Why Defaulting on Debt May Be an Option for Greece

The main reasons that led Greece to the recent financial crisis are the failure of successive Greek governments to proceed the necessary economic reforms to reduce public spending, including the excessive military budget; the offering of social benefits to the Greek people that practically encouraged relentless spending; and the investment of billions of Euros in social programs that allowed public workers to receive early retirement. Furthermore, the corruption of the government officials alongside the funding of excessive borrowing has left Greece exposed to the recession and ill equipped to cope with its fiscal deficit (12.7%). Besides, the debt of €300 billion ($393.6 billion) is expected to exceed the economy by 120% of Greek GDP by the end of 2010 (Rate €/$ 1.3120 on Sep 21 that this article is produced).

The Involvement of the EU and the IMF in the Greek Debt

On May 8^th 2010, after months of negotiations and given that the Greek financial crisis has caused the Euro to be unstable and the global markets to fluctuate considerably, the European Union (EU) and the International Monetary Fund (IMF) have guaranteed €750 billion (approximately $1 trillion) to help Greece recovering from its debt crisis.

The Greek Prime Minister George Papandreou has agreed to implement a series of austerity measures that aim at lowering the Greek deficit and bring the Greek economy back on track. The economic reforms that all the previous years were not implemented have to be imposed extremely and severely so that the EU and the IMF both continue to provide their valuable help to the Greek State. In the event that Greece fails to implement the austerity measures that involve a series of reforms in the public sector, the insurance sector, the pension schemes, and the salaries, the EU and the IMF will cease their economic help and Greece will default on its debt, which means going bankrupt.

For the time being, the representatives of the EU and the IMF are visiting Athens every three months to check on the reforms and the progress of the Greek economy. So far, Greece has received the first installment of €20 billion ($26.2 billion) on May 19 and the second installment of €6.5 billion ($8.5 billion) on September 13 and €2.5 billion ($3.2) on September 14.

Why the Greek Economy Cannot Recover Only With Foreign Help

When a country is subject to the IMF rules, it automatically has to pay the liabilities toward third parties and not only its internal debt. This means that Greece has to pay off its international lenders to gain back its credibility in the international markets and then it has to pay off its local lenders. The Greek citizens are called to carry the huge burden of cut pensions, cut salaries, increased taxation and high unemployment all at once. However, with consumer spending being historically low and with Development Law offering practically no investment incentives one cannot help but wonder: how will the average Greek consumer be freed to spend money so that Greek firms sell their products and services and avoid going out of business? How will unemployment rate be lowered when people are fired and firms are closing everyday? How will the Greek economy recover if the Greek State does not find ways to help itself?

Why Defaulting On Its Debt May Be an Option for Greece

According to the Greek Prime Minister George Papandreou defaulting on debt "would be wrong for the Greek economy, it would be wrong for the European economy, it would make things worse in the end."

Would it?

Here is the big picture: many sectors are every day on strike. Greek society is on turbulence. In terms of exports, Greece cannot follow the European Union. The austerity measures have sunk the Greek population in depression. Several Greek banks are freezing the deposits of consumers so that people cannot withdraw their money. The official excuse is "system restructuring" (which is going on for over 4 months now), but what possibly happens is that Greek banks are gathering as much money as they can. The credibility of the country abroad is doomed, not only because Greece has asked for the help of the EU and the IMF, but mostly because it has been spending money it didn't have and has been lying about it for many years. As for the Euro, it becomes more and more vulnerable because investors do not see it as a strong, hard, and solid currency. If the European Union puts up with a country that has falsified national accounts, why would people invest in Euro?

If Greece declares bankruptcy and exits the Eurozone, they would be able to devalue their currency and increase their exports. At this point, this seems like science fiction because of the huge fiscal deficit that is 4x higher than the 3% that the EU allows for its member States. Besides, Greece lacks export competitiveness. By being in the Eurozone, Greece is trapped and has to implement the painful austerity measures to become competitive. The problem is that no matter how tight the policies are the debt is so huge that it seems almost impossible to achieve what no other country has achieved so far: having a deficit greater than 10% of its GDP and overcoming recession without devaluing its currency.

Without any doubt, the Greek economy will be at the centre of attention until 2012 when Greece is required to bring down its deficit with the introduction of cuts in public spending and tax rises. The European economy and, to some extent, the global economy are affected by the Greek debt crisis mainly because the Euro fluctuates and the country's credibility is hurt. If Greece declares bankruptcy, maybe it has an option. By returning to drachma and devaluing its currency, Greece won't be obliged to pay off its debt. It will be only obliged to export its products to the foreign markets hoping that, in the long run, it will become a competitive and prosperous country again; only this time without corrupted politicians and falsified national accounts.

Sources:

http://www.ecb.int/stats/exchange/eurofxref/html/eurofxref-graph-usd.en.html

http://www.huffingtonpost.com/2010/06/07/eu-imf-create-1-trillion_n_603426.html

http://www.reuters.com/article/idUSTRE68C32O20100913

http://www.bloomberg.com/news/2010-09-20/greek-default-would-be-tragedy-papandreou-says-vowing-it-won-t-happen.html