Whistling past the graveyard?

Simon Nixon holds that in the years before the financial crisis broke, Greece was flush with money. The Greek governments of the time did the popular thing by increasing pensions and wages for public employees well beyond the level that the feeble Greek economy could sustain in normal times. Then the slump dried up the river of money. Greece faced a crisis; a Greek financial collapse could spread to the rest of the Eurozone; and the European Central Bank, the Eurozone countries, and the International Monetary Fund stepped in with a bailout.[1]

In return for this bail-out, the creditors demanded that Greece make reforms of its unsustainable public-sector and pension systems to reduce spending to a level that the Greek economy could support in normal times. Instead of pursuing this politically unpopular course, Greece laid its main effort on enhanced tax collection and on a reform of the pension system that did not address the real problem. Thus, the number of bureaucrats fell as they were transferred to early retirement. This increased the burden of pensions in the budget rather than reducing it.

The Syriza government argues that budget cuts will just push Greece deeper into recession. They have been asking for an expansionary budget policy combined with more money from the European Union for “investment.”

There is a consensus on the need to “restructure” (greatly reduce) Greece’s debt. There is a consensus among the creditors on the need for serious reforms of Greece’s public sector and pension systems. A deal should be easy to reach. However, the Greeks want the debt reduction to come at the same time as the promise to implement reforms in the future.[2] The creditors don’t trust the Greeks to implement the reforms once they have the money in hand. As a result, they insist that the reforms have to precede any debt restructuring.

Anatole Kaletsky argues that, between the outbreak of the Greek financial crisis in 2009 and the end of 2014, there existed a real danger that a Greek default would be the first domino in a chain that ran through Portugal, Spain, and Italy before crashing down on Germany.[3] In January 2015, however, Mario Draghi, the head of the European Central Bank, won approval for a massive program of bond-buying on the part of the ECB. In essence, the ECB now can print all the money it needs to drown the fires of a financial crisis. Euro-zone countries agreed to this measure in order to build a fire-wall between Greece and the rest of the Eurozone. Now, the dangers of a Greek default are chiefly to the Greeks themselves: default will block access to foreign credits, end ECB support for the Greek banking system, lead to a run on the banks that will leave many people empty handed, and the government will be unable to pay the pensioners and public employees on whose behalf it has been engaged in this game of chicken.

Then there is the collateral damage. A “Grexit” may not do serious damage to the European economy. It will harm the reputation of the IMF. IMF rules bar it from lending to countries that are unlikely to be able to sustain the debt. The Eurozone lured the IMF into participating in the Greek bail-out by warnings of a “financial contagion.” Well, the current level of Greek debt is not sustainable. A Greek default will gore the IMF, which prime minister Tsipras has just denounced as ‘criminal.” That will affect IMF lending programs in several ways for the foreseeable future.

The level of emotional engagement here reminds us that politics isn’t always rational.

[1] Simon Nixon, “Athens and Its Creditors Head for the Brink,” WSJ, 8 June 2015.

[2] See: “I’ll gladly pay you Tuesday for a hamburger today.”

[3] Anatole Kaletsky, “Greek crisis: Europe has nothing to fear from Greek belligerence,” The Guardian, 16 June 2015.

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