The Greeks lied and cheated their way into the eurozone, says Matthew Lynn — and letting them get away with it through a bailout threatens the euro with collapse
When Greece officially replaced the drachma with the euro on 1 January 2001, nobody was in the mood to mourn the world’s oldest currency. A public holiday was declared for 2 January, ushering in a week of celebrations as the country joined the club of rich European countries. Whatever regrets people might have had about losing a currency with which Alexander the Great was familiar were drowned out by the promise of future prosperity. Backed by low interest rates set in Frankfurt — and the implicit promise that all bills would eventually be settled in Brussels or Berlin — Greece suddenly found it could borrow as much as it wanted without having to worry too much about paying it back.
Last month, the reckoning arrived. In December, the main ratings agencies woke up to the perilous status of Greece’s finances and downgraded its debts. Yields on Greek government bonds soared. The talk now is of a bailout organised by the European Central Bank and the European Union. The Bundesbank’s man on the ECB’s executive board, Jürgen Stark, tried to rule that out last week, but it won’t be up to him or the central bank, or indeed the Germans. It will be up to the EU as a whole to decide whether Greece sinks or swims. They should let it drown. The truth is that the Greeks cheated their way into the single currency. Once inside, they fleeced the bond markets to pay for a corrupt and extravagant public spending binge. The best thing the EU can do now is let Greece go broke, and let the bond markets suffer the losses. To rescue the country would, in time, threaten the euro itself. After all, if every government that fiddles its books and borrows far more than it can afford gets a blank cheque from Brussels, the euro will very quickly descend into a joke currency.
The Greek fiasco has been a decade in the making. When the euro was launched in 1999, 11 of the EU’s then 15 members signed up. Britain, Denmark and Sweden decided they’d rather not join. The Greeks, however, had the humiliation of being turned down. The country wasn’t anywhere close to meeting the criteria laid down in the Maastricht Treaty. Greece had a long history of inflation. It was as high as 19 per cent in the 1980s, and only came down to single figures in the mid-1990s. The budget deficit in the 1990s at one point soared to 16 per cent of GDP, and outstanding debts ran to more than a 100 per cent of GDP.
Then, somewhat mysteriously, between 1999 and 2001 Greece somehow got its economic house in order. The deficit dropped to 1 per cent, inflation to less than 5 per cent. The European Central Bank, with some grumbling, relented, and in 2000 allowed Greece to become the 12th member of the eurozone.
As it turned out, however, the numbers were largely illusionary. For example, military spending, thought to amount to about 5 per cent of GDP, had been kept secret. The Greek government even admitted in 2004 that the deficit figures it used in 1999/2000 for its membership application had been made up. Military and social security spending had been ‘miscounted’. Only this week an EU report found ‘severe irregularities’ in the way Greek statistics were compiled. The EU threatened legal action and fines. But it didn’t do the one thing that might have made a difference: telling Greece to start re-minting some drachmas.
What the Greeks didn’t make up was the boom that followed its initial entry into the euro. In 2000, Greek interest rates were 8.75 per cent, but came down to 3.75 per cent by 2001. The country chalked up an average growth rate between 2000 and 2007 of 4.25 per cent a year, compared with 2 per cent for the euro area as a whole. This growth was deceptive, however. It was all borrowed money. The trade deficit soared to 14 per cent of GDP as demand outstripped anything that Greece could produce. It turned out that the government deficit never once met the Maastricht limit of 3 per cent of GDP. Even in the boom years, it was running at more than 5 per cent. Even Ed Balls might reckon that was pushing things. The Greeks weren’t only not fixing the roof while the sun was shining: they were selling off the slates on the assumption rain had been abolished. When the recession arrived, the budget deficit soared to more than 12.5 per cent, the highest in the euro area — albeit about the same as the UK’s.
Unlike Britain, however, the Greeks can’t devalue their way out of trouble. Nor can they get the central bank to print away all that government debt. Instead, the nation’s financial losses are ballooning out of control. According to Capital Economics, government debt will be more than 140 per cent of GDP by the end of next year.
The Greeks are bust. The EU and the ECB face a hard choice. Do they let the Greeks face the consequences? Greek banks hold around 10 per cent of their assets in the form of government bonds. Under extraordinary measures introduced to cope with the credit crunch, the banks could lodge that as collateral for loans from the ECB — swapping bad money for good. Once those measures are withdrawn next year, however, the ECB won’t accept Greece’s junk bonds as collateral. At that point, the country’s banking system may well become insolvent.
Article 103 of the Lisbon Treaty bans bailouts between member states. But as usual, there is room for a fudge. The ECB could ‘temporarily’ extend the rules that allow it to accept those rubbish Greek bonds. Alternatively, rules could be drawn up allowing bonds to be issued with the joint backing of all the euro-area governments. Either way, Greece’s debts would ultimately be guaranteed by German, French and Dutch taxpayers.
A compromise, though, would be a terrible mistake. The Greeks don’t deserve a bailout. They fiddled their way into a currency union for which their economy was unready. Once they’d wangled their way into the club, they ran up a massive tab at the bar without any way of paying for it.
Plenty has been written about the ‘moral hazard’ involved in the bailout of the banking system. The banks took stupid risks, went bust, and someone else had to clear up the mess. But the hazard involved in bailing out Greece would be far worse. Any euro country could cook its books, run up huge debts, and demand its neighbours pick up the bill. If that was the way it worked, even Gordon Brown might wish that he’d joined when he had the chance. The euro would be doomed.
There’s a better way. Greece owes around $340 billion. It’s a big sum, but in the context of the global financial system a trivial one. Just let Greece default, offering its creditors 70 or 80 per cent of their money. Sure, Greece’s credit rating would be shot to pieces. Italian and Spanish bonds would collapse. But it needn’t destroy the euro: it would just make lenders more careful. And everyone would learn an important lesson: the Greeks, that every nation has to live within its means; and the bond market, that lending to small profligate nations is not the same as lending to Germany. The only way to save the euro might be to let Greece go bankrupt — the sooner the better.
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