THE GREEK CRISIS EXPLAINED - SORT OF
Are you as economics challenged as I am? Good - you’ll enjoy this. If you’re an economist by trade or got your PHD and are driving a cab, or working at The Gap, you may want to skip this.
Unbeknown to most Americans - unless you read the Wall Street Journal, Bloomberg, foreign newspapers or can stomach Paul Krugman for more than 200 words - there has been a full blown panic in Europe this last fortnight or so over the state of the Greek economy. Why this is true is kind of murky to me but it has something to do with the huge deficit the country is running and how close they are to a sovereign default - that is, the Greeks will default on on their debt to the rest of the world. This has the potential of starting a series of defaults of the weaker EU economies comprising about 10% of EU GDP.
A nice, simple, easy to understand definition from the TimesOnline:
The failure of Lehman Brothers in September 2008 symbolises the crisis. The biggest corporate bankruptcy in US history transformed a credit crunch into full-blown financial panic. But Lehman was a private company. A country unable to refinance its debt is a much bigger problem.
Greece has accumulated a massive public debt of € 300 billion. Its budget deficit amounts to almost 13 per cent of national income. Its Government has pledged austerity measures to reduce the deficit to 9 per cent of GDP in the next year and to 3 per cent in 2012. These projections are — and this is a euphemism — improbable. If financial confidence evaporates, then the contagion might spread to other indebted European economies. Sober analysts speak of the greatest test for the single European currency since its launch in 1999, and even of the possibility of Greece’s exit, voluntary or forced, from the euro.
The case against a bailout is formidable. No one forced Greece to borrow. Its previous Government, which lost office in October, understated the size of the budget deficit. A rescue is in effect asking the taxpayers of other eurozone countries to pay for irresponsible decisions over which they had no control. The main losers would be Germany’s prudent taxpayers. A rescue might also destabilise Greece. The prospect of foreigners attaching conditions to how the economy is run would be politically explosive.
In short, this is a two pronged crisis; not only is Greece up to its eyeballs in red ink but the other shoe that is poised to drop is that no one is exactly sure what should be done about it.
If we were talking about a Third World country, the solution would be found in the International Monetary Fund who would be more than happy to loan Greece some American taxpayer money to get out from under. Alas, no self-respecting First World country would be caught dead accepting loans from the IMF. Such things are just not done, even though Greece may go under and take a good portion of the European economy with it.
There are other interesting aspects to this crisis; the old government hiding the extent of the debt - evidently with the help of Goldman-Sachs. And Greek workers are none too pleased either. Rather than “taking one for the team,” government unions are saying “cut his not mine.” Pay close attention because when it becomes necessary in this country to cut government workers pensions and pay, we’ll look a lot like Greece.
Niall Ferguson writing in the Financial Times:
That leaves just three possibilities: one of the most excruciating fiscal squeezes in modern European history – reducing the deficit from 13 per cent to 3 per cent of gross domestic product within just three years; outright default on all or part of the Greek government’s debt; or (most likely, as signalled by German officials on Wednesday) some kind of bail-out led by Berlin. Because none of these options is very appealing, and because any decision about Greece will have implications for Portugal, Spain and possibly others, it may take much horse-trading before one can be reached.
Yet the idiosyncrasies of the eurozone should not distract us from the general nature of the fiscal crisis that is now afflicting most western economies. Call it the fractal geometry of debt: the problem is essentially the same from Iceland to Ireland to Britain to the US. It just comes in widely differing sizes.
What we in the western world are about to learn is that there is no such thing as a Keynesian free lunch. Deficits did not “save” us half so much as monetary policy – zero interest rates plus quantitative easing – did. First, the impact of government spending (the hallowed “multiplier”) has been much less than the proponents of stimulus hoped. Second, there is a good deal of “leakage” from open economies in a globalised world. Last, crucially, explosions of public debt incur bills that fall due much sooner than we expect.
