Greece's 12 Labors

Eurozone leaders and bankers sighed with relief and Greeks on the street groaned in disgust as debt-saddled Greece approved a new round of austerity measures Wednesday. Including 28 billion euros in spending cuts and tax increases through 2015, the concessions were a necessary condition for receiving the fifth tranche -- about 12 billion euros -- of last year's 110 billion euro loan from emergency lenders. Without it, the country would probably have defaulted in July.

The Greek government's renewed commitment to austerity also opens the way for a major new loan agreement with the European Commission, the European Central Bank (ECB), and the International Monetary Fund. Expected to be finalized by September, the loan will likely equal or exceed the amount of the first, covering Greece's lending needs through 2014 and giving it time to achieve a primary -- that is, before interest payments -- budget surplus.

If by then Europe's politicians and bankers realize that Greece is still not able to fully service its debt, it will be easier to restructure it in an orderly way. The European Stability Mechanism, which comes into existence in 2013, will be able to recapitalize any bank that suffered major losses from its Greek bond holdings. Being in primary surplus, Greece should weather its period of exclusion from bond markets without too much pain; the markets themselves, having witnessed the country's fiscal belt-tightening and structural reforms, will make this period of exclusion short.

Needless to say, a great deal needs to go right for this optimistic scenario to play out. The most immediate hurdle involves the so-called participation of the private sector in Greece's second bailout. The issue, in a nutshell, is this: By lending more money to Greece, members of the eurozone -- the community of countries that have adopted the euro -- are essentially assuming Greek debt and passing on the default risk to their taxpayers. These taxpayers took on a major portion of Greek debt the first time around and are loath to do so again just to save bankers from their reckless lending. In order to mollify citizens, Germany, for instance, has insisted that European banks extend the maturities of Greek bonds, thus easing Greece's short-run repayment schedule and reducing taxpayer's contribution to the second bailout.

The problem with this plan is that ratings agencies have warned that any debt "forced" on private creditors by European governments will be viewed as a "credit event" -- for all intents and purposes, a default -- something the ECB in particular is worried about. This classification would trigger credit-default-swap payments across the international banking system, causing significant losses for some systemically important institutions (credit-default-swap positions of big banks are notoriously murky). So European financial officials and international bankers are working to roll over Greek debt held by banks in a manner rating agencies will consider "voluntary." French President Nicolas Sarkozy presented such a plan involving French banks early this week, and yesterday, Germany's banks declared a willingness to participate. That the agencies get to decide what counts as "voluntary" is another piece of evidence -- as if more were needed -- that they hold too much sway over democratically elected governments.

In the shorter term, another major worry is public opinion in northern eurozone countries such as Germany, the Netherlands and Finland, where reaction against bailing out Greece a second time has been strongest. Governments in these countries will face increasing pressure to get tough on the Greeks and other beleaguered countries on the European periphery. In the Netherlands, the extreme-right Freedom Party, which recently called on Greece to abandon the euro, plays a major role in the current Dutch government. In Finland, the populist, xenophobic True Finns have become the country's main opposition party on the back of their full-throated resistance to further bailouts for eurozone laggards.

But the biggest threat to an orderly resolution of Greece's debt crisis comes from the Greek people themselves. Their increasingly turbulent resistance to prolonging the harsh austerity regime is likely to strengthen calls for cutting the country loose from the monetary union. In the streets of Athens on Tuesday and Wednesday, protesters and riot police clashed for hours in a fog of tear gas and mutual hatred. The anger is bound to grow. The unjust tax increases in the new law and the optimistic privatization scheme aimed at raising 50 billion euros by the end of 2015 will most likely not meet revenue targets and instead require new compensatory measures in the next few months.

The vote on Wednesday was close: Only 155 out of 300 members of the Greek Parliament voted for the austerity measures. One member of the ruling PASOK party refused to support the policy and was dismissed from the party's ranks. That brings Prime Minister George Papandreou's parliamentary majority to 154, down from 160 at the beginning of his term 21 months ago.

Against hardening public opposition and dwindling support in parliament, Papandreou is faced with the difficult task of intensifying the reform effort. The European Commission could help by releasing EU cohesion funds -- a cash reserve used to help member states with income below 90 percent of the EU average -- for infrastructure investment in Greece more quickly, without requiring Greek co-payments as it has indicated it plans to. But only an accompanying commitment from Greece to tackle tax evasion and cut the size of the public sector, including by letting people go, would significantly improve the situation. So far, the Papandreou government has not demonstrated its willingness and ability to break with past habits on these vital fronts.

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