Winner of the New Statesman SPERI Prize in Political Economy 2016

Monday 23 July 2012

Playing with Fire in the Eurozone

                Bloomberg quotes German Vice Chancellor Philipp Roesler as saying “What’s emerging is that Greece will probably not be able to fulfil its conditions. What is clear: if Greece doesn’t fulfil those conditions, then there can be no more payments.” (HT PK) OK, this is just the kind of thing you would expect to be said in negotiations between creditors and debtors. We have been here before, and the rhetoric appeared to work on the Greek electorate. In the Cold War, we mercifully only had a few moments like this, and we were lucky. But if you keep playing this game, one day you will lose control.
                Sometimes it seems as if Germany and its supporters are like a poker player with a very weak hand, who has managed to convince all the other players that their hand is much stronger than it is. But there is a danger that you may get so good at playing this bluff, that you may stop looking at your cards and actually believe you have a strong hand. Or worse still, that although your hand is weak, you deserve to have the better cards, and therefore you do have the better cards.
                Reading the latest IMF report on the Eurozone, it seems to me that the IMF has decided they cannot be a part of this game anymore. The idea that those dastardly Greeks just refuse to take their medicine is absurd. Take a look at what has happened to fiscal policy in Greece, measured in a way that gives a true indication of the extent of policy adjustment that has been made.

Underlying primary deficit in Greece – OECD Economic Outlook June 2012

Of course the slide into deficit after joining the Euro was very bad policy. No correction was going to be easy. But a move from a 10% of GDP deficit to an expected 5.5% surplus in just four years is a cold turkey cure. The patient should be receiving support and kind words, rather than being told that they are not fulfilling their obligations. The worry is that those saying these foolish words have begun to believe them.
                I have talked about why Greece leaving the Eurozone would be much worse for the Eurozone than Greece elsewhere. I’ve also speculated that as a result it will not happen, which may have been a foolish thing to believe. But even if it is not foolish, and the Eurozone gets through all this, the long term damage of what is happening now should not be underestimated.
                A sad example of this was the end of a blog debate between a German economist (Kantoos) and a Greek economist (Yanis Varoufakis). For links to the debate, see this post. At first this debate seemed like an island of reasonableness among all the political and media nonsense. But the discussion has ended on a sour note. Varoufakis put forward (both inside and outside the debate) the following thought experiment. Imagine the leaders of the UK or US being offered a credible magic button, which if they pressed would solve their macroeconomic problems. Of course, he argues, they would press it. If Merkel was offered a similar button that would, among other things, lead to market pressure on Greece and other Eurozone countries disappearing, would she press it? Varoufakis was not sure, in part because of pressure from the German public. He writes      

“For two years now, the German public has become convinced (falsely) that Germany has escaped the worse of the Crisis because of the German people’s virtuous embracement of thriftiness and hard work; in contrast to the spendthrift Southerners who, like the fickle grasshopper, made no provisions for when the tide turns nasty. This mindset goes hand in hand with a moral righteousness which implants in good people’s hearts and minds a penchant for exacting punishment on the grasshoppers – even if punishing them also comes at a cost to themselves.”

                Kantoos was quite shocked at this. He writes

“Yanis, I am sorry, but that is very offensive, and it is fuelling the mutual disdain in Europe. What is more, it misunderstands the concerns of the German public and its attitude towards Europe, but that is common in the international press.”

                Now I’m less interested in who is right or wrong here, as that the debate should have ended this way. (Although I have to say, I’m not sure Varoufakis is right about the UK. That button actually exists, it is called balanced budget fiscal expansion, and it has not been pressed!) When parts of an economy have suffered greatly, and the leaders of other countries appear not to recognise this fact, have any sympathy for it, and at least appear to have a large hand in prolonging that suffering, even the wisest of people will begin to suspect the worst of these countries motives. Whether they are right or wrong does not matter too much, because the damage is done. And if Greece leaves, that experience is likely to be repeated again and again in other countries, if it hasn’t happened already.
                In these circumstances, the idea that a solution to current problems involves moves to greater union become fanciful.  Even if each individual crisis passes, the slow poison of mistrust that these events create may end up killing the project. Those in the Eurozone with more sensible heads on their shoulders need to stop this poker game, quickly.


  1. It seems to me that the Germans have two goals that ordinarily would contradict each other. One is to have a very strong and stable currency. The other is to continually export more than they import. The creation of the euro allowed them pursue both of these goals for a while but at the cost of planting the seeds for a crisis.

    Part of the solution would be for Germany to reverse their goals for a few years. Give all German workers and retirees a 5% raise. Give them tax breaks to take vacations in Greece and Spain and Portugal. Buy olive oil and give it away for free in Berlin. Live it up for a while and let the people who owe you money have a chance to make some.

    Then they might be able to pay it back.

    1. Sounds like an excellent policy. Once you explain that to German voters, they might even like it.
      Jonathan Portes expressed a similar idea but I guess that it is too simple and too painless to be taken seriously (

  2. Southern countries should raise the bet of Roesler and say what they're gonna do if Germany persists in asking more austerity when growth is negative, and primary budget are positive:
    - unilaterally default (partially or completely)
    - print small amounts of IOUs for their domestic spending (in order to loosen the austerity pressure)

    This might not be without dangers, but if there are no more payments from the North and the South is bankrupt, that's what is going to happen anyway. And the North would feel as much heat as the South.
    So the Greeks and the Spanyards might just want to remind that to the North.
    Aggressive poker players become rapidly more careful when they realize that their opponents might have the nerves to go all-in.

