Why I’ve Changed My Mind About Grexit

Daniel Munevar

Daniel Munevar is a 30-year-old post-Keynesian economist from Bogotá, Colombia. From March to July 2015 he worked as a close aide to former Greek finance minister Yanis Varoufakis, advising him on issues of fiscal policy and debt sustainability. He was previously fiscal advisor to the Ministry of Finance of Colombia and special advisor on Foreign Direct Investment for the Ministry of Foreign Affairs of Ecuador. He is considered to be one of the foremost figures in the study of Latin American public debt. Here he talks to Thomas Fazi about the latest bailout deal, explaining why the events of the past few weeks have made him change his mind about Grexit.

What do you make of the latest bailout agreed between Greece and its creditors?

Well, first of all it’s still not clear that there will be an actual agreement – there are several parliaments that need to approve their country’s participation in an ESM bailout. And even if they somehow reach an agreement, there is simply no way it can work. The economics of the program are just insane. They haven’t announced the precise fiscal targets yet, but if we look at the Debt Sustainability Analyses (DSAs) published by the IMF and the Commission, they both state that the target should be a 3.5% primary surplus in the medium term. But if you look at what has happened over the course of the past five years, Greece has managed to ‘improve’ its structural balance by 19 points of GDP. During that same time, GDP has collapsed by about 20% – that’s an almost one-to-one relation. So if you start from -1% – which is the general assumption for this year – to make it to 3.5 means you need an adjustment of over 4% of GDP, which means GDP will collapse by another 4 points between now and 2018.

This brings us to another point, which is that the current agreement is just a taste of things to come. The final Memorandum of Understanding (MoU) is definitely going to contain much harsher austerity measure than the ones currently on the table, to offset the drop in GDP that we have witnessed in the past months as a result of the standoff with the creditors. The problem is that these Memorandums are turning Greece into a debt colony: you’re basically creating a set of rules which, as the government misses its fiscal targets – knowing for a fact that it will –, will force the government to keep retrenching even more, which will cause GDP to collapse even further, which will mean even more austerity, etc. It’s a never-ending vicious circle.

This underscores one of the core problems of this whole situation: i.e., that the institutions have always disentangled the fiscal targets from the debt sustainability analyses. The logic of having debt relief is that it allows you to basically have lower fiscal targets and distribute over time the impact of fiscal consolidation. But in Greece’s case, even if there is debt relief on the scale that they are suggesting – which is unlikely – Greece will still have to implement massive consolidation, on top of everything that has been already done.

At least debt relief is being openly discussed now…

Yes, that’s a good thing. But the creditors have known all along what the IMF has only recently admitted: i.e., that Greece was/is insolvent and that its debt was/is unsustainable. The IMF’s latest DSA is very clear on that point. But previous non-published DSAs all said pretty much the same thing: Greek debt was/is fundamentally unsustainable. But the Europeans never agreed to that, even though it was clear to everyone that without debt restructuring – and, importantly, without tying this to lower fiscal targets – there was never going to be a sustainable deal. Only now is the issue starting to be openly debated and that is partly because the situation has gotten so bad that it can’t be ignored any more, and partly because, when the risk of Greece exiting the euro became evident, the US started putting pressure on the IMF to put pressure on Europe on the issue of debt restructuring.

Speaking of Grexit, isn’t it somewhat contradictory that Germany opposes debt relief but is willing to contemplate a solution that would almost certainly cause Greece to default on its external debts – meaning that Germany would lose all the money it is owed?

If you look at this in purely economic terms, yes. It doesn’t make sense. But this whole drama was never about economics, or about Germany not losing any money. We are talking of a German exposure of about 80 billion euros, after all – peanuts, in the larger scheme of things. This is about making an example out of SYRIZA and setting an example for the rest of Europe. Everything that has happened over the past months was simply a way of telling the people of Europe: ‘Look, you shouldn’t vote for parties that have this type of agenda because we will crush you. This is what happens when someone doesn’t follow the rules or refuses to pay the bills. It’s either austerity or you’re out’. Tsipras said it clearly – that he signed the deal with a knife to his throat. This was Schäuble’s argument for Grexit: if the Greeks don’t want to pay, let’s kick them out, watch them suffer, and then use that as a catalyst to put the fear of God into all other indebted nations.

Was the Greek government aware right from the beginning that the creditors were not willing to budge on the issue of debt relief?

