Greece and GDP-Linked Bonds

It is perfectly obvious that at some point Greece’s creditors’ will have to admit that they will not be paid back in full. This morning there are reports that the IMF has highlighted this point.

One idea that the Greek Finance Minister Yanis Varoufakishas has floated is to replace some of Greece's existing bonds with GDP-linked bonds. The merit of this idea is that it is one possible way to make both Greece and its creditors understand that their interests are aligned. With this type of bond, the greater the Greek economy grows, the more the creditors would receive.

There are some obvious problems, though, that would have to be addressed. A GDP statistic that everyone could trust is essential; at this point, creditors may not be willing to trust a number the Greek government produces. Also, GDP numbers are also subject to revision as new data comes in. A decision would have to be made at what point a number is final for purposes of the bond. Also, there is probably not insignificant economic activity in Greece that is “off the books.” How to account for this in coming up with a GDP number is a question.

Consequently, we will probably not see a GDP-linked bond, at least not one marketed to private creditors. However, since much of Greek debt is owned by public sector entities, it may be an idea worth pursuing along with others. The European creditors of Greece have made a mistake in not wanting to discuss ways to restructure and partially forgive Greek debt, and the Greek negotiating tactics have seemed ill-advised. If Greece and the troika find a way eventually to talk seriously about how to deal with the Greek debt problem, GDP-linked bonds are not essential to a solution but are worth considering.

(Some of what I have to say here is informed by my work at Treasury designing Treasury’s inflation-indexed bonds.)