Prime Minister George Papandreou of Greece is correct to put the EU bailout package to a vote. Without public consent to the tough austerity imposed by the EU aid package, those measures will not be sustained — and a future government can balk on its conditions and start spending again.
For their part, EU, IMF and leaders in Germany and other wealthy countries are falsely convinced that no good solution for the Greek mess exists other than the package now offered Athens.
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Introduced in 1999, the euro was the last of several sweeping initiatives to more closely bind European economies into a single, integrated unit, as a preface for greater political unity. Others included the elimination of tariffs, a continental antitrust policy, and greater harmonization of tax structures and environmental standards.
However, European leaders never came to terms with the fact that the euro, even if left to float to find a market value against the dollar and other foreign currencies, would be overvalued for some jurisdictions — leaving businesses unable to compete and wages too high to generate adequate exports, as in Spain, Portugal, southern Italy and Greece.
Similarly, it would be undervalued for others — creating hyper-competitive enterprises able to offer their workers the very best benefits and short work weeks, as in Germany.
The United States faces similar issues — the dollar is likely undervalued for Manhattan with its robust financial services, advertizing and creative arts and overvalued for mostly rural Mississippi. Simply, with a single federal tax structure, Washington subsidizes Mississippi with revenues collected in Manhattan, and somewhat equalizes things across the 50 states.
Such burden sharing is largely absent in Europe, even though a single market and currency caused voters in Mediterranean jurisdictions to expect the same caliber of health care and other social services enjoyed in Germany and in other northern climes. Similarly, teachers, doctors and the like, who deliver those services, could demand compensation more comparable to their counterparts in wealthier nations or migrate.
Mediterranean governments coped by borrowing too much. Now that string has run out and austerity is not enough to pay off all they owe. The bailout packages simply won’t work without draconian consequences.
Government is so intertwined with the private Greek economy, for example, that large cutbacks in government spending are slashing the size of the Greek economy and tax base faster than government obligations can be trimmed and resources freed to pay the interest on outstanding sovereign debt—even with privately- held sovereign debt cut in half.
Greeks sense, after successive rounds of austerity, a vicious cycle has emerged, and the EU won’t quit in its demands until their economy is reduced to rubble. All to sustain a common currency that is at the center of the problem and really is not necessary for European unity.
Ultimately, Greece must generate a large trade surplus—export considerably more than it imports—to repay its debts, because much so much is held by foreign banks and international agencies like the European Central Bank and IMF. With the euro overvalued for its economy, it can’t accomplish that surplus without enduring decades of high unemployment to drive down wages and living standards—likely by 50 percent or more–to make Greek exports adequately competitive.
If Athens can’t pay, private creditors and international agencies can’t repossess the Parthenon. In the end, Greek private creditors will be compelled to take additional losses beyond the 50 percent haircut imposed on them now, and the ECB and IMF will take losses too.
This is simply too draconian compared to the other way out—readopting the drachma, remarking sovereign and private debt to the reinstituted national currency, and letting the value of the drachma fall to levels consistent with a trade surplus that permits Greece to service its debts.
As denominated in euro, foreign creditors would receive payments on Greek debt less than they are currently owed. However, with the Greek economy more fully employed and generating exports, the haircut a reinstituted drachma would impose would be far less than will ultimately occur though the mindless austerity now imposed.
In the bargain, Greece would not be pulverized into decades of punishing depression.
Peter Morici is a professor at the Smith School of Business, University of Maryland School, and former Chief Economist at the U.S. International Trade Commission.
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