Greece is now a political crisis not just an economic one

greece

Last week Greece was bailed out for the third time. The total bailout amounts to 82-86 billion euros. In order to access this money the Greek government has to follow a series of austerity measures like pension reforms, implementing the highest rate of value added tax for business sectors which currently pay a lower rate, etc.
Before the bailout was announced many economists were of the view that Greece should leave the Eurozone. Eurozone is essentially a term used to refer to countries which use the euro as their currency.
The logic offered by these economists is fairly straightforward: Greece needs to get out of the euro and start using its own currency, the drachma. In this situation, the drachma would fall in value against other currencies and in the process make the Greek exports competitive. This would help revive Greek exports as well as tourism, and in turn the Greek economy.
The austerity measures that Greece has had to follow since 2010, when it was first bailed out, have crippled the Greek economy. The economy has contracted by 25%. The unemployment is at 26%. Among youth it is over 50%. Small and medium businesses are shutting down by the dozen.
The government debt as a proportion of the gross domestic product (GDP) has jumped from 126.9% in 2009 to 175% currently. This has happened primarily because the size of the Greek economy has contracted leading to the total amount of debt as a proportion of the GDP(which is a measure of the size of an economy) shooting up.
If Greece leaves the euro and moves to the drachma, it will be in a position to devalue the drachma and in the process hope to revive its economy. This is something that it cannot do currently given that it uses the euro as its currency.
The economists who have been calling for Greece to leave the euro are looking at the situation just from an economic point of view. What they forget is that euro has political origins.
The euro came into being on January 1, 1999. But it took a long time for the countries which originally started to use the euro as their currency to get there. A brief history is in order.
Before the euro came the European Union. The origins of the European Union can be traced to the European Coal and Steel Community (ECSC) and the European Economic Community (EEC) formed by six countries (which were France, West Germany, Italy and the three Benelux countries i.e. Belgium, Netherlands and Luxemburg) in 1958.
The goal of ECSC was to create a common market for coal and steel in Europe. The EEC on the other hand worked towards advancing economic integration in Europe. The economic integration of Europe was deemed to be necessary by many experts to create some sort of bond between different countries in a continent destroyed by extreme forms of nationalism during the Second World War.
As the Nobel Prize winning American economist Milton Friedman wrote in a 1997 column: “The aim has been to link Germany and France so closely as to make a future European war impossible, and to set the stage for a federal United States of Europe.”
The EEC and the ECSC organisations gradually evolved into the European Union (EU) which was established by the Maastricht Treaty signed on December 9 and 10, 1991. After the formation of the EU by the passage of the Maastricht Treaty, the members became bound to start a monetary union by January 1, 1999.
What this tells us loud and clear is that the euro was as much a political project as it was an economic one. Given this, asking Greece to leave the euro, is not an easy decision to make politically, as it goes against the basic idea of the United States of Europe. As long as the European politicians are serious about this basic idea, Greece will continue to stay in the Eurozone.
The issue has taken another political dimension with the United States (US) of America getting involved. The US isn’t directly involved but as is often the case, it is operating through the International Monetary Fund (IMF).
On July 14, 2015, the IMF released a four- page report in which it said that the Greek public debt is unsustainable. Public debt is essentially government debt minus government debt that is held by the various institutions of the government.
As the IMF report pointed out: “Greece’s public debt has become highly unsustainable…Greece’s debt can now only be made sustainable through debt relief measures that go far beyond what Europe has been willing to consider so far.”
The IMF wants Europe to handle the Greece issue with more care. “There are several options. If Europe prefers to again provide debt relief through maturity extension, there would have to be a very dramatic extension with grace periods of, say, 30 years on the entire stock of European debt, including new assistance… Other options include explicit annual transfers to the Greek budget or deep upfront haircuts,” the IMF report points out.
Basically there are three things that the IMF wants. First, it feels Greece should be allowed more time to repay the debt that it owes to the economic troika of IMF, European Central Bank and European Commission. The IMF wants to give Greece a 30 year moratorium on its debt.
Third, it wants Europe to help Greece more by giving more money to the country ever year. And fourth, it wants lenders of Greece to take a haircut, which basically means that they should let Greece default on a part of the debt that it has taken on.
The question is why are the Americans doing this? A simple explanation for this is that if Greece is abandoned by Europe it could approach China or Russia for help. And this is something that the Americans won’t be comfortable with. A television analyst used to making flippant statements could even call it the start of the second Cold War.
The trouble is that IMF released this report after the third bailout of Greece had been announced. As Albert Edwards of Societe Generale put it: “I simply do not understand why the IMF did not come out loud and clear…and say they would not participate in this charade without debt forgiveness.”
The mess in Eurozone just got messier.

