The pitfalls of external dependence: Greece, 1829-2015.
Reinhart, Carmen M. ; Trebesch, Christoph
ABSTRACT Two centuries of Greek debt crises highlight the pitfalls
of relying on external financing. Since its independence in 1829, the
Greek government has defaulted four times on its external
creditors--with striking historical parallels. Each crisis is preceded
by a period of heavy borrowing from foreign private creditors. As
repayment difficulties arise, foreign governments step in, help to repay
the private creditors, and demand budget cuts and adjustment programs as
a condition for the official bailout loans; political interference from
abroad mounts, and a prolonged episode of debt overhang and financial
autarky follows. We conclude that these cycles of external debt and
dependence are a perennial theme of Greek history, as well as in other
countries that have been "addicted" to foreign savings. At
present, there is considerable evidence to suggest that a substantial
haircut on external debt is needed to restore the economic viability of
Greece. Even with that, a policy priority for the country should be to
reorient, to the extent possible, toward domestic sources of funding.
**********
The history of Greece is a narrative of debt, default, and external
dependence. In 1952, the Greek-Canadian historian L. S. Stavrianos noted
that since their independence, "the Greek people have had to bear a
crushing foreign debt that has literally sucked their lifeblood"
(Stavrianos 1952, p. 25). This graphic statement could well have been
written 60 years later, in 2012, when Greece was in the midst of its
fourth sovereign debt crisis. Or it could have been written 60 years
earlier, on the eve of the second sovereign default. This paper
documents the recurring patterns of sovereign default in Greece with the
aim of gaining insights into possible solutions to the current crisis.
Our main conclusion is that the composition of Greek sovereign debt
(external versus internal), and not just its levels, played a central
role in explaining the country's historical default episodes, as
well as its current predicament. Over the past 200 years, the tilt
toward foreign borrowing in Greece (by the public and private sector)
has resulted in repeated crises and sudden reversals (stops) of capital
flows. We highlight that the consequences of the boom-bust cycles in
external borrowing were not only economic, but political as well. The
defaults resulted in prolonged bouts of heavy political interference
from abroad, mainly aimed at assuring the repayment of bailout loans.
The events since 2010 are neither new nor unique in Greek history.
There are relatively few papers on the unfolding Greek crisis that
take a longer historical perspective. In this paper, we focus on Greece
in the long-run, though our data and archival work is part of a much
broader research agenda on the history of sovereign lending, default,
and haircuts, which covers all debtor countries over the past 200 years
(see Meyer, Reinhart, and Trebesch [ongoing work]).
The evidence we present reveals striking historical parallels
between the past and the present. Most surprising are the close
similarities in the crisis resolution process. For example, we find that
Greece has been bailed out many times before, coupled with heavy
conditionality and externally imposed adjustment programs. We also find
that earlier Greek defaults have been similarly protracted, and that
much of the bailout money was used to service old privately held debt.
In each crisis, the country's external creditors (both official and
private) initially refused to accept haircuts, but agreed to them
eventually, sometimes after decades of fruitless negotiations and failed
interim agreements. These insights speak to the current debate on how to
address Greece's current debt overhang.
More generally, the role of external versus domestic borrowing
remains comparatively understudied in connection to economic crises.
Carmen Reinhart and Kenneth Rogoff (2009) take up this theme when
discussing the literature at large. In the case of Greece, the debate
has focused on other issues, such as debt sustainability, contagion
effects, the need for reform, and the associated political economy
problems. The fact that the ongoing crisis is very much an external debt
crisis has been largely overlooked. (1)
The financial history of Greece also serves as a broader
precautionary note for other countries that are "addicted" to
foreign savings. Periods with external dependence and financial openness
were often periods of volatility and crises, such as Latin America from
the 19th century, but also in places like China, Portugal, or Spain,
until these turned inward in the second half of the 20th century. Beyond
much of Latin America, large emerging markets, such as Indonesia,
Turkey, and parts of eastern Europe rely heavily on foreign saving. (2)
We realize that our message that external debt implies important risks
stands in contrast to recent calls to unravel the "deadly
embrace" between governments and domestic banks, mainly by reducing
the home bias in sovereign debt holdings (Corsetti and others 2015). Yet
bank portfolios were almost entirely domestic from 1945 to 1980, the
period in history with the fewest banking and debt crises (Reinhart and
Rogoff 2009). Also, the most prosperous and financially stable period in
Greek history, between the 1950s and 2000, was a period with a greater
degree of home bias and a comparatively low share of external debt. (3)
In the remainder of this paper, we summarize the main insights
gained from our historical Greek expedition. Section I presents a brief
conceptual discussion on the pitfalls of external financial dependence.
