Greece set to impose austerity measures

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The moment of truth has arrived for the euro.

The 16-nation monetary union faces its greatest test Wednesday in Athens, as the Greek government orders last-ditch radical cuts in hopes of preventing the eurozone's first debt default and a wider financial and monetary disaster.

After warning Greeks that their country faces a "nightmare scenario of bankruptcy," President George Papandreou will meet his cabinet Wednesday to impose an austerity plan aimed at paving the way for a German-led bailout.

International bond markets have driven up the cost of borrowing for debt-plagued Greece and provoked fears of a cascading series of debt crises across the countries of southern Europe, exceeding the bailout capacity of wealthy countries like Germany and destroying confidence in the euro. Some observers have predicted that this could lead to the currency's failure, or the departure of some of its member nations.

Mr. Papandreou hopes his package of cuts, tax increases and pension reforms, designed to trim €4.8-billion ($6.8-billion) from the Greek budget, will calm debt markets, ease the sale of a new 10-year bond and open the possibility of a German-led bailout.

"If our country doesn't manage to borrow on similar terms to those of other European Union countries, the results will be something worse than catastrophic," Mr. Papandreou told the Greek parliament Tuesday night in a stark speech intended to build public support for onerous measures.

A Greek default would deeply damage the 16-nation euro bloc, already shuddering under credit crises and budget deficits in many of its member states. These cannot be fixed using monetary tools, due to the European Central Bank's independent and stateless nature.

Greece's sagging economy, already burdened with debt and riddled with corruption and underground practices that prevent taxation, faces skyrocketing borrowing costs after investors doubting the country's ability to raise taxes have raised the cost of Greek debt to more than three percentage points higher than German bonds.

"We are borrowing from international markets that simply do not believe us," Mr. Papandreou said. "Without brave decisions from us and from Brussels, the whole of Europe and Europe's economy is threatened."

The Prime Minister is expected to put in place measures that would slash between €8-billion and €10-billion from the government's 2010 bottom line and reduce the deficit from 12.7 per cent to 8.7 per cent immediately.

The cuts are to include an increase of the sales tax from 19 per cent to 21 per cent, a cut of public sector benefits by 10 per cent, a freeze on pensions, the elimination of tax-free status for certain government salaries and higher duties on luxury items such as alcohol and large cars.

Greek leaders are announcing the moves while bristling at what they see as an unfair arrangement that divided Europe in two. Greece and its southern European neighbours are effectively being ordered by lenders and by wealthier European countries to strip away the very spending initiatives that Germany, France and Britain are using this year to relaunch their stalled economies.

"Today we must make tough, harsh decisions which in many cases are unfair," said Mr. Papandreou, a centre-left Socialist who has been in power for less than five months. "This is not a choice, it's a necessity. We will not let the country sink, whatever the temporary cost, whatever the reactions."

On several previous occasions this year, Greece has pledged to impose austerity measures but has been met with skepticism both within Greece and in the European Union, where Athens is believed to be unable to force cuts.

The announcement Wednesday will be followed by the sale of a new 10-year bond expected to raise between €3-billion and €5-billion by the end of the week, in order to take advantage of market optimism generated by the reforms, a Greek government official said in an off-record briefing yesterday.

The announcement caused the euro to rise sharply in currency markets to $1.40, after losing value for weeks amid worries about Greece's fate.

The measures are expected to reduce Greece's deficit, which at 12.7 per cent is one of the highest in Europe, to 8.7 per cent this year and down to the eurozone-mandated level of 3 per cent by 2012.

While Athens has been in an ugly mood for much of this year, with two day-long general strikes and violent demonstrations, new public-opinion polls seem to indicate that Greek voters are ready to adopt difficult measures to get their fiscal house in order.

"I think we're seeing that Greek citizens are finally ready to accept austerity measures," said Dimitris Mavros, head of the Athens polling firm MRB.

"We see a Greek citizenry who understand the situation of the country and who are wiling to alter the condition of their life to improve the quality of the economy. But the government will need to show within a couple months that it is producing results."

His polls found that 75 per cent of Greeks support reduced full-time public employment levels, 70 per cent back a higher tax on goods such as cigarettes and alcohol, and smaller majorities favour some cuts to governments perks and pensions.

But there is strong opposition to any cuts in the legal retirement age of 61. This is far younger than in most other European countries, some of which have raised it to 67, and the resulting unfunded pension costs are one of the largest causes of Greece's debt trouble.

There is also deep opposition to cutting the Greek benefit known as the "14th salary," where all public employees and many private workers receive an extra two months' pay each year as a mandatory bonus.

The Greek civil servants' union Tuesday announced another 24-hour general strike to be held on March 16 in protest against such cuts, and pledged further actions if austerity measures continue.

But even with the cuts and the sale of the new bond, Greece faces debt troubles that may require a rescue. The country faces €54-billion in borrowing this year - €22-billion of it in the next two months - and so far has raised €14-billion.

German Chancellor Angela Merkel will meet with Mr. Papandreou on Friday, possibly to discuss a widely rumoured rescue plan that involves the purchase of at least €20-billion in Greek bonds by government-owned banks in Germany, France and possibly the Netherlands.

There are fears that such a bailout could lead do debt crises in other southern European countries, including Portugal.