Yes, but Varoufakis’ position was that Greece should nonetheless fight to get a deal that made economic sense – i.e., one that included debt relief and sustainable fiscal targets. But, as he explained in his interview to the New Statesman, all along he was working under a collegial decision-making system where he was always in the minority. So his actual capacity to do things was quite limited. The point is that the majority of Tsipras’ inner circle sincerely believed that if Greece made concessions, it would be able to achieve a good deal. Which is why after the Riga Eurogroup, Tsipras essentially sidelined Varoufakis and decided to start making concessions to see if that would work. This has been the position of the government in the last months. If you compare the proposals from March with the ones that are now on the table, there has been a complete turnover for the worse. And that is because these people believed that through concessions they could get a good agreement – which is also why, up until the referendum, debt relief wasn’t even on the table. But of course it didn’t work, because the creditors were not willing to give Greece anything that it could claim as a political victory.

Do you think it would have been better for the Greek government to stick to Varoufakis’ debt-relief-or-nothing strategy?

In all honesty, it’s hard to see how things could have gone differently. The Greeks had no money and no power. The only weapons they could bring to the negotiating table were reason, logic and European solidarity. But apparently we will live in a Europe were none of those things mean anything.

So both strategies – Varoufakis’ and Tsipras’ – were bound to fail from the start?

Yes, it was a trap. Every time the European institutions faced a challenge from a national government in the past they resorted to threats – raising the interest rates of government bonds, threatening to shut down the banking system, etc. – to bring it back into line. And in the past these threats had always worked: the governments always backed down. And they assumed that with SYRIZA it was going to be the same. But Greece didn’t back down. Which is why the institutions reacted in such a vicious manner.

Do you think the introduction of IOUs – as suggested both by Varoufakis and by Schäuble – was a viable alternative for Greece?

The problem is that once you start introducing IOUs to pay salaries and pensions, you end up going down a slippery slope, because people are going to assume that this is the first step towards actually leaving the euro, so they will adjust accordingly and hoard available euros. As a consequence, economic activity would decline even further and a higher share of tax revenues would need to be denominated in IOUs. This in turn would force the government to issue even more IOUs to cover its funding. So you would basically find yourself in a self-fulfilling cycle, which would eventually lead to a de facto exit.

This is why the Greek government refused to use this financing method, because the risk of starting a process from which you cannot come back is real. Look at what is already happening now, with Greek banking deposits: in a sense Greece is already one step out of the euro, because it’s in a situation in which the deposits in the bank accounts are not trading at par, meaning that one euro in the banking system is effectively worth less than a euro in cash. This is because the simple talk of exit has created a risk differential between cash and deposits, since it’s the deposits that would get converted into drachmas in the case of an exit. This is why a lot of businesses in Athens are not willing to accept electronic transactions. With IOUs it would very likely be the same: you would put in motion a self-fulfilling mechanism that could easily lead to an exit, regardless of whether the government wants it or not.

Which is probably exactly what Schäuble was hoping for…

Exactly. And in the end he will probably get what he wants – i.e., a Grexit –, because this deal doesn’t solve anything. Not for Greece, not for the eurozone. It actually makes the underlying problems even worse. As I said earlier, even if you provide all the debt relief that is on the table, if that’s not connected to lower fiscal targets you’re still going down the path of contraction. Which means that it’s only a matter of time before the Greek economy goes off the rails and the whole discussion about Grexit comes back to the fore.

Do you think that Greece should opt out of the euro?

Look, I’ve always been against Grexit – like Varoufakis. But now, as a result of the bailout agreement, Greece is a situation where the costs of staying in the euro have gone up so much that it’s possible to establish that there is a trade-off between going out – and facing all of the short-term costs of leaving the euro – versus staying in a circumstance where you are forced to renounce your sovereignty without getting any economic relief in exchange. I think that Tsipras has made up his mind on this issue and has concluded that the best thing for Greece is to stay in the euro, regardless of the costs. And it’s a respectable decision. But once you start assessing the economic logic and everything that has happened, you can’t but conclude that Greece has no future in the euro.

So this deal simply postpones the inevitable. Because it’s clear at this point that there is not enough political will in the eurozone to fix the structural problems of the euro. Which, interestingly, is exactly what the IMF is implying in its latest DSA, which essentially states: either you do a haircut or you establish a system of transfers for Greece – in other words, you create a federal Europe. We all know that this is the original sin of the euro: to have established a common currency without a system of common transfers. But there is no will to fix it. So we might as well accept that it doesn’t work. This shouldn’t be a taboo in Europe anymore after what happened in Greece.

Where does Varoufakis go from here?

Well, based on his ‘no’ vote in the parliament, it would seem that he is de facto positioning himself to the left of Tsipras, which could eventually translate into an actual political alternative. So look out for that.