In section II, we document that Greece's reliance on foreign
savings has been both significant and persistent over the past 200
years; this is evident in the structure of its borrowing, in the
country's external position (current account), and in its history
of being a large net recipient of foreign grants. In section III, we
summarize some dire consequences of Greece's external dependence;
we focus on the four episodes of external default (and sudden stops),
the protracted crisis resolution in three of these cases, and the heavy
political interference from the creditor countries and externally
imposed adjustment programs in every case. Section IV addresses the
issue of external validity and briefly discusses the relevance of our
findings for other countries. In the concluding section, we focus on the
current situation and suggest that a significant haircut on the debt
stock is needed (that is, on the external debt, as sovereign debt is
almost entirely in the hands of foreign official creditors).
I. External Dependence: Benefits, Costs, and Measurement
Access to external capital markets can deliver many benefits for
capital-scarce countries, in particular the possibility to smooth
consumption and to use foreign funding for productive investments at
home. External debt often carries low interest rates and is readily
available, especially in times of high global liquidity. It can
therefore be an important complement for more expensive sources of
domestic finance.
But these potential advantages of external borrowing may come at a
high cost, given the fickle nature of foreign saving. (4) The following
risks usually become most apparent during economic crises:
EXTERNAL DEFAULT An obvious first-order risk associated with
external debt is that of external default, a payment suspension or the
restructuring of old debt at terms less favorable to the creditors.
Moreover defaults often go hand in hand with (or are the consequence of)
a sudden stop in capital flows.
CURRENCY MISMATCH A second peril of external borrowing is rooted in
the currency mismatch between tax revenues, which are typically in
domestic currency, and debt servicing in foreign currency. Since debt
crises are intimately connected with currency crises, self-reinforcing
vicious spirals are commonplace. This balance-sheet effect can take
extreme forms, simultaneously setting the stage for deepening sovereign
solvency crises and banking crises.
INABILITY TO TAX FOREIGN CURRENCY DEBT A third pitfall is the
inability to "tax" foreign currency debt and private foreign
investors, be it by spurring inflation or via legislation that reduces
the de facto debt servicing costs. Typically, the only mechanism to
impose burden sharing and extract relief from external creditors is an
outright default and subsequent "haircuts" via negotiated
restructurings. It is well known that external creditors (including
official ones) typically resist this outcome for as long as possible. In
contrast, the government has more options to extract relief when the
debt stock is domestic (Reinhart and Sbrancia 2015).
ASYMMETRIC CRISIS SHOCKS A fourth, more subtle, risk of external
dependence is the fact that the "crisis shocks" are asymmetric
if debtors and creditors are not from the same country. Domestic
creditors have a strong interest in quick crisis resolution, since they
also bear the consequences of a protracted economic downturn that may
erode both their income and their wealth. This is not the case for
foreign creditors who have less "skin in the game" when a
country enters a severe crisis. Governments also have a much harder time
applying regulatory pressure and moral suasion on foreign creditors.
This may be one reason why external defaults have tended to last longer
than domestic ones, as documented by Reinhart and Rogoff (2009).
EXTERNAL POLITICAL INTERFERENCE Fifth, external borrowing during a
boom often ends with heavy external political interference during and
after the debt crisis. The most drastic examples are military
interventions by creditor governments, as in the case of Venezuela in
1902. Less martial but nonetheless powerful forms of foreign
interference include the conditionality attached to the granting of
rescue loans, as well as conditional aid flows. Political demands in
exchange for debt relief have been another vehicle. History is filled
with countless examples of creditor governments taking advantage of
foreign debt overhang situations as a vehicle to pursue their strategic
and economic interests abroad. Arguably, the recent developments in the
eurozone crisis are a modern manifestation of foreign interventionism.
To provide a broad picture on external dependence we study
indicators of external financial liabilities, sources of government
revenue, and proxies for macroeconomic imbalances. In particular, we
focus on the level and composition of debt (internal and external,
public and private), the current account, transfers and grants from
abroad, the "inflation tax," and the scope of domestic
savings. We also look at external political pressures and zoom in on
changes in external dependence before and after crisis episodes.
On measurement, it is important to note that the lines between what
is considered domestic and external debt have become more fluid in the
recent wave of financial globalization, largely post-1980s or 1990s.
