Down to a trickle.

Photographer: Milos Bicanski/Getty Images

Creditors Don't Trust Greece's Latest Plan

Mohamed A. El-Erian is a Bloomberg View columnist. He is the chief economic adviser at Allianz SE and chairman of the President’s Global Development Council, and he was chief executive and co-chief investment officer of Pimco. His books include “The Only Game in Town: Central Banks, Instability and Avoiding the Next Collapse.”
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Prime Minister Alexis Tsipras of Greece has spent the last 24 hours trying to re-engage the creditors he had previously defied in unusually bitter and acrimonious negotiations. There are limited reasons to be optimistic he will be successful.

Tsipras has made proposal after proposal as his country's economy ground to a halt after the banking system was shut down this week. Yet creditors have been guarded in their responses, recognizing that Greece is trying to confront a rapidly deteriorating situation with insufficient tools and that the political outcome is highly unstable.

QuickTake Greece's Fiscal Odyssey

The messy collapse of negotiations on Friday, and the increasing likelihood of a nationwide bank run after the European Central Bank limited its support, forced the Greek government to impose capital controls and announce the bank holiday.

The resulting "sudden stop" shock to the economy (detailed here) is affecting even the most routine economic interactions, resulting in yet another sharp contraction in gross domestic product. Meanwhile, the government is facing an intensifying cash crunch, forcing it to miss a crucial payment to the International Monetary Fund on Tuesday and limit domestic outlays, including pension payments.

Short of a major positive shock, this horrid Greek situation has the potential to get worse in the days ahead. Arrears on debt and to suppliers could mount quickly, and the government would be pushed into issuing IOUs to meet essential domestic payments, inadvertently taking another step toward a disorderly exit from the euro zone.

Realizing the devastating impact of what economists call "multiple equilibria" dynamics, Tsipras has tried repeatedly to open fresh discussions with Greece's creditors. On Tuesday, he made an appeal both for extending the rescue program and for a grace period on the bundled IMF debt payment. He also requested bailout funds from the European Stability Mechanism. On Wednesday morning, he presented yet another proposal containing additional concessions.

The responses of creditors have varied from outright rejection to skepticism. They declined the requests for a program extension and an IMF grace period. In addition, they have shown no enthusiasm for a new program, as some wish to wait for the result of the July 5 referendum and others want that vote to be canceled.

Now, both sides are likely to make efforts to come across as more conciliatory and cooperative, if only for appearances' sake. But we should not confuse the more polite appearances with the likelihood of durable progress. Deteriorating conditions in Greece make a lasting breakthrough agreement quite unlikely.

To have any chance of turning around the ugly dynamics of Greece's sudden stop, the negotiating parties need to move quickly to find the mutual trust to craft a trifecta of measures:

  1. An implementable big bang policy reform package, with notable upfront measures;
  2. Huge and immediate injections of external funding that go beyond simply meeting Greece's debt payments;
  3. Upfront and consequential debt reduction.

These steps must be accompanied by an endorsement of the creditors' position in the Sunday referendum (Tsipras called for a "No" vote), though without throwing Greek politics into disarray.

 All of this is possible, though not very likely at this stage.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Mohamed A. El-Erian at melerian@bloomberg.net

To contact the editor on this story:
Max Berley at mberley@bloomberg.net