Should Greek debt be dealt with as the German one was?

Immediately after Syriza’s victory in the Greek elections, the new Greek government asked for a reduction of its debt burden 1. To support its request, it took the London Debt Agreement of 1953 as precedent. This landmark treaty cut German debt, going as far back as the 1919 Treaty of Versailles, by at least by 50 per cent (Guinnane 2004). In the aftermath of the Second World War, Germany was further forgiven large shares of the massive debts it had accumulated during World War II, part of which was extracted from occupied nations in Europe, including Greece.

Given the historical record, Ritschl (2011) had made the point, well before the Greek request, that Germany should take a flexible approach to its credit towards Greece. Along the same line Friedman (2015) recently wrote: “There is no economic ground for Germany to be the only European country in modern times to be granted official debt restructuring and debt relief on a massive scale, and certainly no moral ground either.” Other observers, however, deny the relevance of the London Agreement as a precedent to be applied to Greece today, stressing that circumstances are very different (Piller 2015).

The issue is generally presented as a German-Greek bilateral issue. This is, to some extent, justified by three considerations: firstly, Germany is Greece’s most important creditor; secondly, Germany still provides, thanks to its conservative fiscal policy and strong economy, much needed solidity to the entire €-zone; thirdly, the German government will play a leading role in deciding the €-zone policy to be adopted in response to Greek requests. One should not forget, however, that the issue is solidly set into the EU, or more precisely, the €-area framework and that German financial contribution to the financial support of Greece is only a fraction of the total extended by the EU (less than 30 per cent), being just 7 and 10 per cent higher, for example, than the contributions of France and Italy respectively.

In this post the issue is considered first by presenting the basic facts of the German and the Greek debt histories, then by examining the obvious differences, but also some important common patterns between the two cases. At the end, a general conclusion is drawn.

The conclusion, to briefly anticipate it, is that the London Agreement was a great success because it built on the mutual advantage of the debtor and the creditors and on a trustful collaboration between the two sides. If a loser can be identified, than this was Greece, along with the rest of the European countries occupied by Nazi Germany, who were more or less forced to first lend to the invaders and then to forgo their claims 2. In principle, there is now room for a mutually beneficial agreement in the Greek case as well, which a cooperative approach could achieve. There is also the risk, however, of falling into a prisoner´s dilemma situation, in which the inability of the two parties to cooperate will bring a disastrous outcome. The signs, in particular those coming from the new Greek government, are mixed in this respect.

German debt history

The German debt history of the last century is both complex and troubled, and is intimately connected to European and world history at critical junctures. The Treaty of Versailles of 1919 laid the foundations for the very onerous conditions imposed on capitulated Germany in the aftermath of World War I. These reparation payments loomed large on the German and international economy and on political relations for the whole interwar period, contributing, it has been argued, to the economic and political disintegration of those years. The 1953 London agreement mentioned above represented a successful attempt to emerge from the chaos of the previous decades, although Germany only finished making its payments in 2010, and even went through a short-lived (and very small) default in 1990 on some obligations tied to Reunification.

The key events of this long history are the following:

  • The Treaty of Versailles of 1919, ending World War I after the capitulation of Germany, laid the foundations for reparations payments, which were later quantified by the London Schedule of Payments of 1921 in 132 billion gold marks ($33 billion), equivalent to almost three times Germany’s 1921 GDP 3 . This overall amount was split into A and B bonds, for a total of 50 billion marks, which were supposed to be paid without conditions, and C bonds for the rest, which were de facto never issued, but were still used by creditors as a negotiation tool (Schuker 1988);
  • Following severe economic and political problems and limited payments by Germany, the Dawes (1924) and the Young (1929) plans “each reduced this sum [of reparations] considerably” (Guinnane, page 12);
  • Between 1924 and 1930 German public and private entities borrowed large amounts from foreign creditors, in particular American ones;
  • The Hoover moratorium of June 1931 suspended all payments on debt incurred during WWI;
  • Germany introduced exchange controls during the Summer of 1931, with the objective of halting the capital flight precipitated by deteriorating economic conditions;
  • A Standstill Agreement between Germany and its creditors was introduced in September 1931, which initially froze around half of Germany’s short-term liabilities: Germany then started defaulting in 1932, also through so called “transfer stops”, whereby the exchange of marks into foreign currency was heavily constrained;
  • In 1932 reparations were de facto cancelled by the Lausanne Conference of July 9;
  • In 1934, Germany formalised and extended its external default. By that time, many countries in Europe and Latin America were in a state of default on their external obligations 4 .
  • In the aftermath of WWII, Germany’s wartime obligations were frozen by the US, who was keen to avoid a repeat of the post-WWI events. In 1953, an international conference was called in London to settle Germany’s debt position. Its point of departure was the acceptance by the German Chancellor Konrad Adenauer of responsibility for all the German debt 5 .On the creditors’ side, there was the interest of the winners of World War II, in particular the hegemonic United States, to have a thriving Germany within a thriving Europe and to solidify the Western alliance in the face of the Cold War. Ritschl (2012) has tied the conference directly to the Marshall Plan, arguing that the debt relief was a fundamental part of the package that managed to get Europe, and Germany in particular, back on its feet.
  • The London agreement dealt with:
    1. Reparations, as reduced by Young and Dawes plan,
    2. Marshall plan and GARIOA (Government and Relief in Occupied Areas) lending after WWII
    3. Private and public foreign borrowing between the wars (1924-1939) and during WWII (1939-1945).

