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Greece: the crisis returns

posted 23 Jul 2011, 05:14 by Admin uk

By Mick Brooks

 

The financial crisis, the fiscal crisis of the state, the sovereign debt crises and the crisis of the Euro are all successive forms of appearance of the crisis of capitalism. Governments ran deficits and got deep into debt to bail out the banks and capitalism. Governments of peripheral countries like Greece mainly borrowed from abroad and got into debt to the banks of the dominant countries of the European Union.

The Euro is a common currency for 17 EU states. It is a form of fixed exchange rate system, where nation states have no power to devalue if they find themselves in economic difficulties. The problem with the Euro is that it is a currency not backed by any one nation state, so no country has the power or the will to defend it when it comes under pressure. That makes it particularly vulnerable in a crisis.

After the May 2010 Greek crisis, it seemed that the European Union had seen the speculators off for the time being. More important to the authorities in Europe than the fate of Greece, the threat to the Euro had been allayed. The Greek people, of course, paid for the ‘rescue’ with another round of austerity.

A year later it is clear that nothing had changed fundamentally. The institutional weakness of the Euro, concealed by years of boom, remained.

The Greek government debt and deficit are higher in 2011 than they had been a year earlier. It was quite clear by now that the Greek economy is in a vicious circle, where cuts fed economic decline and further decline necessitated yet more cuts. The Greek economy was in effect going on a diet by slicing off limbs in order to lose weight.

Commentators have mined Greek mythology for analogies with the plight of modern Greece. One is reminded of Sisyphus, condemned to eternally roll an enormous boulder up a slope, only to see it slide down again once he had reached the top.

One reason for the deteriorating economic situation was that much of this enforced austerity didn’t even go to pay off the country’s monster debts. Costas Lapavitsas estimated in the Guardian (21.06.11) that, “Servicing the debt will cost 12% of GDP, vastly more than health and education.” All this money will be syphoned off just to pay interest on the existing debt, not even to reduce the principal. Most of this money is drained out of the country.

Holders of Greek government securities are making higher returns than they would do even on the stock exchange.  Currently the return on two year Greek bonds stands at 28%. The spread (the difference between the rates on German bonds and those of the Greek government), hardly discernable at the beginning of 2010, was in the summer of 2011 a gaping 1,460 basis points (14.6%), further adding to the debt burden. The justification for these usurious rates is that the excess is payment for the risk that bondholders take by holding Greek government debt.

Commentators have suggested, quite plausibly, that, had the European authorities borrowed aggressively at low EU rates in January 2010 to prop up the Greek government, they could have seen off the speculators at comparatively little cost. But as L.P. Hartley commented, “The past is a foreign country.”

There is no doubt that Greece will default eventually. The only doubt is whether this will be a conciliatory, managed default organised by the EU authorities as the least worst option; or whether default will be a unilateral act of defiance at the continued imposition of intolerable burdens upon the Greek people.

How would a default proceed? We have only historical experience to go on, and every national default is a unique historic event. Having said that, Argentina’s default in 2001provides some clues.

Argentina has long gone through alternating periods of hyperinflation (from printing paper money to pay debts) and austerity. Reinhart and Rogoff lament (This time is different, p.259), “Perhaps Latin America would have done better in terms of economic stability had the printing press never crossed the Atlantic.”

After a period of rapid inflation in the 1980s the Argentine authorities opted for a currency board as a way of pinning the peso to the dollar and fighting rising prices. This meant that Argentina’s Central Bank could not issue another unit of the national currency unless it was backed by a greenback earned as foreign exchange through exports. It was an extreme form of fixed exchange rate system, offering the monetary authorities no room for manoeuvre.

The cure was worse than the disease. Inflation slumped, but so did economic activity. The pain was intolerable (just like Greece today). It was made worse by massive capital flight which turned into a run on the banks. The government responded to the run on the banks by effectively freezing bank accounts. Violent protests erupted. A state of emergency was declared but it didn’t save the government. President de la Rua escaped the people’s anger by helicopter in December 2001.

The interim government had no alternative: in the last week in December 2001 it defaulted on the major part of the intolerable burden $132bn of public debt. Much of the debt was foreign owned. It is not possible to default on foreign debt without severe damage to the domestic circulation of money, which was already in turmoil. All the currency is, after all, held in the home country banks.

The interim government was forced to suspend convertibility with the dollar. Devaluation followed as a matter of course, together with a period of chaos, where most economic activity was conducted by means of barter. Naturally foreign capital would not touch Argentina with a barge pole after this default.

