As unpalatable as it seems to euro zone policymakers, a sizeable reduction in Greece's debt load is necessary to make the country's debt sustainable in the long-term, according to a new report from Goldman Sachs.
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After investigating Greece's debt sustainability, researchers at the bank have concluded that to reach the 120 percent debt-to-GDP target set by the International Monetary Fund (IMF) an official sector restructuring of Greece's debt, worth over 80 billion euros, was necessary.
The authors of the report, economists Themistoklis Fiotakis, Lasse Holboell Nielsen and Antoine Demongeot, note that the IMF's target is "unlikely" without such a "drastic debt stock reduction."
"To increase the likelihood that the Greek debt-to-GDP ratio approaches its 120 percent by 2020 target under realistic assumptions, a much more drastic debt stock reduction (possibly north of 80 billion euros in total) will be required," the report states.
The Goldman analysts are skeptical of current measures being considered to help Greece —such as reducing interest rates on bilateral loans and a buy-back program for restructured Private Sector Involvement (PSI) bonds.
(Read More: Merkel Offers Words of Support as Greek Debt Worsens)
Instead, they say that if Greece's total debt burden of 340 billion euros isn't slashed, the euro zone faces years of funding Greece.
In a research note, Nicholas Spiro, managing director of Spiro Sovereign Strategy, agreed that Europe lacked a credible plan to reduce Greece's debt, likening Greece to an untreated cancer on the euro zone economy "which the bloc's leaders have yet to treat effectively."
"Athens' creditors' ability to kick the Greek can further down the road knows no bounds," he said.
"More than three years after Greece's fiscal crisis erupted, and over a year after euro zone leaders belatedly conceded that the country is insolvent, a credible plan to reduce Greece's crushing debt burden and secure its membership of Europe's single currency area has yet to be presented," he said, agreeing with Goldman Sachs' economists that there was a risk-averse political undercurrent preventing definitive tackling of Greece's debt spiral.
"Eurozone members, led by Germany, want to have their cake and eat it too: they want Greece to remain in the euro zone (at least for the time being) but are politically unwilling to accept losses on their loans to Athens," though he also noted a dragging of feet among the Greek parliament as the country tests how far the euro zone will go to "save" it: "The Greek tail is beginning to wag the euro zone dog once again," according to Spiro.
However, as Greece dominates the political and economic agenda in Europe, the appetite for further funding (let alone losses on Greek debt holdings) looks "politically unfeasible at present," the Goldman report said.
"Given the already large official sector commitments, further euro area support packages will be very difficult politically to agree to. The political complication becomes even higher given that the self-imposed target of a debt-to-GDP ratio of 120 percent by 2020 is exceeded by a number of years in [the] scenarios we consider."
Greece's Murky Debt Picture
Greece has been given two more years to meet austerity targets (a move that will cost international lenders 32.6 billion euros) but the timeframe to resolve Greece's spiraling debt situation has caused public disagreement between the European Union and the IMF.
On Monday, IMF Managing Director Christine Lagarde reiterated her organization's calls that Greece must reduce its debt levels to 120 percent of economic output by 2020, while Jean-Claude Juncker, chair of the euro group of finance ministers, said the target would be moved to 2022.
(Read More: EU-IMF Feud Erupts)
Adding to Greece's diverging debt forecasts, several officials from the troika of international lenders said the target would be 144 percent by 2020, Reuters reported on Monday.
Meanwhile, as the EU and IMF argue and a further tranche of aid for Greece is delayed until November 20, Greece is fast running out of money. On Tuesday, Greece issued 4 billion euros of 3 and 6-month treasury bills in an attempt to roll over five billion euros ($6.33 billion) of debt due to the European Central Bank on Friday.
Solutions Rely on Europe, and Greece
As Greece's debt sustainability comes into focus, Goldman Sachs said that the "ultimate resolution" depends on which path Greece's creditors choose – a path that could be dictated by political risks, both for indebted Greece and paymaster Europe.
"From the lender's (i.e. the European official sector) perspective, it is feasible to keep Greece funded and extend the current status quo for a long period of time. But from the borrower's (i.e. Greek) perspective, the depth of the recession and its political repercussions create risks for the assumptions underlying the adjustment program and its implementation."
As with the current procrastination over further aid to Greece, Goldman Sach's concludes that the ultimate resolution is likely to be "postponed," maintaining a veil of economic, political and debt uncertainty over Greece.
(Read More: Trouble Brewing for Euro as Greece Worries Grow)
"We think a more likely outcome will involve some debt relief, continued official sector funding (in large part financing Greek redemptions and interest payments to the official sector itself) and a continued uncertain Greek debt profile."
The report adds that this is likely, ultimately, to further stymie Greece's recovery.
"This uncertainty will hold back a Greek recovery relative to a more decisive write-off and postpone a resolution of the Greek debt issues."
