Greece is again making headlines, and markets are concerned the euro crisis is back.
Actually, the crisis never left. It is just that for a little while both the authorities and the markets chose to cherish the delusion that policies and institutions were set in place that would shore up Europe’s troubled currency union. How wrong they were.
Stuck in gloom and stagnation, the euro area is dancing on the edge of the abyss of debt deflation, in which falling prices and incomes make paying off obligations increasingly difficult.
Perhaps the euro will stumble on for a few more years, but as things stand, in my view the union remains on track to flounder terminally. The situation in Greece should serve as a wake-up call, an opportunity to seriously consider a change of course – rather than stubbornly cling to the failed strategy of austerity and under-investment.
But Greece is not the only serious acute challenge the euro faces. The European Central Bank, the institution that has played the lead role in efforts to rescue the currency union, may soon have its hands tied behind its back – or at least one of them – because of Germany’s unwillingness to change track.
A critical court ruling
Tomorrow the European Union’s Court of Justice’s advocate general is set to publish an opinion on the bank’s “Outright Monetary Transactions” program that successfully calmed markets in 2012 – even though it was never actually used.
The program, which has been under sharp attack by Germany’s monetary orthodoxy ever since, would allow the ECB to buy the bonds of certain euro member countries to lower their interest rates under certain conditions. The OMT is under review by Germany’s own Constitutional Court, which published its own unfavorable preliminary assessment of the program a year ago when it referred the case to the ECJ. Advocate General Pedro Cruz Villalon’s opinion may well be critical of certain aspects of the OMT and is likely to shape the ECJ’s eventual ruling on the matter.
This matters because unconventional policies like the OMT are exactly what the central bank will need to fight deflation and rev up the bloc’s economies.
A negative opinion from the court could create constraints for how the ECB designs its strategy of “quantitative easing,” (QE) or injecting new money into the monetary system by purchasing government bonds in an effort to push down borrowing rates and spur spending and inflation. (The OMT program, by contrast, wasn’t a form of QE because no new money would have been “printed” buying bonds.)
Though the OMT never needed to be used – its creation alone caused the soaring interest rates of indebted members like Italy and Spain to come down to Earth – it clearly served its purpose well. Many credit it with preventing the breakup of the eurozone.
QE: better late than never
That the ECB will eventually embark on QE, perhaps as soon as next week, is widely expected, despite the court’s ruling and even though its members remain divided. It’s rather late, given the eurozone has now officially entered a state of deflation, but as always better late than never.
But how can the ECB embark on purchasing government bonds if the situation in Greece and hence the euro’s fate remain unresolved? Any nation leaving the euro would have little incentive to fully honor its debts.
No doubt Greece got itself into trouble partly through its own fault. Under the euro, the country’s borrowing costs declined sharply, leading to a massive boom in private borrowing and real estate. At the same time, the Greek government ran up perilously large public debts, hidden behind a wall of fudged statistics.
As a result, Greece ran up a large external imbalance. A country that borrows excessively from foreigners to finance internal spending needs continued access to willing foreign lenders. But when the music finally stopped in 2009 after the global financial crisis struck, private lending dried up over night, leaving Greece dependent on bailouts from abroad. Greece became and remains the vassal of its creditors, led by Germany.
Pain and no gain
The brutal austerity they’ve inflicted on Greece – and resulting carnage – has exceeded by far the country’s “sins.” Promises that pain would be short-lived, as austerity and reform would quickly boost growth, were either delusional or dishonest from the start. Ex-Treasury Secretary Tim Geithner’s narrative of events in his book Stress Test is quite graphic on this, describing the attitude of Greece’s euro partners of wishing to teach the Greeks a lesson as keeping “their boots on Greece’s neck.”
And quite a costly lesson that has turned out to be. Even though Greece’s economy eked out a bit of growth last year for the first time in six years, its GDP today is about a quarter smaller than it was prior to the crisis, with lost output more than what was sustained by the US during the Great Depression. The official unemployment rate exceeds 25%, while youth unemployment is twice as high. Poverty is rampant. Mass emigration of young Greeks makes for a permanently smothered nation, not just a lost generation.
Austerity has not delivered any healing but made the patient only sicker. The official “bailout” loans of some 240 billion euro were mainly used to service private debts owed to foreigners, which prevented bank failures in creditor countries but provided little if any actual support for Greeks. It is quite clear at this point that the official loans will never get repaid in full, but euro politics and policies remain focused on punishment rather than forgiveness.
There are signs that the Greeks have had enough. Snap elections for the Greek parliament are scheduled for January 25. Syriza, the anti-austerity, left-wing party led by Alexis Tsipras, is ahead in the polls. If elected, he aims to renegotiate the debts and policies that continue to suffocate Greece.
German government officials promptly declared that there was nothing to renegotiate and even suggested a Greek exit would no longer pose any serious threat to the euro, according to Der Spiegel.
It’s time to invest
Of late, however, the tone in Berlin is slightly more humble, even though most of the German population still blames the “lazy” Greeks as singly responsible for their lot. Only one thing is clear at this point: that the dynamics of this complex process could go seriously astray as resistance to austerity and even European integration grows in all the region’s capitals. The euro authorities, and anyone else, ignore this at their own peril.
The euro authorities have wasted the last two years suffocating their economies. What’s needed now is a joint investment program funded by bonds issued jointly by eurozone member governments to rejuvenate and re-inflate their economies.
The euro is running out of time.