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Conflict with creditors increases economic uncertainty for Greece

Pensioners take part in an anti-austerity demonstration in central Athens on December 15, 2016.
Aris Messinis | AFP | Getty Images
Pensioners take part in an anti-austerity demonstration in central Athens on December 15, 2016.

Greece's decision to give a Christmas bonus to its 1.6 million pensioners has riled its euro zone creditors.

Its European creditors decided on Wednesday to suspend the implementation of short-term debt relief measures after the Greek government announced additional spending on pensions - an action that European partners deemed as "unilateral" and disrespecting the efforts agreed under the country's 86 billion euro ($89.75 billion) bailout program.

"Following recent proposals by the Greek government to spend additional fiscal resources for pensions and VAT (Value Added Tax) our governing bodies have put their decisions temporarily on hold," a spokesperson of the European Stability Mechanism – a euro zone financial assistant agency - told CNBC via email.

The current deadlock has raised pressure on Greek bonds on Thursday morning, sending the 10-year bond yields up by 5 basis point. On Wednesday, the 10-year paper climbed more than 30 basis points. But the impasse is set to bring consequences also in the medium-term.

"If (Greece's Prime Minister) Tsipras goes ahead, this would further antagonize the EZ (euro zone) creditors, putting at risk the promised short-term debt relief. On the other side, giving in to the creditors' pressure would make Tsipras look amateurish at best, and at worst, further undermine his credibility and standing domestically," Wolfgango Piccoli, co-president of Teneo Intelligence said in a note on Wednesday.

The Greek government has seen a sharp fall in its popularity as it implements the controversial reforms under the country's bailout program.

A protester burns a fake one hundred Euro banknote during a demonstration against a new package of tax hikes and reforms in Athens, Greece.
Michalis Karagiannis | Reuters
A protester burns a fake one hundred Euro banknote during a demonstration against a new package of tax hikes and reforms in Athens, Greece.

Data from the European Commission indicates that the Greek deficit should fall below 3 percent in 2016 and that Athens should outperform its agreed primary surplus target of 0.5 percent this year. However, Greek citizens do not feel significant economic improvements in their pockets.

According to a spokesperson of the European Commission, European authorities are currently in Athens to complete the second bailout review, which should pave the way for further disbursements. The technical teams will use this opportunity to assess the impact of the newly-announced measures of the Greek government.

"This new spat between Greece and its euro zone partners means that the conclusion of the second review will be further delayed," Piccoli said.

IMF participation

The International Monetary Fund is waiting for the conclusion of the second bailout review to assess whether it will contribute to Greece's third bailout program. The Fund said that it would only participate financially and technically if Greece receives significant debt relief and the fiscal surplus targets would be lowered.

Further delays to that review would mean that the IMF cannot decide on its involvement in the program.

According to an official, who asked to remain anonymous due to the sensitivity of the issue, "it is getting more and more difficult" to see the IMF joining the Greek bailout program.

The official said that the IMF is still willing to join the program after the second bailout review but there needs to be commitments of lower surplus targets and significant debt relief, which doesn't seem to be happening for now.

"We are at a standoff at the moment," the official said. He explained that the current stalemate on short-term debt relief "has no effective action at the moment" for the IMF, given that the Fund is focused on seeing debt-relief measures in the longer-term.

As the economic situation deteriorates, the Greek government is under pressure.

"(The ongoing standoff between the euro zone and Greece) also increases the chances of snap elections in Greece as after overplaying his hand and facing increasing difficulties in concluding the review, Tsipras may be tempted to cut his losses by calling early elections before Syriza (the ruling party) loses more support for adopting unpopular measures," Piccoli said.

New elections in Greece would not only mean further instability to the southern economy as it would also increase widespread concerns over the stability of the European Union. The bloc is holding key elections in several member states at a time when rising support for anti-euro and anti-European parties threatens the current political system.

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