“The agreement embodied three general principles: the amount Germany owed was reduced considerably; she was given a long period in which to repay; and the amounts owed in any given year were tied to her ability to make transfers.“ (Guinnane, page 27)

“Under the calculations used in the London Agreement, the reduction in the total obligations, both public and private, was about 50 per cent. A more standard commercial calculation leads to a far higher write-down, however.” (ibid, page 28)

  • The London agreement foresaw that some payments would be due only upon German reunification, and these indeed took place from 1990 to 2010, while Germany considers some other debt (including the one to Greece for a forced wartime loan) as effectively cancelled, to the disagreement of some.
  • In conjunction with the external debt relief, Germany’s enormous domestic debt, accumulated starting with the ascension of the Nazis to power in 1933, was also almost entirely erased, with the blessing of the United States (Ritschl 2012).

Greek debt history

 In the Autumn of 2009 the Greek government communicated, in a series of announcements, that its deficit for 2009 was 15.4 per cent instead of 3.7 per cent as previously announced 6. Soon after, Greece was shut out of financial markets and started relying on loans from its €-zone partners. The first bailout program included bilateral loans from €-zone member states, originally in the amount of 80 billion euros, and an IMF stand by agreement, originally in the amount of 30 billion euros. The bilateral loans, the Greek Loan Facility, totalled 52.9 billion euros, between May 2010 and June 2013. To this, about 20 billion euros were added by the IMF via a 3 year standby arrangement. The second program (approved on 12th of March 2012) stipulated financial assistance of 164.5 billion euros, out of which 144.7 billion euros were provided by the EU via the European Financial Stability Fund and 19.8 billion euros by the IMF. In February 2014 there was a “voluntary” rescheduling of privately-owned Greek debt, which reduced its amount to 96 billion from 206 billion. In total the official lending to Greece amounted to 252 billion as summarized in Table 1 while there are still about a few dozen billion of securities in private hands. The ECB has around 25 billion of Greek bonds purchased under the Securities Market Program. Overall Greece’s nominal debt amounts to 175 per cent of GDP.

Table 1 Total official lending to Greece

Total EU/EFSF IMF ECB holdings (SMP, book values)
251.78 194.80 31.58 25.4

However, the conditions in terms of maturities and interest rate of official lending to Greece were progressively made more favourable. Darvas and Hüttl (2015) estimated that, net of the interest rate paid to the ECB and national central banks, which is returned to Greece, the interest rate burden on Greek debt was 2.6 per cent of GDP in 2014 and will be likely below 2 per cent in 2015, so about a half of what Italy pays on its significantly lower debt in relation to GDP. Morgan Stanley has recently estimated that, once the more favourable conditions on European Financial Stability Fund lending are taken into account, the debt to GDP ratio of Greece reduces to 118 per cent. If the conditions applying to EFSF lending were also applied to bilateral loans, the debt to GDP ratio would come down to 88 per cent.

 Differences and common patterns

 The two debt stories have obvious and important differences. The first difference is one of relevance and length: Germany’s debt crisis was an integral part of a tragic phase of world history beginning with World War I and ending with World War II; Greece’s debt crisis, however important, cannot compare with the significance of the German one. Another important difference is that, notwithstanding the participation of the IMF, the Greek debt story is eminently a European affair, while the German case was clearly a global affair, in which the United States performed an enlightened hegemonic role. Looking for analogies, Greece covers now the role played then by Germany. What is missing today is a country incorporating the externalities of an agreement, like the United States did after WWII.

Notwithstanding the differences, one can identify at least four common patterns in the two cases.

First, and most importantly, as in the case of the London Agreement, one can clearly identify the mutual convenience of Greece and its €-area partners in having a thriving Greece as a trusted member of the €-area and more generally of the European Union.

