• The EU Commission has endorsed Greek fiscal consolidation. EU Commissioner Joaquin Almunia said that Greece should implement further spending cuts and possibly add new taxes to improve the fiscal situation in the country.
  • To promote credibility about the budget consolidation, the EU Commission will monitor Greek budget cuts closely on a continuous basis.
  • Greek markets have thus far reacted positively to the Commission’s comments.
Today, the EU Commission endorsed Greek fiscal consolidation saying that Greece has until end-2012 to bring the fiscal budget deficit below 3% of GDP. EU Commissioner Joaquin Almunia said that Greece should implement further spending cuts and possibly add new taxes to improve the fiscal situation in the country. Spending cuts should include a reduction of the total public sector wage bill and implementation of reform aimed at increasing the effectiveness of the public sector, reducing spending on pension and healthcare and restoring competitiveness. Further, Greece should put aside 10% of current expenditure to create a contingency reserve.

According to Mr Almunia, the EU and euro area have sufficient instruments to deal with the Greek issues. Hence, in case the EU has to grant further support to Greece, it can do so without assistance from the IMF.

To promote credibility about the program, the EU will closely monitor it. Hence, the Greek administration should submit a first report by mid-March on its progress on putting its fiscal budgets on a sustainable path. This report should provide a clear timeline for its budget cuts. The plans for 2011 and 2012 should also be detailed in the coming months. Hence, the second deadline for monitoring will be mid-May.

After that, the fiscal program will be monitored quarterly, and if the plan is found to be offtrack, Greece should be prepared to take extra measures. This will in our view increase
transparency and support the credibility of the fiscal tightening, which should help to calm
markets. It should also make it easier for the Greek administration to convince the population about the necessity for the program.

We view the close monitoring of the program as a very welcome step, which could not only restore some market confidence, but also possibly make it easier for the Greek administration to implement the much-needed tightening. However, the risks of fiscal slippage are still large and cannot be ignored. Further, the fact that the EU and most market watchers still view Greek statistics as somewhat doubtful makes the process of restoring confidence more difficult.

The market reaction has thus far been positive. Ten-year spreads between Greek bonds and German Bunds fell after the endorsement.