Interviewed by FXstreet.com on Grexit…

  One year ago we heard for the very first time about rumors of Greece leaving the Eurozone. What has changed in one year to go from considering it just gossip to taking it as a real fact?

Something very simple: at long last the truth bubbled up to the surface of the murky pond of subterfuge that is Europe’s response to the Crisis.

In May 2010 Europe decided to pile onto the insolvent Greek state the largest loan in history on condition that Greece would reduce its national income (from which new and old loans would have to be repaid).

A year later, in 2011, it became clear that the policy was simply delaying the inevitable default. It was at that time that rumours of a Greek expulsion were first uttered. Europe’s response was to repeat its error: with one hand to write down around  95 billion of Greek debt while with the other adding another  130 billion to the same pile of debt, again on condition of further diminutions in Greece’s national income (also known as ‘austerity’)!

It only took a few months for the world to realise that this was simply a form of organised madness, and that the Greek state’s insolvency was a growing black hole. Naturally, the rumours of a Greek exit turned into a raucous cacophony. Of course, it is all smoke and mirrors. Again! For if Europe were ready for a Grexit, as per the latest neologism, there would be no need for rumour-mongering: Greece would have been forced out overnight and without much fanfare or early warning. Alas, it is not that simple. The Eurozone is simply not up to it, despite the threats and protestations of assorted Frankfurt-based bankers. And so the rumours of a Grexit get louder in a sad relection of Europe’s astonishing capacity for what I call reverse alchemy (i.e. beginning with gold and ending up with lead).

Would Greece’s departure from the single currency shake the integrity of the Eurozone to the point of its eventual break-up, or in the longer-term, even the integrity of the European Union itself?

Yes and yes. The lack of a constitutional (or Treaty-enabled) process for exiting the Eurozone has a solid logic behind it. The whole point of creating the common currency was to impress the markets that it is a permanent union that will guarantee huge losses to anyone bold enough to bet against its solidity. A single exit suffices to punch a hole through this perceived solidity. Like a tiny fault line on a mighty dam, a Greek exit will inevitably lead to the edifice’s collapse under the unstoppable forces of disintegration that will gain a toehold within that fault line. The moment Greece is pushed out two things will happen: a massive capital flight from Dublin, Lisbon, Madrid etc., followed by a reluctance of the ECB and Berlin to authorise unlimited liquidity to banks and states. This will mean the immediate bankruptcy of whole banking systems plus Italy and Spain. At that point, Germany will face a hideous dilemma: jeopardise the solvency of the German state (by committing a few trillions to the task of saving what is left of the Eurozone) or bailing itself out (i.e. Germany leaving the Eurozone). I have no doubt that it will choose the latter. And since this will mean tearing up a number of EU Treaties and Charters (including the ECB’s) the EU will, in essence, cease to exist. Our predicament is as simple as it is terrifying.

  A return to the drachma would help Greece decrease its debt load, but would also imply a series of risks for the country such as high inflation, mass unemployment, flight of capital, civil disorder. Do the advantages outweigh the disadvantages in your opinion?

They certainly do not! I keep repeating, especially to my American friends, that exiting the euro is not the same as cutting a peg (as Argentina did a decade ago) or exiting the Gold Standard (as Britain did in 1931, followed by the US a year later). The profound difference is that Argentina and Britain had their own currency and they simply severed its link to some exogenous hard currency – allowing it wisely to drift ‘south’ in order to restore competitiveness etc. Greece, Spain et al do not have a currency to devalue. We must do something that has never happened in history: Create a currency in order to devalue it! And since it takes months to create a currency, we are talking about driving countries that are already savaged by recession into an un-monetised state for months on end.

One only needs to state this to realise the immensity of the hardship it will create. Nevertheless, this is NOT an argument for staying the course specified for our countries by Europe’s powers-that-be. In fact, if we try to stay this irrational course, we shall be working (unwittingly) toward a disintegration of the Eurozone that is even faster than it need be. It is in this sense that I think that those who are worried by the prospect of a Eurozone disintegration should be seeking an immediate circuit-breaker like, for instance, a Greek ‘No’ to the next loan installment from the troika (until and unless there are new, workable, rational terms and conditions).

