From much talked about economic upheavals to political ones, the people of Greece have endured quite a lot in recent times, culminating into the hotly contested election held this past weekend. Of the 10 parties who ran in Sunday’s election being polled as having greater than 5% of popular support, the balance of power still teeters between two centrist parties: the narrowly elected New Democracy, and PASOK, the runner up. Converse to the clarity and direction other EU member countries were hoping would result from the election, Greece now faces fresh turmoil from the two leading parties’ struggle to find common ground to form a coalition in the face of an angry public. Front and center in their disagreements is the renegotiation of the conditions of a second EU bailout.
EU Bailout Round 2: Who Cares?
Now, both the election and events leading up to it have been regurgitated in various light by countless institutions, people, and parties running in said election, yet there is one thing conspicuously absent from this conversation. That “thing” is what got them to the current crossroad in the first place – Greece’s membership to the European Union. Despite their fundamental differences, none of the 10 leading parties have gone on record offering an alternative course of action – to willfully leave the EU altogether. Instead, leaving the European Union is lauded as something to be abhorred: the dreaded finale of a show of spectacular fiscal incompetence.
Band Aids: Best Removed Quickly
There is this illusion that the decision of whether or not to accept a second EU bailout is what the Greek economy hinges on. This question is largely irrelevant. Austerity measures are unpleasant but inevitable. If the bailout is accepted, austerity measures will be implemented as conditions for its receipt. If it is not accepted, they will be implemented regardless in an attempt to stave off defaulting.
Rather than posturing for campaign slogans that miss the point, Greece should take advantage of the temporary relief received through its recent debt swap to reject the bailout, leave the European Union, and once again adopt the Drachma – the currency it circulated prior to switching to the Euro. Why? Because the bailout is a Band-Aid solution, and not a good one at that. Throwing money at the Greek economy may take away the immediacy of default, but it leaves its core issues unchanged, namely its defunct taxation structure and lack of competitiveness. In comparison to its economic performance in 2000 (just prior to the adoption of the Euro), overall competitiveness has decreased by about 18-21%.
Exporting The Problem Away
With debt more than 100% of GDP the sustainable option for Greece is to improve its terms of trade, or in other words, to drive its economy by exporting more than it imports in real dollars. Currently, Greece has artificially high unit labour costs due to its use of the Euro, preventing it from doing so. This makes any prospect of increasing competitiveness dim.
Adopting the Drachma, which would be of significantly less value than the Euro assuming it is held constant, would make it cheaper to do labour-intensive business with Greece, thus attracting more foreign investment than it could otherwise garner.
This is crucial during a time of austerity because the other route to an increase in competitiveness is to invest more in human capital as well as in technological and agricultural innovation. This is a publicly unlikely prospect given that it contradicts government’s mandate to reallocate as much as it can towards the paying down of debt.
The Slippery Slope
There is a danger that this could backfire. Instead of stimulating competitiveness and growth, leaving the EU could trigger others such as Portugal to follow suit, throwing the Euro into a downward spiral and negating any possible gains to be made from a devalued currency.
However, this is highly unlikely due to the fact that each of the countries’ fiscal bellyaches stem from differing core issues. Although the symptoms are the same, Greece, Portugal, and Spain are suffering from inherently different ailments. Thus, although investors, ratings agencies, and other member countries would be in an uproar in the very short run of a few years, a “mass exodus” would not occur as it is not in the best interest of the other countries to do so.
In terms of repaying its debt, Greece is virtually guaranteed as before to be downgraded regardless of its actions. A downgrade by ratings agencies would mean steeper interest rates to be paid to investors to compensate for an increase in risk on existing debt. This phenomenon will be especially pertinent in the short run of less than 5 years, whereas gains to competitiveness are expected to be made in the long run of more than 5 years. This issue can again be remedied by addressing another core issue: Greece’s taxation system.
Pulling the Plug on Fraud
One method to deal with Greece’s highly problematic underground economy could be to tax net worth as opposed to net income, making it harder to evade. Although this would mean an increase in short-run administrative costs, once implemented, it would provide Greece with the extra buffer required to pay down its debt at a higher interest rate.
Restructuring its taxation system through a number of methods would be a positive signal to ratings agencies and investors. Another consideration is that Europe has an ever-increasing list of worries (with France being a recent addition) working in Greece’s advantage. After initial reactions it will become a footnote among other pressing concerns. Thus, Greece will regain investor confidence as it is seen in comparison to other countries to be taking decisive, sustainable measures to correct its fiscal imbalance. If this combination of measures is pursued, in result it will be able to avoid a downward rating catch-22 with credit agencies, and the Drachma will behave as projected.
Caution: Danger Up Ahead
Leaving the European Union is of course not without its downside. Increasing competitiveness through a different currency translates into lower real wages for workers, something no worker would ever support. Yet the worker is limited by the shortsightedness of his or her immediate needs. Thus, it is up to whichever party is elected to lead the new Greek government to do just that: to lead, to make difficult, politically unattractive, but rational choices to preserve its long-term economic viability.
In the end, the Greeks are going to face some trying times in the future, which is not in question. What is in question is whether or not these trying times will eventually lead to a desirable economic reality, or whether it will further decimate an economy whose glory days already cannot be recalled.