(Vivek Kaul is the author of the Easy Money trilogy. He can be reached at [email protected])

The column appeared in the Daily News and Analysis on July 21, 2015

Milton Friedman is having the last laugh on euro

Portrait_of_Milton_Friedman
The euro came into being on January 1, 1999. On this day, 11 countries in Europe joined together to form what came to be known as the Eurozone or countries which use the euro as their currency. Greece joined the Eurozone on June 19, 2000, and gave up on its own currency, the drachma.

Fifteen years on Greece is in a terrible economic state. More than 50% of its youth population is unemployed. The economy has contracted by 25% since 2010. And its debt to gross domestic product (GDP) ratio has jumped to 175% from 129% in 2009.

Also, the country has voted against a referendum which essentially asked the citizens whether they were ready to face more austerity measures in return for a third bailout by the economic troika of the International Monetary Fund, the European Commission and the European Central Bank.

The country owes around 240 billion euros to the European Commission, the European Central Bank (ECB) and the IMF. The troika has been lending money to Greece for a while now. As Mark Blyth writes in Austerity—The History of a Dangerous Idea: “In May 2010, Greece received a 110-billion-euro loan in exchange for a 20 percent cut in public-sector-pay, a 10 percent pension cut, and tax increases.”

Every time the troika lends money it demands more austerity measures from Greece. The troika wants to ensure that the budget of the Greek government enters into a positive territory so that the country is finally able to start repaying the debt it owes, instead of borrowing more to repay what it owes.

The troika wants the Greek government to run a surplus i.e. its revenues should be more than its expenditure. As Blyth writes that the idea seems to be to: “Cut spending, raise taxes—but cut spending more than you raise taxes—and all will be well.” The trouble is that the austerity that has accompanied Greece has hurt rather than helped Greece. As the GDP has contracted, the debt to GDP ratio has jumped up majorly.

This vote against the referendum has made Germany more aggressive on the question of allowing Greece to continue staying in the Eurozone. While it is difficult to predict which this will go, my guess is that ultimately Greece will allowed to stay in the Eurozone and the current crisis will be postponed for a latter day, for the simple reason that the euro is ultimately as much a political idea as it is an economic one.

A major reason for which countries within Europe came together to form a monetary union and start using a common currency was to ensure closer economic cooperation and integration in order to ensure that countries in Europe did not fight any more wars against each other. The First and the Second World Wars were the deadliest wars that the world had ever seen.

As the Nobel Prize winning American economist Milton Friedman wrote in a 1997 column: “The aim has been to link Germany and France so closely as to make a future European war impossible, and to set the stage for a federal United States of Europe.”

Having said that monetary unions are not always easy to run. As Friedman wrote: “A common currency is an excellent monetary arrangement under some circumstances, a poor monetary arrangement under others…The United States is an example of a situation that is favorable to a common currency. Though composed of fifty states, its residents overwhelmingly speak the same language, listen to the same television programs, see the same movies, can and do move freely from one part of the country to another; goods and capital move freely from state to state; wages and prices are moderately flexible; and the national government raises in taxes and spends roughly twice as much as state and local governments.”

As far as countries coming together to start using the Eurozone were concerned, their residents spoke different languages, they watched different television programmes and movies and did not really move freely from one country to another. And most importantly different countries needed a different interest rate policy at different points of time.