  Do you agree with Merrill Lynch analysts that if Greece left the Eurozone, the area’s GDP would decrease by at least 4%?

Yet again Merrill Lynch have put on display their incompetence with numbers, let alone concepts. Where on earth did they fish out that 4% from? Not only is it the wrong order of magnitude (for nothing less than 30% makes sense) but it demonstrates deep seated ignorance of Greece’s dismal macrodynamics (i.e. Greek GDP is already shrinking at an accelerating pace). It is clearly a number plucked out of nowhere by incompetent analysts for the benefit of hapless customers.

  What is your forecast for the future of Greece? What could happen within the next months under a social and political point of view?

There are too many unknownable unknowns (to quote Frank Knight) to allow a prediction. All I know is that something has to give. The social economy has imploded, circuits of credit have dissolved, companies are becoming insolvent even when efficient and potentially profitable (due to the death of credit), labour isn’t working, youth has lost its elan and forfeited its youthfulness. On the other hand, I simply refuse to believe that Greece will be allowed to leave the Eurozone, at least not until Germany et al decide to give the euro up.

So, this death dance is likely to continue until something gives. My desperate (and irrational) hope is that that ‘something’ will be Europe’s steadfast rejection of rational argument. For I have no doubt that this Crisis would be ended within a week or two, provided we Europeanise banks, debt (at least its Maastricht-compliant component) and investment. All we need is the nous and the will to do it.

  According to recent reports, a Greek Eurozone exit would not only threaten other European countries with contagion, but also hurt exporters and commodity producers such as China or Russia. Which non-European countries would feel the greatest damage in your opinion?

If my scenario above is right, a Grexit will precipitate a global, postmodern version of the 1930s. Come to think of it, the fragmentation of the Eurozone would result in a deep deflation, with a trebling of unemployment, east of the Rhine and north of the Alps (as the new Mark-zone will face a massive revaluation that loses it export markets in droves), with the rest of Europe plunged into a hellish stagflation (as both unemployment and inflation, following the reconstitution of deficit countries’ currencies). Given that Germany, Holland and the few remaining surplus Eurozone countries have not yet experienced the hardship of this Crisis, the new reality will affect those societies the worst.

  How well is the US prepared for such a possibility? And the rest of the world?

As well as a riverboat that is sailing on a calm Pacific before hit by an almighty storm. The US economy has been clinging on to anaemic growth for a year now. The tsunami that will be occasioned by a Eurozone disintegration will push the US over the edge. And with it, China’s faltering growth will come to a standstill with terrible effects on the BRICS, Australia, New Zealand and Canada. To put it bluntly, Europe is about to unleash global pain on the planet for a third time in a century. We, Europeans, should be deeply ashamed of ourselves!

36 thoughts on “Interviewed by FXstreet.com on Grexit…

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  10. “The moment Greece is pushed out two things will happen: a massive capital flight from Dublin, Lisbon, Madrid etc., followed by a reluctance of the ECB and Berlin to authorise unlimited liquidity to banks and states”. This is apparently the basic logical abutment of the entire article. Does it constitute a strong assumption, a weak assumption, a fact from econ history or a theoretical rule? Thanks in advance for your help; in anyways, this would clarify things for all of us.

  11. Yanis, is there some crosstalk involved in that Merrill Lynch answer, with them talking about the immediate aftermath of a Grexit on the Euro area ex Greece, and you talking about the immediate aftermath on Greece itself? Or are you really saying the *minimum* next year GDP fall in the Eurozone ex Greece would be 30%? I’m not questioning your judgment, I just want to make sure I’m getting it right.

    • What I am saying is that 4.5% that they came up with is founded on nothing but hot air. The drop in eurozone GDP following a Greek exit is one of the unknowable unknowns. Anyone who gives it a point estimate (with decimal points to boot) is either a fool or a smart person trying to prey on fools.

    • Better to have a drop of 10% GPD (= work 10% less) than transfer 10% of GPD to the PIFGIBS (=work for the PIFGIBS)

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  13. Dear Yannis,

    A point I always meant to put to you before, but this is as good an opportunity as any… (and may be relevant)

    You claim that a major problem for Greece (or Spain, or…) with “leaving the euro” is that it would lead to a “dual currency” situation, because of all the bank notes in circulation. And you maintain that this will be pretty bad… (I am not convinced, but this is what you say, no?)

