10 June 2013

Karl Whelan: Sorry Olli, the IMF were being nice about Europe's role in Greece

Despite Rehn's ruffled feathers, the truth is the IMF were actually very restrained in their criticism of the euro area's leaders and policy-makers, writes Whelan on his Forbes blog.

The concerns about debt restructuring that they attributed to the Europeans (political difficulties in getting a bailout passed through parliaments after a default and the impact on the balance sheets of European banks) could be considered reasonable.

The reality, however, is that from early 2010 onwards, the IMF had to deal with a chaotic band of European prime ministers, finance ministers, Commissioners, Eurogroup President Juncker and various European Central Bank officials. Not only did these various European powers fail to agree a position on Greece, many of them held positions that were completely nonsensical, so much so they aren’t even mentioned in the IMF report.

From early 2010 all the way through to the actual debt exchange in Spring 2012, European policy-makers focused time and again on the need to avoid triggering a “credit event” as judged by the International Swaps and Derivatives Association (ISDA). While ultimately no more than an exercise in semantics, Europe’s leaders were determined to label any debt exchange “voluntary” thus allowing them to keep a straight face when saying there was no default. (Separately, this issue may have reflected a continuing desire to punish “speculators” that took out CDS contracts and thus to damage a market viewed as a destabilising force.)

As things turned out, the restructuring required passing a law for Greek-law bonds that was coercive and the exchange was determined a credit event by ISDA.  But there do not appear to have been any negative repercussions from this declaration and, as discussed in this excellent paper by Jeromin Zettelmeyer, Christoph Trebesch and Mitu Gulati, the restructuring was ultimately handled in an orderly way and failed to trigger the existential crises the ECB had warned about.

So Olli may be unhappy with the criticism but the truth is that Europe’s leaders and senior policy-makers handled the question of the Greek restructuring very poorly and generally adopted viewpoints based on a skewed and inadequate understanding of how financial markets work. At a minimum, they should accept the IMF’s criticisms. More deeply, they should be asking themselves what they should be doing to improve their understandings of financial markets and financial stability issues before it is too late.

Full article

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