Markets on Main

Markets on Main

Greece, like Wahlberg in The Gambler, just needs a friend — and a new currency

Greece’s gross domestic product, shown here in 2010 constant dollars, has plunged since 2008. RED St. Louis Federal Reserve Bank and Hellenic Statistical Authority

On Sunday, the citizens of Greece voted No on the country’s referendum to accept a package of money in exchange for further austerity measures.

Now what?

Every armchair economist from Iowa to the Aegean Sea has an answer and opinion, including, as it happens, me.

Although I’m an actual economist, I’m thinking about the events of Greece as they relate to the plot of a recent movie, The Gambler, starring Mark Wahlberg. It occurred to me that Greece is just like Wahlberg’s character Jim Bennett.

Examining the unfolding drama in Greece through the lens of this movie should help illustrate what’s really going on here, who the main players are and how it could be resolved.

Will Greece (Mark Wahlberg) be able to find a friend like Frank (John Goodman)? Reuters

Premise of The Gambler

The movie is about the gambling problems of an English professor and the issues surrounding borrowing and paying back loans (the movie also touches on ideas of talent, wasted talent and understanding one’s place in society, but for these purposes, I’ll just focus on the loans).

The professor had, at one point, received some attention (good reviews, a promotion and tenure) from his novel. So he has been productive and done some good work in the recent past.

But he has a problem: he likes to gamble.

And since the house always wins, he is in debt to the owner of the local underground gaming parlor, Mr Lee. Since Bennett is an English professor, we know he doesn’t have a huge income. In order to keep his gambling going, he continues to borrow from Lee. And, of course, he keeps losing.

Bennett tries to get caught up by borrowing from another fellow, Neville Baraka, and loses that money as well. Within the first 10 minutes of the movie, Bennett is indebted to Lee (US$240,000) and Baraka ($50,000, plus $10,000 in interest). Given that he has no income potential (he is an English professor, after all) and the bad guys want their money, he is in big trouble.

At one point, Bennett approaches Frank (John Goodman, playing one of the lovable scary tough while doughy roles that we expect from him) for a loan. When Frank analyzes the risk/reward, he comes to a simple conclusion (something everybody in the audience already knows): Bennett doesn’t really have the means to pay any of the money back.

In the end, Frank does loan Bennett some serious cash, knowing very well that he can’t pay it back unless he gets lucky gambling. Frank makes this move because, I believe, Frank sort of likes Bennett, relates to Bennett’s helplessness and, perhaps, is a risk-seeking individual.

Greece the gambler

Although Greece doesn’t exactly have a gambling problem, it does have a borrowing problem. Greece owes money to just about everyone. The table at right shows the principal amounts owed to different countries, groups, banks and other parties of interest, to the tune of €320 billion, or at current exchange rates about $355 billion.

The table shows Greece’s loan partners and how much of its debt they own. Open Europe; IMF; Greek Public Debt Management Office

Does Greece have a chance of paying off any of these loans? Not realistically and certainly not anytime soon.

The real gross domestic product (GDP) of Greece stands at around $240 billion. In other words, Greece’s debt is approximately 150% of its current GDP. By comparison, the real GDP of the United States is $16 trillion with a $19 trillion debt (119%).

Greece’s gross domestic product, shown here in 2010 constant dollars, has plunged since 2008. FRED St. Louis Federal Reserve Bank and Hellenic Statistical Authority

Greek GDP has been falling the last several years, ever since the European Union and other creditors imposed austerity on Greece in exchange for €240 billion in bailouts. The Greek economy has been in a recession or even depression since 2008, losing one-quarter of its GDP. That has significantly reduced its income.

What is the cause and effect here? It’s not exactly clear. But it is very possible that austerity has made it harder for Greece to pay back its loans by stifling output.

Another way to examine Greece’s helpless situation is by looking at the relationship between the revenue generated through taxes and tariffs and the spending behind government and social programs.

