The demand for a debt cut and end to austerity by the new Greek government is a big challenge for German Chancellor Angela Merkel who has set up the austerity path for Europe. The Grexit that could result from Greece’s clash with Merkel and the EU could hurt Germany as well, says an Economist report. The new leftist government has pledged to renegotiate the bailout program and a confrontation with its international lenders is unavoidable. Germany, Finland and the Netherlands expect from Greece “to stick to promises it made when they twice bailed it out. And in southern Europe centrist governments fear that a successful Greek blackmail would push voters towards their own populist opposition parties, like Spain’s Podemos,” The Economist report says. The writer speculates that there will be three possible outcomes: “the good, the disastrous, and a compromise to kick the can down the road. The history of the euro has always been to defer the pain, but now the battle is about politics not economics — and compromise may be much harder.” According to the article, the new Greek Prime Minister Alexis Tsipras is right about the abolition of harsh austerity that is throttling Europe’s economy. He is also right about asking for a debt haircut, since Greece’s state debt from 109 percent of GDP in 2009, has risen to 175 percent of GDP after six years of austerity and is therefore unpayable. However, he is wrong regarding reforms in Greece. The halt to privatizations, the plan to rehire 12,000 state workers and a raise to pensions and minimum wage are obstacles to competitiveness. The solution proposed by The Economist is: “get Mr. Tsipras to junk his crazy socialism and to stick to structural reforms in exchange for debt forgiveness — either by pushing the maturity of Greek debt out even further or, better still, by reducing its face value. Mr. Tspiras could vent his leftist urges by breaking up Greece’s cozy protected oligopolies and tackling corruption. The combination of macroeconomic easing with microeconomic structural reform might even provide a model for other countries, like Italy and even France.” That would be the good outcome. The disastrous outcome would be an exit of Greece from the euro zone. For Europe it will be less painful than it would have been in 2012, but it would still hurt. “In Greece it would lead to bust banks, heavy capital controls, more loss of income, unemployment even higher than today’s 25 percent rate—and the country’s likely exit from the European Union. The knock-on effects of Grexit on the rest of Europe would also be tough. It would immediately trigger doubts over whether Portugal, Spain and even Italy should or could stay in the euro. The euro’s new protections, the banking union and a bailout fund, are, to put it mildly, untested.” So the most likely answer is the third outcome, a compromise with a temporary stall, but one that is unlikely to last long. Any changes in Greece’s bailout program will have to be voted by European parliaments, such as Finland’s. If Tsipras manages to get any improvements in Greece’s position, then Spain and Portugal will also ask for an end to austerity. There are also technical problems with postponing the issue. The European Central Bank refuses to provide emergency liquidity to Greece’s banks or buy up its bonds unless the Greek government is in an agreed program with creditors, so any impasse is likely to trigger a run on Greek banks. “By stretching out maturities, some of this could be avoided — but that may be too little for Mr. Tsipras and too much for Mrs Merkel.” At this point, Greece brings Europe in front of some hard choices. Ideally, both sides could back down, a compromise will be reached and the issue will have a good outcome. Since after five years of austerity Europe’s southern countries show no signs of growth, high unemployment figures and deflation is setting in, the Greek stance is understandable and sounds all the more reasonable. “If Mrs. Merkel continues to oppose all efforts to kick-start growth and banish deflation in the euro zone, she will condemn Europe to a lost decade even more debilitating than Japan’s in the 1990s. That would surely trigger a bigger populist backlash than Greece’s, right across Europe. It is hard to see how the single currency could survive in such circumstances. And the biggest loser if it did not would be Germany itself,” the article concludes.
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