How to understand Greece’s negotiations with its creditors, part 1

Greece: We can’t pay the interest on our debt because the principal is high, the rate of interest is high, and our income is much too low thanks to the income-reducing austerity measures imposed by our creditors.

Creditors line so far: Prioritize paying creditors above anything else. We don’t care about the cumulative damage it does to your economy.

Greece with Syriza: We refuse to do that any more. Besides, can’t you see it’s pointless? We have less and less income to possibly pay you with.

Creditors after election: Well we can’t remove the debt principal from the books because debt is money and European nations’ money would have to disappear.

OK, these are good opening positions for negotiation. Greece is asserting you can’t collect from a business you’re running into the ground. Central bankers are asserting that “Europe’s money is our balance sheet” and you can’t remove debt from the assets side of the balance sheet without something bad happening to the liabilities (money) side.

What next? Compromise I expect. Either central bankers accept that balance sheets with liabilities exceeding assets are OK for central banks, or they’ll figure out a way to make old debt a token asset that generates little or no current account obligations. The first would be easiest, but the economic Zeitgeist is against it so I expect the latter. Some sort of indefinite near-zero real interest rollover as is the case with US or Japanese debt.

To clarify for the concerns of northern European folk:
No-one really expects a nation to pay back its debt. It’s not a project to build a highway, or little of national debt is like that. Nations borrow more or less indefinitely and the amount of debt may rise and fall but that’s an investment concern like the stock market rising and falling in valuation. Generally debt is supposed to rise slowly, and to pay it all back is a bad thing because it removes bonds from the investment market. Neither is Greece expected to pay back northern Europe nor are northern European taxpayers on the hook to pay Greece’s bill to someone. Sovereign debts are not like auto loans.

Rather, sovereign debts are like stocks or mortgages. They’re assets in the banking system. Greece essentially borrowed into a bubble and in 2010 was revealed to be a bad asset. Greece’s economy is worth less than it’s mortgage, so to speak. Bad call, maybe reckless, but it’s the truth. Since then the bad asset that’s Greece’s debt has been passed around until it ended up in Europe’s central banks, the way bad assets in the US ended un in the Fed. That’s OK, it’s partly what central banks are for. No one is going to liquidate a central bank because its liabilities exceed its assets. Except the ECB, if they decide to. But that would be dumb.

So what the negotiation is about is seeking one of two outcomes: Either agree in banking circles that having big holes in the balance sheets of central banks is OK, in which case they can write off a big chunk of debt and put the remaining amount back on the investment market on a sound footing, or figure out a clever way to keep the debt on the books so the books look neat but the debt generates no real interest or pressure on the real economy. The first is emotionally cleaner and revives the economy, and it’s what Syriza wants. The latter buries the problem until it dies of old age and is the Japanese approach. I like Japan…

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