As of today, it looks as though Greece and its international creditors (the IMF and Euro Area governments) have reached a tentative arrangement that will allow Greece to meet a June 30 debt repayment deadline, avoid default, and continue on its current path of digging itself out of a deep financial hole. Yet, as the parties to this mess rush toward each successive precipice, peer over the edge, and back away again, it's difficult to see a path forward in which crisis management in the Eurozone doesn't become the default mode of operation.
What's been missing from the frenzied efforts to deal with short-run crises is a real discussion about how to fix the institutional mismatches in the Eurozone that contributed to the pickle Greece finds itself in. Assume Greece finds a way to stay in the Euro Area and dig itself out of the hole. What then?
A Greek Sophie's Choice
Greece has hardly any room to manoeuvre, and no good options in front of it. It is said that if you owe the bank $10,000, that's your problem, but if you owe the bank $10,000,000, that's the bank's problem. Indeed, the Greek financial mess is really a shared mess involving governments and private sector financial institutions that have become deeply intertwined with one another. "Saving" Greece is about more than years of fiscal irresponsibility by Greek governments. It's also about saving the private financial institutions inside and outside of Greece whose loans Greece is struggling to pay back.
There has been plenty of prognostication about the consequences of a Greek default, the financial repression that would likely follow, and Greece's eventual exit from the Eurozone. There's been debate about the distribution of pain and suffering a "Grexit" would generate in different parts of Europe. Greece's economy is important, but not that important-- less than $300billion-- in a European economy of around $20trillion. Perhaps, the argument goes, Greece should default, re-introduce the Drachma, take it's lumps for a few years (weak currency, high risk premium on new debt, etc), but quickly restore its competitiveness as Greek exports and tourism led the way back to economic health. The fear of "contagion" in the wake of a Greek default seems to have abated as markets have priced risk into their assessments of assets with Greek ties (at least we all hope that's the case). The Germans are fed up with the Greeks. The Greeks are fed up with the Germans. Why not cut ties?
After all, the alternative for Greece seems to be a generation or two of budget austerity as part of the Eurozone, with few real prospects for economic growth, and a Euro whose value Greece has no control over and makes much of what their economy produces uncompetitive. Sadly, both paths forward (austerity or default) risk undercutting social stability.
In The Long Run.....
John Maynard Keynes famously quipped that "in the long run, we are all dead," to complain about economic models that projected growth over time horizons that weren't especially responsive to the contemporary needs of individuals. The Eurozone needs to continue thinking hard about Greece, not only in terms of preventing default, but in terms of how Europe's institutional structures are ill-suited to nipping such crises in the bud. I have written about the the neoclassical stages of integration in different parts of this blog before (The Fall 2014 Scottish Referendum, Canada's New West Partnership) and alluded to the stages in previous posts about Greece. The main long-run issue in the current Greek crisis that is not being talked about are the governance structures that limit Greece's ability to dig itself out of the hole it's in. Being in the Eurozone means that Greece has given up its monetary sovereignty and pooled it with other Eurozone members in the European Central Bank. In other words, each of the 19 Eurozone countries got rid of their own central banks. Moreover, none preside over their own national currencies or the related setting of interest rates key to the management of economic growth. Instead, these functions are carried out by the ECB for the entire Eurozone.
There is much to be said in favor of this kind of monetary union in terms of how it's made the Euro an important global currency and contributed to the efficiency of the Eurozone by reducing the need to sort out the mix of exchange rates for every exchange transaction in Europe. However, the pooling of sovereignty comes with a price; everyone gives up the ability to manage their own national currencies in the service of national economic objectives (interest rates, employment levels). One of the central problems plaguing Greece-- and some other Eurozone members-- is that the ECB considers the entire Eurozone when setting interest rates. Hence, whereas inflation in the Eurozone as a whole might suggest an interest rate increase from the ECB (and the resulting cooling of economic activity), individual member countries might actually need a stimulus (interest rate cut). If you have your own central bank (monetary sovereignty), it's not a problem. If you are just one member of the ECB's decision-making body, that's a problem.
The Eurozone (the European Union) is a patchwork of incomplete governance-- really incomplete integration in terms of the neoclassical stages. Whereas Canada and the United States are unified political and economic entities (political union) where fiscal and monetary policy are under the same roof, so to speak, the Eurozone's governance is incomplete. Greece, like the other Eurozone members, has ceded monetary sovereignty, but reains fiscal sovereignty. In other words, the Greek government cannot print money or set its interest rates, but it can (and has) spend lots of money. Without monetary policy, fiscal policy is all Greece had left to stimulate a weak, unproductive economy. If Greece still had its monetary sovereignty, its unproductive fiscal profligacy would enter a re-balancing process in which the Drachma would depreciate, government borrowing be checked by high interest premiums, and a return to competitiveness.
Reading this, it might seem that I lean toward some kind of Grexit; that Greece ought to bite the bullet, endure some acute pain as a means of reclaiming some sovereign control over its financial health. Not at all! I agree with those who suggest the consequences of a Grexit are potentially catastrophic, not just for Greece, but for all of Europe. I am not at all convinced that "contagion" is off the table if Greece were to default (see link). As the Global Financial Crisis (2008-2009) clearly demonstrated, the psychology of the market can quickly deteriorate and move in directions no one anticipates. What happens with Greece will almost assuredly affect the rest of Europe, with eyes possibly turning to Spain, Italy, or Portugal as the next dominoes to fall. Each is weak in its own way, and struggling under the same incompleteness of governance as the Greeks. The main difference is that the Spanish and Italian economies are orders of magnitude larger than Greece; possibly too big to fail. Europe does not have the resources to rescue either of them.
Fiscal Federalism as the Solution?
Regardless of the path Greece ends up on-- default and "Grexit" or a slow painful return to fiscal health-- it will be a long time before Greece enjoys strong economic growth and low unemployment. The real path toward revitalizing the weaker economies of the Eurozone is by deepening the integration of the zone to include the pooling of fiscal sovereignty as well. Doing so would make the Eurozone function a lot more like Canada or the United States. A fiscal-federal arrangement in the Eurozone would not solve everything, but the ECB and the new fiscal authority could more easily pursue redistributional tax and spending policies across the Eurozone, much as Canada and the United States do with various transfers and spending programs to assist less prosperous parts of the country.
Europe has been slowly moving in this direction (Lisbon Treaty), but too slowly to fix the mess with Greece. Indeed, as tempers flair over Greece, skeptics and critics of the entire postwar European integration project are in the ascendancy (the recent UK election is a case in point). As the strongest economy in Europe, Germany has rightly, if awkwardly, assumed a prominent (some say dominant) leadership role that has drawn the ire of more than just Greeks.
Over the medium term, my fear is that Greece will fester or fail to the point where the deeper integration that might help becomes politically impossible. An even bigger Greek Tragedy, to be sure....
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