Alasdair Macleod – 29 April 2010
When faced with insolvency, there comes a time when a decision has to be made: do you attempt to pay back what you owe, or do you default? For individuals it is the choice between struggling on and bankruptcy. For countries it is no different. The decision point is governed by the underlying arithmetic, but the relationship between creditor and debtor also changes. There comes a point where the creditor refuses to extend more credit. If further credit is unobtainable, what is the point of repaying the money owed?
This essentially is the position of the Greek government. Her cost of borrowing has escalated beyond what she can afford, reflecting the increasing likelihood of default. We can only guess the extent of the crisis: there is the relationship with the rest of Europe at a political level, there are other inter-government commitments, public sector wages to pay, services to provide, and private sector banks to support. All these important considerations persuade the government to seek more credit to keep going. Its strategy is to play on fears of contagion: “if you don’t support us”, it signals to fellow euro-members and the IMF, the problem will spread, undermining the whole European experiment. We are too big to fail.
Maybe; but most of the burden of the rescue falls upon Germany’s shoulders. And it is not just €50bn; that is just for starters. Berlin must be aware that its share of the rescue will amount to at least €100bn over the next two or three years. This is too much for Germany to bear. The only sensible solution is for Greece to make its own arrangements.
It is also sensible for Greece. No good comes out of the bondage of financial subsidy, and to accept a bail-out will commit her to many years of penury. If she goes bankrupt, much of the social strife will disappear, because it becomes pointless, and she will quickly become self-sufficient. For her the Keynesian tyranny will be over.
This reality is not understood by European politicians, and is only gradually dawning on markets. The political implications are overwhelming, for reality is calling time on the European experiment. The whole basis of its statist approach is being disproved as unaffordable. Europe needs to move on, as the cliché has it.
The financial implications are also overwhelming, because events, which are a solution by default that unwinds European socialism, will lead to the collapse of everything around it. This includes the banks, because there will be runs on them. And without the lubrication of a functioning financial system, manufacturing, services and trade are disrupted. The global implications are obvious, since the EU is the largest economic unit in the world, surpassing that other bankrupt entity, the US.
Doubtless, Berlin will try to come up with something, because no one wants to be accused of collapsing the system, but she cannot afford to act as regional lender of last resort nor is there the political will. With muted support from Germany, the IMF will have the decision, and she lacks the resources to do it.
There is a way for the Keynesians to buy time: the European central banks and the IMF could sell their gold to China and India. But here the numbers still do not stack up: the IMF has announced the sale of the rest of her unencumbered gold, but that only raises €5bn. If the Euroland banks got together to release 2,000 tonnes that would raise €56bn, just enough for a down-payment for Greece. China would surely love to swap some of its dollars for gold, which perhaps is why this option will be rejected.
Any such action would not resolve Europe’s underlying problems, and this is what the high officials in Berlin and Washington now understand. What they know now, we learn tomorrow: Greece’s bankruptcy is now inevitable.