Ending austerity?

Europe can afford to cut Greece some slack

The Eurozone can give Greece some slack on its fiscal targets. The new left-wing government in Athens wants to cut its fiscal targets by two-thirds. Satisfying Greece could leave debt still too high - yet there is room for a compromise the country's creditors could afford.

European leaders have already agreed to give Greece some leeway in 2015. But Athens also wants the fiscal surplus before debt service to be cut to 1.5 per cent of GDP in future years, from the current 4.5 per cent bailout target. That seems fair: Greece's so-called primary budget deficit went from over 10 per cent in 2009 to nothing in 2013.

A lower primary surplus will not shrink Greece's debt load quickly enough. The debt-to-GDP ratio was expected to fall below 110 per cent by 2022, when repayments on the bailout loans would pick up. A smaller surplus would also increase Greece's funding needs - by some euro 43 billion through 2020 if funded at market rates, Bruegel estimates.

Greece may end 2015 with debt at 178 per cent of GDP. Assume that the economy grows 2.5 per cent thereafter, with inflation at 1.25 per cent, and that the interest rate stays constant at 2.5 per cent, thanks to cheap funding from Eurozone countries. A primary surplus of 1.5 per cent would see debt fall by under 4 percentage points a year, according to a Breakingviews estimate. Come 2022, it might still hover around 150 per cent of GDP.

Politics also count against Greece. A primary surplus lowered to 1.5 per cent would be a fiscal boost. It should rise naturally as Greece pulls out of recession. That may grate with European lenders, who are helping Greece with cheap loans.

Still, Europe has reason to budge. It would be perverse to keep the Greek primary surplus at nearly 10 times the euro area average, at a time when the unemployment rate hovers around 25 per cent. A 3 per cent surplus would still leave debt at around 140 per cent of GDP. That would be manageable if Greece also privatises state assets.

Greece can bide its time. Eurozone creditors have said they might lower Greece's interest costs, and extend maturities if reforms go on. If so, the 2022 cliff would look less scary, and Greece would have more time to bring down debt. It might be able to borrow in markets. For now, Athens should take what it can get.