Clearly, there has been no shortage of the usual pundits who are all-too-ready to point out how a possible Greek default would necessarily lead to a cascading global crisis of confidence and a possible domino effect, in terms of subsequent defaults by other at-risk European nations. These predictions may all very well be true in varying degrees of severity, but even with this reality notwithstanding, there has been little dialog on the provenance of several past critical events that have brought Greece into this protracted mess in the first place.
The events of the preceding week, leading to the present memorandum agreement, have surfaced a particularly reptilian approach on the part of the “troika” (the collective term referencing the Commission of the EU, the European Bank, and the IMF) for Greece’s possibly receiving its next much-needed loan. If one accepts the central thesis statement that the lion’s share of Greece’s contemporary economic difficulties can be traced back to the original nefarious circumstances by which Greece was initially inducted into the Euro-zone, it is perhaps instructive to review the economic reality that was Greece circa 1999-2002, when it was implementing its monetary conversion from the Drachma to the Euro.
To frame the discussion, in George Tsebelis’ recent and most insightful blog entry, he correctly points out that there have been recent failings on both sides (the Greeks’ failure to realize the prior budgetary restructuring goals set with the prior plan and the troika’s failure to incorporate any meaningful strategy for Greece’s economic recovery), with rather, the totality of the immediate discussion centering on bondholders simply being able to extract their maximum pound of flesh, with the revised qualifying conditions. Tsebelis also correctly points out the issue of “the impossible request” contained in this set of revised assurances; namely that Greece must “certify” its compliance with the plan in categorical fashion, independent of any possible revised governing will, derived from anticipated national elections. As this is a terrible mandate that runs counter to the very underpinnings of democratic principles, there yet remains a sizable chance that the tentatively approved bailout package will prove to be a “bridge too far” in terms of its incursion into Greek sovereignty for the Greek populous to accept, with a default still occurring in the not-too-distant future.
So, from the above context of remaining uncertainty, it is germane to bring up an inconvenient truth from the past. This truth is, specifically, that this latest melee is not the first, but rather, the second pass for the troika (whether it be intentionally or unintentionally) in mortally wounding Greece’s economy.
Turn the clock back to 1999 and we find a Greek economy that was generally consistent in running with a modest annual budgetary deficit, resulting in predicable inflationary dynamics. However, with Greece being able to control the minting of its own currency at this time, it was able to essentially “self-medicate” in compensation for its recurrent trade deficit. Moreover, contrary to what was largely extolled by German economists at that time, Greece’s internal economy of both durable goods and consumables was largely met by a diverse internal production capacity for at least 65% of its economy, and it was thus largely able to buffer its domestic goods pricing from external factors.
However, the intrinsic fundamentals of Greece’s economy were quite brittle at this time. Foremost was the reality that an excessive number in the workforce were federal employees, with this reality negatively impacting on the size and exuberance of any possible growth in the private sector. Additionally, the expected revenue stream from both income and property taxes was far less than it should have been for an economy of Greece’s size, owing to chronic and widespread tax evasion. Together, these factors predisposed Greece to being highly susceptible to any changes in its macroeconomic climate. Although Greece failed to meet the convergence criteria for entry into the Euro-zone in 1998, the then-recently reelected Pasok party Prime Minister, Costas Simitis, who narrowly won in April 2000, was ultimately successful in re-bidding for Greece’s entry to the Euro-zone in a staged transition between 2001 and January 1, 2002. It can be seen that with Greece’s initial entry, the “perfect storm” of economic contraction was triggered, although few initially recognized it as such.
The first pound of flesh…
There is no playbook or single text that describes the optimal pathway to valuate and dynamically readjust one nation’s currency during the interesting transition period of adopting an external common currency, such as was the case with the transition from the Drachma to the Euro. However, the process does have elements that call out to game theory and in this light, both Germany and France clearly had home court advantage. The initially negotiated exchange rate of 340.75 to 1 was tied to an historically inaccurate conversion rate, with the European Bank being subsequently unmoved by supplemental Pasok party evidence of economic indicators forwarded as evidence of an improper valuation. Additionally, Germany and France made a number of arguments late in the equitization process that further diminished Greece’s ability to correct the final locked-in conversion rate, with no amount of legerdemain on Simitis’ part in the 11th hour being able to rectify the imbalance. Within several days (not even weeks) of the currency cross-over, Greeks were quick to point out that the cost of most domestic goods “jumped” inexplicably by 65-80%. In petitioning the European Central Bank for a review of this anomaly, the Pasok cabinet was met with merely platitudes and obfuscation that this apparent temporal discontinuity in the average Greek’s earning power would soon be rectified by “market forces.” It is an historic fact that such a rectification never took place.
In the aftermath of Greece’s cross-over to the Euro, the average Greek found their salary significantly diminished in purchasing strength, with this contributing to two run-away processes: 1) increased borrowing and 2) increased involution of the domestic economy, owing to a new reality of cash-starved government and banking sectors. And of course, with a constricting economy came the usual vicious circle of reduced personal and business income leading to reduced tax revenue, ultimately leading to the government’s reduced capability to pay its disproportionally vast workforce.
Unable to print its own (even inflated) currency, Greece became further strapped in debt, leading to the contemporary reality that it is now unable to meet its dept obligations. This finally brings us to the immediate present. Now after the troika’s having inflicted a mortal wound to Greece a first time, the blood-letting continues…
The Second Pound…
Now, in making its associated set of revised qualifying conditions for the latest loan, the troika has lost (or chosen to ignore) all institutional memory of the initial conditions that brought Greece to is current unsustainable dept burden in the first place. Moreover, it’s conditions make no attempt to concurrently provide relief for the exponentially constricting Greek economy, which threatens to further compound the Greek national deficit. The so-called proposed “haircut” on the balance owed to French and German financial institutional holders, as well as private holders of Greek debt will do precious little to decelerate the involution of what little Greek economy currently remains.
Notwithstanding the above legacy of poor choices on Greece’s part (initially entering the Euro zone, not correcting its flawed tax base and not exiting the Euro zone soon enough), there is still a very glaring provenance of bad-faith actions, on the part of the European Central Bank. Hence, it is not hard to see a certain elegance in Greece now simply choosing to divorce itself completely from the Euro as quickly as it can and rather, return to a difficult but time-proven strategy of rebuilding its economy from the inside. Yes, other economies may falter as a result of such a decision on Greece’s part. But to be very clear, Greece doesn’t own this nearly as much as does the Central European Bank, that was perfectly willing to see Greece suffer in the aftermath of its falling to usurious practices. Greece is unambiguously the victim here; perhaps a most financially-unsophisticated victim of sorts, but a victim nonetheless. Given that the default is essentially now a fait accompli, the real economic discussion should center on cogent strategies that Greece can adopt to re-start its economy, from the inside out, in the most expeditious fashion possible.