Historically, external debt was issued under foreign law, denominated in
a foreign currency (usually the creditor's), and held by
nonresidents. Conversely, domestic debt was an entirely domestic affair.
In the modern context, as we shall see in the case of Greece, what is
domestic in terms of currency or governing law need not be domestic if
we look at who actually holds the debt.
II. Greece's Dependence on External Savings: A 200-Year
Overview
In this section, we examine Greece's past and present
experience with economic crisis, debt, and default, in light of the
previous discussion on external dependence.
II.A. Data Preliminaries
Expanding on earlier work by Reinhart and Rogoff (2009) and
Reinhart (2010), we begin by constructing a long time series of Greek
government debt, breaking it down into its domestic and external
components, and dating all external credit events (defaults and
restructurings) since Greece's independence. Second, we collected
bond-by-bond issuance data using historical investment reports such as
Moody's yearbooks, Fenn's compendiums, Kimber's records,
the World Bank (Huang and deBeaufort 1954), and the reports by creditor
organizations of the time, in particular, the London-based Corporation
of Foreign Bondholders (CFB) and the U.S.-based Foreign Bondholder
Protective Council (FBPC). The data coverage on Greek bonds is both
extensive and well documented, with considerable overlap across sources,
resulting in a fairly complete picture of gross borrowing from the rest
of the world for the period 1824-1940. In a third step, we gathered data
on Greece's current account (from the 1920s onward), private
external debt, domestic saving, and post-World War II foreign aid flows,
as well as the details of Greece's recent sovereign borrowing. Data
on the sources and composition of government revenues and expenditures,
inflation, exchange rates, output, and the monetary aggregates (to
estimate revenues from the inflation tax) span the 1830s to the present.
II.B. External Debt
The main insight emerging from this archival work is that Greece
has always relied heavily on external borrowing. This can be seen in
figure 1, which shows gross external borrowing amounts as a percent of
GDP for each year between Greece's War of Independence of the 1820s
until World War II. The shaded areas indicate years in default. Lending
was mostly from private foreign investors in London and New York
(indicated by the bars with light shading). However, during crisis
times, the government also became a large-scale borrower from official
lenders, in particular, from foreign governments (indicated by the bars
with dark shading).
Two main borrowing booms stand out. The first are the very large
loans of 1824 and 1825, which were raised in London to finance the
independence war against the Ottoman Empire. They imply that Greece
started off with an indebtedness above 100 percent of GDP even before
gaining independence. (5) The second lending boom occurred after the
crisis exit in 1878 and continued until the renewed default in 1893.
Within a decade, Greece borrowed more than 100 percent of its GDP from
abroad. Once private markets closed, the country continued to borrow
from official sources, thus replacing debt on private balance sheets
with government-to-government loans.
[FIGURE 1 OMITTED]
In recent decades, the borrowing patterns look strikingly similar
to the historical picture. Figure 2 summarizes gross sovereign borrowing
between 1995 and 2013, using data from Dealogic, Bloomberg, and the
European Commission. Sovereign bond issuance in private markets often
exceeded 20 percent of the debt-to-GDP ratio annually between 1995 and
2007, and the debt-to-GDP ratio remained at 100 percent, despite high
rates of economic growth. After 2010, Greece lost access to private bond
markets and again turned to the official sector, with eurozone rescue
loans almost entirely substituting for the bonds held by private
creditors.
A difference between figures 1 and 2 is that much of the sovereign
borrowing in recent decades has been issued under domestic (Greek) law
and in domestic currency. Indeed, data by Reinhart and Rogoff (2009)
show that the share of domestic borrowing in total Greek sovereign
borrowing sees a strong increase after World War II. The picture changes
for the 1990s and 2000s once we measure domestic debt based on who holds
the debt--that is, when looking at the creditor base. A significant
share of what appears to be domestic debt is actually external by this
measure. This can be seen in appendix figure A1, (6) which shows the
share of sovereign bonds held by nonresidents. It is remarkable that the
share of Greek bonds in the hands of domestic holders has declined from
above 70 percent in the late 1990s to about 30 percent prior to the
crisis of 2009. Part of this drop can be attributed to a general trend,
but Greece shows a much more pronounced decline than other advanced
economies and other eurozone periphery countries such as Italy,
Portugal, or Spain. This result is corroborated in figure A2 in the
online appendix, which shows that since Greece joined the eurozone, the
country more than doubled its level of external indebtedness from about
75 percent of GDP in 2001 to 180 percent in 2010.