But within a monetary union with a common currency that is not always possible. And this led to problems within the Eurozone. As Ramesh Ponnuru writes on Bloomberg View: “During the boom years a decade ago, Greece and other countries on Europe’s periphery over-borrowed because interest rates were inappropriately low for them.”

In 1992, before the euro came into being, the German government could borrow at 8% and the Greek government at 24%. By 2007, this difference had largely gone. The German government could borrow at 4.02%. And the Greek government could borrow at 4.29%. When the interest rates for the government fell, fell as dramatically as they did in parts of the Eurozone, the government as well as the private sector ended up borrowing a lot more.

And this primarily led to a huge housing bubble across large parts of the Eurozone. In a normal scenario where there was no monetary union the central bank of a country could have raised interest rates and made it more expensive for the private sector to borrow. This would have ensured that the real estate bubble wouldn’t have gone on for as long as it did.

But the European Central Bank had to keep the entire Eurozone in mind and not just Greece and other weaker countries like Spain, Italy and Portugal. Hence, it allowed the low interest rates to remain low.

In the aftermath of the crisis, the weaker countries in the Eurozone needed low interest rates. As Ponnuru writes: “During the bust, the European Central Bank’s efforts to keep inflation low in the core has led to a punishing deflation in the periphery. The European Central Bank raised interest rates in 2008 and 2011 — at both the start and the middle of Greece’s depressions.”

Even if Greece continues to be within the Eurozone in the days to come, these basic problems with the euro will continue to remain. And that would mean that euro and financial crises will continue to be closely linked.
The column appeared on The Daily Reckoning on July 8, 2015

 

Grexit: Why Amartya Sen and Thomas Piketty are right about Germany

thomas piketty
The French economist Thomas Piketty whose bestselling book Capital in the Twenty First Century was published last year, in an interview to the German newspaper Die Zeit recently said: “What struck me while I was writing is that Germany is really the single best example of a country that, throughout its history, has never repaid its external debt. Neither after the First nor the Second World War.”

In the recent past, Germany has been insistent that Greece repay the money that it owes to the economic troika of the European Central Bank, the European Commission and the International Monetary Fund. As Piketty remarked: “When I hear the Germans say that they maintain a very moral stance about debt and strongly believe that debts must be repaid, then I think: what a huge joke! Germany is the country that has never repaid its debts. It has no standing to lecture other nations.”

In order to understand what Piketty meant we will have to go back nearly 100 years. At the end of the First World War in 1918, Germany had to compensate the victorious Allies (read Britain, France, and America primarily) for the losses it had inflicted on them.

At the reparations commission, the British delegation wanted Germany to pay $55 billion as compensation to the Allies. This was a huge number, given that the German gross domestic product (GDP) at that point of time stood at around $12 billion.

The Americans were fine with anything in the range of $10 to $12 billion and did not want anything more than $24 billion. The French did not put out a number of what they were expecting but they wanted a large reparation from Germany.

This was primarily because when the French had been in a similar situation in 1870 they had paid up Germany. After France had lost the Franco-Prussian War, Germany had asked France to pay 5 billion francs to make good the losses that it had faced during the course of the war. The French had rallied together and paid this money in a period of just two years.

Given this historical back­ground, they saw no reason why Germany should not be made to pay for the losses that France had suffered. The French assumed that like they had paid the Germans 50 years back, the Germans would also pay up. As Piketty put it in the interview: “However, it has frequently made other nations pay up, such as after the Franco-Prussian War of 1870, when it demanded massive reparations from France and indeed received them.”
In May 1919, it was decided that Germany would pay the Allies an initial amount of $5 billion by May 1, 1921. The final reparation amount to be paid would be decided by a new Reparations Com­mission.

Finally, the total reparations amount that Germany would have to pay the allies was set at $12.5 billion, which was equal to the pre-war GDP of Germany. To repay this amount, Germany would have had to pay around $600–$800 million every year.

Germany was in a bad state financially and at the end of the war had a budget deficit that ran into 11,300 million marks (the German currency at that point of time). As the government did not earn enough revenue to meet its expenditure due to the high-reparation payments, it started to print money to finance pretty much everything else.

