Why Greece could be better off outside the EZ
March 6, 2012 14 Comments
Last week I wrote about the difficulty of doing business in Greece, and the role that the government plays in perpetuating the bureaucracy. Does all of this mean that Greece is doomed? Not necessarily. Returning to the drachma would be ignominious for Greece, but it need not decimate the country and may be the only realistic way of spurring the kinds of structural reforms that are essential if Greece is to make a sustainable recovery.
Greece faces a stark choice about how to return to growth. It can continue along its current path of endless austerity aimed at engineering an internal devaluation. This option would probably involve a decade of depression and is therefore likely to be politically untenable.
The alternative to internal devaluation is for Greece to default and abandon the common currency. A new drachma would depreciate massively, boosting Greece’s competitiveness almost overnight.
Greece has a vibrant tourism industry contributing around 18% of GDP that has suffered from cheaper holiday options in Turkey and northern Africa. Agriculture, manufacturing and pharmaceuticals are also sizeable Greek export industries. All of these sectors—and therefore GDP growth generally—would benefit significantly if Greece’s products and services saw their relative prices plummet.
In addition, there’s no reason to believe Greece would be left without a financial lifeline if it exited the euro area. Its departure would be handled like a divorce, in which Greece and the troika acknowledge that their relationship no longer works. The troika would provide some bridge financing to ease the turmoil that an exit would inevitably entail for Greece.
This financing would continue to be conditional on the same structural reforms that the troika is currently demanding. After a default and euro area exit, however, the Greek government would have much greater incentives to deliver.
Currently, the cost of failure to reform is not particularly high: criticism from the troika and demands for more austerity. After a default and euro exit, failure to reform would probably mean a loss of bridge financing with dire consequences. Greece could succumb to profound civil unrest of the kind seen during the military dictatorship. The country is not self-sufficient in food—if hyperinflation were allowed to set in, food shortages and malnutrition could ensue.
The threat of such a prospect may finally provide the impetus for a Greek government to get down to doing the hard work of structural reform. But there are no guarantees. Greece’s entire political class has always been obstructive and there is no obvious sign of new blood coming through the established political ranks.
And yet on my recent visit to Athens, bright, young Greeks spoke to me about their hopes of forming new political movements, untainted by the parties that have gone before. When I asked why this has yet to happen, they responded that Greece must sink further before it will be ready to revive itself.
“We are all on the sidelines,” one young man said to me, “waiting for Greece to hit bottom. We do not want to mobilise and get involved now, because the house of cards could come crashing down on top of us. We will wait until the collapse has happened and then we can finally start rebuilding anew.”
A Greek default and exit could signal the turning point that a desperately needed new political class is waiting for.
For RGE’s views on EZ endgame scenarios, see EZ Endgames: Timing is Everything
(As always, I greatly appreciate your comments. I’m on holiday this week and it will take me a few days to approve and post your comments, so please be patient!)