[FIGURE 2 OMITTED]
In sum, the recent boom in borrowing has many features in common
with previous Greek surges in borrowing, both in the high levels of
debt-to-GDP that came with it, but also because much of the debt was
owed to external creditors. It is striking that each of these external
debt booms in Greece ended in a painful bust and default, be it in the
1820s, 1880s, 1920s, or 2000s (see appendix figure A3).
[FIGURE 3 OMITTED]
II.C. Current Account, Savings, and Grants
Figure 3 takes a different perspective to show that Greece has
been, and continues to be, heavily dependent on external savings and
highly vulnerable to sudden stops. The country has run current account
deficits for almost every year since the 1920s. More precisely, between
1946 and 2014, Greece was in deficit 93 percent of the time, compared to
roughly 56 percent of the time for the 19 other advanced economies for
which we have data from Reinhart, Vincent Reinhart, and Christoph
Trebesch (2016) and sources listed therein. This difference is striking
and highly statistically significant.
Moreover, the country has had comparatively low and declining
domestic savings, despite the Greek "growth miracle" of the
1960s and 1970s (appendix figure A4). The savings rate has seen a
further drastic collapse since 2008. It is well understood in policy
circles, but difficult to quantify, that part of the weakness in
domestic saving and the reliance on external saving stems from the fact
that much of Greek wealth is held abroad. It is a more or less chronic
form of capital flight that intensifies in bad times but is usually
present.
Another reason for the enduring current account deficits in figure
3 are grants (as opposed to loans). The country was a net recipient of
large-scale aid transfers over much of the post-World War II period,
first from the United States, which provided Marshall Plan aid in excess
of 5 percent of yearly GDP in the 1950s, and later from the European
Economic Community, which transferred yearly grants of 5 percent of GDP
after Greece's entry in 1981 (see figure 4).
III. Four Costly Defaults
In the preceding section we have documented how Greece has relied
heavily on external savings throughout its history. In this section, we
document that this external dependence had a costly downside,
particularly in times of crisis.
III.A. Repeated Default and Sudden Stops
External debt build-ups in Greece ended in four episodes of
external default and sudden stops. (7) In total, the country has been in
a state of external default about 50 percent of the years since
independence. This can best be seen in table 1, which shows a timeline
of main crisis events in the modern history of Greece.
In the run-up to all four debt crisis episodes, Greece lost access
to external borrowing and faced increasing interest rates, typical
features of a sudden stop. We also find strong balance sheet effects, in
particular during the debt crisis of the early 1930s, in which a drop in
the drachma exchange rate and declining central bank reserves resulted
in a lack of foreign exchange. The expected exit from the interwar gold
standard in 1932 implied that the debt borrowed in dollars and pounds
could no longer be serviced out of the state's drachma tax
revenues. This contributed to the decision to default in the same months
as the gold standard "Grexit" of 1932. Further details on the
context of each default episode are provided in appendix C.
[FIGURE 4 OMITTED]
III.B. Protracted Crisis Resolution and Limited Debt Relief
Table 1 shows how protracted the resolution of sovereign defaults
has been in Greece. The first default of 1826 spanned a remarkable 53
years, while the third default of 1932 was resolved only 30 years later
(in 1964). Moreover, the current debt crisis which started in 2010 is
still very far from being resolved.
What explains these long delays in crisis resolution in Greece? The
reasons are of course manifold, including protracted recessions and the
political environments. (8) But part of the delays can be clearly
attributed to the creditor side. This is most evident in the largely
"excusable" default of 1826 and how it was resolved. We know
that the terms of the independence loans of 1824 and 1825 (contracted
even before Greece became a sovereign country) were very unfavorable. Of
the total nominal value of 2.8 million British pounds borrowed de jure,
less than 1.3 million flowed to Greece de facto. The rest were very high
commissions and retained amounts due to the issuance price of less than
60 percent of par (see appendix C). In 1829, the government of the newly
founded Hellenic Republic approached creditors, offering them to settle
the debt so that the repayments would correspond more closely to the
actual amounts lent. However, creditors refused to agree to any
face-value haircut, and demanded the full repayment of the contractually
agreed-upon sums, plus interest payments. With debt above 100 percent of
GDP, these demands were difficult to meet in a war-torn and newly
founded state.
