What began as a growing concern coming off of the financial crisis of 2007 – 2008 has snowballed into a train wreck with global implications. The elephant in the room? Greece’s financial solvency.
Though Greece’s had enjoyed spectacular growth for the two and a half decades following its decision to join the European Communities, a combination of poorly timed infrastructure projects and underreporting of government deficits has culminated in its inability to pay back its creditors. During the fallout of the Great Recession, Greece’s financial situation continued to deteriorate. From the fall of 2009 to the summer of 2011, Greece’s credit rating tumbled from A to C by all major credit rating agencies. The Athens Stock Exchange hit its lowest point since the 1990s.
With Greek/German 10-year debt spreads tripling in less than a year, NSA intelligence reports released by WikiLeaks presented evidence of secret talks to plan the exit of Greece from the Eurozone in 2012. Though the French and German governments later denied the existence of these meetings, the question of whether or not Greece should to exit the Eurozone — a maneuver affectionately referred to as “Grexit” — has become a serious area of contention. While most economists agree that a Grexit would have dire consequences for the global financial system, they disagree over whether a Grexit is preferable to the status quo.
Let us, then, consider the current state of affairs. Various reports conclude that the current policy of austerity to reduce deficits is an unsustainable commitment. The Levy Institute at Bard College has determined that “prolonged austerity will result in a continuous fall in employment, since real GDP cannot grow fast enough to arrest, let alone reverse, the downward trend in the labor market.” Cutting public spending and freezing wages may bring back its creditors, the troika, to the negotiating table in the short-term. Yet, as falling productivity culminates with an inability of the labor market to bounce back, whether Greece will be able to ameliorate its fiscal deficit in the long-run is uncertain.
Eleven austerity packages later, the situation remains eerily similar. As figures from Greece’s national statistics agency report, Greek deficit as a percentage of GDP has nearly doubled EC forecasts to 3.5% as of 2015. Future prospects don’t look so bright either. In October 2015, nearly every single finance minister within the Eurozone has backed the Grexit, at least temporarily. Some projection of real GDP growth even indicate that an accidental Grexit is possible, where Greece is forced to default on its debts due to fundamental insolvency. Whether Greece is doomed to default is up for debate. What is clear, however, is that the status quo leaves much to be desired.
What are the costs and benefits of the obvious alternative, that is, to leave the Eurozone? As stated previously, many economists project that a return to its previous currency, the drachma, would result in recession. Forsaking the euro for a budding currency invites speculation and nearly uncontrollable volatility, leading to inflation, as Greece would have to print money to stay afloat. And yet, this may be still preferable to the status quo. Defaulting on its debts and leaving the Eurozone would allow Greece the autonomy to restructure its economy independently. Bond yields would prove an attractive opportunity for investment, and an infusion of foreign cash could buy Greece the time it needs to negotiate with labor unions and compromise over pension benefits. Leaving the Eurozone would be Greece’s greatest gamble thus far. But if the alternative is a slow march toward bankruptcy, a Hail Mary might just be a call worth making.
References
[1] http://www.wsj.com/articles/greece-falls-short-of-budget-target-1429114735
[2] http://multiplier-effect.org/files/2013/08/Fig4-Real-GDP_Greek-SA-2013.png
[3] http://www.tradingeconomics.com/greece/gdp-growth-annual
[5] http://www.levyinstitute.org/pubs/sa_gr_7_13.pdf