17 May 2015

Financial Times: The simple core of the Grexit and Brexit conundrums

There are two categories of problems facing the EU. There are those which are genuinely difficult to solve, such as the Mediterranean refugee crisis or economic imbalances within the eurozone. And then there are problems that are easy to solve in theory, but not in practice. The second category includes the discussions on the possible departures of Greece from the eurozone and Britain from the EU itself.

If you rise above the technical issues, the British problem could be elegantly solved through deeper integration for the member states of the eurozone, and more decentralisation for the rest. The solution for Greece requires a bit more lateral thinking but is not really difficult either. For Greece to prosper in the eurozone, the following three things will need to happen.

First, Athens will need to recognise what appears to be a depressing reality. If you really want to be locked in permanent monetary union with the likes of Germany and Finland, you will need to become more like them.

Second, the eurozone countries must accept some economic truths — all expressed accurately, albeit not diplomatically — by Yanis Varoufakis, Greek finance minister. They should begin by recognising that austerity was an unqualified disaster. They should also think differently about debt sustainability. When they drew up the latest Greek loan programme in 2012, together with the International Monetary Fund, they first calculated the outstanding debt, then made some wildly optimistic assumptions about growth, and then calculated the fiscal surpluses needed for the country to pay down that debt. The surpluses were the residual in this calculation: they had to do all the adjusting. The trouble is that if the assumptions proved too optimistic, the surpluses would have to grow unbearably large. This is what happened in Greece.

The grown-up way would be to reverse the procedure. Cap the annual amount for debt servicing, and then find out how much you can pay back. What you cannot pay, you should not pay. It should be forgiven.

While the first two requirements are based on recognition, the last is based on action. Greece should unilaterally default, but do so in a co-operative way. By this I mean, not default on more than it needs to; not default on all creditors but only the ones that can absorb the losses best; and in particular spare the few remaining private creditors.

The official creditors pretend to be shocked by this, but that will pass. They would, of course, not issue any more credits. If Greece defaults, the Athens government would have to operate under hard budget constraints for several years. No soft option, but Greece would regain a degree of economic sovereignty it lost to its creditors.

It would be hard to achieve a good outcome purely through a negotiation. EU rules and diverging interests among the creditors leave little wiggle room. The European Central Bank, for example, interprets European law in a way that makes it illegal for it to take part in talks to restructure any debt it holds on its books. And yet there is nothing in the law that stops a government defaulting on the ECB. So a total default where the ECB loses all its money is legal; but a negotiated default where the ECB loses only some is not. The law is an ass.

To cut through this gridlock, a degree of enlightened unilateralism is needed. It would help the creditor countries through the familiar stages of mourning, and liberate them from the current stage — denial. Handled with care, the creditors might even end up providing further help to keep the Greek banking system alive, or at least allow the ECB to do it for them. Deep down, eurozone leaders know that it is not in their interest to let Greece leave. The Greeks also want to stay in the eurozone.

Mr Cameron, too, might progress further if he tried a more flexible approach with his EU partners, and not hand out long wish lists. Britain’s problems, like Greece’s, involve no innate difficulty. They are born of a lack of focus and a tendency to hide behind red lines — problems of the mind.

Full article on Financial Times (subscription required)

FT Chris Giles's article on how UK can learn from Greece for EU talks: 
"To avoid Syriza’s fate over the EU, Britain must embrace fudge"

Full article on Financial Times (subscription required)

© Financial Times