THE LARGEST sovereign default in world history – that is what yesterday’s agreement between the Greek government and its creditors amounted to. It is the first time since the middle of the last century that a developed country has failed to pay back its debts. That fact alone gives some indication of the significance of what took place. This momentous event comes a little over two years after it became clear that the Greek state would not be able to fund itself, having grossly mismanaged its public finances.
Positively, the deal means that a disorderly default has been avoided – for now at least. Although reaching the point arrived at yesterday was protracted, messy and involved much brinkmanship on both sides, it does at least avoid the chaos that a non-agreed default would potentially have caused. Such a shock could have had many consequences, not least pushing the entire euro project back towards the brink of the abyss at which it teetered for much of last year and bringing to an end the almost three-month period of merciful calm in the crisis.
The objective of the debt writedown is to move Greece from an entirely unsustainable position to one in which it has some chance – with a lot of luck – of paying back the remainder of its debt over the longer term. More immediately, it clears the way for additional bailout funds to flow to the crisis-wracked country. But it also confirms that Greece is set to remain a ward of the international community for a long time to come.
There is wider collateral damage from the Greek debt writedown too. It confirms that government bonds, which before the crisis were considered effectively riskless, will not be considered so secure in the future. That has serious implications for many countries whose public debt positions are precarious, among whose number Ireland lamentably finds itself.
At the very least, the end of the era of developed country sovereign debt being perceived as riskless means that investors will seek interest rate premia when lending to weak governments. Those countries whose debt positions are weakest will pay the biggest premia. That means that servicing the national debt – all other things being equal – will soak up a larger share of government revenues.
Another likely consequence of the Greek fiasco for Ireland relates to the legal jurisdiction under which the State will issue debt in the future. As part of Greece’s restructuring, the new bonds issued to its loss-suffering creditors are ruled by English law, not Greek law. That is good for investors, as it protects them from an act of the Greek parliament designed to unilaterally reduce their claims in the future. But it is bad for Greece because it limits its freedom of action. Most outstanding Irish Government debt is issued under Irish law. Given all that has happened, it seems unlikely in the future that foreign investors will be willing to expose themselves to Irish Government debt, the terms of which are subject to change by an act of the Oireachtas. When the Government eventually returns to the bond market, the bonds its offers may well be subject to English law.