Saturday, 19 May 2012

Greece Set to Rebel and Dump the Euro

One of the reasons why Your Neighbourhood Economist has taken to blogging is because the media often hype up a story in order to entice readers.  Since the beginning of the crisis in Europe, headline everywhere have played up that Greece has been on the verge of collapse and the breakup of the euro has been just around the corner.  Yet politicians in Europe always seem to find a compromise.  However, the current situation in Greece means that the potential for a big bust-up this time is a real possibility.

Your Neighbourhood Economist had previously considered the chances of Greece ditching the euro to be small at best.  The reasons for this is are the massive costs involved.  Just switching from one currency to another is costly enough.  But in the case of Greece, its new currency would have a lower value than that of the euro as it would be money that no one outside of Greece would want.  But much of the debt of businesses and consumers is denominated in euros and this debt would balloon in size when changed into the new currency.  Banks would also have to deal with the likelihood of people wanting to get cash out before the switch to the new currency as the value of their savings would plunge.  And it would be tough for banks and other businesses as well as the government to get money again from foreigners due to the belief that Greece would take the easy way out and default again if times got tough again in the future.

A change in currency implemented in a rapid manner is therefore a recipe for chaos.  And that is just inside Greece.  Investors would panic and withdraw their money from any other struggling countries in Europe such as Portugal or Spain and people in these countries would be lining up at banks in a rush to take out money.  European banks would lose out from Greece defaulting on more debt and tax payers in Europe would lose the funds that have already invested to stabilise the situation in Greece.  So the potential consequences have been enough so far to prompt politicians in Greece and the leaders of Europe to do enough (barely) to stop this from happening.

But it has been the people of Greece that have had to bear the burden due to the mismanagement of their economy and it is a burden that many do not feel is justified.  And this frustration manifested itself in recent election results where voters punished the established political parties who backed austerity measures imposed as part of the latest bailout package.  The parties that did do well where those keen on dumping the euro and any measures imposed from the outside.  The outcome was that the mishmash of parties that did get into government were unable to form a coalition that could govern the country and so Greece will be voting again in the middle of next month.

An argument can be made for Greece leaving the euro.  There would be benefits in terms of its exports regaining competitiveness due to the weaker currency.  Other countries such as Argentina have combined a change in currency and a large scale default on debts and managed to soldier through.  But Argentina has a large export industry and abundant resources while the opposite could be said of Greece. 

However, most of all, Greece would gain a greater degree of control over its own destiny.  Germans have been adamant in their stance of not footing the bill for wayward countries in Europe.  But the harsh treatment of Greece has pushed the country and its people into a corner.  Likely to lose out whether staying in or leaving the euro, voters are likely to lash out again at those that they deem responsible – the leaders of Europe and the politicians in Greece that backed the bailout.  The resulting carnage of an exit from the euro may be seen as the Greeks being short-sighted.  However, it is the equally narrow-minded tax payers in Germany and their politicians who flinched at standing behind Greece and left the Greeks with few options.  Flexibility and perseverance is required on both sides with other measures such as Eurobonds needed (see previous blog - Conspiracy Theory for your Greek Holiday) amid growing disquiet to harsh austerity across Europe.  Or else, irrationality may be the only winner.

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