    Yet, you also claim that a Grexit will destroy the euro “soon after”, i.e. there will be a return to national currencies throughout the EZ (or the part thereof that matters, i.e. Germany and co.).

    So, it seems to me, all this money “in circulation” will have to be exchanged “soon after”, at the local bank, as it will become voided (within a deadline). Or, even if the banknotes survive, they will be “not hard”. So, the “dual currency” problem will be healed.

    Is there something I am missing?

    Thanks

    • Vasilis, the bank notes are a minor problem. Compared to “electronic” money this is peanuts.

  14. Could a Greek alternative pseudo-currency be created by giving all Greeks government-issued credit/debit cards while not leaving the Euro? Much commerce in the U.S. is done using credit cards.

  15. Yanis,

    The constant drumming of media, analysts and government officials that the current austerity and an exit of Greece from the Eurozone can be described either as, extreme overconfidence in the ability of politicians to execute such a plan without severe repercussions or, just plain ignorance. One thing that has been constant with governments and politicians is that rarely do they ever get things right the first time. More often than not, they don’t get things right the second or third time around either.

    What is unfortunate in all this is that while sensible solutions do exist, people are willing to continue down this inefficient and destructive path. Furthermore, there are well educated people who consider that austerity alone can work. What they all have in common is that none of them are living under such a program at the present time. Hopefully the Eurozone does come to its senses because if they do not, many of the advocates of austerity will suddenly find themselves living under such a program sooner rather than later.

    Ioannis Segounis

  16. This is a very forceful interview and, unfortunately, spot on. As to the ‘analysis’ by Merrill Lynch, well it is also the way the EU works. By 2020 your Debt/GDP ration will be 120%. Based on what? If we continue down the road they have designated for us, by then we wont have any GDP left at all! For one. Unfortunately I find I really do have to agree with Yani’s closing remark. We Europeans should be ashamed of ourselves. I would add, since Yani was too polite to do so, not only will Europe be responsible for unleashing untold pain on the world for a third time within a century, but Europe under German tutelage.

  17. Even the birds by now all know that Grexit is a German Taliban invented term to terrorize innocent Greek citizens into submission.

    It is part of Merkel’s theater and propaganda that is going nowhere.

    Grexit is Germany’s wishful thinking and it shows the savagery and brutality of those who invented it.

  18. I think the Merrill Lynch question was referring to eurozone GDP, and not Greek GDP–not to defend Merrill Lynch.

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  20. According to my understanding, almost no one really desires a Grexit. Who do you believe is keeping this topic on the front page? Who benefits from an ongoing “Grexit results” discussion?

    • Connect the dots.Greeks are being blackmailed that if they dont accept the memorandum they will be thrown out of the euro.Thats no different than saying that they will be thrown out of the euro if they dont accept Turkey in the EU ie both things have nothing to do with the currency we use.But since its generally accepted that a return to drachma will be problematic, this acts as a boogyman for people to accept whatever the troika demands.

    • According to polls about 80% of the population of several Northern European countries want a Grexit, because they believe it solves the problems.

      More and more Spaniards want a Spexit. Now we are getting closer to the solution.

  21. Any resemblance to people,countries, or institutions of today is 100% coincidential.

    THE FISCAL TREATY WILL ONLY MAKE THINGS WORSE

    David McWilliams

    In early 1931, the German government under the stewardship of its finance minister, Bruhning, was facing an enormous economic challenge. The economy was contracting rapidly but Germany was dependent on loans from the US to maintain the Gold Standard’s exchange rate. In order to qualify for these loans, the Germans followed orthodox policies, the sort that peripheral Europe is following now, to stay in the monetary union.

    But qualifying for loans is very different from being able to pay them back. If you doubt this, ask the thousands of Irish people who “qualified” for loans in the credit splurge and now find themselves in an impossible position.