    (Further considerations on the prospect for IOUs in Spain:

  3. Tank you Zorblog. Since I am proposing ideas that have no chance of being implemented, here's another one. I know that the U.S. Fed has been considering another round of quantitative easing. When they do this maybe they should buy Greek and Spanish government debt. This would pull those interest rates way down and give them some space to recover. It would also push up the value of the Euro and make the Germans happy. And with all the new dollars over there, maybe they could buy some stuff made in the USA and that would make me happy.

  4. Reading the German press every day it is impossible not to think that Yanis is right.
    It is sometimes dressed up as a belief that southern Europe needs structural reforms, but it goes beyond that. I think it is a comfort blanket to reassure German opinion that they are safe because the southerners in Europe have brought this on themselves. Which of course is more true for Greece than for Spain

    1. Bruegel also have a post summarising recent reaction in the German press:
      What is really depressing are the suggestions that Greece is not willing to solve its problems. This just ignores the facts, such as the data I showed in my post. However on European issues you could find similar silly statements in the UK press - it is more difficult to know how much they influence decisions, or reflect considered public views.

    2. Of course, Yanis is right. Angelka Merkel is more popular than ever. Well, not all germans think like that, but too many. Twice the pride, double the fall...

    3. Gobanian

      "Which of course is more true for Greece than for Spain"

      Indeed it is.
      I am Greek and although there is the danger of others using the good old stereotype of a Greek trying to avoid responsibility ,let me remind you something that everybody forgets.
      The fact that life has many problems ,not just economic and that all these problems may interlink. Geopolitics is a far more important issue in Greece.

      The manipulation in my country is extreme. Let me just mention the Cooper agreement signed in 1940. It ended in 2010 ,a perfect time to get Greece "bankrupt(ed)".
      We just found out.

      This agreement was about the underground and underwater wealth of Greece everybody was hiding from the people.
      Slowly Greece was deindustrialised ,the only company we had for drilling closed without any explanation.
      IMIA ,an islet ,was attacked by Turkey in 1996 and NATO ,for reasons of peace declared it "grey zone" and then the US started drilling osmium for free.
      We have many monopolies in resources.
      We possibly are the richest country in the world but it is not the Greeks that will enjoy this wealth.

      For us the debt is artificially increased while the Greek economy was funtioning extremely well. The internal problems were used as an excuse for other purposes.

      So ,while Greece is to blame for her own problems ,think again how all these are interconnected.

      Another example is the speech of the head of parliament to the new president of democracy in Greece years ago.
      "You are becoming president in a time when Europe will try to push for full integration ,our sovereignty will be decreased ,our borders will be decreased for purposes of "peace" and the rights of people will change and protected but also violated by new forms of governance."

      Nice to know the future ,isn't it?

      After 2007 ,every euro loaned to Greece had a ROI of 12236%.
      Do we really owe?
      What about the money owed to Greece?

      Thank you for the reforms ,they are needed. But we know they are used for loss of sovereignty and cheap resources. Our government is working with the Troika and the stories of Greece not having done anything are a filthy lie.

      Also thank you to all those that were all too willing to believe media propaganda against a whole nation.

      I hope it will soon come back and bite you.
      I hope the Greek people WAKE UP and start KILLING.

      Last but not least a nation is not a household ,our debt was serviced ,the money loaned were going back to Germany through corporation scandals ,never used by the Greek people , our welfare money were stolen mostly for investments with financial companys etc etc.

      Suddenly we hear about profligate Greeks and the world accusing the people for a crisis that has nothing to do with Greece.

      We ,the people ,trust noone and consider many as total imbeciles (not excluding ourselves for having trusted the wrong people for so long. OUR ONLY TRUE MISTAKE.)

    4. Gobanian

      Ofcourse with what i said i contradict myself for the phrase "indeed it is". That Greece brought all these on herself.

      You have to ask which Greece?
      The Troika's Greece or the people's Greece?

      And you have to ask the same for your country too.

      Scapegoating Greece is not honourable and frankly we believe that everybody is escaping responsibilities (especially the Germans).

      The true name of the Greek PM known as Kostas Simitis that sold out IMIA is Aaron Avourtis. He is also responsible for the collapse of the Greek stock market after he had convinced everybody to invest because of great potential. His advisor was Stournaras ,the minister of Economy today.

      Is any pattern visible?

    5. Macro, you only have to go to Greece to know the Greek government is not interested in solving its problems. Merkel is right and Greeks agree with her.

      And your figures do not take into consideration interest payments which would make it a deficit by around 1-2% going from your figures. In reality it is going to be bigger, I predict around 4% this year, more than 4% next year if the government keeps getting bailout

    6. As I said, the primary deficit indicates the extent to which policy has changed, and why you are completely wrong to say the Greek government is not interested in solving its problems.

  5. @Anon before me: I could think of a gazillion reason why Merkel's ratings are up that have nothing to do with her presumably punishing Greeks on behalf of the German public.

    correlation =/= causation, why is that so hard to understand?!

    1. It's me again, the first anon: Well, my observations here in germany are indeed, that most people like the hard way Merkel is riding with europe. So, maybe not all gazillion reasons have to do with greece, but one or two. And maybe the Greece are luckier than they think, because Merkel dooesn't think about punishing Greeks, rather than rescuing german banks... Merkel still talks about Greece's future in the EURO. Here companions, who want to win near elections, are the dudes who talk about Grexit. (They wouldn't, if they didn't expect it to be popular...)

      And better don't discuss correlation and causation with mathematicans... ;-)


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