The refusal to grant debt relief continued after Otto was dethroned
and negotiations picked up again. Finally, in 1878, the creditors (or
their heirs) agreed to settle the debt at 1.2 million pounds (close to
the 1.3 million actually lent) and to forgive the more than 10 million
pounds of accrued interest rates and arrears that had accumulated since
the 1820s. Ultimately, this restructured debt was then fully repaid upon
the pressure of the Great Powers, which exerted a strong influence on
Greece in the late 19th century. In other words, the creditor ultimately
got back almost the entire nominal amount lent, albeit with a very long
delay. The downsides for Greece were 50 years of debt overhang, external
interference, and continued exclusion from international markets.
Had the creditors been domestic, the crisis resolution process
would most likely have been less protracted, with debt relief granted
earlier. The government would have had more opportunities to pressure
domestic holders into an agreement, and domestic creditors might have
had more incentives to restructure the debt of their newly independent
country. Instead, Greece faced foreign creditors that went out of their
way to use their financial and political influence to pressure Greece
for repayment, and ultimately largely succeeded in doing so.
[FIGURE 5 OMITTED]
Figure 5 illustrates the long-lived consequences of the first
external loans of the 1820s and 1830s. The figure breaks down the use of
proceeds of each bond borrowed in the first 150 years of Greece's
modern history. We separate the share of proceeds that actually
benefited Greece's citizens and those that never arrived in the
country, either because the new borrowing was used to service old debt
or because the issuance price was much below par. The scale of these
"non-flows" is striking. Up to the early 20th century, more
than 50 percent of the nominal amounts borrowed never arrived in Greece.
Moreover, the remaining chunk was then often largely used for military
purposes.
Table A1 in the online appendix shows that the use of proceeds did
not look more favorably with regard to the bailout loans. It is striking
that less than 30 percent of the 1833 guaranteed loan was transferred to
the Greek public treasury; the rest was eaten up by fees, retained
interest, a large transfer to the Ottoman Empire, and, most importantly,
large expenses to install and protect Otto's regency, including the
recruitment of a corps of 3,500 Bavarian soldiers. All of this leads
L.S. Stavrianos (1952, p. 26) to conclude that "not until 1924 were
foreign loans used for productive purposes."
In sum, it took Greece more than 100 years to recover from the
legacy of its first external loans. This can also be seen in appendix
figure B1, which shows that Greece was running primary surpluses for
much of its first 100 years. At the same time, the country was running
budget deficits, since the primary surpluses were largely used to
service the external debt.
In line with these aggregate numbers, we and Josefin Meyer (2015)
calculate that external creditors fared rather benignly in Greece,
despite the many years of default. The real ex-post returns on the
defaulted bonds were in the range of 1 to 5 percent, despite the losses
due to haircuts and arrears. These returns are partly the result of the
high yields that these bonds paid between issuance and default, but also
because partial debt service continued even in severe crisis years. (9)
Regarding domestic creditors, appendix figure A5 shows that they
were heavily taxed, in particular during the interwar years, which saw
double-digit inflation. Such "taxation" was never possible
with regard to Greece's external creditors. The situation does not
look much different today, as Greece enters the fifth year with debt
overhang and ongoing discussions on the need for debt relief.
III.C. Foreign Influence, Bailouts, and Recurring Loss of
Sovereignty
This last subsection documents how heavy borrowing abroad often
resulted in external political dependence. Indeed, we discovered a
recurring pattern of bailout lending and related political interference.
In each of the four default episodes in Greece, foreign governments
stepped in with "rescue" loans, typically in the form of
tranches that were conditional on achieving certain fiscal or reform
targets. Foreign governments also succeeded with their demand to impose
fiscal and economic policies that assured primary surpluses and a steady
flow of debt servicing to private and official creditors abroad.
Table 1 summarizes the episodes of foreign financial control in
Greece, while appendix C provides more detailed background information
related to each of the four defaults. The first episode resembling a
sovereign bailout goes back to 1833, when Great Britain, France, and
Russia offered to guarantee a loan raised on private external markets to
the ruling King Otto. As collateral for this guaranteed loan, the
creditor countries made Greece sign a contract that subordinated all of
Greece's revenues, thus giving creditors de jure veto power over
Greece's fiscal policies (Kofas 1981; Waibel 2014). This power was
exerted most visibly when Greece faced the first major principal payment
on these loans but was suffering from an economic downturn. Against the
opposition of King Otto and despite the widespread dissatisfaction and
protests among the population, the creditor governments demanded full
servicing of the 1833 loan, insisting on further budget cuts.