This finally led to the German hyperinflation of 1923. Inflation in Germany at its peak touched a 1,000 million per­cent. Interestingly, one view prevalent among economic histori­ans is that Germany engineered this hyperinflation to ensure that it did not have to pay the reparation amounts. The hope was that, with inflation at such high levels, the Allied countries would deal with Germany sympathetically when it came to deciding on repa­ration payments. And this is precisely what happened.

By the time the hyperinflation came to an end, the economy was in such a big mess that the repa­ration payments had slowed down to a trickle. And it so turned out that over the next few years more was paid to Germany in the form of various loans than it paid the Allies in reparations. After this, Germany regularly continued to default on the pay­ments and finally when Hitler came to power in 1933, he stopped these payments totally.
As mentioned earlier, after the hyperinflation of 1923, money had started to pour in from other nations into Germany. A substantial part of the preparation for the Second World War was financed through this money.

The Second World War started in 1939 and ended in 1945. Given the fact that Hitler had used foreign money to get the Second World War started, the directive at the end of the Second World was that nothing should be done to restore the German economy above the minimum lev­el required to ensure that there was no disease or unrest, which might endanger the lives of the occupying forces.

Eventually, the realization set in that an economic recovery in Europe was not possible without an economic recovery in Germany, the largest economy in Europe. The American Secretary of State, George C. Marshall, after having returned from Moscow in April 1947, was convinced that Europe was in a bad shape and needed help. This eventually led to the Marshall Plan. From 1948 to 1954, the United States gave $17 billion to 16 countries in Western Europe, including Germany, as a part of the Marshall Plan.

So what does all this history tell us? One is that Germany did not repay the debt that it owed to the Allied nations and hence, as Piketty said: “Germany is the country that has never repaid its debts. It has no standing to lecture other nations.”
But there is a bigger lesson here—that demanding austerity from Greece in order to be able to repay the debt isn’t exactly the answer. The German experience after the First World War precisely proves that.

The Nobel Prize winning economist Amartya Sen, writes about the German experience after the First World War, in a recent column. As he writes: “Germany had lost the battle already, and the treaty was about what the defeated enemy would be required to do, including what it should have to pay to the victors. The terms…as Keynes saw it…included the imposition of an unrealistically huge burden of reparation on Germany – a task that Germany could not carry out without ruining its economy.”

And this is precisely what has happened in Greece over the last few years. The country now owes close to 240 billion euros to the economic troika. The austerity measures have had a highly negative impact on the Greek economy. As Nobel Prize winning economist Joseph Stiglitz recently wrote: “Of course, the economics behind the programme that the “troika” foisted on Greece five years ago has been abysmal resulting in a 25% decline in the country’s GDP. I can think of no depression, ever, that has been so deliberate and had such catastrophic consequences: Greece’s rate of youth unemployment, for example, now exceeds 60%.”
Amartya_Sen_NIH
This has essentially led to a situation where the total amount of debt with respect to the Greek gross domestic product (GDP) went up instead of going down. Currently the total debt to GDP ratio of Greece stands at a whopping 175%. And this number is likely to go up further in the days to come. In comparison the number was at 129% in 2009.

The only way Greece can perhaps be able to repay some of its external debt is if economic growth comes back. And that is not going to happen through more austerity. As Sen puts it: “Keynes ushered in the basic understanding that demand is important as a determinant of economic activity, and that expanding rather than cutting public expenditure may do a much better job of expanding employment and activity in an economy with unused capacity and idle labour. Austerity could do little, since a reduction of public expenditure adds to the inadequacy of private incomes and market demands, thereby tending to put even more people out of work.”

As economic history has shown more than once, whenever people in decision making positions forget what Keynes said, the world usually ends up in a bigger mess.

