Wikileaks US Treasury Meetings in Greece: Despite Credibility Gap,

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Reference ID Created Classification Origin
09ATHENS2202 2009-12-31 11:52 UNCLASSIFIED//FOR OFFICIAL USE ONLY Embassy Athens
DE RUEHTH #2202/01 3651153
O R 311152Z DEC 09


E.O. 12958: N/A 
SUBJECT: US Treasury Meetings in Greece: Despite Credibility Gap, 
Chances of Near-Term Default Slim 

REF: A. ATHENS 2192; B. ATHENS 1705; C. ATHENS 1653 



1.  (SBU) In December 18 and 21 meetings in Athens with visiting 
Treasury Representative for Europe Mathew Haarsager, Greek 
government and bank officials expressed the common view that the 
main challenge facing the GoG was undertaking a reform program that 
would restore credibility in Greek economic policy-making with the 
EU, markets, and ratings agencies.  The Minister of Finance and 
others at the Finance Ministry seemed to be placing all of their 
eggs in the basket of an updated Stability and Growth Program 
(SGP), which is to be submitted to the EU in January.  They 
promised that all concerns would be addressed by the SGP, which 
will catalogue the GoG's medium-term reform program and include 
concrete, quantifiable measures they hope the EU and markets will 
endorse.  With mere weeks to go before the submittal of the SGP, 
however, few Finance officials could provide details.  Private bank 
officials were more critical of the GoG's actions to date, noting 
they would like to see the GoG take decisive actions that have a 
more immediate impact on the budget deficit and thereby restore 
market confidence.  They expressed frustration that their access to 
capital markets was tightening as a result of the GoG's inability 
or unwillingness to deal with its deteriorating public finances. 
Nonetheless, the consensus view - perhaps hope -- by most was that 
the GoG would provide an adequate reform program in the SGP, the EU 
would accept it, and Greece's negative slide in the markets would 
cease.  Most regarded the possibility of a Greek sovereign default 
as negligible in the near-term.  In terms of the banking sector, 
most felt it was well capitalized and very liquid, but there were 
concerns about how the continuing slowdown of the Greek economy and 
the tightening of ECB liquidity measures by the end of 2010 would 
impact bank balance sheets.  END SUMMARY. 


2. (SBU) On December 21, Minister of Finance George 
Papakonstantinou underscored to the Ambassador and the Treasury rep 
that the main challenge for Greece at this juncture is to convince 
the markets that the GoG is taking the measures necessary to 
restore discipline to public finances and begin reducing its 12.7 
percent deficit (2009 projection).  The goal is to reduce the 
deficit by 4 percent in 2010 (to 8.7 percent) through a 50/50 
combination of revenue-enhancing and expenditure-cutting measures 
included in the budget passed on December 23 and as announced by 
the Prime Minister on December 14 (see reftels A and B).  By 2013, 
the GoG hopes to reduce the deficit to below 3 percent as a result 
of these measures and an overhaul of the tax and budgeting systems 
(see reftel C).  The Minister stressed, however, that implementing 
these reforms will take time; the big question is whether markets 
will be patient.  The Minister expressed frustration with what he 
saw happening in the markets, including the shorting of Greek 
sovereign bonds and international ratings agency downgrades - steps 
he felt were unjustified and which could hasten the very result 
(i.e., default) all were working to avoid.  While Greece's debt 
dynamics are bad, the increase in debt as a percent of GDP since 
2007 has been less in Greece than other countries in Europe, the 
Minister stated.  [Note: During 2007-2011, Greece's debt to GDP is 
expected to rise by almost 40 percent, while Ireland's is expected 
to rise by over 70 percent.  End Note.]  He stressed that the only 
factor that made Greece unique, compared to other countries in the 
EMU or EU with high deficits and exploding debt like Ireland and 
the United Kingdom, was the credibility gap resulting from 
unfulfilled prior reform promises and unreliable statistics. 


3. (SBU) According to Papakonstantinou, Greek officials understand 
they need show the markets immediate positive reform momentum in 
order to gain time to implement longer-term reforms that will 
overcome their credibility gap.  To this end, the Minister intends 
to provide a steady flow of information on GoG reform efforts to EU 
leaders, markets, ratings agencies, and the financial press.  As a 
result of his recent flurry of meetings and briefings in European 

ATHENS 00002202  002 OF 005 

capitals, he believes there is now a better understanding of the 
GoG's reform plan and resolve.  Markets and the EU now understand, 
according to the Minister, that despite the fact that the GoG has 
resisted pressure to follow Ireland's lead and cut public sector 
wages, measures the GoG is taking will be equally painful and 
result in cutting the public sector wage bill.  [Note: Chairman of 
the Greek Council of Economic Advisors George Zanias on December 29 
subsequently clarified for DepEconCouns that the plan to reduce 
public sector entitlements by 10 percent will impact one-third of 
the wage bill and result in a 3-4 percent nominal wage cut.  Given 
next year's 1.4 percent expectation for inflation in Greece, this 
nominal cut translates to about a 5 percent real cut in wages. 
According to Zanias, Moody's analysts highlighted that this was a 
higher real cut than that recently undertaken by Ireland, which he 
believes was around 2.5 percent given Irish deflation.  The SGP to 
be submitted to the EU in January will give these and further 
details on the GoG's measures.  End Note.] 

