A Greek moral­ity tale

Financial Mirror (Cyprus) - - FRONT PAGE -

When the euro cri­sis be­gan a half-decade ago, Key­ne­sian econ­o­mists pre­dicted that the aus­ter­ity that was be­ing im­posed on Greece and the other cri­sis coun­tries would fail. It would sti­fle growth and in­crease un­em­ploy­ment – and even fail to de­crease the debt-to-GDP ra­tio. Oth­ers – in the Euro­pean Com­mis­sion, the Euro­pean Cen­tral Bank, and a few uni­ver­si­ties – talked of ex­pan­sion­ary con­trac­tions. But even the In­ter­na­tional Mon­e­tary Fund ar­gued that con­trac­tions, such as cut­backs in gov­ern­ment spend­ing, were just that – con­trac­tionary.

We hardly needed an­other test. Aus­ter­ity had failed re­peat­edly, from its early use un­der US Pres­i­dent Her­bert Hoover, which turned the stock-mar­ket crash into the Great De­pres­sion, to the IMF “pro­grammes” im­posed on East Asia and Latin Amer­ica in re­cent decades. And yet when Greece got into trou­ble, it was tried again.

Greece largely suc­ceeded in fol­low­ing the dic­tate set by the “troika” (the Euro­pean Com­mis­sion the ECB, and the IMF): it con­verted a pri­mary bud­get deficit into a pri­mary sur­plus. But the con­trac­tion in gov­ern­ment spend­ing has been pre­dictably dev­as­tat­ing: 25% un­em­ploy­ment, a 22% fall in GDP since 2009, and a 35% in­crease in the debt-to-GDP ra­tio. And now, with the an­ti­aus­ter­ity Syriza party’s over­whelm­ing elec­tion victory, Greek vot­ers have de­clared that they have had enough.

So, what is to be done? First, let us be clear: Greece could be blamed for its trou­bles if it were the only coun­try where the troika’s medicine failed mis­er­ably. But Spain had a sur­plus and a low debt ra­tio be­fore the cri­sis, and it, too, is in de­pres­sion. What is needed is not struc­tural re­form within Greece and Spain so much as struc­tural re­form of the eu­ro­zone’s de­sign and a fun­da­men­tal re­think­ing of the pol­icy frame­works that have re­sulted in the mon­e­tary union’s spec­tac­u­larly bad per­for­mance.

Greece has also once again re­minded us of how badly the world needs a debtrestruc­tur­ing frame­work. Ex­ces­sive debt caused not only the 2008 cri­sis, but also the East Asia cri­sis in the 1990s and the Latin Amer­i­can cri­sis in the 1980s. It con­tin­ues to cause un­told suf­fer­ing in the US, where mil­lions of home­own­ers have lost their homes, and is now threat­en­ing mil­lions more in Poland and else­where who took out loans in Swiss francs.

Given the amount of dis­tress brought about by ex­ces­sive debt, one might well ask why in­di­vid­u­als and coun­tries have re­peat­edly put them­selves into this sit­u­a­tion. Af­ter all, such debts are con­tracts – that is, vol­un­tary agree­ments – so cred­i­tors are just as re­spon­si­ble for them as debtors. In fact, cred­i­tors ar­guably are more re­spon­si­ble: typ­i­cally, they are so­phis­ti­cated fi­nan­cial in­sti­tu­tions, whereas bor­row­ers fre­quently are far less at­tuned to mar­ket vi­cis­si­tudes and the risks as­so­ci­ated with dif­fer­ent con­trac­tual ar­range­ments. In­deed, we know that US banks ac­tu­ally preyed on their bor­row­ers, tak­ing ad­van­tage of their lack of fi­nan­cial so­phis­ti­ca­tion.

Ev­ery (ad­vanced) coun­try has re­alised that mak­ing cap­i­tal­ism work re­quires giv­ing in­di­vid­u­als a fresh start. The debtors’ prisons of the 19th cen­tury were a fail­ure – in­hu­mane and not ex­actly help­ing to en­sure re­pay­ment. What did help was to pro­vide bet­ter in­cen­tives for good lend­ing, by mak­ing cred­i­tors more re­spon­si­ble for the con­se­quences of their de­ci­sions.

