Like everyone sympathetic to Greece in the current crisis, I was pleased by the size of the “No” vote in last weekend’s referendum. Even taking into account support from the far right, the 62% for No represents a significant increase in support from the 36% of the vote SYRIZA got in January.
But, I’m not sure how the vote changes the situation in any substantive way. Certainly it hasn’t led to any softening of the creditors’ position. The situation remains what it was before: Greece must comply with the full list of policy changes demanded by the creditors, and any further changes demanded in the future, or else the central bank will keep the Greek banking system shut down. The debt itself is just a pretext on both sides — repayment is not really what the creditors want, and default isn’t really what they are threatening.
I continue to think that the Bank of Greece is the key strategic terrain in this contest. If the elected government can regain control of the central bank — in defiance of eurosystem norms if need be — then it removes the source of the creditors’ power over the Greek economy. There is no need for a new currency in this scenario. If the Bank of Greece simply goes back to performing the usual functions of a central bank, instead of engaging in what is, in effect, a politically-motivated strike, then Greek banks can reopen and the Greek government can finance needed spending without the consent of the official creditors.
More broadly, I think we cannot understand the economics of the situation unless we clearly understand that “money,” in modern economies, refers to a network of promises between banks and not a set of tokens. In this sense, I don’t think it makes sense to think of being in or out of a currency as a simple binary. As Perry Mehrling emphasizes, there have always been overlapping networks of money-contracts, with various economic units participating in multiple networks to different degrees.
Here are a few relevant links, some spelling out my thoughts more, some useful background material.
1. Here is an interview with me on the podcast RadioDispatch. If you don’t mind listening rather than reading, this is my fullest attempt to explain the logic of the crisis.
RadioDispatch interview June 2015
2. I had a productive discussion with Dan Davies on this Crooked Timber thread. Since my last comment there got stuck in moderation for some reason, I’m reposting it here:
From my point of view, the key question is whether the ECB is constrained by, or at least acting in accordance with, the normal principles of central banking, or if it is deliberately withholding support from the Greek banking system in order to advance a political agenda.
Obviously, I think it’s the second. (And I think this is really the only leverage the creditors have — there is no reason that a default in itself should be particularly costly to Greece.) On whether it is plausible that the ECB would (ab)use its authority this way, I think that is unequivocally demonstrated by the letters sent to the governments of Italy, Spain and Ireland during those countries’ sovereign debt crises in 2011. In return for support of those countries’ sovereign debt markets, the ECB demanded a long list of unrelated reforms, mainly focused on labor-market liberalization. There is no credible case that many of these reforms (for instance banning cost-of-living clauses in private employment contracts) were connected with the immediate crisis or even with public budgets at all. I think it can be taken as proven that the EC has, in the past, deliberately refused to perform its function of stabilizing the financial system, in order to put pressure on elected governments.
We can debate how exactly this precedent fits Greece. But I don’t think a central bank that allows its country’s banking system to collapse can ever be said to be doing its job. Every modern central bank — including the ECB with respect to every euro-area country except Greece — will go to heroic lengths, bending or ignoring rules as need be, to keep the payments system operating.
3. Over at The Week, I talk with Jeff Spross about the idea that changes in private financial flows between euro-area countries can be passively offset by balances between the national central banks in the TARGET2 system, avoiding the need to mangle the real economy to produce rapid adjustment of trade flows.
Like many critics of the euro system, I used to think that they had succeeded in creating something like a modern gold standard, and that the only way crises could be avoided was with a fiscal union, so that public flows could offset shifts in financial flows. But I no longer think this is correct, I think that the TARGET2 system can, and has, offset changes in private financial flows without the need for any fiscal payments.
(The Week also had a nice writeup of the Reagan-debt post.)
4. I reached this conclusion after reading several pieces by Philippine Cour-Thimann, who is the source for understanding TARGET2 and its role both in the normal operations of the euro system and in the crisis. I recommend this one to start with. (Incidentally it was my friend Enno Schröder who told me about Cour-Thimann.)
5. One topic I’ve wanted to get into more is the (in my view) limited capacity of relative-price adjustments to balance trade even when exchange rates are flexible. In the past, I’ve made this argument on the crude empirical grounds that Greece had large trade deficits continuously for decades before it joined the euro. I’ve also pointed out Enno’s work showing that the growth of European trade imbalances owes nothing to expenditure switching toward German products and away from Greek, Spanish, etc., but is entirely explained by the more rapid income growth in the latter countries. Now here is another interesting piece of evidence on this question from the ECB, a big new study finding that while there is a substantial fall in exports in response to large appreciations, there is no discernible growth in exports in response to depreciations. This fits with the idea, which I attribute to Robert Blecker, that in a world where prices are mainly set in destination markets rather than by producer costs, changes in exchange rates show up in exporter profit margins rather than directly in sales volumes. And while large losses will certainly cause some exporting firms to exit or fail, large (potential) profits are only one of a number of conditions required for exporters to grow, let alone for the creation of new exporting industries.
