, Prof. Varoufakis recommends ECB-bonds. Others recommend Eurobonds. Both are fairly complex structures which may or may not accomplish the objective. This is why I would like to make the following comments.

First, the easiest way to lower a country's interest expense is to simply lower the interest rate. That could be accomplished with the stroke of a pen.

And, secondly, lowering the interest rate does not necessarily mean that lenders are "giving something away". Typical in any financial restructuring are "success triggers": a lender might forgive some of his loans in exchange for shares of the borrower. If the restructuring is successful, the shares will gain value and the bank can recover some of its loss. Or, the total interest rate is divided into two portions: "cash interest" and "capitalized interest". Only cash interest flows through the budget. Suppose the lenders want an interest rate of 4%. Fine with Greece, provided that only 1% thereof is the cash portion and the rest is capitalized for, say, 20 years.

Will all these obligations which are being postponed into the future every get paid 100%? Probably not, but that is besides the point. The point is that existing Greek debt currently trades between 10-20% of nominal value and if that percentage were to increase to, say, 50% or even more because of successful restructuring policies, it would already be a major success.

The best option would be to have a low cash interest rate and even cap the amount of interest expense at a certain percentage of government expenditures.

Approximately two-thirds of Greece's sovereign debt is in the hands of the Troika/ECB at this point. To approve something like the above would require a telecon among a handful of people. If they agreed, then the remaining private creditors would have no alternative but to agree also.


  1. Herr Klastner wrote : "Approximately two-thirds of Greece's sovereign debt is in the hands of the Troika/ECB. To approve something like the above would require a telecon among a handful of people"

    You know that the handful of people representing the Troika also have constituencies.

    Whilst some may not have a so called 'popular mandate' they do answer to others. Legarde to the other 187 IMF member states, Draghi to 27 central bankers, Merkel to 62 million German voters, then there's the 27 finmins and the other 26 heads of government and their 400 million citizens.

    We shouldn't take pot shots at the 'elites' for not being 'democratic' in one breath, and in the next suggest they make ad-hoc behind close door decisions.

    BTW - its about time someone started telling the Greeks some home truths, pity it has to be French female lawyer rather than a Greek male or female politician. I read one comment on her FB page saying, "you don't understand we've run out of money". To which she probably thought "at least you had money to run out of, you should try living in Mali or Niger where they've never had any money."

    How much longer must the fate of hundreds of millions, if not billions, be held hostage to a mere 11 million. They claim to have given us democracy, however they also kept slaves, now they want to enslave the planet so that they can continue to live in their tinpot state of denial.


    1. When I mentioned the "stroke of the pen" I was, of course, oversimplifying a bit. Still, even though I am not familiar with approval authorizations, I would guess that an interest rate change can be approved by very, very few people. Certainly not by parliaments or other constituencies. My point is: there are several ways to lower the interest expense if one wants to do that and ECB or Eurobonds are about the most complicated ones. Furthermore, if the lenders subsidize the interest, that is only an expense. A Eurobond "communalizes" the entire debt and that would be the beginning of the end (in my opinion).

  2. Varoufakis has a very one-sided view of the crisis that completely disregards the need for reform in Greece and the other peripheral economies. His proposal is therefore totally irrelevant as he doesn't seem to understand (or willfully ignores) that Greeks themselves have a responsibility to get their economic house in order if they want borrow money cheaply from the official sector or capital markets.