Argentina is potentially a wealthy country with an export-oriented big business agricultural sector. The world economy was booming at the time, and the Chinese seemed to have an insatiable appetite for Argentinean soy. After the default the economy recovered rapidly, assisted by the cheapness of the Argentinean peso in world markets. The country grew by 8.8% in 2003, 9.0% in 2004, 9.2% in 2005, 8.5% in 2006 and 8.7% in 2007. (Greece will not achieve this, as its main exports are to the European Union, still mired in the backwash effects of the Great Recession.)

Argentina began to run a huge trade surplus. It seemed once again a tempting prospect to foreign investors. A deal was negotiated with foreign creditors by 2005 in which they accepted part-payment of the debt. Bonds were swapped at 25-35% of their former face value. Once again Argentina was viewed as a sound investment and, after receiving assurances as to future good behaviour, good money was thrown after bad.

The prospects for Greece in the event of a default don’t seem as rosy as it was for Argentina. When Greece defaulted in 1826, the country was shut out of foreign capital markets for the next 53 years (Reinhart & Rogoff-This time is different, pp.12-13). Modern Greece has actually spent half of its existence in default and financial limbo with foreign investors.

The options facing Greece are default, deflation or devaluation (which means leaving the Euro).

1. Default

A default usually proceeds in the panic-stricken atmosphere of crisis. At the first hint of non-payment a flight of capital and a run on the banks begin. If a government is determined to go through with the default and sees no alternative, it must impose capital controls. It may have to declare a bank holiday as well, and shut down the ATMs. The only effective way to carry through a default effectively is therefore to nationalise the banks.

It may be argued that Greece needs the money on offer. After all the government is still running a primary deficit (a deficit excluding interest payments on the national debt). That means that at least some of the ‘rescue package’ will go to pay for public services, not just drain out of the country as interest payments. So it would be irrational to refuse.

This is a powerful argument. The troika will hand out the payments a tranche at a time. If the Greek parliament refuses to pass the package, civil servants and other public service workers will find that they are not being paid and public services will pack up as the money runs out.

That is how the troika intends to make the Greeks learn how to sit up and beg! But the situation is not governed by economic ‘rationality’. It is ruled by a swelling political mood felt by the vast majority of Greeks that they need to free themselves from the chains of debt.

2. Deflation

In Greece the prospects for deflation – a general reduction in wages and prices - are ruled out. In theory deflation means that, after immense hardship, wages and prices fall till the country becomes competitive. We already know that this is not happening in Greece.

When wages fall, workers do not just put up with it as economic theory predicts. Many leave paid employment and return to their ancestral village to help out on the family smallholding to eke out a living instead. The models used by neoclassical economics are hopelessly flawed.

3. Exit from the Euro

What about exit from the Euro? There is no constitutional procedure for this within the European Union, but that is the least of the Greeks’ problems. The new Drachma, if launched, would probably fall to half the value of the Euro. Many experts believe it would fall far further.

The good news is that this would give Greek exports a competitive edge. Their exports would be half the price that they were before on world markets. The bad news is that their creditors would demand that debts denominated in Euros be repaid in Euros. That would mean earning twice as many new Drachmas as before. That is why it is more important to repudiate the debt than to leave the Eurozone, though one might lead to the other in a crisis.

The traditional justification for higher interest rates on Greek government bonds than elsewhere in the Eurozone is that they are a compensation for greater risk. Yet the speculators seem curiously unwilling to swallow that risk, happy though they are with the return. This is a bone of contention in the tortuous negotiations between the Greek government and the hated troika.

The troika, charged with supervising Greece’s debt repayment, consists of the European Commission, the European Central Bank and the International Monetary Fund. As far as the Greek people are concerned the troika is united in grinding them down with its iron heel, driving them all to penury.

In the summer of 2011 the troika is demanding, as the price of its ‘aid’, the sacking of 150,000 public sector workers, 20% of the total. This is on top of years of hardship already imposed. The troika are demanding 50bn Euros from privatisation, which strikes most Greeks as looting of their national wealth. Inevitably, under present conditions of crisis, this would be a fire sale of assets.

Youth unemployment is already 40% - a generation going to waste. A quarter of the population are below the poverty line, 100,000 businesses have closed since the recession began and industrial production is down by 20%. This is all supposed to restore Greek competiveness!

The political crisis is boiling over. The overwhelming majority of Greeks oppose the terms of the bail out. They are right. It is really foreign banks that are being bailed out at the expense of Greek living standards.