The article originally appeared on Firstpost on July 7, 2015

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

Greece votes an emphatic no in the Sunday referendum, what happens next?

euroVivek Kaul

The Greeks invented democracy and, let’s not forget, tragedy,” writes Chris Allbritton in The Daily Beast. And the fact that the country invented democracy had a very important role to play in it being accepted into the Eurozone in the first place. Eurozone is essentially a term used in order to refer to the countries using the euro as their currency.
As Neil Irwin writes in The Alchemist—Inside the Secret World of Central Bankers: “Greece…was where democracy was invented, the birthplace of the European idea, the original European empire.” But all that was in the past.
Greece voted an overwhelming 61.3% no in the referendum held yesterday, to decide on the following question:
““Should the proposal that was submitted by the European Commission, the European Central Bank, and the International Monetary Fund at the Eurogroup of 25 June 2015, which consists of two parts that together constitute their comprehensive proposal, be accepted? The first document is titled ‘Reforms for the completion of the Current Programme and beyond’ and the second ‘Preliminary Debt Sustainability Analysis.’’”
The referendum essentially asked Greeks to decide whether they were ready to suffer from more austerity measures, like the government cutting back on pensions, raising taxes etc., so that the it could be bailed out again by the economic troika of the European Central Bank, the European Commission and the International Monetary Fund (IMF).
To this, the Greeks have voted an emphatic no. The question is what happens next? Will this democratic decision of the Greeks turn out to be a tragic one in the days to come? ““Greece has just signed its own suicide note” – Mujitba Rahman, head of European analysis at the Eurasia Group risk consultancy, told the Financial Times.
But the reality of the situation is not as unidimensional as that. Allow me to explain.
The Greek banks are running out of money. As former US treasury secretary Lawrence Summers wrote on his blog: “The referendum is probably the second most important event of the week in Greece. However it turns out, Greek banks will run out of cash early in the week, probably on Monday [i.e. today].”
Currently, the Greek banks are shut. Cash withdrawals from ATMs are limited to 60 euros a day and are likely to be cut further. This can’t be a good scenario for ordinary Greek citizens. Further, it would be stupid to think that those who voted ‘no’ would have not realised that voting ‘no’ would mean trouble ahead. So to that extent people are ready to bear some amount of economic pain.
Also, an economy cannot function without currency. In fact, fearing precisely this scenario, the Greeks have been stocking up on food. As The Globe and Mail reports: “Already, some basic items such as medicines were running low as cash supplies ran short and payment systems ceased to exist. Many Greeks have been loading up on food staples for fear that supermarkets will be unable to buy products.”
The Greek government employees need to be paid on July 12. How will that payment be made? Governments in the past have resorted to issuing IOUs or scrips. The Greece government could do the same as well. The problem here is that the confidence in scrips issued by a bankrupt government wouldn’t be very high.
The Greek politicians believe that with a ‘no’ vote they are in a better negotiating position with the economic troika and other leaders in Europe.  As Panos Skourletis, the Greek labour minister said: “The government can go now with a very strong card to continue negotiations [with creditors].”
The reason for this is very straight forward—with a ‘no’ vote the fear that Greece will exit the euro is even higher.  And this is something that will strike at the very heart of the euro, given that it is ultimately a political idea, which hopes to bring the entire region closer through economic integration, with the hope of preventing any future wars in the years to come.
One of the first things that is likely to happen if Greece exits is that the country will redominate all its debt in its new currency, which is likely to be the drachma. Also this will set a precedence for other countries like Spain, Portugal and Italy. And this can’t be good for the entire idea of euro.
Further, though no German politician will publicly admit to it, but the euro has tremendously helped increase the German exports. In 1995, German exports made up for 22% of the gross domestic product (GDP). By 1999, this number had run up to 27.1%. In 2004, five years after the euro came into being, the German exports to GDP ratio stood at 35.5%. In 2008, the number reached 43.5%. As the impact of the financial crisis started to spread around the number fell to 37.8% in 2009. Nevertheless, the German exports to GDP ratio has recovered since then and in 2014 stood at 45.6%.
With the euro becoming the common currency across most of Europe, the exchange rate risk that businesses had to face while exporting goods and services was taken out of the equation totally. This has benefitted Germany the most, given the productivity of its business.
And will Germans want to get rid of this advantage by chucking out the Greeks and start a process which questions the entire idea of euro? As Niels Jensen writes in the Absolute Return Letter for July 2015 titled A Return to the Fundamentals? : “Germany…actually benefit[s] from the damage that Greece has done to the value of the euro. Poor domestic demand as a result of challenging demographics have made exports the most likely way to secure decent economic growth, and a relatively weak euro has been tremendously helpful in that respect. Imagine how much stronger the euro would have been if every member country had the fiscal discipline of Germany!”
The public posture maintained by the German leaders has been very aggressive. As Sigmar Gabriel, the deputy chancellor of Germany said: “With the rejection of the rules of the euro zone… negotiations about a programme worth billions are barely conceivable.”
There are a spate of meetings scheduled between European leaders today and tomorrow. And this is where some hard decisions will have to be made. If the politicians continue to believe in the idea of euro and the Eurozone, then they will have to treat Greece with kid gloves and not push for more austerity.
On July 20, 2015, Greece has to make a payment of 3.5 billion euros to the European Central Bank for a bond that is maturing. I guess things would have become much clearer in the Eurozone and Greece by then.
So, watch this space.

