Lessons from Latin America for Greece

By Guillermo Ortiz

F or many observers who lived through the constant debt-rescheduling processes of Latin American countries in the 1980s it is difficult to regard the latest episode of the Euro-Hellenic drama without experiencing a sense of déjà vu.
Last week, once again, a new plan was devised by the troika of the European Commission, the International Monetary Fund and the European Central Bank to keep Greece funded and avoid default in the short term, while its economy continues to plummet with no end in sight. After two rescue programmes, along with the largest debt restructuring in history, Greece remains insolvent and eurozone leaders refuse to recognise the need for a new approach. To achieve solvency, a serious debt-relief plan, conditional on structural reform, should be implemented to shift the emphasis from fiscal austerity to recovering economic growth and restoring market confidence. It is time for the IMF to assert a commanding role away from European leaders’ short-term political incentives and achieve a credible strategy out of the Greek crisis.

During the Latin American “lost decade”, the region experienced a series of economic crises that brought several countries to the brink of default. Rescue funds were provided through commercial banks, which were governments’ main financing source, the IMF and other multilateral agencies – the 1980s equivalent of today’s troika – to avoid this scenario. Throughout the decade, the region’s debt profile deteriorated continually as the fund failed to address the issue of insolvency and treated the problem as one of illiquidity. Every year the IMF would project gross domestic product to rise and debt-to-GDP ratios to fall, sustaining the illusion that these countries were not fundamentally insolvent. Every year the opposite occurred.
This surreal dynamic ended with the Brady plan, launched in 1989, which provided new financial instruments to help governments regain market access and diversify sovereign risk away from
commercial banks. This, along with initial domestic reforms, facilitated the normalisation of Latin American countries’ relationships with creditors but required significant private sector write-offs, typically between 30 per cent to 35 per cent, well below Greece’s 75 per cent March haircuts. The strategy proved extremely constructive as it renewed investors’ confidence in a credible growth-led debt consolidation process, which boosted incentives to implement structural reforms. In the end, the IMF was able to move away from consistently flawed programmes and help insolvent countries implement pro-growth reforms, regain market access and become self-financing, the true measure of debt sustainability.
Today, when facing the Greek crisis, the IMF seems to be relapsing into the dynamic of the 1980s with Latin America, but now as a junior partner in the troika. Greece has spent almost three years on eurozone life support while the IMF tailored its debt sustainability analyses to justify its contributions, through increasingly heroic assumptions on the country’s future economic performance. Further, it is highly improbable that the measures announced last week will cut Greece’s debt-servicing cost by a sufficient amount to meet the new target of 124 per cent debt-to-GDP by 2020, as the recession is likely to deepen. But even if Greece did meet that 2020 target, it remains a largely meaningless figure as it does not guarantee regaining market access. As the Latin American experience illustrates, market confidence is not recovered through illusory debt arithmetic but by credible measures towards achieving solvency.
Now, as the IMF is called upon to disburse the next tranche of funds, it must decide between carrying on with this charade or reversing its strategy towards a sensible programme, skewed far more towards economic growth and regaining competitiveness than fiscal austerity.
While it seems eurozone leaders are willing to keep Greece within the euro through constant debt restructurings, the IMF should stop travelling along this endless path as it will only further erode its credibility and independence. Moreover, prolonging the illusion of a solvent Greece will only increase the cost to the IMF’s 171 non-eurozone members, as private sector holdings are refinanced by public sector loans and Greek debt becomes more concentrated in the official sector, now representing 70 per cent of the total. In Latin America, large private holdings of public debt made possible a debt-relief plan based on private sector losses.
In the case of Greece, taxpayers will eventually have to finance a substantial write-off. The fact of the matter is that these losses have already been incurred; it is their recognition that politicians seem to consider too costly.
As the fund may end up incurring significant losses on Greek loans, it should seize the opportunity to reverse its behaviour of destructive ambiguity and begin rebuilding confidence both in itself and in Greece. In Latin America, a full decade was lost before countries’ underlying solvency problem was addressed and the process of constant debt rescheduling ended. Only a truly independent IMF can avoid the same outcome for Greece.

The writer is chairman of GrupoFinancieroBanorte, and formerly governor of Banco de México and Mexican minister of finance

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