Greece’s Entry into the Eurozone
Greece was admitted into the Economic and Monetary Union of the European Union by the European Council on 19 June 2000, based on a number of criteria which include inflation rate, budget deficit, public debt, long-term interest rates, exchange rate and using 1999 as the reference year. After an audit commissioned by the incoming New Democracy government in 2004, Eurostat revealed that the statistics for the budget deficit had been under-reported.
Most of the differences in the revised budget deficit numbers were due to a temporary change of accounting practices by the new government. However, it was the retroactive application of ESA95 (European System of Accounts 1995) methodology, which is the harmonised European methodology for the compilation of national accounts, applied since 2000 by Eurostat, which finally rose the reference year of 1999 budget deficit to 3.38% of GDP, thus exceeding the 3% limit.
This led to claims that Greece had not actually met all five entrance criteria, and the common perception that Greece entered the Eurozone through “falsified” deficit numbers. In the 2005 OECD report for Greece, it was clearly stated that “the impact of new accounting rules on the fiscal figures for the years 1997 to 1999 ranged from 0.7 to 1 percentage point of GDP; this retroactive change of methodology was responsible for the revised deficit exceeding 3% in 1999, the year of Greece’s EMU membership qualification”. The above led the Greek minister of finance to clarify that the 1999 budget deficit was below the prescribed 3% limit when calculated with the ESA79 methodology in force at the time of Greece’s application, and thus the criteria had been met.
The original accounting practice for military expenses was later restored in line with Eurostat recommendations, theoretically lowering even the ESA95-calculated 1999 Greek budget deficit to below 3% (an official Eurostat calculation is still pending for 1999).
A frequent error made in press reports is the confusion of the discussion regarding Greece’s Eurozone entry with the controversy regarding usage of derivatives’ deals with U.S. Banks by Greece and other Eurozone countries to artificially reduce their reported budget deficits. A currency swap arranged with Goldman Sachs had allowed Greece to “hide” $1 billion of debt. However, this affected deficit values, after 2001 when Greece had already been admitted into the Eurozone, is not related to Greece’s Eurozone entry.
Goldman Sachs’ Involvement
Creative accounting took priority when it comes to totting up government debt. Since 1999, the Maastricht rules threaten to slap hefty fines on euro member countries that exceed the budget deficit limit of 3% of gross domestic product. Total government debt must not exceed 60%.
The Greeks have never managed to stick to the 60% debt limit, and they only adhered to the 3% deficit ceiling with the help of blatant balance sheet cosmetics. One time, gigantic military expenditures were left out, and another time billions in hospital debt. After recalculating the figures, the experts at Eurostat consistently came up with the same results: In truth, the deficit each year has been far greater than the 3% limit. In 2009, it exploded to over 12%.
Although it looks like the Greek figure jugglers have been even more brazen than was previously thought, in 2002, various investment banks began offering complex financial products with which governments could push part of their liabilities into the future.
Greece’s debt managers agreed to a huge deal with the savvy bankers of US investment bank Goldman Sachs at the start of 2002. The deal involved so-called cross-currency swaps in which government debt issued in dollars and yen was swapped for euro debt for a certain period — to be exchanged back into the original currencies at a later date.
Fictional Exchange Rates
Such transactions are part of normal government refinancing. Europe’s governments obtain funds from investors around the world by issuing bonds in yen, dollar or Swiss francs. But they need euros to pay their daily bills. Years later the bonds are repaid in the original foreign denominations.
But in the Greek case, the US bankers devised a special kind of swap with fictional exchange rates which enabled Greece to receive a far higher sum than the actual euro market value of 10 billion dollars or yen. In that way Goldman Sachs secretly arranged additional credit of up to $1 billion for the Greeks.
This credit disguised as a swap didn’t show up in the Greek debt statistics. Eurostat’s reporting rules do not comprehensively record transactions involving financial derivatives. “The Maastricht rules can be circumvented quite legally through swaps,” says a German derivatives dealer.
In previous years, Italy had used a similar method to mask its real debt with the help of another US bank. In 2002 the Greek deficit amounted to 1.2% of GDP. After Eurostat reviewed the data in September 2004, the ratio had to be revised up to 3.7%. According to today’s records, it stands above 5.2%.
At some point Greece will have to pay up for its swap transactions which will increase its deficit. The bond maturities range between 10 and 15 years. Goldman Sachs charged a hefty commission for the deal and later sold the swaps to National Bank of Greece in 2005.
In light of this combination of arranging structured financing while shorting the customer’s debt, Goldman may find itself in a familiarly uncomfortable public light. Goldman has come under a barrage of criticism for structuring mortgage backed securities while its traders shorted that market. As a result of those short trades, Goldman lost far less money than its rivals when the US housing market imploded during the sub-prime crisis.
Something similar is at work here and the criticism will likely follow along the same track. Goldman was uniquely well-positioned to understand that Greek debt service obligations were higher than they would have appeared by just looking at its official debt levels, making Greece a riskier credit. With this knowledge, Goldman may have acquired credit protection on the trades cheaply.
During the sub-prime crisis, some media claimed that Goldman made billions by shorting the housing market. However, the truth is that Goldman actually lost money during the worst of the mortgage meltdown. The billions it made on short trades were overshadowed by the billions lost on the long trades resulting in Goldman almost collapse had it been not for a bailout with taxpayers’ monies.
Similarly, Goldman may have sought to protect itself against heavy losses from Greece because it was uniquely exposed to them. The terms of the swap meant that Goldman essentially made an upfront payment to Greece in exchange for a stream of revenue later. If Greece defaulted on its obligation to keep that revenue stream flowing, Goldman stood to lose money. In such circumstances, Goldman’s short-trades against Greece’s debt may be nothing more than insurance. It is quite common for banks to take out credit protection against assets such as loan and swap obligations due to them.
Goldman first put the swap in place in 2001 and immediately sought to hedge its risk to the Greek obligations by making side deals with other parties. In 2005, the entire swap was sold to the National Bank of Greece. But last year, Goldman was back talking to the Greek government about a similar deal that would delay debt obligations.
Andrew Michael Teo 
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