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

The column originally appeared on Firstpost on July 6, 2015

Markets are not panicking over Greece exiting the Eurozone. Here’s why

greece
In his wonderful book
How to Speak Money John Lanchester defines Grexit as the hypothetical exit of Greece from the Eurozone. Eurozone is a term used referring to countries which use euro as their currency.
As things stand as of now the chances of Grexit may have gone up. Over the weekend,
Alexis Tsipras of the Syriza party took over as the youngest prime minister of Greece. Breaking tradition Tsipras took a civil oath and not a religious one. He has also vowed not to wear a tie until he has negotiated Greece a new deal with Europe, reports the Guardian.
Tsipras and the Syriza party were elected on the plank to
end austerity in Greece and to write off its debt. “We will bring an end to the vicious circle of austerity,” Tsipras told the crowd after his party’s victory in the Greek elections.
Greece had joined the Eurozone on June 19, 2000, In the process it gave up its currency, the drachma. Before the euro was born, interest rates set by the Bundesbank, the German central bank were the benchmark for interest rates of other countries in Europe. Other central banks had to set interest rates accordingly.
Hence, Germany enjoyed the lowest interest rates in Europe. Some of this prestige was rubbed on to the European Central Bank (the central bank formed to manage the euro) and the euro. The countries which used the euro as their currency also started to enjoy low interest rates.
There were two reasons for the same. The first reason was that the weaker countries of the euro zone would no longer be able to print money to pay off their debt like they had done in the past. With the power to print money out of the hands of the government, it was widely expected that inflation would come under control. And with inflationary expectations (or the expectations that consumers have of what future inflation is likely to be) lower, interest rates came down.
The other reason for a fall in interest rates was the fact that the market assumed that in case there was any trouble with the weaker countries in the euro zone, the stronger ones (read Germany) would come to their rescue (which is how things have played out over the last few years).
As Neil Irwin writes in
The Alchemists—Inside the Secret World of Central Bankers: “In 1992, when low-inflation Germany could borrow money for a decade at 8 percent, Greece had to pay 24 percent…Greece gained the credibility of the European Central Bank, which itself was modelled after Germany’s Bundesbank.”
And this “credibility” in a few years ensured that interest rates in Greece were almost the same as they were in Germany. “Investors were willing to hand money over to the Greek government for pretty much the same interest rate they received for giving it to the German or the French governments. In 2007…German ten-year borrowing costs averaged 4.02 percent. Greek rates were 4.29 percent. Investors had become complacent, viewing Greek debt as an essentially risk-free substitute for bonds issued by better run countries like Germany, France of the Netherlands,” writes Irwin.
The Greek government made use of the low interest rates and went on a borrowing binge. The fiscal deficit of the Greek government was under 4% of the GDP In 2001. It went up to 15.7% of the GDP in 2009. The huge fiscal deficit was primarily on account of profligate public spending to finance the Greek welfare state. Fiscal deficit is the difference between what a government borrows and what it spends.
As author Satyajit Das wrote in an essay titled
Nowhere To Run, Nowhere to Hide in July 2010: “Profligate public spending, a large public sector, generous welfare systems, particularly for public servants, low productivity, an inadequate tax base, rampant corruption and successive poor governments created the parlous state of public finances.”
This led to the debt of the Greek government going up big time. When Greece joined the Eurozone in 2000 its government debt was a little over 90% of the GDP. By 2009 it had exploded to 129% of the GDP.