6. This is a great post by Steve Randy Waldman.
7. Here’s an interesting find from a friend: In the 1980s, Fidel Castro proposed “a cartel of debtor nations” that would require their creditors to negotiate with them as a group. See pages 278-285 of this anthology.
UPDATE: Re item 2, here’s Martin Wolf today (his links):
The European Central Bank could expand its emergency lending to the Greek banking system. If the ECB were a normal central bank that is exactly what it would do. Greece has a run on its banks. As the lender of last resort, the central bank ought to lend into such a run. If the ECB believes the banks are solvent, it must lend. If the ECB believes the banks are insolvent, it should arrange recapitalisation — by converting non-insured liabilities into equity, by selling banks to new owners or by securing funding from the European Stability Mechanism (ESM).
Unfortunately, the ECB is not a normal central bank…
“I continue to think that the Bank of Greece is the key strategic terrain in this contest. If the elected government can regain control of the central bank — in defiance of eurosystem norms if need be — then it removes the source of the creditors’ power over the Greek economy. There is no need for a new currency in this scenario.”
What do you mean exactly by “new currency”?
I’d argue that Greece is already operating with a new currency–not a drachma but a Greek version of the euro. Greek euro deposits are currently trade at an x% discount to non-Greek euro deposits and banknotes. Taking over the Bank of Greece and having them print euros won’t necessarily change this. It would certainly allow Greek banks to reopen, but who is to say that the Bank of Greece’s new version of the euro will trade at par with, say a German euro? We’d still have the euro in name, but not in value. What’s in a name? Why not just call it the drachma?
Right. But my point is that this “multiple currencies with the same name” situation is actually the normal one. A dollar should be a dollar, but in many cases the cost of something varies depending on whether you are paying with physical currency, a check, a debit card, etc., and these different forms of dollars cannot always be converted to each other at par.
In the long run, a situation where Greek banks settled using liabilities at Bank of Greece, but could not use these to make payments to banks elsewhere in Europe, might evolve into something that looked like “a different currency” in the usual sense. But my point is that this is not a hard binary. It’s a common fiction — often useful but sometimes misleading — that the monetary system consists of a small number of homogeneous currencies.
“Right. But my point is that this “multiple currencies with the same name” situation is actually the normal one. A dollar should be a dollar, but in many cases the cost of something varies depending on whether you are paying with physical currency, a check, a debit card, etc., and these different forms of dollars cannot always be converted to each other at par…It’s a common fiction — often useful but sometimes misleading — that the monetary system consists of a small number of homogeneous currencies.”
Agreed.
Oh wow, I can’t believe I never looked at your blog before. Good stuff!
“Money is an adjective, not a noun” is a phrase I try to beat into the heads of my students, usually to their great confusion.
Thanks!
As for why not call it a drachma — because that would require redenominating all existing Greek contracts. Why go through the hassle?
Fair point. Also, while Greeks would be unlikely to adopt drachmas as a pricing unit and medium of account (preferring to keep euros), they might be more willing to accept Greek euros as a medium of account. As such, Greeks would gain a bit more control over monetary policy.
If they could get their financial system in order another path the greeks could take would be to just use offshore euros like panama’s dollarization. Then there would be no question of a new drachma or a if greek euro deposits would trade at a discount to other countries.
They would lose lender of last protection from the ECB, but clearly the ECB has already failed at the function.
The problem would be to get a bank in London to swap greek euro deposits for offshore euro deposits, but once this is overcome, Greeks could free ride on ECB monetary policy. The only way for the ECB to do anything would be to impose capital controls on Britain and other offshore euro centers.
Right. Or Joe Stiglitz’s suggestion today — an important intervention I think — that the Fed could extend a swap line to the Bank of Greece on the same terms that it does to the ECB, Bank of England, Bank of Canada, etc.
About the “No” vote, you may be right, but looks like there’s a chance the creditors may restructure the debt as Tsipras, the IMF, France, the US and others have been discussing.
Merkel and the Germans had been dead set against that, but it may be the price to pay to keep the Euro together. Your thoughts?
Mine: obviously the size of the debt restructuring matters. More austerity is not good. But the Greeks want to stay in the Euro. Syriza would have provided an example of extracting concessions from the creditors.
My guess is that that Germans will say no to debt restructuring, but who knows?
My guess is that the creditors (not only the Merkel gov, tho obviously they’re central) will want a change of government in Greece before any deal. A coalition with To Potami might be enough.