* Negotiations ahead and the good and bad equilibria
The Greek government has been more confrontational than markets had
expected. Their plea has not found much sympathy abroad, but has been very
popular domestically. However, some signs of a possible compromise have also
emerged. We expect negotiations in the weeks ahead to focus more on the
roadmap for the way forward and less on the substance of policies.
* We expect the actual policy negotiations to be very difficult. The economic
situation has deteriorated. Greece will need a new official program. In our view, any
agreement is likely to include both more austerity in Greece and losses for the rest
of the Eurozone.
* Greece does not have to re-discover the wheel. The Greek government could
pre-commit to fiscal targets based on objective IMF analysis of best past practices,
as opposed to targets that make the government debt look sustainable on paper.
The government could also seek IMF advice on tax reform and OECD advice on
structural reforms. Such an approach would both strengthen the government’s
credibility abroad and force the Eurozone authorities to have to argue against
sounds analysis.
* A bad equilibrium, in our view, begins with brinksmanship, leading to a
collision. One can consider many versions, most of them including a bank run and
capital controls in Greece, eventually leading to Euro exit if there were no
agreement. Such scenarios are not in our baseline, but the longer policy
negotiations are delayed, the higher the likelihood of such scenarios.