Since then Greece has had to be rescued by a series of bailout programmes involving the European Central Bank, the European Union and the International Monetary Fund. The total bailout amount stands at close to a whopping 240 billion euros or around $270 billion, as per the current exchange rate.
In order to ensure that the Greece government repaid its debt and the bailout amounts it was put on an austerity programme. As Mark Blyth writes in
Austerity—The History of a Dangerous Idea: “Cut spending raise taxes—but cut spending more than you raise taxes—and all will be well, the story went.”
But that did not turn out to be the case. The private sector wasn’t doing well and on top of that government spending also collapsed, leading to the Greek economy crashing. As Blyth writes: “In May 2010, Greece received a 110-billion-euro loan in exchange for a 20 percent cut in public-sector pay, a 10 percent pension cut, and tax increases. The lenders, the so-called troika of the ECB, the European Commission, and the IMF, forecast growth returning by 2012. Instead, unemployment in Greece reached 21 percent in late 2011 and the economy continued to contract.”
And the situation has only gotten worse since then. The current rate of overall unemployment in Greece is at 28% and among the youth it’s over 50%. In fact, the Greek GDP per head has shrunk by 22% since 2008,
reports the BBC. At the same time the Greek government debt has also soared to 176% of GDP by September 2014.
So, clearly the austerity programme wasn’t working and the Greek voters had had enough of it. In this environment the Syriza party came as a breath of fresh air. The rhetoric of the Syriza party and its leader Tsipras has toned down a little in the aftermath of the electoral win but it still remains very strong.
“The new Greek government will be ready to co-operate and negotiate for the first time with our peers a just, mutually beneficial and viable solution,” Tsipras said after winning the Greek election.
This posturing clearly has countries like Germany worried. The BBC reports that the German government spokesman Steffan Seibert said that it was important for Greece to “take measures so that the economic recovery continues”. What Germany is simply telling Greece here is to continue with the austerity programme and continue repaying the debt that it has accumulated over the years.
Tsipras and his party obviously don’t agree with this point of view.
As the Guardian reports: “His [i.e. Tsipras] first act as prime minister was to lay roses at a memorial to 200 Greek communists executed by the Nazis in May 1944. Analysts said the gesture left little room for interpretation: for a nation so humiliated after five years of wrenching austerity-driven recession, it was aimed, squarely, at signalling that it was now ready to stand up to Europe’s paymaster, Germany.”
And this is where the whole thing can snap. Germany wants Greece to continue with the austerity programme. Greece wants to re-negotiate the austerity as well as the total amount of debt that it owes. The question is who will blink first? Will Greece choose to leave the euro first? Will it be asked to leave?
The financial market does not seem to be unduly worried about this as of now.
One explanation that has been offered is that investors are now coming around to believe that the eurozone will emerge stronger if Greece leaves it, to the condition that other countries do not follow it.
But this is too strong an assumption to make. In case of Greece deciding to leave the euro, Greeks will start withdrawing their euros from their banks. This would happen primarily because the new currency (probably drachma in Greece’s case) would be less valuable than the euro. Hence, Greek banks would face bank runs. It would also mean that Greece would most likely default on its debt or repay them in less valuable drachmas. This could even influence the other countries( Portugal, Italy, Ireland, Spain) to do the same. Citizens of these countries expecting their countries to leave the euro would start withdrawing their euros from banks, leading to bank runs in these countries.
Long story short: The situation has become very murky to estimate how things will pan out.

The column originally appeared on www.firstpost.com on Jan 27, 2015

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)