The likely default of Greece and its conversion to the drachma from the euro is the inevitable consequence of a mix of institutional failures. It may also be a symptom of the greater problem of trying to mix a Latin country into the Calvinist-Germanic traditions that are at the heart of the euro compact. No doubt the Greeks should never have joined the euro, while remaining in the European Union. Greece is a country whose economy thrives on having low wages and sunny beaches on islands seeped in the magic of past glories of Greco-Roman civilization. I’ve modelled tourism flows for years and exchange rates and proximity are often the key reasons for foreign travel on vacation. A weak drachma against a stronger euro would have filled Greek hotel rooms. Even a small difference in relative value would make Germans, Dutch and even French choose Greece over Italy or Spain or Portugal for their holidays.
What can they do? The truth is that any change over will be far from easy for the government and the people. It would have been better to find an exit from the euro with the European Union countries helping rather than trying hard to protect their own banks’ exposure to Greek debt. As it stands now the cost of bailing out Athens will likely be not much less than bailing out the private creditors who purchased Greek bonds in default.
What would an exit look like if done right? Or is there a better solution that could be implemented that would protect not just Greece, but the next dominos that will likely fall as a result of a sudden introduction of the drachma, Spain, Portugal and possibly even Italy? A devalued drachma would transfer tourist revenues from the other weak links in the euro chain – Spain and Portugal and even Italy – to Greece. A weak exchange rate will encourage exports making Greece more competitive against these other countries. But introducing the drachma would also limit Greece’s ability to import the necessary products that its economy has become dependent upon. Prices would soar for what did come in. But is it in any worse position that it is now?
For many years, except two (2012 and 2013), Greece has been running a negative trade account. Some of the red ink is obviously made up by service exports – tourism and shipping – but in 2014 it balloons to almost $6 billion. The trade account is what people consume every day, including food products. But could Greece find other countries to trade with. One possibility might be to make peace and a trade pack with another country like Turkey, a mortal enemy, but also a country with a strong agricultural sector that might be a good replacement for the higher cost foods coming in under the European Union’s common agricultural policy barrier. Limits on imports will also force Greeks to become more self-sufficient. Imports subtract from GDP, exports add to it, without imports of many products sourced from other European countries, domestic suppliers will have to step up production, and of course tastes will change – French wine goes, Greek ouzo returns. Much of what is considered to necessities – food and shelter – can be produced without going outside if there are higher prices in local currencies to draw more displaced workers to meeting the increased needs. In my production models imports tend to reduce domestic production destroying whole industrial sectors. At the same time, the weak drachma may encourage more investments taking advantage of being within the European Union but paying lower wages when drachma wages are converted into euros or dollars.
Of course, it would have been better for the EU if they had been a bit more flexible. If I had been negotiating early on with the Germans and the European Central Bank then I would have asked for the creation of a junior euro, a euro set initially at 85% of the full euro, and introduced into the other tourism and debt ridden economies of Spain and Portugal. The debts would be paid back at 85% of the full euro with the difference being shared between the banks and the European Central Bank. Greece would sign up for much of the same austerity, but it should have been able to use the weaker currency to make up in trade and service advantages the difference. Every effort would be made to help with the transition but with the goal of reducing, not increasing, poverty as poverty weakens the domestic economy on which so many people depend (most of the transfers are between consumers and businesses that are primarily local and thus not impacted by outside events until they lead to wholesale collapse of the underlying economy). The Southern euro would be allowed to float within a narrow range over and under the full euro through ECB intervention as necessary.
The Phoenix Year … Greece on Steroids
In my debut novel, The Phoenix Year (published 2014 see www.davidlblond.com), originally written about forty years ago during the first debt crisis in the developing countries with the sudden increase in the price of energy due to OPEC, a pact of the dammed was used as a plot device to lead to a deep drop in the stock markets worldwide (one of several known causes of investor panic introduced at the same time). A similar device is used in the updated version of the novel with the same impact. Greece is not the only country with financial and debt problems. Any country without a fully convertible currency today and facing a flat or declining world economy will eventually face these same risks. Low interest rates have pushed more money into overheated equity markets pushing some to new highs or off lows. Any sudden panic could turn a recession in the real economy into a disaster in the financial markets. In the novel, one of the precursors for the financial disaster is a slowing or even sudden collapse in China leading to $30 oil and falling prices for minerals. Add to this a trans-Pacific dock strike on both sides of the ocean with dock workers in Asia unionizing and working in tandem with nominally unruly West coast workers to demand higher wages and you have the seeds of my far-fetched fiction coming true. In the novel, the target date is October, 2016, so beware!
The Phoenix Year available now!