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Analysis
Tsipras’ euro dilemma

Tsipras’ euro dilemma

Whatever happens, austerity beckons 

by Meghnad Desai

Mon 16 Feb 2015

Any debt offer for Greece from the Eurogroup of finance ministers that satisfies the creditors as well as austerity-enacting debtors such as Spain and Portugal will by definition fail to satisfy the Syriza-led government and the roughly 70% of the Greek population now supporting it.

So Prime Minister Alexis Tsipras faces a fateful dilemma. If the European Union, the International Monetary Fund and the European Central Bank are disobliging, an unpleasant choice beckons: between going back on election promises (which, though not unusual, may cause a widespread and violent revolt in Greece) or deciding to leave the euro. A parallel currency could be a halfway house – but, with a new domestic currency existing alongside the euro, Greece could hardly claim to be fully part of the system.

Greece would have to print its own currency, the New Drachma (ND), which would be heavily depreciated. The population would endure another sort of austerity, disguised by money illusion.

Currency depreciation would maintain money earnings, but ensuing inflation would depress their real value and squeeze demand. The Greeks would endure hardship for five years, but this would be better than the 20 or 30 years of austerity they could face from staying in the euro. Wartime-like solidarity could ease the transition. 

All domestic wages and prices would be fixed in ND, with the euro still in force for international payments. The government could initially peg the ND wherever it wished, maybe 10% below par with euro, but could then leave it to float lower.

Greece could choose to pay its debts in euros. Probably it would renege on them. Greece would have to pay for imports in euros. So it would have to ensure exporters repatriated proceeds and did not divert foreign exchange earnings by devices such as under-invoicing exports.

The lower domestic exchange rate would favour foreign sales, supporting the trade balance and GDP. The weaker exchange rate would also bolster privatisation. The Syriza government will have to earn hard currency somehow. Selling assets may be the best way.

Tsipras does not want Grexit, but a run on bank deposits could force his hand. Any sense of an impending exit would cause depositors to withdraw funds, requiring fresh Emergency Liquidity Assistance from the Bank of Greece. This procedure depends on the ECB’s continuing approval, which could be cut off in the absence of a creditor accord.

The unelected technocrats of the ECB would have to take political soundings before making a decision that would inevitably despatch Greece from the single currency. The Greeks would put up a fight, possibly resorting to legal action to prevent a forced ejection. But accidents do happen. 

Greece would enter uncharted territory. It could turn out happily in the end – but the journey would be tortuous. Profiting from a new currency, Syriza might be able to restructure the economy with greater effect than the former establishment parties. The government would have to raise resources through capital levies and other confiscatory taxes, including on wealthy Greeks who have yet to suffer austerity. 

If Greece is forced to quit monetary union, the Greeks cannot avoid a further squeeze. The hardest-hit could be the oligarchs whose wings Syriza has already promised to clip.

Prof. Lord Meghnad Desai is chairman of the OMFIF Advisory Board.

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