Larry Elliott's article on Greece in the Guardian this morning deserves to be quoted at length becasue it is just about the clearest piece written on the subject - and every banker needs to read it:
The European Central Bank will not countenance the idea of [Greek] default. That just leaves deflation, and lots of it, as a way of putting the Greek economy back on track and ensuring the single currency remains intact.
This is a crackpot idea for two reasons. First, it runs counter to the basic principles of democracy; the Greek people are clearly not in the mood to bear the spending cuts, the reductions in wages and the sweeping privatisation being demanded of them by the European Union and the IMF as the price of a fresh bailout.
Second, deflation has already made Greece's debt problem worse and more deflation will make it worse still. It is worth spelling out exactly why this is so. The public finances of a country are made up of two components — the annual current budget and the stock of national debt. The national debt is simply the total of all the previous budget deficits or surpluses and is measured as a percentage of overall output. As an example, the UK ran a budget deficit of about £140bn last year, pushing up national debt to just over £900bn. The output of the economy was just short of £1.5tn so the national debt is about 60% of GDP.
In Greece's case, the position is much more serious. At the end of 2010 its national debt was in excess of 140% of GDP. The interest payments on that debt are colossal, and will become ruinous if the national debt continues to rise. But to stabilise Greek debt at 140% of GDP, the country has to run a very large budget surplus once interest payments are stripped out. Charles Dumas at Lombard Street Research calculates that this so-called primary budget surplus has to be in the 7-10% of GDP range. To illustrate the scale of that challenge, in 2010 Greece appears to have run a primary budget deficit of at least 4% of GDP.
Running a primary budget surplus requires revenues from taxes to be higher than government spending. What then are the chances of Greece running a primary budget deficit of 7-10% of GDP if subjected to further austerity measures? None whatsoever, which is why either default or devaluation — and perhaps both — seem increasingly likely.
These are not good options for Greece, either, because there are no good options for Greece. But it is clearly not going to deflate its way to solvency. Providing a second, or even a third or fourth, bailout cannot disguise the fact that monetary union is fundamentally flawed, with zero chance that the weaker members can become as competitive as those at the core. In his discussions with European leaders this week, Barroso may be tempted to raise spirits with the Kinks' Better Things. Who'll Be the Next in Line or Dead End Street would be wiser choices.
Supposedly rational politicians and supposedly rational bankes talk about new bailouts.
Real people on the ground - the sort Aditya Chakraborrty is writing about in the same paper today - can't and won't take that.
This is the reality - and yet it is being ignored.
This blindness led to 2008 and the collapse of the banking system.
It will do so again if we are not careful - and very soon. Not least because as the Mail notes:
But where Greece leads, bailed Ireland and Portugal will surely follow. Both of these bailed-out nations are splintering under the weight of their debt mountains - and few economists believe either will be able to repay their creditors in full.
Under that nightmare scenario, it would be British banks left nursing fresh wounds. UK lenders have an eye-watering £120bn in exposure to stricken Ireland, with bailed-out Lloyds and Royal Bank of Scotland saddled with the biggest loan books.
This is enough to topple the UK's banks all over again.
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Richard, there is no doubt that we are in a very dangerous situation. Further austerity in Greece is impossible as this will deflate the economy more. It seems that nothing has been learnt from the policies inflicted on developing countries with debt problems from the 1980s onwards. I despair that our policy experts and politicians know what to do in these circumstances apart from inflicting more misery on ordinary people at the behest of the Washington Consensus institutions and credit rating agencies. The social discontent arising from all this could lead to the imposition of military dictatorship. We should remember what happened in Germany in the 1930s.
The point is though, if Greece could finance its own national debt and simply roll it over, as we do, it could run a national debt with little problem.
EU countries are not allowed to expand their economies through a national debt. Our national debt is simply rolled over and effectively “re-mortgaged”.
As a consequence, our national debt is quite unrepayable and hasn’t been paid since the 17th century.
Greece would also have no problem if it’s wealthy citizens paid their taxes
That is very true! If governments had the sense to introduce progressive taxation and have the highest earners paying the highest tax, it would go a long way to solving the Greek malaise!
Of course, if they got the rich to actually pay ANYTHING (as in the UK, quite a number don’t) it would be a start.
If the choice is collapsing the banks (again) or waiting until they have wrecked and looted even more and then collapsing anyway, I’d say get on with it.