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The Threat of Greek Debt Relief

BERLIN – With Greece’s economic crisis still raging, prominent voices, ranging from Nobel laureate economists like Paul Krugman to officials like US Secretary of the Treasury Jack Lew, are calling for more lenient bailout terms and debt relief. Even the International Monetary Fund – which, along with other European lenders, has provided Greece with emergency financing – recently joined that call. But could such an approach really be the proverbial silver bullet for Greece’s crisis?

The short answer is no. While Greece’s public debt is undeniably high, and evidence abounds that high debt can hold back economic growth, the country faces even stronger drags on growth, including structural weaknesses and political brinkmanship, that must be addressed first.

In fact, Greece will likely depend on concessional funding from official sources in the years ahead – funding that is conditional on reforms, not debt ratios. Greece’s nominal debt stock will matter only once the country re-enters the debt markets and becomes subject to market, not concessional, borrowing terms. In the meantime, Greece must implement the structural reforms needed to restore the country’s long-term growth prospects and thus to strengthen its capacity to repay its creditors without a large nominal debt reduction.

But there is another critical reason why debt relief is not the answer, and it lies in the political architecture of the European Monetary Union. Because the eurozone lacks a strong central governing body, crisis policies emerge from a political process in which each of the 19 member states has veto power. For such a complex system to work, eurozone policymakers must be able to trust one another to behave in a particular way – and that requires a common framework of rules and standards.