Second, both the German and the Greek histories are far from a linear succession of events, rationally organized around a clear development line. On the contrary, events followed disorderly one after the other and in both cases a series of stopgap measures were introduced to navigate critical junctures.

Third, these stopgap measures led to a gradual but substantial easing of debt conditions as the creditors recognized that insisting on full payments would have been unrealistic and damaging to both sides. However the delaying of a more radical resolution has led to the crisis dragging on painfully. Reinhart and Trebesch (2014) demonstrate that this is by no means a peculiar feature of the German and Greek events, but rather a common element in debt crises: twist and turns, crises, dire macroeconomic conditions and failed attempts generally precede a “decisively complete restructuring”. However the authors also show that the general picture that emerges is that, once the restructuring is completed decisively, the economic panorama tends to improve in terms of growth, debt servicing burdens, debt sustainability (higher growth lower debt), and international capital market access. Both the advanced economy and emerging market sample provide evidence in this regard.”

Fourth, Germany’s spectacular performance in the post-war era, particularly during the Wirtschaftwunder of the 1950s and 60s, as well as the country’s rigorous fiscal stance thereafter represent a powerful argument against Germany’s worry about moral hazard. Germany fears that a large restructuring of Greek debt would lead to profligacy in the future in the Hellenic Republic, and possibly other  €-zone member states, by establishing a bail-out precedent. This reasoning, however, follows old-fashioned adaptive expectations, whereby past behaviour is inexorably projected into the future, instead of the modern paradigm of rational expectations, whereby actions are influenced by expectations of future developments, rather than following mechanically from past events. The evidence of years of economic and social pain is a strong disincentive for future Greek governments to engage in the reckless policies of the past. Moreover, deeper political and economic integration in the European Union, as well as a clear framework to tackle future crises, possibly including a more effective no bail out clause, are necessary even in the absence of large-scale debt forgiveness for Greece in order for Europe to avoid a repeat of current problems 7 .

 A general conclusion

 The critical factor that led to the success of the London agreement was that there was a common interest of creditors (particularly the hegemonic creditor represented by the US) and the debtor to eliminate the hypothec that German debt created for the future of a thriving, democratic Germany, just exited from the nightmare of Nazism. While proportions have to be kept well present, and the Greek case cannot be compared directly with the German one, there is also in this case room for an agreement in which both creditors and debtor gain. The terms for this agreement are the following.

Creditors should recognize that, even if the effective burden of debt has been substantially reduced and the 175 per cent of the nominal debt to GDP ratio is not truly representative of it, Greece will be able to repay its debt only with implausibly favourable growth developments. Unless these developments will, against prevailing expectations, materialize, the debt burden will have to be further reduced. While the neatest way to achieve a reduction in the debt burden would be to lower its nominal value, any desired economically equivalent effect can be obtained by further extending maturities and reducing the cost of debt (Darvas an Hüttl 2015). The limit of a zero coupon irredeemable loan, which morphs into a grant, shows that any desired reduction of the burden of debt is achievable by lengthening maturities and reducing the interest rate. An attractive complement would be to make the cost of debt depend on the growth of the Greek economy: should indeed Greece know a new phase of brisk growth, creditors would participate in the benefits 8 . This prospect is made more likely by the fact that growth prospects are likely to be boosted by a reduction of Greece’s indebtedness, improving the chances of repayments of creditors’ on their claims.

Greece should recognize that a radical change is needed with respect to the way it managed its economy before the crisis and that the reforms undertaken to date are limited and, in some aspects, wrongheaded. The Greek economy before the crisis was extremely poorly managed: fiscal policy was reckless (the deficit to GDP ratio was on average 7.5 % per cent in the 10 years between 2001 and 2010), structural conditions were appalling, economic rents were rampant, social injustice prevailed and the extraordinary cheating on public accounts revealed in 2010 understandably shattered the confidence in Greece’s institutions. The fact that the correction carried out so far is insufficient and partially wrongheaded is demonstrated by the fact that, according to OECD evidence, the Greek economy remains uncompetitive in comparison to other advanced economies 9 and by the fact, less easy to document but clearly playing a key role in Syriza’s electoral victory, that the fiscal and structural corrections hit disproportionately the weaker segments of Greek society. On the fiscal side, it should be recognized that a strong correction was needed, but also that this has evidently been too deep and too quick, overlooking its drastic aggregate demand consequences. Greece should also accept some form of check on its reform action, to reassure creditors that it is indeed carrying out the needed radical measures. Indeed debt alleviation and economic reforms should be phased-in in parallel, with debt concessions following the actual implementation of reform actions.

