Now that Greece has returned to debt markets after a three-year exile, charts and commentary from Fathom Consulting consider whether the country is finally out of danger.
All commentary and opinion is that of Fathom Consulting and any views expressed are not those of Thomson Reuters.
After a prolonged period of crisis, Greece’s economic outlook seems to be improving. GDP growth is up, and unemployment is down. A successful sovereign bond issuance in recent weeks has added to that optimism.
Since the most acute phase of the crisis, which many feared would see the beleaguered nation leave the euro area, Greece’s market-implied probability of default within the next five years has fallen from almost 100% back in 2015, to just 40% or so in recent weeks.
But given Greece’s still weak economic growth outlook, and the government’s exposure to rising debt servicing costs, Fathom Consulting believe that investors are too sanguine.
Positive survey data
It is clear that Greece is enjoying a cyclical upturn, as confirmed by strong survey data. Indeed, Greece’s headline index of consumer confidence has risen by over six index points since the beginning of the year.
Meanwhile, the unemployment rate has dropped almost two percentage points since the end of last year, and GDP looks set to continue to expand.
Markets have responded positively. Greek equities have risen some 30% this year, and the yield on ten-year Greek sovereign debt has dropped more than 150 basis points over the same period.
In July, the Greek government tapped into global financial markets for the first time in three years, issuing a tranche of bonds which will mature in 2022 with a yield of 4.6% — significantly below the borrowing costs demanded at the height of the euro area crisis which were around 40%.
Default fears recede
Investors welcomed the opportunity to pour money back into the Greek economy, raising €3 billion and successfully demonstrating that Greece has regained some independence — raising its own capital as opposed to relying solely on the ‘troika’.
Falling yields on Greek government bonds suggest that investors are more confident about Greece’s ability to repay its debt.
Indeed, according to market pricing, the probability of a Greek default within the next five years has fallen from over 60% as recently as April, to 40% in July after negotiations over the nation’s next bailout were concluded.
In addition, the probability of Greece leaving the euro area in the next five years has fallen to 3.6%, still higher than other euro area countries, with the exception of Italy, but significantly below its peak.
The hope that Greek government bonds will soon become available for the ECB to purchase may be another factor behind improving market sentiment.
But, based on recent comments made by Mario Draghi, president of the European Central Bank (ECB), access to capital markets represents only one of three conditions that must be met before the ECB can purchase Greek sovereign bonds under its QE program.
The other two conditions are that Greece must successfully complete its third bailout program, due to end in August next year, and that the ECB must consider the Greek debt position to be sustainable.
However, even if Greece enjoys a period of above-trend growth, as the spare capacity left behind by the austerity-induced collapse in GDP is used up, the Greek fiscal position is sustainable only if financing costs stay close to record lows.
Were Greece to pay market rates, then government debt would rise without bound as a share of GDP.
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Long-term growth rate
The evolution of a country’s debt burden — that is, its sovereign debt relative to its tax base (GDP) — depends on the outlook for growth, inflation, financing costs and the primary balance (the overall government balance net of interest payments).
The long-term, sustainable rate of economic growth in Greece is low.
Over the past 20 years or so, productivity growth has averaged just 0.4% per annum. And UN projections suggest that the Greek population is likely to contract by 0.2%–0.3% on average per annum between now and 2025.
Combining these two figures, it appears that the long-term, sustainable rate of economic growth in Greece is likely to be around 0.1%–0.2%.
But Greece is currently operating some way below capacity — 5% below according to the IMF. That, coupled with a cyclical upturn in the rest of the single currency bloc, suggests that Greece may grow a little above its long-term, sustainable rate in the near term.
The recent improvement in the Greek economy must be put in context.
Quarterly GDP growth is yet to show a sustained pick-up, and has been negative for two out of the past five quarters. Despite the euro area economy as a whole having eked out positive GDP growth for the past 17 quarters, the level of real Greek GDP is around 13% lower than in 2011.
In contrast, the German, French and Spanish economies are all now larger than they were before the euro area debt crisis.
In summary, Greece’s Syriza government has re-entered the bond market despite the country’s economic fundamentals not yet showing sustained signs of improvement.
The Greek economy has grown for the second straight quarter. GDP growth is up, and unemployment is down. Is Greece finally out of the woods?
— TR Financial Markets (@insidefinance) September 6, 2017
That being said, investors have gambled that this time will be different, whether they fully believe in Greece’s recovery or are just searching for returns in the current ultra-low yield environment has yet to be seen.