Saturday, January 13, 2018

Greece: Creditless Expansion

The Greek economy is growing once again, and this time it is doing so without the benefit of credit expansion to drive consumption and investment.  For us schooled in chemical engineering, it is like running a reaction without the benefit of the necessary catalyst: if it proceeds at all, it does so at very low speeds and product yields.

For the first three quarters of 2017 (latest data available) nominal GDP has been rising, despite the credit contraction. Banks are scaling down their balance sheets, and the government is running very large primary budget balances, i.e. not borrowing at all.

In other words, monetary and fiscal policies are very restrictive in Greece.

 Nevertheless, the economy is growing - and what does this tell us?  Firstly, it says the economy is largely "importing" its growth via increased tourism and exports, instead of rising domestic consumer spending. Secondly, and far more importantly, it says that growth will accelerate once credit conditions improve.  Will they?

Yes, they will.  
  1. Banks are finally on track to deal decisively with their NPLs via a combination of sales, write-offs, reserves and workouts (collateral auctions are crucial, here).
  2. Confidence in Greek credit is improving, as seen in plunging interest rates on bonds and bills.  The last 3 month bill auction came in at 0.99%, and CDS's are at multi-year lows at 332 bp.
  3. Bank funding is also improving with customer deposits rising (too slowly, as yet) and more interbank transactions (bank-to-bank repos).
  4. Banks' reliance on the ECB's expensive Emergency Liquidity Assistance is constantly shrinking and will likely terminate within 2018.
  5. Once Greece is finished with its bailout program in August 2018, with or without a standby loan facility, the road will be clear to abolish capital controls imposed in 2015.  This should rapidly bring deposits back into the system, allowing banks to start expanding credit once again.
  6. Fiscal policy is set to remain restrictive for several years, since future large primary surpluses are a bailout condition. Therefore, once deposits start flowing back in, banks will have to expand credit as one of only two ways to increase earnings (buying new government bonds is the other).
It looks like 2018 is going to be a crucial year for the Greek economy.  So far, all the "reactants" are coming together in the chemical reactor vessel - the only ingredient still missing  is the credit "catalyst".  But I think I can see the truck bringing it in, out in the distance. 

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