The influence of creditor governments increased further after the
renewed default of 1893 and a near defeat in the war against Turkey in
1897. As a condition for arranging a peace treaty with Turkey and in
exchange of a new guaranteed loan (that was to be used to pay the war
indemnity), the Great Powers, in particular Germany, insisted on
establishing an "International Financial Commission," which de
facto governed the revenues and expenditures of Greece. The Greek
government protested against this loss of sovereignty, but had no choice
if it wanted to avoid military defeat. This Commission governed the
fiscal policy of Greece for many decades after, until the occupation of
Nazi Germany and Fascist Italy ended its rule (Levandis 1944; Waibel
2014).
The scope of external political influence took another turn in the
1920s, when Greece approached the League of Nations to ask for help to
tackle the economic downturn and the increasing burden of the refugee
crisis from Asia Minor. The League helped to arrange several loans,
acting as a trustee. In return, the League negotiated a series of
"adjustment programs" with Greece, which were at least partly
implemented, in close coordination with the Bank of England, the British
Treasury, and the still-powerful Finance Commission (Minoglou 1993).
Against this backdrop, the most recent round of Greek sovereign
bailouts and the associated conditionality by the "troika" of
the International Monetary Fund, European Central Bank, and European
Commission look familiar in regard to the timing, process, and
associated political disputes. As debt migrated from private sector
balance sheets to official sector balance sheets, Greece was pushed to
give up parts of its sovereignty and to implement adjustment programs to
which it did not fully agree.
The success of these interventions was often limited. While the
foreign creditors succeeded in enforcing debt repayments over most of
the late 19th and early 20th century, the state of Greek finances
remained problematic, and the economic conditions unfavorable. In the
words of John Levandis (1944, pp. 103-4): "Instead of considering
the debt problem in its broad aspects and of adopting measures to
eradicate the endemic disease with which Greek finances were perennially
afflicted, they introduced half measures of expediency, inadequate to
remedy a really difficult and disturbing situation."
Moreover, it is ironic that the crisis resolution with the official
sector was no less protracted than that with private creditors. Indeed,
as summarized in appendix C, Great Britain, France, and Russia long
insisted that the guaranteed loans of 1833 and 1898 were ultimately
repaid in full, including any arrears and accrued interest. This
resulted in a situation in which Greece was still servicing the bailout
debt of 1833 a century later, in the 1930s. As one Greek historian puts
it dramatically, "The undeniable fact remains, that the two loans,
which were contracted to establish the independence of the Greek state,
were the basic factors in its enslavement" (Brewer 2011, p. 296).
Thus, arguably, the most costly legacy of external debt is the loss
of political control that comes with it during crisis times.
IV. The Greek Experience in an International Context
Do the pitfalls of external dependence also apply to other
countries? Answering this question requires a broad and in-depth
analysis, which goes beyond the scope of this paper. But the historical
record does indeed suggest that the Greek experience is far from unique.
Maybe the most obvious parallel to Greece is the financial history
of Latin America, including countries such as Argentina, Brazil, and
Mexico, which have all been chronically dependent on foreign savings and
went through repeated boom-bust cycles in international capital flows
over much of the past 200 years (Kaminsky and Vega-Garcia 2015). At the
same time as being "addicted" to external debt, the region
holds the global record in sovereign default years (Reinhart and Rogoff
2009). Moreover, the lost decade of the 1980s debt crisis is also a
story of external dependence gone wrong, and shows many resemblances to
Greece today, including large-scale official bailouts, strict adjustment
programs, and refusals to grant debt relief by external creditors.
Other examples include Turkey and Egypt, which saw repeated sudden
stops and heavy foreign interference in the wake of defaults, as well as
some of today's high-income countries such as Portugal, Spain, and
China. This latter group featured several lending booms and defaults in
the 19th century, but all three countries turned inward in the course of
the 20th century, relying more heavily on domestic saving (until
recently). Another largely forgotten case is Newfoundland, which lost
its sovereignty after defaulting in 1937 (Reinhart and Rogoff 2009).
On the opposite end of the spectrum are countries that have a long
history of domestic borrowing, for example Japan, India, and several
other Asian countries that have barely witnessed sudden stops and
defaults. (10) Moreover, there are countries that successfully
"tolerated" large-scale external borrowing from financial
centers, in particular Australia, New Zealand, and Canada, which
benefited from stable capital inflows even in difficult times (Stone
1999).