4. (SBU) Papakonstantinou nonetheless admitted that markets still 
want to see immediate concrete measures and results.  More 
importantly, they want to see the GoG stand up to domestic 
opposition to the implementation of reforms.  Although 
Papakonstantinou did not specify what the EU wants to see, he 
believes the EU's goal is to continue to talk tough and keep up 
pressure on Greece to implement reforms.  The minute the EU starts 
talking about the need for a bailout, however, Greece would be 
"killed" in the markets.  In terms of an IMF program, all 
understood Greece could not go out of the Eurozone framework.  But, 
Papakonstantinou hedged, there is also a realization that a 
Eurozone country can default, and the EU or the IMF would need to 
provide support should such a situation arise. 


--------------------------------------------- ----- 
5. (SBU) In separate meetings with Elias Plaskovitis, the Finance 
Ministry's lead Secretary General (December 21), and Elias 
Pentazos, Secretary General for Fiscal Policy and the General 
Accounting Office (December 18), each SecGen explained to the 
Treasury rep and DepEconCouns the GoG's intention to include 
greater detail on its reform efforts in the SGP.  With mere weeks 
to go before submission, however, neither SecGen seemed able to 
brief on specifics of what would be in this plan.  SecGen 
Plaskovitis explained the content would be similar to that provided 
by Ireland and other countries, and it would include "specific, 
quantified measures."  Asked what the markets want to see in the 
SGP, Plaskovitis responded that one investor told the Minister 
during his European capital briefing tour that markets wanted to 
see "blood running" as a result of reforms.  They want to sense 
that the GoG it taking painful measures, despite public opposition. 
Plaskovitis stressed that EU support for the SGP will provide a 
strong signal to investors and markets.  To this end, the GoG is 
cooperating with the EU in drafting the SGP to ensure that the SGP 
is received positively. 

6. (SBU) SecGen Pentazos explained that his part of the Ministry is 
focused on developing a database to track public sector salaries - 
a key step in beginning to control the public sector wage bill.  He 
also explained that beginning in January, his office would begin 
taking a stronger and more active role in budget execution, through 
monthly monitoring of each ministry's budget to ensure ministries 
do not overspend as they have done historically.  In contrast to 
similar efforts taken by previous governments, Pentazos argued, PM 
Papandreou has made it clear to all Ministers they are to abide by 
the new rules.  Pentazos stressed that the PM is committed to 
moving forward quickly to convince markets that Greece has a 
credible reform plan.  While he knows there will be clashes with 
certain groups, including public sector labor unions, he stressed 
the PM would not waiver.  He stated that external pressure could be 
useful in providing leverage to the GoG as it takes on difficult 

7. (SBU) On December 21, Public Debt Management Agency (PDMA, part 

ATHENS 00002202  003 OF 005 

of the Finance Ministry) Director General Spyros Papanicolaou 
expressed his belief that the financial media overblown concerns 
about Greece.  As an example, he cited the Financial Times cover 
story of S&P's downgrade of Greece as the type of story that in 
normal times would not have made it to the front page.  He 
understood that this heightened attention is due to implications 
for the common currency and the viability of the Eurozone project 
itself, but he believes the media is overdoing it; in his view, 
bankruptcy is out of the question.  Papanicolaou agreed that the 
main challenge facing the GoG is bridging the credibility deficit. 
He asserted, however, that this government is committed to 
implementing reforms, despite the fact that some within the PASOK 
government are opposed to taking some reforms (i.e., like cutting 
wages).  He argued that the probability of default in the next 1-2 
years is zero as the markets would continue to lend Greece money 
since Greece will work with the EU on implementing SGP measures, 
and the EU will monitor Greece's performance on a quarterly basis 
under the Enhanced Deficit Procedure (EDP).  According to 
Papanicolaou, the GoG's borrowing needs in 2010 will be EUR53-55 
billion, EUR9-11 billion less than the amount borrowed in 2009. 
This is made up of EUR31 billion in redemptions and EUR24 billion 
in deficit financing.  While Greek banks financed 55-60 percent of 
the GoG's borrowing program through the Spring of 2009, by 
summertime this percentage had gone down, and the DirGen expects 
this support to go down even more in 2010 because of the unwinding 
of ECB liquidity measures. 