So Germany, reluctantly, and even though they could probably ride out the storm of a financial crisis if Greece and a few other weak EU sisters were to go under, appears ready to pony up and put its own taxpayers on the line in order to save the Euro and hence, the cornerstone of the EU itself:
European leaders, facing a crucial test for the credibility of their common currency, promised “determined and coordinated action” to safeguard the euro as they sought to persuade jittery bond market investors that Greece would not be allowed to default on its government debt.
Herman Van Rompuy, president of the European Council, also said that the European Union would monitor closely Greece’s pledges to reduce its alarming budget deficit, and would propose measures for Athens drawing on the expertise of the International Monetary Fund.
Further work by finance ministers on assistance for Greece, and the conditions that would be attached to any aid, will take place early next week. But the initial reaction in the markets was disappointment at the lack of detail in the announcement. The euro dropped 0.8 percent to $1.3630.
Mr. Van Rompuy, who insisted that the Greek government “has not requested any financial support,” issued his statement after meeting leaders of Greece, France and Germany in Brussels before the meeting of all 27 European Union national leaders. German Chancellor Angela Merkel said before the announcement: “Greece won’t be left alone but there are rules and these rules must be adhered to. On this basis we will agree on a statement.”
As good bankers are wont to do, they will perform feats of legerdemain, hiding the transfer of cash from Germany and France (probably), making it appear that it is anything except a massive bailout from one government to another. This will save Greek sensibilities and perhaps assuage the feelings of German taxpayers.
But don’t kid yourself. This crisis is far from over and might yet reach our shores, precipitating another meltdown in the financial sector. Much would apparently have to happen in Europe for that scenario to come true, including defaults by some of the larger economies like Great Britain. But as this phantom recovery continues in the US, it is well to bear in mind that outside forces could yet derail this weak economic comeback.
The Greek government debt exceeds their GDP, and has reached a point that no one thinks they can ever re-pay it. Thus, everyone is reluctant to lend them any more money. At this point I’m not sure they can be bailed out, unless Germany swallows Greek debt.
It would seem that debt passing the GDP of a nation is a huge psychological point. At our rate we’ll find out what that means in about 3 years. That is if our economy grows at 3.5% annually, if not, sooner.
Comment by Allen — 2/11/2010 @ 1:37 pm
You might want to look at what Brad deLong has to say about some of Fergusson’s math, and the conclusions he draws from it.
http://delong.typepad.com/sdj/2010/02/deficit-projections-ooh-boy.html
Comment by Robert Bell — 2/11/2010 @ 3:11 pm
We had a joke once about the EU if you compare it with a train how it should and how it should not be run. Anyways the No-no’s were England is in charge of the food, Germany of the humor and Greece of the finances.
The reason to admit Greece to the EU was merely historical, cradle of civilization etc; not at any time did Greece contribute anything substantial to the EU economically. It doesn’t matter who is in charge there, Greece is not going anywhere. So they should be given the chance to vote, stay in the EU and accept oversight from Germany and France or leave. It is so simple it will never happen.
Comment by funny man — 2/11/2010 @ 10:12 pm
Exactly, funny man. Greece marginally was better than Turkey is today, but marginally.
Germany has opted not to participate in the bailout now. This will be a huge economic story if the other major EU financial powers follow suit.
Comment by obamathered — 2/12/2010 @ 9:09 am
“…no self respecting first world country would be caught dead accepting loans from the IMF…” Greece could ask the IMF for help today and have the funds available by the end of the week but they want do this. They’d rather go under? The reason such “things are not done” is because of a fundamental hatred for America in the leadership circles of Western Europe.
For what its worth the Americans cannot afford to do this either. We are up to our eyeballs and beyond in our own debt. I think America would do well to withdraw from the IMF entirely. At a minimum, no more American tax payer dollars should be submitted to the IMF for a minimum of two years. This should allow us the time necessary to conduct a top down review of all foreign policy expenditures so we can make the proper decisions as to which programs we are able to continue and which ones serve American interests.
As has been pointed out in the thread, it appears that Germany has elected not to participate in the bail out. This appears to be a wise decision on their party. Why should they risk injuring their citizens in this project?
Comment by B.Poster — 2/15/2010 @ 11:09 am