    But as long as Germany followed austerity policies in the face of the recession, which soon became a depression, it secured the financing of its government deficit. So although the deficit was still in place (like Ireland now), the government’s commitment to austerity was enough to allow it to qualify for the loans from the US.

    But the economy kept contracting.

    Bruhning wanted to keep the flow of US money coming, so he had to stick with the austerity agenda. The plea to the German people was: “If we don’t keep up the programme, we won’t get financed.”

    By June 5, 1931, with unemployment rising, retail sales and asset prices rising, Bruhning changed tack and announced that to make the austerity palatable at home, he would have to tear up the reparations from World War One. Germany couldn’t bear austerity and pay back the reparations at the same time.

    In the event, Germany kept with the austerity, amplifying the deflationary effects on the economy, which ultimately made a problem, which was that there was already too much deflation, worse. In 1932, Bruhning et al lost their jobs in elections, paving the way for Hitler.

    We see that the immediate cause for Hitler’s victory was not the hyperinflation of 1923 but the hyper-deflation of 1932-33 — almost 10 years later.

    This episode should resonate with us in Ireland because it seems that the treaty debate has come down to whether we qualify or not for further loans, which will finance our deficit after 2014.

    Like Bruhning’s obsession with securing loans to finance his deficit and stay in the Gold Standard, this policy is ignoring what’s happening on the ground in the economy.

    We are following a policy of securing loans but, if the economy doesn’t recover, this new credit line we might qualify for will just destroy more wealth, not protect wealth.

    Let’s try to explain why credit lines, if you can’t pay them, destroy rather than preserve wealth.

    It’s good to see that financial crises don’t destroy wealth; a crisis tells us how much wealth has already been destroyed by too much borrowing in the so-called boom.

    In Ireland, if we look at household debt, which according to Citibank in a report last week stands at 220pc of income although it was only 98pc of income in 2000, we can see that it was the borrowing in 2000-08 that destroyed wealth. The crisis only signals this.

    The huge debts cause what is called a liquidity trap and this has its roots in the state of the national balance sheet.

    Many Irish people’s balance sheets are broken because on the one side we have assets — houses, land and apartments — which are falling in value, but on the other we have debts, which are fixed. At a time when income is falling due to rising unemployment and taxes, this means the debt burden is getting heavier every day relative to income.

    As a result, people with savings are saving yet more. Those with debts are trying to pay them down. The same goes for companies. Ireland’s savings ratio has exploded to 17pc of income; it was -5pc in 2007.

    People don’t want to borrow because they have too much debt and banks don’t want to lend because they have too much bad debt. Yet the deleveraging is destroying their capital base, too. Again, the paradox is that deleveraging my balance sheet might make my position better, but when we all deleverage at the same time, we drive down asset prices further, demanding yet more deleveraging.

    If everyone is saving, who is spending? The rise in government spending is the logical reaction to, not the cause of, the liquidity trap.

    By qualifying for loans now that the economy can’t make good on, we risk destroying yet more wealth.

    People will argue that the Government is just buying time until 2014. This is a fair point and it goes back to the idea of kicking the can down the road in the hope that something will turn up.

    But the metaphor we should be looking at is not kicking a can down any road but rolling a snowball down a hill. The more we roll, the more the ball gains momentum and destructive potential, so that by the time it smashes into reality, the destruction will be much, much worse.

    Maybe it would be better to call it now and admit we will default in 2014 because growth is anaemic — as evidenced by another fall in monthly retail sales yesterday — and the debt is too big. We know foreign markets are shrinking, we know that the banks are not lending and we know that credit-free recoveries are few and far between.

    Armed with this, we could go to the ECB and say, with a No vote, we know that we will default because the ESM isn’t open to us. We will start this process right now by not paying a cent extra to unsecured bondholders. We will not pay money due next month, and you can help us all figure out what to do next.

    This forces the ECB to react and this forces it to think about the political legitimacy of continuing to lumber the Irish people with bank debt, the modern equivalent of reparations.

    Then we look like a reasonable country. We say we will never default on sovereign debt as normally understood — debt incurred for schools, hospitals etc — but when it comes to all this bank debt we don’t have any choice. Now that we don’t have the ESM to facilitate rolling the snowball down any more hills, we have to negotiate now.