8. (SBU) On December 18, officials at the Bank of Greece, Greece's 
central bank, including  Panagiotis Thomopoulos, Member of the 
Monetary Policy Council and former Deputy Governor Bank of Greece; 
Isaac Sabethai, the Director of the Economic Research Department; 
Nicholas Tsaveas, the Director of the Financial Stability 
Department; and Ioannis Gousios, the Director of the Bank 
Supervision Department, underscored that the challenges facing 
Greece are immense and range from lack of competitiveness to 
chronic poor public finance management that have contributed to 
Greece's twin debt and current account deficits.  That said, it is 
BG staff's assessment that the GoG is being sincere in its efforts 
and is committed to taking a series of bold reforms over the next 
few months that countries usually undertake over the course of 
several years.  They assessed that that the public, ultimately, 
would accept the necessity of reforms because of the tenuous 
position in which Greece finds itself.  BG staff also regarded 
external pressure from the EU, the IMF, and others as helpful in 
keeping the GoG's resolve strong and providing the government with 
a scapegoat to gain public acquiescence. 


9. (SBU) BG staff indicated that they are urging domestic banks to 
find alternative financing sources to the ECB liquidity measures, 
which they fully expect to be unwound by the end of December 2010. 
[Note: Greek banks have been among the heaviest borrowers from the 
ECB, with a combined EUR47 billion (down from EUR53 billion during 
the summer) drawn from the ECB's special liquidity window (out of 
EUR650-680 billion of total assets accepted by the ECB), which was 
opened to help Europe's banks overcome a shortage in liquidity 
stemming from the financial crisis.  Greek banks have been playing 
the carry trade by borrowing from the ECB and then investing in 
Greek government bonds - borrowing low and lending high.  As the 
ECB scales back this facility and GoG debt becomes more expensive 
or no longer accepted as collateral at the ECB as a result of low 
credit ratings, excessive ECB financing on Greek bank balance 
sheets could impair banks' capital and liquidity positions.  End 
Note.]  According to BG staff, Greek banks are already scaling back 
their use of the ECB liquidity facilities at the BG's urging.  By 
the end of 2010, the BG would like to see ECB financing on Greek 
bank balance sheets reduced to EUR10-15 billion, which is still 
higher than pre-crisis levels.  BG staff does not believe this will 
have a significant impact on the GoG's ability to finance itself in 
2010, as Greek banks provide little financing to the GoG relative 
to foreign markets.  Even absent this deleveraging by Greek banks, 
the GoG would have needed to find foreign buyers for its debt.  BG 
staff believe foreign markets will continue to lend to the GoG, as 
Greece is still a member of the EMU; Greek debt will continue to 
pay high returns in return for low risk. 

ATHENS 00002202  004 OF 005 

10. (SBU) Overall, BG staff assert Greek banks are well 
capitalized, that the quality of capital is high, and that their 
liquidity is good.  The following data was provided by the 
Financial Stability and Bank Supervision Departments: 

Liquidity Risk - loan/deposit ratio: 

End-Sept. 2009                                  End-Dec. 2008 

Greece/foreign subsidiaries:                      113% 

Greece only: 
105%                                                     109% 

Capital Adequacy Ratios: 

End-Sept. 2009                                  End-Dec. 2008 

CAR, Greece/foreign subsidiaries:            11.7% 

CAR, Greece only:                                           13.2% 

Tier 1, Greece/foreign subsidiaries:         10.7% 

Tier 1, Greece only:                                         11.7% 

BG staff feel credit risk in Greece may be rising, with 
non-performing loan (NPLs) rising to 7.2 percent in Greece at the 
end of September 2009, from 5 percent at the end of 2008.  While 
stock of provisions has increased, the coverage ratio of NPLs by 
provisions has decreased significantly to 41.9 percent (September 
2009) from 48.9 percent at the end of 2008.  BG staff note that 
further deterioration of Greek banks' loan portfolios in Greece may 
be possible, depending on the length and impact of the economic 


--------------------------------------------- ---------------------- 

11. (SBU) On December 18, Eurobank Deputy CEO Nikolaos Karamouzis 
stated Greece's debt dynamics were out of control.  He noted that 
the markets have not yet bought the PM's reform measures, and the 
next 60 days will be crucial for the GoG to regain confidence via 
concrete, measurable actions.  As a result of Greek sovereign debt 
on Greek banks' balance sheets and worries over how slow growth 
will affect NPLs, Karamouzis admitted that Greek banks no longer 
have access to senior debt markets.  In his opinion, the GoG needs 
to "overreact" with measures in order to regain market credibility. 
Despite Greek banks being very liquid and well capitalized, 
Karamouzies opined that Greek banks will be under severe pressure 
if Moody's downgrades to a BBB+ (as Fitch and S&P have done). 
Karamouzis stated that if Greece is locked out of capital markets, 
Greek banks will not be able to finance Greek debt alone. Finally, 
he noted that tough talk by external voices like the EU is useful 
in keeping pressure on the GoG to implement reforms. 