V. Conclusion
Sovereign defaults on external creditors can take painfully long to
resolve (see table 2). The Greek experience shows that crises can also
be very protracted when foreign governments step in and arrange bailout
programs, as was the case in the guaranteed Greek loan of 1833. It
started out as a loan from private creditors, which Greece could not
repay. The 1833 "troika" (the Great Powers of France, Great
Britain, and Russia) repaid the private creditors, and Greece's
debts shifted to official hands. After decades in default and financial
autarky, Greece still faced repayment of that loan more than 100 years
later. Such a crisis resolution approach, which results in decades of
debt overhang, perpetuates external dependence and impedes a "fresh
start" for the over-indebted country.
We have documented elsewhere that protracted debt crises are
typically resolved only after creditors agree to face-value haircuts
(Reinhart and Trebesch 2016). Decisive debt relief is associated with
higher subsequent growth that softer forms of debt relief, such as
maturity extensions, do not usually deliver. Against this backdrop, a
key ingredient in the resolution to the ongoing Greek crisis is a deep
nominal haircut on the stock of official (and possibly private) external
debt. Further maturity extensions would be an unfortunate repetition of
the Greek history documented in this paper (see table 2) and would only
delay the day of reckoning--to the disadvantage of both Greek and
eurozone taxpayers. Extending the debt until 2070 (as discussed by the
International Monetary Fund [2015]) is likely to add fuel to a
never-ending debate on what to do with Greek debt. It is difficult to
see how this could foster a renewal of confidence and sustained growth
and investment.
Beyond the immediate and towering challenge of coping with the
current debt crisis, we believe that Greece (and periphery Europe) can
learn from some of the measures taken in many emerging markets in the
1990s after their own financial crises. We are well aware that Asia in
the 1990s, in particular, started from a much more favorable position
than Greece today. Nonetheless, a long-run policy priority for Greece
should be to shift the balance to domestic sources of funding. Since the
late 1990s, numerous emerging market governments have, in varying
degrees, reduced their reliance on external financing by tilting new
debt issuance to the domestic market. Prudential public debt management,
however, does not directly address the vulnerabilities posed by surges
in private external borrowing. To deal with the macroeconomic risks
often connected to the latter, many countries have adopted policies that
tax or limit some or all forms of external borrowing or foreign exchange
exposure. Whether such policies fall under the broad headings of capital
controls or macroprudential regulation has depended on the particulars
of each case.
Overall, we have no basis to conclude that greater reliance on
domestic savings will be a panacea of economic stability, but we do have
200 years of evidence to support the view that chronic reliance on
external capital has repeatedly led to ruin.
ACKNOWLEDGMENTS We wish to thank the Editors, Vassilis
Droucopoulos, George Georganas, Josefin Meyer, Michael Papaioannou,
Michalis Psalidopoulos, Vincent Reinhart, David Romer, Julian
Schumacher, Constantine Yannelis, and Robert Zoellick for helpful
comments, and Jochen Andritzky and Stelios Makrydakis for sharing the
data from their studies, which we cite here. Sebastian Horn, Maximilian
Mandl, and Maximilian Rupps provided invaluable research assistance.
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(1.) We concur with Gros (2013) and Sinn (2014), that the crisis in
periphery Europe is not so much a crisis of public debt, but rather a
crisis of external debt, involving all the problems that come with an
external crisis (in particular sudden stops, balance sheet effects, and
cross-border disputes between creditors and debtors). In this regard,
the analysis by Eichengreen and others (2014), which compares the
eurozone crisis to Latin America's lost decade in the 1980s, is
exactly on point.
(2.) In low-income sub-Saharan Africa, dependence on foreign
official financing and aid remains an important challenge.
(3.) It is an overstatement to conclude that external dependence
was not an issue during this period. As we document here, Greece was a
major recipient of external aid and grants starting at the end of World
War II.
(4.) The term "foreign saving" is used interchangeably
with "capital inflows."
(5.) If the London loans of the 1820s (which were already in
default) were combined with the loan of 1833, total indebtedness would
have exceeded 200 percent of GDP in that year.
(6.) Online appendixes for papers in this volume may be found at
the Brookings Papers web page, www.brookings.edu/bpea, under "Past
Editions."
(7.) It is five episodes if one treats the default on the
guaranteed loan in 1843 as a separate event. It is six episodes if one
adds the July 2015 short-lived default on the International Monetary
Fund. Other such short-lived defaults are routinely included in the
sovereign credit histories documented by the rating agencies (which
focus on defaults on private creditors). Moreover, Psalidopoulos and
Schonharl (2012) argue that the first episode of default (from 1826
until 1878) actually includes three separate default events: in 1829,
1836, and 1843, with partial debt servicing occurring between these
years. This would increase the default tally to seven. Here, however, we
prefer to follow the standard definition of default as periods with
missed payments and therefore code the 1826-78 spell as one event.
