Will The Third Financial Bailout Be The Charm For Greece?

If you have paid any attention to the news, you have probably heard Greece being mentioned fairly frequently during the past few months. Unfortunately, the Mediterranean country is not in the limelight for its idyllic beaches, towering mountains, or historic sites, but for the financial crisis it has been trying to overcome since 2010.

How It Began

In 2008, the collapse of the U.S. housing market resulted in a worldwide financial meltdown. With banks in turmoil, all lending came to a halt. Greece was particularly impacted because the European nation had become accustomed to paying its creditors by taking loans. To make matters worse, the country had also been under-reporting its budget deficit (the amount by which government spending exceeds income). With no loans to fall back on, Greece's financial condition deteriorated rapidly and by Spring 2010, the country was teetering on the edge of bankruptcy.

Concerned that this would hurt the already fragile world economy, the International Monetary Fund, European Central Bank and European Commission, (nicknamed "Troika") provided Greece with a €110 billion euro loan payable in three years.

However the funds were not enough and within a year, the Troika had to fork out an additional €130 billion euros to keep Greece afloat.

One would think that this massive bailout package would be enough to help the country get back on its feet. Unfortunately, this has not been the case. In the last five years, Greece's economy has shrunk by a quarter, and unemployment now stands at a staggering 25%.

Part of the problem can be attributed to the fact that the officials were slow at implementing the austerity measures that were a condition of the two loans. However, the bigger issue is that a bulk of the bailout money was used to repay the country's existing debt.

Hence, it was hardly a surprise when on June 30, a week after the final funds from the previous bailout had been received; Greece defaulted on a €2 billion euro payment owed to the International Monetary Fund (IMF).

The Current Situation

Needless to say, the past few weeks have been chaotic for both the country's residents as well as the officials of the European Commission (EC). With no access to credit from the European Central Bank, the local banks were afraid they would run out of money and decided to shut down. Residents had access to ATMs but could withdraw only €60 euros a day.

After much deliberation the EC officials agreed to yet another loan to help out the beleaguered country. However, this time around it was conditional on the adoption of some harsh austerity measures. This did not bode well with the country's residents, who rejected the bailout referendum by an overwhelming majority on July 5th.

The reluctance to accept the conditions of the loan led German Finance Minister Wolfgang Schäuble to suggest giving Greece a "timeout." According to the plan, the nation could temporarily leave the euro for about five years and try restructure its debt outside the currency area. Once things were stable, they would be welcomed back into the fold.

While this plan seemed feasible and is the course that many European countries would prefer for Greece, it is not one that will be pursued for now. That's because, after much debate, the country's officials decided to ignore their citizen's wishes and accept the additional €86 billion euro loan being offered.

In exchange, they agreed to increase the "Value Added" or sales tax by another 10% bringing the total to a hefty 23%. The terms also call for a curb on public spending, which means that pensions and wages will probably have to be cut, making it even harder for residents to make ends meet. In addition, the lenders also propose to set aside €50 billion euros worth of public assets like state-owned utilities in a special privatization fund as collateral. These will be sold to private companies to help pay back the loans.

But, despite agreeing to these stringent measures, Greece is not out of the woods yet. That's because the loan still has to be approved by the members of the EU and most importantly the biggest contributor, Germany. Though the country's parliament voted to begin negotiations on the €86-billion euro bailout, it has yet to approve it.

Meanwhile, Greece did get some respite in the form of a €7.2 billion euro bridge loan. The temporary funding helped the country fulfill a bond obligation to the EC as well as clear its arrears with the IMF.

Additionally, the European Central Bank re-established the emergency credit lines, enabling Greek banks to open after a three-week hiatus. While the daily €60 euro limit remains in place, residents will now have the option of withdrawing their weekly allowance (€420 euros) in a single day.

Will third time be the charm for Greece? Most experts are skeptical. That's because a bulk of the funds will be needed to repay existing debt, leaving little to jumpstart the economy. Meanwhile, they believe that the deep austerity measures will make the already bad economic situation even worse. The higher sales tax will dampen the country's tourism revenues and also encourage residents to evade taxes. Also, wage and pension cuts will impoverish the residents further and may lead to mortgage defaults.

So what is the solution? IMF Chief Christine Lagarde believes the only way to get Greece back on its feet is to forgive some of the loans. However, the creditor nations are not ready to do that just yet. German Chancellor Angela Merkel believes that they should try one last time, stating, “We (European Union) would be grossly negligent, indeed acting irresponsibly if we did not at least try this path."

We sure hope it works!

Resources: yahoo.com,politco.eu,rte.ie,bbc.com, cnn.com