At the in­ter­na­tional level, we have not yet cre­ated an or­derly process for giv­ing coun­tries a fresh start. Since even be­fore the 2008 cri­sis, the United Na­tions, with the sup­port of al­most all of the de­vel­op­ing and emerg­ing coun­tries, has been seek­ing to cre­ate such a frame­work. But the US has been adamantly op­posed; per­haps it wants to re­in­sti­tute debtor prisons for over in­debted coun­tries’ of­fi­cials (if so, space may be open­ing up at Guan­tanamo Bay).

The idea of bring­ing back debtors’ prisons may seem far-fetched, but it res­onates with cur­rent talk of moral haz­ard and ac­count­abil­ity. There is a fear that if Greece is al­lowed to re­struc­ture its debt, it will sim­ply get it­self into trou­ble again, as will oth­ers.

This is sheer non­sense. Does any­one in their right mind think that any coun­try would will­ingly put it­self through what Greece has gone through, just to get a free ride from its cred­i­tors? If there is a moral haz­ard, it is on the part of the lenders – es­pe­cially in the pri­vate sec­tor – who have been bailed out re­peat­edly. If Europe has al­lowed th­ese debts to move from the pri­vate sec­tor to the public sec­tor – a well-es­tab­lished pat­tern over the past half­cen­tury – it is Europe, not Greece, that should bear the con­se­quences. In­deed, Greece’s cur­rent plight, in­clud­ing the mas­sive run-up in the debt ra­tio, is largely the fault of the mis­guided troika pro­grammes foisted on it.

So it is not debt re­struc­tur­ing, but its ab­sence, that is “immoral.” There is noth­ing par­tic­u­larly spe­cial about the dilem­mas that Greece faces to­day; many coun­tries have been in the same po­si­tion. What makes Greece’s prob­lems more dif­fi­cult to ad­dress is the struc­ture of the eu­ro­zone: mon­e­tary union im­plies that mem­ber states can­not de­value their way out of trou­ble, yet the mod­icum of Euro­pean sol­i­dar­ity that must ac­com­pany this loss of pol­icy flex­i­bil­ity sim­ply is not there.

Seventy years ago, at the end of World II, the Al­lies recog­nised that Ger­many must be given a fresh start. They un­der­stood that Hitler’s rise had much to do with the un­em­ploy­ment (not the in­fla­tion) that re­sulted from im­pos­ing more debt on Ger­many at the end of World War I. The Al­lies did not take into ac­count the fool­ish­ness with which the debts had been ac­cu­mu­lated or talk about the costs that Ger­many had im­posed on oth­ers. In­stead, they not only for­gave the debts; they ac­tu­ally pro­vided aid, and the Al­lied troops sta­tioned in Ger­many pro­vided a fur­ther fis­cal stim­u­lus.

When com­pa­nies go bank­rupt, a debte­quity swap is a fair and ef­fi­cient so­lu­tion. The anal­o­gous ap­proach for Greece is to con­vert its cur­rent bonds into GDP-linked bonds. If Greece does well, its cred­i­tors will re­ceive more of their money; if it does not, they will get less. Both sides would then have a pow­er­ful in­cen­tive to pur­sue pro-growth poli­cies.

Sel­dom do demo­cratic elec­tions give as clear a mes­sage as that in Greece. If Europe says no to Greek vot­ers’ de­mand for a change of course, it is say­ing that democ­racy is of no im­por­tance, at least when it comes to eco­nomics. Why not just shut down democ­racy, as New­found­land ef­fec­tively did when it en­tered into re­ceiver­ship be­fore World War II?

One hopes that those who un­der­stand the eco­nomics of debt and aus­ter­ity, and who be­lieve in democ­racy and hu­mane val­ues, will pre­vail. Whether they will, re­mains to be seen.

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