    This will focus the minds of everyone and inject urgency into proceedings. The Americans have an expression: “the extreme urgency of now”. Now is urgent.

    The situation in the eurozone is not getting any better. The fiscal treaty, by imposing austerity on an already enfeebled economy, will make things worse, prompting more capital flight. Rolling the snowball down the hill is not an honest option.

    Mightn’t it be better to open the negotiations properly now?

    http://www.davidmcwilliams.ie/2012/05/31/the-fiscal-treaty-will-only-make-things-worse

  22. Could Germany Save Eurozone by Leaving It?

    Editor’s note: Clyde Prestowitz writes on globalization for ForeignPolicy.com and is president of the Economic Strategy Institute. John Prout is the former Paris-based treasurer of Credit Commercial de France.

    (CNN) — With Greece probably heading for an exit from the euro, the European and global economies may be facing disaster. However, there is still time for European leaders to reverse this destructive dynamic with one simple, outside-the-box solution: Instead of pushing Greece out of the eurozone, Germany should voluntarily withdraw and reissue its beloved deutsche mark.

    The analysis of the problems of the euro and the European Union has long been upside down, focused on the debt and competitive weaknesses of the so-called peripheral countries (Greece, Italy, Spain, Portugal and Ireland) and especially of Greece. But issues of debt and competitiveness existed and were dealt with rather easily long before the euro arrived, through periodic devaluation of the currencies of the less-competitive countries against those of the more competitive countries, and especially against the deutsche mark.

    The problem now is not the weaknesses of the periphery, it’s the excessive competitive strength of Germany. Not only is the German economy inherently strong as a result of the high productivity of its workforce, its exports have added competitiveness because the euro is undervalued as far as Germany is concerned. Because it is the common currency of the eurozone countries, the value of the euro reflects the average of their combined competitiveness. But Germany’s competitiveness is far above the average. So, for Germany, the euro is too weak. This is why Germany has been accumulating chronic trade surpluses on the scale of the Chinese.

    As long as the rest of the eurozone countries are locked in the euro with Germany, the only way for them to become more competitive is to become, well, more Germanic, through austerity measures that cut government spending, reduce welfare budgets, cut wages and raise unemployment. This is, of course, what they have been doing for the past two years.

    The aim has been to achieve export-led growth. But because Germany is so hypercompetitive and has been unwilling to stimulate its own economy to achieve higher consumption, its eurozone partners have not been able to increase exports to it and have had thus to compete with it in exporting to the likes of China and the United States.

    That hasn’t been working very well, and now the consequences of grinding austerity are beginning to tear the political and social fabric even of countries like the Netherlands, which until quite recently were enthusiastically echoing the German call for austerity and growth led by trade with countries outside the EU.

    But it is not clear that the eurozone can sustain the social and political pain of austerity long enough and on the scale necessary to eventually achieve competitive parity with Germany.

    The alternative is for Germany to revert to the deutsche mark. That would immediately result in appreciation of the German currency and competitive devaluation of the euro for the remaining eurozone countries. Germany would tend to buy more while selling less, and vice versa for the rest of the eurozone. The extra consumption that Germany will not deliver via stimulus policies would be automatically delivered by currency revaluation.

    The single most essential element of a euro rescue has always been one form or another of a euro bond guaranteed jointly by all eurozone member countries. What the U.S. Treasury bond is to the U.S. economy, the euro bond would be to the EU. The main obstacle has been Germany’s insistence that it would not guarantee payments on bonds for the benefit of other European countries.

    German reversion to the deutsche mark would remove this obstacle, and with no further German opposition, the remainder of the eurozone could move ahead to establish a true euro bond, along with a unified treasury function to match the unified banking function of the European Central Bank.

    Some may object that German backing would still be required for the eurozone and a euro bond to be viable. That is correct, and Germany would indeed remain committed to the eurozone for a number of reasons. It would need the eurozone more than ever to buy its increasingly expensive exports. The Bundesbank (Germany’s central bank) would undoubtedly sell deutsche marks against euros to mitigate appreciation, and the resulting accumulation of euros would be invested in the new euro bonds. This in turn might inspire the European Central Bank to initiate quantitative easing programs that would stimulate the entire EU economy.

