Greece Faces Credibility Test From EU Athens Swoop (Update1)

By James G. Neuger
Jan. 6 (Bloomberg) -- Greece’s plan to cut the European Union’s widest budget deficit faces a first credibility test today when EU officials arrive in Athens to scrutinize the government’s taxing and spending proposals.
The three-day trip by aides to Monetary Commissioner Joaquin Almunia is an unusual step, said an EU official who asked not to be named, underscoring concern about a shortfall estimated at 12.7 percent of gross domestic product last year.
Greek bonds plunged in December as the country’s ballooning deficit spooked some investors, fanning speculation that fiscal woes could also engulf Spain, Ireland and other euro region nations. While Prime Minister George Papandreou has pledged to cut the deficit below the EU’s 3 percent limit by 2012, he’s struggling to convince economists he will follow through.
Cutting spending is "very difficult in Greece because you know that once the government tries to do that you very often get riots and people rising in the streets," Philippe Gijsels, a strategist at Fortis Global Markets, said. "But it’s clear that they will have to tighten their belts and come up with a budget that’s believable by the rest of the world."
The Brussels-based European Commission, the EU’s executive arm, won’t make its views public before Greece releases detailed plans later this month, EU spokeswoman Amelia Torres said. Talks between EU and Greek authorities are on a "technical level."

Jitters

The European Central Bank will be represented on the fact- finding mission. Greece isn’t planning any announcements until tomorrow at the earliest because today is a holiday, the finance ministry said.
Investors’ jitters about Greece were highlighted today after Il Sole newspaper reported ECB Executive Board member Juergen Stark as saying markets are "deluding themselves" if they think the EU will bail out Greece. The euro fell as much as
0.5 percent to $1.4284 before recouping half its losses.
Papandreou, elected in October on a platform of higher wages and spending, was stung into acting on the deficit by a bond-market selloff and downgrades from the three main rating companies. In the two months to Dec. 21, the yield on 10-year Greek bonds surged 1.33 percentage points to 5.96 percent.
"Greece was really the problem child for markets," said Guillaume Menuet, an economist at Bank of America Merrill Lynch in London. "We are only seeing evidence of clear commitments to fiscal consolidation in the last couple of months."

Crackdown

The Greek government is now relying on one-time taxes, a crackdown on tax evasion and cuts in civil servant bonuses to pare the deficit to 8.7 percent of GDP in 2010, which has bought Papandreou some time with bond investors. Since Greece’s budget was passed on Dec. 24, the yield on 10-year bonds has slipped to
5.64 percent.
The Greek finance ministry yesterday forecast it will cut the deficit below the EU’s ceiling one year earlier than previously forecast. EU rules foresee possible fines for countries that flout budget limits, though no such penalty has been imposed.
Greece’s credit rating was cut last month by Standard & Poor’s, Moody’s Investors Service and Fitch Ratings. Greece sold bonds directly to selected investors last month and may conduct another private placement this month, Spyros Papanicolaou, head of the Public Debt Management Agency, said yesterday.
Greece’s ballooning deficit has prompted speculation from some investors that the rest of the EU would rescue the country from default if such a move were necessary. German Chancellor Angela Merkel fanned such talk when she said Dec. 10 that Europe has a "responsibility" to aid Greece overcome its crisis, though she stopped short of laying out a course of action.

Interpretation

The ECB’s Stark today indicated in his newspaper interview with Il Sole that those remarks shouldn’t be overinterpreted.
"The markets are deluding themselves when they think at a certain point the other member states will put their hands on their wallets to save Greece," the paper cited him as saying.
While Greek 10-year yields at 5.64 percent remain the highest in the 16-nation euro region, it is still too early to contemplate the risk of Greece becoming the first country in the bloc to default on its debt, said Jacques Cailloux, chief euro- area economist at Royal Bank of Scotland Group Plc.
"Default is a long, long way away from the current situation," Cailloux said on Bloomberg Television. "There’s too much at stake for the future of the euro to let one periphery country default and the political willingness at the core of the euro area is extremely strong and will support the periphery."