12. (SBU) Echoing comments made by BG staff and Karamouzis, 
Eurobank General Manager Fokion Karavias stated that Greek banks 
are well capitalized and have good liquidity.  The key risks for 
banks as the Greek economy and Greek public finances continue to 

ATHENS 00002202  005 OF 005 

deteriorate are two-fold: (1) increased credit risk as NPLS rise; 
and (2) liquidity pressures due to ECB financing on Greek bank 
balance sheets.  In order to mitigate these risks, the GoG needs to 
spell out concrete measures in the SGP that will have an immediate 
effect on the budget deficit and market confidence.  He explained 
that markets are looking for more painful expenditure cuts because 
these will have a more immediate impact on the budget deficit than 
plans to raise revenues.  Markets are also looking for strong, 
positive endorsements of the forthcoming SGP from the EU as a 
result of Greece's "credibility deficit."  If the EU endorses the 
SGP, markets will give Greece time to implement the measures; if 
the EU does not, Karavias opined, markets will create the 
conditions of ECB tightening before the end of 2010, which could 
hasten the need for an EU or IMF bailout package.  He explained the 
impact on banks in either scenario will depend on how depositors 
react; a bank run could occur if there is prolonged uncertainty 
about the GoG's ability and willingness to implement reforms (e.g, 
GoG equivocation in the face of prolonged labor union protests, 
lukewarm market or EU reaction to SGP, etc.).  Karavias believes , 
however, that this government, with its 160-seat majority in 
Parliament, both understands the seriousness of the situation and 
has the political will to undertake tough reforms.  While it will 
be difficult, he believes the economic situation is reversible.  As 
such, he does not fear that markets will stop purchasing Greek 
debt, and he expects that the ECB will continue to accept Greek 
bonds as collateral.  Finally, as others have noted, Karavias 
believes outside pressure can continue to induce the GoG to take 
the right actions. 

13. (SBU) On December 21, Paul Mylonas, Chief Economist and Chief 
of Strategy for the National Bank of Greece (NBG), Greece's largest 
commercial bank, noted that only actions that represent significant 
political cost to the GoG will restore market confidence in Greece, 
provided the GoG faces down any opposition.  Mylonas opined that 
while continued tough talk by the ECB and the EU can be useful, 
markets will continue to provide liquidity to Greece because (1) it 
will remain an EU and EMU member with at least a tacit guarantee of 
a bailout; (2) the chances of default are low, and the returns on 
Greek sovereign bonds high; and (3) it is generally difficult for a 
public entity to go bankrupt (e.g., Argentina).  Mylonas believes, 
however, that the GoG will need to find additional external 
creditors in 2010, since Greek banks will be unable to provide as 
much financing as they did in 2009 (as a result of pressure by the 
BG to move away from ECB financing).  On the domestic banking 
sector, Mylonas indicated that the market liquidity that slowly 
came back in 2009 is once again gone for Greek banks as a result of 
the GoG's debt and ratings.  NBG is trying to adjust by issuing a 
series of short-term bonds.  Mylonas noted that any reduction in 
customer bank deposits (and there has been some noise by high-end, 
large customers) will impact NBG's balance sheet.  He further 
opined that if Moody's cuts Greece's rating to a BBB+ and the ECB 
scales back its liquidity measures,  NBG will need to find new 
sources of financing to cover collateral it has used to get 
low-interest loans from the ECB.  NBG recently announced it plans 
to pay back EUR2.5 billion in ECB loans early next year, bringing 
its outstanding ECB borrowings down to EUR11 billion. 


14. (SBU) Part of the GoG's reluctance to be more clear on its 
reform measures may be intentional, given its desire to avoid 
provoking a strong reaction from labor unions and other domestic 
opponents of reform.  It also may be due to continued infighting 
within the government between those who favor additional cuts, 
including to public sector wages, and those with populist 
tendencies who favor additional handouts to mitigate the social 
impact of the economic slowdown.  Following his recent tour of 
European capitals, it is clear the Minister understands that 
markets want to see positive momentum on reforms and, more 
importantly, more budget cuts included in the SGP.  Less clear, 
however, is whether the GoG will include such measures, and how the 
EU and markets will react if they do not.  END COMMENT. 

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