Throughout this period, parts or all of Greece's external debt were
not being serviced.
(8.) For example, in the reign of King Otto, between 1833 and 1862,
Greece refused to even negotiate with creditors, arguing that the war
loans of 1824-25 were raised before Greece's independence and
therefore not legitimate debt of the Greek state. Moreover, in the early
1950s, Greece underwent a period of heavy political turmoil, with
government changing more than once per year. This high turnover rate
made it very difficult to engage in long-term negotiations with
creditors.
(9.) For example, in the midst of the Great Depression, in 1930
Greece continued to channel more than a third of its budget revenues to
service its debt, corresponding to a transfer of 9.25 percent of its
GDP, compared to just 2.98 percent in Bulgaria and 2.32 percent in
Romania (Stavrianos 1952, p. 26).
(10.) The only Japanese default was in the wake of World War II,
and that was on small amounts only; see Meyer, Reinhart, and Trebesch
(ongoing work).
CARMEN M. REINHART
Harvard University
CHRISTOPH TREBESCH
University of Munich
Table 1. Timeline of Greek Defaults, Bailouts, and External
Intervention (a)
* Episodes of Default/Debt Crisis ** Bailouts and External Interventions
1824/25 Uprising against Ottomans;
two loans issued in London
to finance war
1826* Default on the
"independence loans" (Debt/
GDP > 100%)**
1829* Independence**
1833* King Otto of Bavaria
enthroned as
King of Greece**
Guaranteed loan by
Great Powers**
1843* Economic crisis and revolt Guaranteed loan of 1833 gives
against Otto** Great Britain, France and
Russia legal control over
1862* King Otto overthrown** Greek revenues; high taxes
and expense cuts cause public
1866* Beginning of debt discontent**
renegotiations**
1878* Debt restructuring and
crisis exit**
1879 Market re-access and start
of lending boom
1893* Second default** 1898-1942 International
Finance Commission
1897* Debt restructuring and manages Greek budget
peace treaty with Turkey** and assures debt servicing;
financial control imposed
1898* Second guaranteed loan by by creditor countries as a
Great Powers** condition for 1898 guaranteed
loan and as part of peace
1912 War lending starts (wars treaty with Turkey**
against Turkey and
Bulgaria)
1923 Refugee crisis, loans
arranged by League of
Nations
1928 Additional "League Loans" 1923-32 League of Nations
demands adjustment programs
1932* Third default and exit as condition for loans**
from gold standard**
1936* Metaxas dictatorship
(until 1941)**
1941* Occupation by Nazi Germany
and Fascist Italy**
1946* Civil war (until 1949)**
1947* Start of Marshall Plan
grants and lending by
United States**
1954* Beginning of debt
renegotiations**
1964* Debt restructuring and
market re-access**
1967 Coup d'etat; military junta
takes power (until 1974)
1981 Membership in European 2010-today Troika of the
Economic Community International Monetary Fund.
European Commission, and
2001 Introduction of euro European Central Bank
demands primary surpluses
2010* Eurozone bailout; loss of and reforms as condition for
market access** bailout loans and eurozone
membership**
2012* Private debt
restructuring**
2015* Default on the
International Monetary
Fund (temporary) and
third bailout**
a. See appendix C for details.
Table 2. Elements of Greek Debt Resolution, 1826-2015
Bonds Interest
Period Delay restructured arrears
Default of 53 years 2.8 million 10 million
1826-78 pounds pounds
Default of 5 years 22.3 million 3 million
1893-98 pounds pounds
Default of 32 years 54.7 million 64.5 million
1932-64 pounds pounds
Debt Less than 199.2 billion None
restructuring 1 year euros (preemptive)
of 2011-12
Period Haircut
Default of Between 40 percent
1826-78 (face-value
reduction) and 91
percent (including
cancelation of
interest arrears)
Default of Between 37 percent
1893-98 and 53 percent,
depending on
assumptions; no
face-value reduction
Default of Between 64 percent
1932-64 (excluding interest
arrears) and 86
percent; no
face-value reduction
Debt Between 59 percent
restructuring and 65 percent,
of 2011-12 depending on
discount rate and
assumptions
Sources: Meyer, Reinhart, and Trebesch (2015), Zettelmeyer,
Trebesch, and Gulati (2013), and sources cited therein.
