The new Greek bailout deal agreed to Tuesday by euro zone finance ministers and the International Monetary Fund is a clear improvement over earlier deals. It recognizes that Greece's current and projected ratios of debt to output are unsustainable. It prescribes useful steps to lower that ratio, including lower interest rates on loans from Greece's European partners, longer bond maturities and a plan for Athens to buy back and retire some of its heavily discounted bonds.
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Regrettably, it excludes more effective tools, like actual debt write-downs, which Germany's chancellor, Angela Merkel, finds politically unpalatable. And in deference to Ms. Merkel, the deal postpones some of the promised relief until after German elections next September.
But its biggest mistake is conditioning relief on maintaining fiscal austerity. Greece's only hope for long-term solvency is through aggressive measures to revive economic growth. These could include public investment in modernizing ports and infrastructure, tax cuts to encourage export industries, and better public education. Done right, such measures would more than pay for themselves by improving Greece's competitiveness in global and European markets. The bailout deal should keep Greece financially solvent for the next few months, but the price could prove too much for Greece's economy and society to bear. Beginning in 2016, Greece will be committed to extracting a budgetary surplus (excluding interest payments) from a shrinking economy. And it is expected to reduce debt-to-output ratios while output continues to fall.
Greece's output is now almost 25 percent lower than it was in 2008. This year alone it will be down 6.4 percent.
Next year, factoring in the new package of tax increases and spending cuts approved by the Greek Parliament last month at European insistence, it is expected to fall even further. That means less business and less personal income to pay taxes. Unemployment is now over 25 percent. Health benefits for the long-term unemployed have already been cut. So have pensions for the elderly and wages for those still working.
Greece's prime minister, Antonis Samaras, hailed this week's debt agreement as the transformation of "endless austerity" into a program that "will lead to growth." Unfortunately, it promises nothing of the kind, and Mr. Samaras's fragile coalition shows signs of fracturing under the economic strain. It might not even be able to stagger on until the German election next year. If it falls, Greece could be headed for default and exit from the euro. That catastrophe can still be avoided — but only if Ms. Merkel decides to put the survival of Greece and the future of the European Union ahead of her own electoral calculations.
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