The trade unions have launched eleven one day general strikes and one two day strike against the cuts in little more than a year. Though the ruling PASOK (Pan-Hellenic Socialist Party) has an outright majority in the Greek parliament, defections are putting the imposition of the cuts package on a knife edge.

The troika is divided among itself. The Germans under Merkel have been insisting that speculators who took the risky investment in Greek bonds should share in the losses. They have a point. The ECB is opposed to this, and to the creation of a Eurobond backed by the united authority of the EU.

The rating agencies protest against any clemency to the Greeks. Moody’s Investor Service, Standard & Poor’s and Fitch Ratings are the private capitalist concerns that fix a company’s – and a country’s – creditworthiness. These rating agencies, it will be remembered, are the firms that corruptly signed off incomprehensible Credit Default Obligations as triple ‘A’ rating – because they were paid to do so. This was one of the causes of the ‘credit crunch’. They are deeply implicated in the world financial crash.

Now they presume to declare on the prospects of entire nations. And they have decided that Greece, a country of 11 million people, has prospects not much better than junk bond status. The rating agencies have also decided that any rollover of Greece’s sovereign debt, leaving them on the books but making them payable at a later date, would count as a technical default.

In such a case the agencies can and would blow the whistle on Greece. That would obviously be a green light to the speculators to pull their money out, and could spell ruin for millions of Greeks as the markets effectively bankrupted the country.

So the ECB and the IMF are mortally hostile to a rollover of debt, In fact this would be the easy way out if they could get away with it. It would not, of course solve the problem, but it would buy time.

The ECB is rabidly opposed to the notion of a Eurobond. It also opposes ‘haircuts’ being imposed on Greek government bondholders (mainly French and German banks). It is determined that the Greek people should bear the entire burden alone.

If the whole weight of the European decision-making process and of the EU economy were thrown behind the creation of a European-wide security (a Eurobond) then loans at about the German level of 3%, rather than the usurious rates paid by the hapless Greek government, could be borrowed and passed on to the Greeks. That would require the dominant countries within the Eurozone to abandon their national interests in favour of subsidising Greece.

That opportunity is now gone. Panic has set in on financial markets.

The ECB and IMF are right against Merkel that they are caught in a dilemma. A dilemma is a choice of two alternatives, both of which are impossible.

The ECB and IMF are also concerned with the threat of contagion. If Greece is let off the hook only a little bit, then Ireland, Portugal and all the other debtor countries will be queuing up for equal treatment. If Greece collapses, that could be the start of a chain reaction that could drag the world economy right to the brink of meltdown as it was in September 2008. Commentators are starting to whisper about ‘a Lehman moment’ - that signalled the near-collapse of world banking.

Despite all the top US bankers and the Treasury Secretary being closeted away for an entire weekend no agreement on saving the stricken Lehman Brothers bank could be arrived at in September 2008. Whatever the reason, this failure is now seen as catastrophic – leading to the collapse of all the subsequent financial dominos. Greece could be the equivalent of Lehman Brothers in the sovereign debt crisis. Its default could bring down the Euro.

European-wide decision making is in a state of paralysis. Merkel is playing for time, as usual. Rather than sorting out a common position behind the scenes and presenting it to the world, the troika engages in public dissent.

There are two reasons for this: the first is the clash of national antagonisms within the EU. Merkel and Sarkozy are not concerned with the problems of the Greeks; they are too busy listening to the voices back home. The second is the fact that there is no way out of this crisis. That explains the air of incompetence and dithering displayed by the troika on the public arena as they spin out the moment of crisis.

Half-witted British Eurosceptics like Boris Johnson scoff at the plight of Greece and the Euro. ‘It’s nothing to do with us,’ they rant. The sub-prime mortgage scandal in Florida and California may have seemed to be nothing to do with us. But we’re all part of the capitalist world economy. British banks may have little exposure to Greece, but they are massively committed to Ireland. If Greece went down, Ireland would be next in line to go.

Though British banks have few direct holdings of Greek government debt, they have apparently been having a little flutter on Credit Default Swaps. Described as an insurance policy, CDS are really a form of gambling on the prospects of default. US banks also hold $34bn in Greek CDS. They stand to lose heavily if Greece goes down.

The effect of the rescue package is to save the bacon of the banks who imprudently lent to Greece.  Whatever the eventual outcome, it seems the banks will walk away laughing from the wreckage – as usual. It can confidently be predicted that the political and economic crisis will rumble on and on. No obvious solution is in sight. Only a concerted intervention by the working class can break the deadlock.

4 July 2011

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