The deficit has come down significantly, but Greece still overspends. IMF

Greece has been spending more than it earns. The austerity measures that took hold several years ago have helped bring the expenditures more in line with revenues, but the expenditures are still greater than earnings.

History lessons and next steps

Greece is the first developed country to miss an IMF payment. But other less developed countries have both missed IMF payments and/or defaulted on other loans. In other words, it’s not a completely uncommon occurrence; Mexico, Thailand and Argentina have all defaulted on loan payments.

Mexico, for example, suffered from a significant crisis in 1994, when decreases in investor confidence caused capital to flow out of the country.

After signing the North American Free Trade Agreement (NAFTA) the year before, Mexico began to be seen by investors as a budding opportunity for new markets. In order to keep investor confidence high, the government of Mexico used its own US dollar reserves to purchase Mexican currency and debt.

This was a shell game of sorts – one in which Mexico used its own resources to prop up the idea that Mexico was strong. Unfortunately, Mexico ran out of reserves and eventually had to devalue its own currency. The figure at right shows the model of how this was done.

This chart shows supply and demand of currency and exchange rates. Author provided

Consider that the exchange rate for Mexican pesos was at $0.80. Mexico wanted investors to think it was a strong country and a great place for investing. Any time the demand for the peso started to soften, the Mexican government used its own reserves in dollars to purchase pesos or government debt or both.

That is, anytime the market started to move along line A, the government responded by pumping its own funds into the system to move along line B. Eventually, the government ran out of money and wasn’t able to keep the exchange rate. When this occurred, the peso fell dramatically in value, investors left the country and Mexico wasn’t able to sell its debt.

The solution is to have a strong trading partner and a newly devalued currency that allows other countries to take advantage of a strong trade position. When the Mexican currency fell in value, the US was there as a strong partner. President Clinton had just signed NAFTA and wasn’t interested in seeing Mexico fail.

In 1995, Clinton signed a resolution to provide $20 billion in loans to Mexico. This didn’t “fix” Mexico – the country went through a horrendous recession. But it did provide a foundation upon which Mexico could rebuild. Other countries became more certain that the exchange rate of Mexico was realistic, and it allowed countries to clearly evaluate the risk and rewards associated with investing in Mexico.

A friend in need…

This is what Greece needs – a strong trading partner and its own currency to devalue. Greece needs the John Goodman character Frank to come along and give it another chance, another loan, hoping that Greece gets lucky.

The US is not in position to be that trading partner – there just isn’t a strong need for the products that Greece produces. Perhaps Germany can step back in or France or Spain. But Greece needs a friend.

And Greece needs its own currency to devalue. If Greece had been on its own currency, we would have seen a significant devaluation this past week. And this would have allowed investors and other interested parties to truly identify the risk and reward of getting back on the wagon with Greece.

This partner will be hard to find! Consider the Corruption Perception Index of Greece, Italy, France and Germany:

The Corruption Perception Index for Greece is very low, which means there’s a lot of corruption. In order for a trading partner such as a Germany or a France to want to do business with Greece, Greece will have to change its ways.

Graft, insider payments and tax evasion will have to be removed and replaced with a consistent system of fiscal restraint and effective tax collection.

In The Gambler, Bennett borrows more money from Mr Lee and Frank and, with a little insider help, bets the lot on a fixed basketball game.

Bennett pays Baraka back with some of those winnings and then bets the rest on a single roll of roulette – he bets black and wins. He escapes with his life because he receives more loans, makes a deal with a ball player and gets lucky.

I don’t see Greece getting away this cleanly – there is no roulette wheel to spin. In a movie, everything is controlled by the writer, the director, the actors and the guiding principal of pleasing audiences and making a little profit to boot.

A happy ending for Greece is unlikely at this point, even with a friend and a new currency. While the plot may mirror The Gambler, the ending is more likely to be in the style of Titanic.

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