It is now clear that the problems of
the Greek economy - and the eurozone - have not been and cannot be solved
by the large infusion of emergency finance from the ECB and the IMF. The
Greek government is being asked to implement austerity measures that will
cause a major decline in incomes and employment not just now but in the
foreseeable future, and which will not correct the existing imbalances
but actually worsen them.
The heavily-indebted poor countries (HIPCs) of Africa could tell the Greeks
a thing or two about this process. They could tell them how the deflationary
measures that are imposed on governments cause economic activity to go
into a downward spiral that destroys existing capacities and prospects
for future growth, and pushes large sections of the population into a
fragile and insecure material existence. They could tell them about how
it is fundamentally unsustainable, because the downslide in GDP makes
it ever harder to service the debt, which in turn keep not only piling
up but even expanding because of the unpaid interest that keeps getting
added to the principal and then compounded, so that the country’s debt
just keeps rising even with no fresh inflows. They could tell them how
ultimately there will be no alternative to restructuring the debt, because
the problem will only grow in magnitude even with (and partly because
of) the most stringently applied austerity measures. They could tell them
about their own experience of several lost decades of economic retrogression,
which could have been avoided had the debt restructuring taken place much
earlier and a different set of policies for economic recovery been pursued.
Austerity programmes that involve cuts in public spending will have a
depressing impact on the economy and make it much harder to "grow"
out of the crisis. In the Greek case, in the pre-crisis period the public
sector contributed around 40 per cent of GDP, so cutbacks here are likely
to have very large negative multiplier effects, lowering economic activity
and therefore tax revenues, and perversely making it harder to reduce
the budget deficit. In the case of the US in the middle of the crisis
in 2008 and 2009, everyone (including the IMF) agreed that it was necessary
for the US government to spend more in order to help the economy recover
and keep incomes from collapsing. That economic logic does not disappear
in the case of other countries.
This experience should point to the obvious lesson: that there is no alternative
to a major restructuring of the Greek debt, involving a loss taken by
the international lenders who did not exercise due diligence in the act
of lending in the first place. If it does not happen now, it will in any
case have to happen at some time in the future, after creating a great
deal of material distress in Greece.
Part of the problem is that when a country is seen to be in payments difficulties,
markets force a major increase in the costs of servicing such debt. This
is the sense in which what is happening in Greece today is similar to
what has already happened in a number of other countries, mostly developing
ones, because interest payments rise as the debt is seen to be more risky.
In a sense, a lot of restructuring is already occurring in secondary markets
where the price of Greek bonds has tumbled. Such losses are occurring
for banks all the time in the private sector, and they are usually able
to handle it. The point is to give that advantage to the Greek government,
rather than to elements outside the economy, so that the government has
more fiscal room for maneouvre and can try to generate an economic recovery
rather than add to the slump.
The recent case of Argentina shows that such a restructuring can occur
without really damaging a country's international position (or fundamentally
harming the banks involved or reducing their ability to lend) and can
in fact contribute to growth prospects. (Of course Argentina had the advantage
of currency depreciation, having abandoned the currency board arrangement
that tied the peso to the US dollar in the midst of its financial crisis
in 2001.)
Why is such an obvious conclusion not even being talked about? One likely
reason is that a restructuring of the Greek debt would involve quite a
large haircut for the German and French banks who lent extensively during
the boom, and helped to create the imbalances that have made the Greek
economy less competitive than that of Germany, for example. This cannot
be allowed to happen because of the greater lobbying power of finance,
so the burden of adjustment is being placed entirely on the Greek people,
for several generations, in what will clearly be an unsustainable process.
It gets worse. Other countries that are seen to have potential problems
like Greece are already moving towards austerity measures and contractionary
macroeconomic policies that are bound to threaten the frail economic recovery
and engender or intensify the next recession. Spain has just announced
not only tightening of monetary policies, but fiscal contraction involving
cuts in public sector pay and pensions and much else. This is particularly
remarkable because until two years ago Spain ran a fiscal surplus (the
deficit was because of the private sector) and its recent deficits are
entirely a result of the crisis.
Ireland is already undergoing the most extreme deflationary package involving
significant decline in GDP and slashing of public expenditure in all sorts
of areas from physical infrastructure to education. The Baltic countries,
not only Latvia which has an IMF programme but Estonia where the pain
is self-inflicted, are experiencing dramatic declines in incomes, employment
and wages because of their severe austerity packages. In Romania there
was the recent remarkable spectacle of policemen taking to the streets
to protest against their wage decreases. In Britain the new government
is already talking about measures to cut the deficit by slashing spending
and raising indirect taxes.
All these countries are hoping that they can export their way out of this
mess, but that is simply not feasible as he numbers do not add up. It
is close to ridiculous to expect Greece to be able to export its way out
of trouble. It is not only that Greece is a member of the eurozone and
therefore will require really sharp declines in price to appear competitive
relative to trading partners. It is also that most of Greece's trade is
with other countries in the eurozone. This means that even tourism (a
major foreign exchange earner) will not generate more volume without significant
price falls. But in general, obviously every country cannot hope to export
its way out of growth, because of the fallacy of composition, and the
suppression of domestic demand will only make it harder for other countries
to use exports to grow. In fact the European Union as a whole will head
for a major recession if all its members try to rely on export-led growth.
So these countries - and by association, the rest of Europe - are effectively
condemning themselves to a period of stagnation or declining incomes,
with all the economic and social problems that will generate.
How can such an illogical set of policies be taken so seriously? The problem
is that the power of finance - in politics, in media and in determining
national and international economic policies - remains undiminished despite
its recent excesses and failures. That is why the restructuring of public
debts is not on the agenda; that is why talk of fiscal balancing so rarely
even mentions taxes on capital, and much less on the same financial sectors
that benefited from large publicly funded bailouts and are now holding
to ransom the hands that have fed them.
If the power of the financial class cannot be curbed in any fundamental
sense (as seems to be the case at present) then the opportunity costs
of continuing with a currency union without a political union become higher
every day and may reach the turning point at which countries decide it
is no longer worth it. So if the eurozone is to survive intact (without
forcing the exit of some members like Greece) there must be much more
significant fiscal federalism than has yet been seen. The relatively stingy
attempts to provide emergency finance at interest rates that are still
high do not constitute real fiscal federalism. Basically some institution
in Europe must be able to play the role that the US federal government
currently plays vis-à-vis Florida or California. Without such a
(fairly major) commitment, it is difficult to see a long-term future for
the current eurozone.