It is in Greece’s interest to leave the euro
Greek politics is splitting into two camps to contest the coming election, one led by the rightwing New Democracy, the other by the leftwing Syriza. Both insist Greece must stay in the eurozone, even though New Democracy accepts the bailout programme, while Syriza rejects it. Yet harsh reality is now imposing itself. If Greece stays in the eurozone, it will die a slow death. If it leaves, it will go through a crisis, but will also have the opportunity to recover and reshape its society.
The eurozone crisis has little to do with fiscal incompetence in Greece or elsewhere. Its true cause is cumulative loss of competitiveness by peripheral countries as unit labour costs kept rising relative to the core. Large current account deficits resulted for the periphery, mirrored by surpluses for the core. Debts piled up as deficits were financed by borrowing abroad and as domestic banks expanded lending. There is an unbroken thread running from vast peripheral debt to frozen unit labour costs in Germany.
Austerity and structural reforms were aimed at fixing the problem by crushing wages to reduce peripheral unit labour costs. Even setting aside the social consequences, the task is hopeless as long as German unit labour costs remain in effect flat. Peripheral countries would have to press wages down indefinitely to even approach German levels of competitiveness. The most plausible outcome would be social unrest and eventual collapse of the eurozone.
Nor are fiscal transfers a true solution, desirable as they might be in the short term. They deal with the acute pressures of peripheral deficits, but not the underlying causes. Indeed, transfers might make things worse by cultivating a culture of dependence, turning entire nations into wards of surplus countries.
A real solution would involve, first, sustained improvement of productivity in peripheral countries and second, significant pay rises for German workers. But this would require a Marshall plan for Europe and a huge shift in the balance of power within Germany. Let us say politely that the chances are slim.
If Greece perseveres with current policies within the eurozone, its economy will shrink and stagnate. The country will become an impoverished, ageing and deeply unequal corner of Europe, a neo-colony in all but name.
Greek society is unlikely to accept this fate and will probably force a default on public debt in the first instance. There is simply no other way to make debt manageable within the foreseeable future. The bailouts have made things worse: Greek debt has increased, its composition altered from private to official and the governing law has changed from Greek to British. Default has become much more difficult but, in the end, Greece will have little choice.
Default ought to be accompanied by exit, releasing Greece from the trap of monetary union. Exit will inevitably entail a storm, likely to be greater because of the foolish policies of the past two years. Austerity has crippled the economy. Exit would restore competitiveness, allowing Greek producers to recapture the domestic market as well as boost exports. Restoring competitiveness would also boost employment, after the initial shock. Above all, exit would allow the lifting of austerity, giving Greece the breathing space it needs to restructure its economy.
The cost of exit would be severe, though probably nothing like the shoddy estimates produced by bank research departments. There would be parallel circulation of the new drachma, the euro and perhaps other forms of fiat money; a raft of litigation would follow the redenomination of contracts; bank balance sheets would become insupportable as some assets and liabilities, subject to non-Greek jurisdiction, would remain in euros; there would be shortages of oil, medicine and some foodstuffs in which there is a trade deficit; and company bankruptcies would rise.
None of these transitional costs justifies the slow death of continued euro membership. Tackling them would involve forceful state intervention including bank nationalisation, capital controls and an array of administrative measures to confront short-term shortages. Greece could then begin the slow process of recovery. The country has a highly trained, skilled and cohesive labour force, and several natural advantages. Its growth prospects are strong, as long as it wrenches power from the corrupt and venal classes that have run its affairs for decades.
The trigger for default and exit is impossible to predict, but perhaps it would be a bank run as political tensions ratcheted up. Once Greece had taken this path, it would be a matter of time before other peripheral countries followed. Germany would then have to confront the disastrous consequences of a monetary union put together very badly, and run even worse. This is, of course, not a problem that the Greek people could solve.