    The cost to Germany of saving Europe will be a hit to exports and perhaps a temporary rise in unemployment, but a return to the deutsche mark would attract a flood of capital to Germany and thereby spur investment while holding interest rates and inflation down.

    The real question is whether the cost of slower export growth and increased unemployment is less than that of paying for Greece, then Spain, etc. Somehow, the “unknown” risks of a German exit from the euro appear more manageable, more quantifiable and in some ways more familiar a challenge than endless austerity, social unrest and political polarization.

    http://edition.cnn.com/2012/05/30/opinion/prestowitz-prout-germany-eurozone/index.html?hpt=hp_c2

    • Fully agree this is the best solution. It solves all the problems and stops the anger. It is fair.

      Maybe the DM2 should be introduced as a parallel currency (like the Geuro approach). Germans would earn DM2, spend their Euros and save in DM2.

  23. “…fragmentation of the Eurozone would result in a deep deflation, with a trebling of unemployment, east of the Rhine and north of the Alps (as the new Mark-zone will face a massive revaluation that loses it export markets in droves)”

    I prefer to try it out! It is better to have 2 days of unpaid vacation per week than work for the debt of the PIFGIBS all your life! We prefer a free life in a competitive environment, than being the debt slave for others!

    • True. Only that you do not actually work for the debt of the PIFGIBS ,but for the money laundering of the banks. Eventually everybody will understand that. But it will be too late.

    • Actually the benefit of getting out of the Euro Zone is not mainly to get rid of the obligation of paying back the current debts. It is to avoid that we have to pay the future debts of the South. There wll be no control that these countries will not spend like maniacs again. I will not allow for my kids to be enslaved for irresponsible governments that I cannot even vote out of office.

    • n eu d

      I can’t say no to that.

      But i can say that Germany was not obligated in the first place. ECB was as a central bank. Why the leaders asked ECB not to act appropriately?
      Also i can surely say that with your response you are again demonizing a whole nation ,forgetting your own past.

      In reality nothing weird happened in this economy that hasn’t happened again elsewhere. Greece had a debt of 109% to GDP ,that could have been sustainable with reforms and investments as usually happens. With austerity and even after the cuts ,the debt is 160%. According to OECD (facts not media propaganda) ,Greece is the only country that reformed as much ,except ofcourse certain privatizations.

      Still more and more people understand today that nothing would have been enough ,simply because austerity does not lead to growth.
      Austerity you have only when the global economy in general is doing fine. Otherwise everybody is in trouble.

      And please do not tell me for the 5% less efficient tax collection ,because the difference of 109 and 160 is HUGE to reach in a year.

      They actually destroyed our economy.

      You know if Germany first hadn’t broken the rules ,she wouldn’t have the economy she has. Also ,if the rules ,which are totally arbitrary didn’t ask for 80% debt to Gdp ratio ,then noone would have said that there is any problem ,nor would you call any government irresponsible ,which they were anyway.

      A government always maintains a healthy deficit for the private sector to have a surplus. Only Germany doesn’t have to and other industrial nations as Germany ,because of the help they got years ago and because of the transfer of the deficit to the southerns thanks to the euro.

      I do thank them for the reforms though. That was a good hit to our own politicians and the elite ,although corruption in Greece is intertwined with corruption in Europe.

      I wish the best to everybody. And especially Germans ,because they may not like what is coming at all.

    • The northerners and the southerners were in the same game all along.
      I wonder how our politicians feel now that their own partners in crime betrayed them.

      If they really wanted to save the euro ,then they would have exposed the corruption of all Europe ,Germany and the northerners would have stopped exporting unemployment in the south and they would have reinstated the lack of production which they themselves asked from the southerners in the first place ,which southerners so gladly destroyed.

      If they did all these ,noone would have to worry about another country.

      But instead they chose to defamate a whole nation and ask for concession of sovereignty.

      This will go down in the history books as one of the biggest crimes.

  24. I would not overestimate the relevance of a Greek exit. The Euro will collaps anyways. Every paper currency has and every currency union has. The Euro is not different, just shorter lived…

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