Greece's Reserve Fund at the IMF Likely Won't Help This Time

June 5, 2015Greeceby Marc Chandler

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How much of Greece's woes are theirs and how much is their creditors?

The euro is steady after pulling back from yesterday's high near $1.1380.  German bund yields are slightly firmer today, but also off the 1.00% level approached yesterday.  Against the other major currencies, the dollar is slightly firmer, as the participants turn cautious ahead of the US jobs data. 

The US employment report is typically among the most important pieces of economic data for the world's largest economy, especially as it has become a focus of the Fed in its attempt to begin normalizing policy.  However, while there is some headline risk associated with today's report, there are other drivers. 

Greece remains at the center of attention.  The Syriza government has rejected the creditors’ proposals, which include a demand for an increasingly larger primary budget surplus.  At the same time, Syriza's counter-proposals are also a non-starter.  How the logjam is broken is far from clear.  The fact that Greece has formally exercising its right to bundle this month's IMF payments is both a negotiating tactic as well as the fact that the country is running out of funds.  Remember, its last payment to the IMF came by tapping its Greece's reserve fund at the very same IMF. 

Shortly after the US employment report, there will be there will be a Greek parliamentary session at which the government will update the legislators about the negotiations.  Recall that the Syriza government was elected with a little more than 1/3 of the votes, and on a platform that rejected continued austerity, but a commitment to remain within EMU.  Syriza rejects the creditors' strategy of "extend and pretend".  Greece, not its creditors, wants recognition of the fact that the country's debt is unsustainable.

The narrative that the media is touting is that the patience of the official creditors is running thin.  Yet sometimes, as Malcolm Gladwell documents in "David vs Goliath", the contest does not always have to go to the strong and the race not always to the swift.  Here is the rub:  there is no mechanism by which Greece can be kicked out of the monetary union.  A debt restructuring is in its interest.  The more onerous the creditors demands, the more attractive is a debt restructuring.  Both Greece and Cyprus have restructured their debt within EMU. 

The conventional wisdom has emphasized Greece's moral hazard.  It should be responsible for its actions and living beyond its means for so long.  Where our view departs is that moral hazard is not just a principle for the debtors but for the creditors.  We think it is important to recognize that Greek aid was not designed to put the country on a sustainable and competitive path.  It was to prevent contagion from spreading and hitting Europe's vulnerable banking system. 

Before allowing Greece to restructure its debt, the ECB launched a program to buy Greek bonds from banks (under SMP).  It transferred this "toxic" debt from the private sector to the public sector and then claims it cannot accept a haircut on that debt because it involves taxpayers’ money.  The IMF lent Greece sums of money in excess of its own rules, and over the objections of its senior staff.  The conventional narrative wants to say that debt is a moral issue, but the lending is not.  We see this as a fundamental contradiction.

Greece may be the main rival to the US jobs data for investors' attention today, but it is not the only rival.  OPEC meets.  Speculation that OPEC would cut output has evaporated.  It is most likely to simply rollover the current quota, for which production has consistently surpassed over the past twelve months.  There seems to be a bigger risk of raising the quota to ratify existing output rather than cut.

There is also a G7 summit this weekend.  Although Greece may not be formally on the agenda, no doubt it will be subject to serious discussions.  At the same time, what appears to be a new Russian-inspired offensive in east Ukraine commands attention.  The extension of existing sanctions, possibly even some new ones, are under consideration as the Minsk II agreement appears to be unraveling.  In addition, this weekend, Turkey holds national elections, while Mexico holds mid-term elections. 

Separately, we note that both Germany and Spain reported favorable news from their industrial sector.  German factory orders rose 1.4% in April.  The consensus expected a 0.5% increase.  The March series was revised up to 1.1% from 0.9%.  This bodes well for next week's industrial production report, where March's 0.5% decline is expected to be revised in full.  However, the details are a bit worrisome insofar as domestic orders plunged 3.8% while foreign orders rose 5.5%. 

Spain's industrial output rose 1.8% year-over-year in April.  The consensus was for a 1.5% increase.  This marks a slowing from the revised 3.2% pace seen in March (initially 2.9%) but reflects the continued recovery of the Spanish economy.

For policy implications, Norway's data was the most significant.  Industrial output fell 4.9% in the month of April, and manufacturing output itself fell 2.9%.  The central bank meets on June 18, and a 25 bp rate cut seems more likely now.  The krone is the worst performing of the major currencies today, losing a little more than 1% against the dollar and 1.3% against the euro.  The euro has risen above NOK8.83 for the first time since mid-March when it peaked near NOK8.93.  That is the next objective. 

The consensus is for US non-farm payrolls to grow 226k, largely in line with the 223k increase in April.  The unemployment rate is expected to be steady at 5.4%, but there seems to be greater risk of a down tick than an uptick.  Hourly earnings need to rise by 0.2% to keep the year-over-year pace steady at 0.2%.  A report that does not contain significant surprises will keep expectations intact for a September rate hike, despite the unsolicited advice from the IMF to wait until next year. 

Canada reports its May employment data at the same time.  Although the economy is expected to have added 10k jobs, this is expected to be a function of part-time work.  The consensus expects full-time employment to have fallen by after the nearly 47k increase in April.

Dollar and Syriza Push Back is republished with permission from Marc to Market

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