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Greece and the Euro: What Now?

In theory, it could still work. It only requires three miracles.

Maybe the resounding “no” to the eurozone’s terms for a third bail-out in Sunday’s referendum in Greece (61 percent against) will force the euro currency’s real managers, Germany and France, to reconsider. French President Francois Hollande is already advocating a return to negotiations with Greece.

Maybe the International Monetary Fund will publicly urge the eurozone’s leaders to cancel more of Greece’s crushing load of debt. Last Thursday the IMF released a report saying that Greece needed an extra 50 billion euros over three years to roll over existing debt, and should be allowed a 20-year grace period before making any debt repayments. Even then, it said, Greece’s debt was “unsustainable”.

And maybe Greek Prime Minister Alexis Tripras will accept the terms he asked Greek voters to reject in the referendum if he can also get a commitment to a big chunk of debt relief – say around 100 billion euros, about a third of Greece’s total debt – from the eurozone authorities and the IMF. It’s all theoretically possible. It even makes good sense. But it will require radically different behaviour from all the parties involved.

Tsipras has already made one big gesture: on the morning after the referendum victory, he ditched his flamboyant finance minister, Yanis Varoufakis. The hyper-combative Varoufakis had needlessly alienated every other eurozone finance minister with his scattergun abuse, and it was hard to imagine him sitting down with his opposite numbers again after calling them all “terrorists” during the referendum campaign.

The IMF’s gesture was even bigger, if much belated. It knew the eurozone’s strategy was wrong from the time of the first bail-out in 2010, and it is finally getting ready to admit it.

Normally, when the IMF bails out a country that is over its head in debt, it insists on four things. There is always fiscal consolidation (cutting spending, collecting all the taxes, balancing the budget) and “structural reform” (making labour markets more flexible, ending subsidies, etc.). All the current Greece-eurozone negotiations have been about these issues. But the usual IMF package also includes devaluation and debt relief.

There was no debt relief at all in the 2010 bail-out, and only private-sector creditors were forced to take a “haircut” (around 30 percent) in the second bail-out in 2012. Most of Greece’s debt was owed to German and French banks, and that wasn’t touched. Indeed, 90 percent of the eurozone loans Greece has received go straight into repaying European banks.

Greece’s debt is not decreased by these transactions: it is just switched to European official bodies including the European Central Bank So the Greeks are getting no real help worth talking about, and European taxpayers are getting screwed to save European banks.

Why didn’t the IMF blow the whistle on this long ago? Because it was not taking the lead in these negotiations, and after it took part in the 2010 bail-out anyway it was deeply embarrassed. It had broken its own rules, and found it hard to admit it. It was also aware that devaluation, usually a key part of IMF bail-outs, is impossible for Greece unless it actually leaves the euro (which Greeks desperately don’t want to do).

So the usual post-bailout economic recovery didn’t happen. Over five years Greece’s debt has increased by half, its economy has shrunk by a quarter, and unemployment has risen to 25 percent (50 percent for young people). The referendum question was deliberately obscure and misleading, but most Greeks know that the current approach simply isn’t working. That’s why they voted “no” in the referendum. It was a valid choice.

If the eurozone authorities know that much of Greece’s debt can never be repaid (which they do), why don’t they just give Greece the debt relief it needs? Partly because Chancellor Angela Merkel knows that her own German voters will be angry at more “charity” funded by their taxes, whereas they stay fairly quiet so long as the debt is still on the books. And partly because other eurozone countries would see it as special treatment for Greece.

Italy, Spain, Portugal and Ireland have also been through harrowing bail-out programmes, and are still making proportionally bigger interest payments on their debts than Greece. Some other countries using the euro – Estonia, Portugal, Slovakia and Slovenia – have about the same GDP per capita as Greece, and Latvia is even poorer. They don’t see why they should pay for Greece’s folly in running up such huge debts.

“I really hope that the Greek government – if it wants to enter negotiations again – will accept that the other 18 member states of the euro can’t just go along with an unconditional haircut (debt write-off),” said Sigmar Gabriel, Germany’s vice-chancellor. “How could we then refuse it to other member states? And what would it mean for the eurozone if we did it? It would blow the eurozone apart, for sure.”

So it really isn’t possible to predict whether Tsipras and Greece will be offered a better deal or not. It’s equally impossible to say what will happen to the euro “single currency” if there is no deal and Greece crashes out of the euro in the next couple of weeks, although the eurozone authorities insist that they could weather the storm.

We do live in interesting times.
To shorten to 725 words, omit paragraphs 7, 9 and 14. (“Normally…relief”; “Greece’s…banks”); and “I really…sure”)