15 June 2015

Greece needs debt relief, now


For months, Greece has had “only days” to agree to its official creditors’ demands before it runs out of cash. Eventually this will be true. Greece owes €1.5 billion to the International Monetary Fund by the end of the month and a further €450 million on 13 July, along with €3.5 billion to the European Central Bank on 20 July and €3.2 billion on 20 August. But the €7.2 billion that a deal with eurozone governments and the IMF would unlock wouldn’t even cover Greece’s debt payments until 20 August. So Greece would yet again have only days until it runs out of cash. The only way to end this vicious circle is for Greece to obtain debt relief.

Banging up bankrupts used to be commonplace. London’s most famous debtors’ prison, the Clink, became synonymous with jail, while its entrance for debtors on Stoney Street gave rise to the term “stoney broke”. But as modern capitalism developed in the nineteenth century, attitudes towards debt evolved. Moralism gave way to pragmatism, debt bondage to limited-liability bankruptcy. In Britain, the Debtors’ Act of 1869 put paid to imprisonment for debt, depriving literature of rich dramatic material and enabling bankrupts to regain their freedom, draw a line under past mistakes and start again.

Greece is stoney broke. It has been since 2010 when markets stopped lending to it and IMF officials drafted plans to restructure its debts. But instead of pragmatically recognising that regrettable reality and giving Greece an opportunity to right its mistakes and recover, it has been locked up in a modern-day debtors’ prison.

German moralism – the insistence that debts must always be paid in full – has provided a useful cloak for cronyism. In breach of the Maastricht Treaty’s no bailout rule, eurozone authorities lent European taxpayers’ money to the insolvent Greek government, ostensibly out of solidarity, but actually to bail out its creditors: French and German banks and other financial investors. Nine of every ten euros lent to Greece by its official creditors since 2010 have gone to repay debt that should have been restructured.

Having deceived voters in 2010 and lied to them ever since, the overriding objective of eurozone policymakers, not least German Chancellor Angela Merkel, is to avoid responsibility for their mistakes. Hence the insistence that the pretence of Greece’s solvency be maintained at all costs. But it’s about time that Greeks were freed from their debtors’ prison.

I’m not asking you to approve of successive Greek governments’ behaviour. By definition, bankrupts have made mistakes (though so too have their reckless lenders, egged on by flawed regulations that treat all government debt as risk-free). I’m certainly not expecting you to agree with the leftwing politics of the Syriza-led government that Greeks elected in January (though it is a regrettable feature of eurozone politics that mainstream parties of the centre-right and the centre-left cleave to a wrong-headed Berlin Consensus, leaving only the far-right and the far-left to espouse sensible policies such as debt restructuring). But I hope I can convince you not to view the Greek tragedy through the distorted prism of its official creditors.

Since Greece is insolvent, markets won’t lend to it. That leaves it dependent on its official creditors for liquidity. This cash isn’t needed to pay for Greek pensions or the wages of government employees. Greece is now running a very small primary surplus: it only needs to borrow to continue servicing its unpayable debts, and thus to maintain the fiction that it can pay those debts in full. You don’t have to be a communist to baulk at continue submitting to whatever conditions its creditors impose for continued funding – with no end to the misery in sight. Would you want to be run as a quasi-colony from Berlin and Brussels?

Greece’s debt overhang also creates crippling uncertainty about how it might be resolved – including the possibility of Grexit – depressing consumption, investment and growth. The fear of punitive taxation is a further deterrent to the foreign investment that Greece needs to recover. And the debt overhang leads to deflation: prices are falling by more than 2% a year, making the debt burden even more unbearable.

On top of that, Greece’s creditors are demanding further tax hikes and spending cuts. Since Greece is insolvent and running a primary surplus, these would solely benefit its creditors, enabling them to extract more resources from – and thus depress – the Greek economy. If the past five years are anything to go by, the further fiscal squeeze would cause a deep recession – the Greek economy has shrunk by 21% since early 2010 – leading public debt to soar even higher than its current 175% of GDP. That is painfully perverse.

It goes without saying that Greece also desperately needs to reform. The economy is underdeveloped and hidebound. Oligarchic families monopolise markets and suborn politics. Public administration is inefficient and corrupt. The legal system is dysfunctional, the tax system full of holes. But many of the sticking points between Greece and its creditors aren’t really reforms, they’re fiscal measures. For instance, while improving the collection and administration of value-added tax is desirable, a VAT hike of 1% of GDP is not. It would hit the country’s main export industry, tourism, which accounts for nearly a fifth of the economy. In any case, it ought to be up to Greeks whether and how they reform – and for voters to punish Syriza if they fail to do so.

The recognition that bleeding dry an insolvent country was dangerously counterproductive led to successive write-downs of Germany’s Versailles Treaty reparations in the years after the First World War – until Hitler took power and simply stopped paying. After the Second World War, the United States, Britain and other international creditors were more magnanimous with post-Nazi West Germany, halving its debts in 1953 and thus laying the foundations for its post-war economic “miracle”. Yet German officials are now afflicted with historical amnesia as well as moral hypocrisy.

The Greek government has come up with sensible debt-restructuring plans, of which an investment banker in the City of London would be proud. Unless its official creditors are willing to agree to debt relief – and they have form at breaking their promises, having pledged debt relief in 2012 once Greece achieved a primary surplus and then failed to deliver – Greece should reject their demands, default unilaterally and if necessary exit the euro.

Grexit would be painful initially: there would be bank runs, capital controls and contract chaos. But freed of debt, with a cheaper currency, and with greater policy freedom, the economy would soon recover. Argentina’s economy started growing again only a year after quitting its currency board with the US dollar in 2001. And if the Greek government continued to service its private debts, it would soon regain market access. The country’s future prospects would then depend on how well (or badly) it was governed. Let the Greek government and the Greek people be responsible for that.

Philippe Legrain, who was economic adviser to the President of the European Commission from 2011 to 2014, is a visiting senior fellow at the London School of Economics’ European Institute and the author of European Spring: Why Our Economies and Politics Are in a Mess — and How to Put Them Right.