The Harrison Plan for Greece
The following is an outline for a proposed new Greek government bond issue to provide all required medium term euro funding for Greece on very attractive terms.
The new bond issue includes an addition to the default provisions that eliminates the risk of loss to investors. The language added to the default provisions states that while in default, and only in the case of default, these transferable securities can be used directly, by the bearer on demand, at face value plus accrued interest, for payment of any debts, including taxes, owed to the Greek government.
By eliminating the risk of loss, Greece will be able to independently fund all required financial obligations in the market place for the foreseeable future. The immediate benefits are both reduced interest costs that substantially contribute to deficit reduction, and the elimination of the need for the funding assistance from the European Union and the IMF.
Clever. The essence of this plan is in giving the bonds value inside the Greek economy by allowing them to be used to expunge Greek tax liabilities. That is what gives fiat money value. So, in essence, Greece would be creating a de facto currency. Still they have a euro funding shortfall. So they will need to fund that shortfall by going to market to ‘get’ euros. They will need to reduce the euro shortfall by cutting the deficit.
I am sceptical that these bonds would receive the level of interest from investors that Warren believes they will. This does help their liquidity constraints. But they still have the solvency issues to deal with since the government does not create the currency in which its debt is denominated. Unless these bonds are accepted internationally, as Greece funds much of its deficit externally, deficit spending and issuing these bonds will not be as good as ‘printing money’ which is what a government issuing in its own currency effectively does when it deficit spends.
Warren’s plan, therefore, does alleviate liquidity (and with general acceptance, solvency) issues. But, as Warren points out, even if the bonds are widely accepted, the Greeks still have the stability and growth pact criteria to meet.
Here’s my copy cat plan, identical to a post I wrote two years ago on Ireland.
Say Evangelos Venizelos is dispatched to consider how to prevent the government from sacking tens of thousands of workers in order to prevent the Greeks from defaulting on their debt.
He suggests that California’s previous IOU issuance is a model for Greece. But he goes one step further in emphasising that the IOUs can be used to expunge a tax liability to the Greek government and by adding a redemption in 5 years at a 40% premium to the present spot price for gold, which represents a 7% annual return. Today, spot gold is trading at $1500 an ounce. So, a 40% premium is about $2100 an ounce for gold. Venizelos would offer this deal to any and all creditors of the State in lieu of cash. The IOUs would be tradable in standardized amounts of 20, 50, 100, 1000, 10,000 and 1000,000 euros in order to facilitate a secondary market.
I got this idea from the high yield market where I used to work where often bonds are issued with an embedded option to convert to equity at a premium or with PIK preferred shares thrown in as a kicker. The point of these options is to provide a sweetener to investors in order to get the deal done. The French are using embedded options for their bailout plan for just that reason. If the embedded option increases in value significantly, the debt holder can make a lot of extra money.
Here’s what the ‘investor’ gets in the case of the Greek IOUs:
- Bonds backed by the full faith and credit of the State paying a rate of interest that I suggest be a decent premium to the official 5-year German bond.
- A 5-year out of the money European option to buy gold for the full face value of the bond at today’s price. Obviously,if you think gold is going up you would be willing to pay a lot for this option.
- An IOU that is not just backed by the full faith and credit of the sovereign like most currencies, but that has a tangible link to a real asset, gold.
What does the sovereign get?
- Greece conserves cash without having to issue bonds. Ostensibly this would mean interest rates on Greek bonds could remain lower. That’s a huge deal, especially since these IOUs would not be considered legal tender.
- Greece removes the restriction imposed by the Maastricht treaty as the IOUs are not cash and therefore reduce the budget deficit. In effect, the government is free to add fiscal stimulus without those restrictions.
Obviously, the Greek government would have to hedge their gold commitment by buying Gold futures. But, the Greeks could then legitimately claim that their IOUs were more than just a piece of paper. And, they would remove some of the constraints now imposed upon it by foregoing their own currency.
This proposal is dangerous, of course, because it allows Greece to effectively ‘print euros’ and side step the fiscal issues they are now facing. But if it is used as a temporary measure to alleviate liquidity problems, it could work. Greece’s defaulting now is preferable in that it carries less moral hazard.
Naturally, you know based on my post on the political economy of the European sovereign debt crisis that the Harrison Plan will never happen. I thought I’d suggest it as a potential solution anyway.