The problem with Greece's GDP-bond solution

If you want a good illustration of the difficulties facing Yanis Varoufakis with his innovative idea for sorting out Greece’s debt problems, think back to Britain’s difficulty with the EU Budget late last year.

You’ll recall that George Osborne was left with a €2.1bn bill as a result of newly-calculated GDP figures from many years back. You may also recall that there were (and are) still some question marks over the reliability of those GDP calculations.

Varoufakis’s interesting idea for dealing with Greece’s unsustainable debts is to swap many of the bonds the country currently issues with GDP-linked bonds, whose value (and hence Greece’s debt) would be linked directly to its economic output. It’s a smart idea: the country’s main problem right now is that while its debtload keeps going up, the country’s economic output (out of which it needs to pay the debt) has collapsed. The upshot is that its debt has become ever less affordable.

The idea behind GDP-linked bonds (which have been issued a few times by Argentina and Greece, but only in relatively small quantities) is that when GDP falls, so does the value of the debt. And when it rises, again, so does the value of the debt. Genius. And precisely the same principle as is employed in index-linked bonds, of which there are now billions floating around the world.

The problem, however, is that inflation figures, which index-linked bonds are tied to, don’t tend to be revised retrospectively. But gross domestic product figures are – often significantly. Hence why George Osborne was left with that €2.1bn bill – based on a decade or so of recalculated GDP figures which suggested Britain should have been paying more into the EU than previously thought.

So Greece could well face the same issue. If its debt was linked to GDP and then new figures suggested the economy had been growing faster than previously thought, or there is a new assessment of the contribution of one or other part of the economic pie, Athens could be faced with a sudden, big bill. And given Greece doesn’t exactly have the proudest history of statistical probity, there are also bound to be questions over the accuracy of the numbers in any given quarter.

None of this need be an obstacle to Varoufakis’s plan. Indeed, it is welcome that such novel ideas are now one step closer to being implemented – and that you have a new Greek finance minister willing to confront the country’s biggest problem. But it’s also worth being aware that this is no silver bullet, and it comes with catches.