To summarize, the basic conditions of an agreement are that creditors accept, ideally led by a hegemonic enlightened Germany, a substantial reduction of the economic value of their claims on Greece, while Greece carries out a radical structural adjustment program, with more equitable characteristics, while maintaining a sound fiscal approach, now that the big effort in terms of reducing the fiscal imbalance has been made.

The agreement along these lines is possible but its prospects are uncertain, particularly because of the mixed messages sent by the new Greek government. It should be recognized, however, that the ideas put forward by the Greek finance minister Varoufakis as a basis for a new agreement contain some potentially useful points. Much remains, however, to be clarified and agreed before something comparable to the 1953 London Agreement is reached. While the contour of an agreement is visible, great risk lies in the path to reach it.


This post was written jointly by Andrea Papadia, PhD student at the London School of Economics and Francesco Papadia, with the assistance of Madalina Norocea. Andrea`s site can be found on:


  1. Z. Darvas, Greek choices after the elections, Bruegel, 23 January 2015.
  2. Z.  Darvas, P. Hüttl , How to reduce the Greek debt burden, Bruegel, January 2015
  3. B. Friedman, A Predictable Pathology, in BIS Papers, No 80, Debt, 13th BIS Annual Conference, 27 June 2014 Monetary and Economic Department, January 2015
  4. T.W. Guinnane, Financial Vergangenheitsbewaltigung: the 1953 London debt agreement,  Economic Growth Center, Yale University, January 2004
  5. M. J. Klasing and P. Milionis, Quantifying the evolution of world trade, 1870–1949, Journal of International Economics, 2013.
  6. T. Piller, Griechischer Schuldenschnitt, Wie Deutschland nach dem Krieg? Frankfurter Allgemeine Zeitung, January 2015
  7. C. M. Reinhart, C. Trebesch, A Distant Mirror of Debt, Default, and Relief, NBER Working Paper, October 2014
  8.  A. Ritschl, Germany Was Biggest Debt Transgressor of 20th Century, Spiegel on line, June 2011.
  9. A. Ritschl, Germany, Greece and the Marshall Plan, The Economist, Free Exchange, June 15th 2012.
  10.  T.J. Sargent, United States Then, Europe Today, Nobel Prize Lecture
  11. S. A., Schuker American “Reparations” to Germany, 1919-33: Implications for the Third-World Debt Crisis, Princeton Studies in International Finance, No. 61, Department of Economics, Princeton University, 1988.
  12. A. Terzi. Can Greece become competitive overnight?- measuring reform efforts during the crisis, Bruegel, 3rd February 2015
  13. G.Wolff, Greece and the euro area need a deal within days, not months, Bruegel, 2 February 2015.
  1. “This is not the first time something like a debt write-off this has been implemented. It happened in 1953 in Germany. And I am wondering on what ethical grounds does Germany refuse a solution to the European problem, which it benefited from many years ago, when coming out of world war two, and when Germany itself had many open wounds? (…)We are going to demand debt reduction, and the money Germany owes us from world war two, including reparations. “ Alexis Tsipras,  interview for  Channel 4 , January 2015, available HERE []
  2. Although in absolute terms the largest amounts extracted during the Nazi occupation came from Western Europe (particularly France and the Netherlands), the smaller size of the Central and South-Eastern European economies translated into a much larger impact for these countries[]
  3. The nominal non-PPP-adjusted GDP data, is from Klasing and Milionis (2013) []
  4. Only Finland continued serving its debt to the United States.[]
  5. “In a response to the Allied High Commissioner dated March 6th, 1951, Chancellor Adenauer accepted responsibility for the debt and signalled Germany’s intention to repay, but reiterated two points that were important bases for the conference. First, the repayment plan must have ‘the objective of normalizing the economic and financial relations of the Federal Republic with other countries.’ Second, ‘it will take into account the general economic position of the Federal Republic, notably the increase of its burdens and the reduction of its economic wealth.” (Guinnane 2004, page 21). []
  6. Budget deficit forecasts have been adjusted gradually from 3.7 % to 5% to 6%. In November 2010 Eurostat revised the 2009 budget deficit to 15.4%, while in April it was at 13.6% of GDP[]
  7. See, for example, Sargent’s Nobel Prize lecture “United States Then, Europe Today[]
  8. Wolff 2015 and Darvas 2015 also make this point. Of course, some protection against possible moral hazard problems will have to be established. In particular, as regards statistical reports on national accounts, it is hoped that Eurostat will be in a position to better check Greek statistics than before the crisis.[]
  9. In 2013 Greece still had the least flexible product and labour markets among OECD, members, notwithstanding the progress achieved since 2008, as shown in a previous post:Titus Maccius Plautus and the EU Troika. The same point is made by Terzi 2015. []