Watch out: GREXIT's about!

The essence of Greek tragedy is that to a great extent the chief protagonist has been a party to his own downfall; Nemesis follows Hubris.

We are told that Monday 20^th August is crunch-time for the Greeks when they will have to step up to the plate and show that they are fully deserving of yet more German cash or get out of the Club. The more likely scenario is that we shall see more duck-shoving, muddle and mess, prevarication, indecision, and, of course, meetings! ‘Resolved to be irresolute, solid for fluidity, adamant for drift’.

But Greece is but  a symptom of a Eurozone-wide crisis. So first, the big issue.

The problem is financial and economic.

The financial part is that a number of Eurozone countries have piled up public debt that is unmanageable. There is also huge private debt. Ireland and Spain got into deep poo off the back of an insane real estate bubble. The developers were able to overbuild with cheap money which the governments were powerless to control because they could not increase the bank rate. The arbiter of the Eurozone, Germany, had a vested interest in cheap money, so others could go hang. This toxic combination means that interest payments alone are an unsustainable burden, and the prospects of repayment are gloomy to say the least. Since a huge part of this debt is owned by banks the stability of the whole banking system comes under threat.

The economic dimension is based on a fundamental fallacy. We were led to believe that monetary union would bring about an EU-wide convergence in costs and prices, although it was not clear how this would be achieved.

The reality was that in Greece, Ireland, Italy, Portugal and Spain costs and prices rose relative to the northern economies, leading to increasing uncompetitiveness vis a-vis the north, especially Germany, of between 20% and 40%. This in turn caused an excess of imports over exports, current account deficits, and thus an accumulation of international debt.

Is there a solution?

Salvation might lie in establishing a real exchange rate – the comparative level of costs and prices as reflected in the exchange rate between currencies.

The snag is that this is impossible in a monetary union because the central banks thereby gave up their control over rates.

So it is blindingly obvious that the solution is to quit the monetary  union.

Of course, the €fanatics would have it that this would lead to chaos and ruin throughout the world, with the collapse of the international financial system, debt defaults, bank failures and the end of civilisation as we know it!

Really? It seems to me that once national currencies are re-established with effective devaluation against the euro, economic recovery would be stimulated by an increase in exports – and therefore jobs, higher inflation would reduce the real interest rate and boost consumer and capital spending. It would also enable QE which would encourage domestic demand.

A possible scenario then would be a Eurozone of the north and perhaps a common market within the EU for the Club Med, perhaps led by France, which has a certain logic since France has some similarities to the troubled south, with a current account deficit, a decades-long budget deficit and strong links to Greece in finance and banking. The snag here is that it would entail France junking the Europe policy – containment of Germany – that was one of the justifications for the EU in the first place, and therefore very unlikely to happen.

So how would it be done?

In the first instance, it would be essential to introduce capital controls. There has already been massive ‘capital flight’ from Greece and Ireland, much of it to London, to the delight of high-end estate agents. Banks would have to close during the transition. Exchange rates would need to decline sharply so that e.g. a new Italian lira would have to devalue against the euro by about 30%.

The suits in Brussels go on about ‘contagion’ if Greece leaves. There is some prospect of this but not quite in the way they see it. If exit restores Greek fortunes, there would perhaps be an overwhelming temptation for others in Club Med to follow suit. The Eurozone would then have better prospects of survival, being  composed of countries that at least had a resemblance of a community of interest.

Who would be the winners and losers? Well, the losers would be savers at every level, as capital values fall, and people on fixed incomes i.e. pensions as the real value would be diminished by inflation. The winners would be the Greek workforce – or rather the unemployed workforce – as recovery stimulates jobs. Otherwise, Greece is well on the road to becoming a third-world country, and a very unstable one, with nationalist, protectionist and extremist political parties getting ever more support.

At the beginning of this crisis I was poo-pooed for suggesting that a main cause besides Club Med improvidence was that Germany had massive trade surpluses with Club Med, and that it should boost consumer demand to offset the imbalance. Without the euro, market forces would have placed a proper value of the DM.

Markets will get us out of this mess once they are allowed to operate properly. As the Blessed Margaret said ‘You can’t buck a market!’