Ambrose Evans-Pritchard: Europe's nuclear brinkmanship with Greece is a lethal game
FRESH from the Hellenic Statistical Authority:
Youth unemployment up to the age of 24 reached a fresh record of 53.8pc in February.
The rate for those aged 25-34 rose to 29.1pc.
The total rate hit 21.7pc but will soon be much higher as 150,000 public sector workers are chopped – with pro-cyclical effects, in the middle of a depression – to comply with the EU-IMF Memorandum
Polls show that 70pc or even 80pc of Greeks still wish to stay in the euro, while at the same voting in large numbers for hard-Left and hard-Right parties committed to tearing up the Memorandum – a course of action that will take them straight out of the euro.
I do not wish to reproach the Greeks for cognitive dissonance. We all do this, and besides, euro membership is more than just a currency for Greece. It is the anchor of identity for an isolated Balkan nation living cheek by jowl with the Ottoman nemesis (nemesis from their point of view. I like Turks).
Greeks have yet to conclude that the euro itself is the cause of their catastrophe – though they are getting there. By the euro, I mean the whole structure of monetary union, made worse under current policy settings (incompetence). There can be no possible escape from this lamentable state of affairs at this late stage until they return to the drachma.
As Charles Dumas from Lombard Street Research argues, the EU doctrine of "internal devaluations" is based on a fallacy. Restoring competitiveness through wage cuts is not remotely equivalent to currency devaluation.
The mechanism of an internal devaluation is to push unemployment to excruciating levels until it breaks the back of labour resistance, opening the way for pay cuts. In fact, it tends to break societies before this theoretical outcome is achieved – if it can be achieved in a context of high debt loads, the Irving Fisher effect.
(Yes, yes, we all know about the Baltics. But Estonia had no public debt when it embarked on its internal devaluation. Chalk and Cheese. Latvia was middling, but it is a tiny open economy that can piggyback on Sweden. The context is entirely different.)
Actual devaluations have the opposite effect. They prevent unemployment from rocketing, instead forcing down demand for imported goods. Iceland’s jobless rate is 7.5pc, nota bene, and its economy grew 2.9pc last year (OECD data). Remember all those dire predictions about Iceland, all those tut-tuts that it was paying a terrible price for clinging to the illusion of a sovereign currency? Even the great Prof Barry Eichengreen fell for that one. His other work redeems him.
Like many journalists, I am bombarded with reports asserting that Greece would suffer near total collapse if forced out of EMU, with some claiming that GDP would fall by 50pc with inflation spiralling into the hyper-sphere.
These numbers are plucked out of thin air. None of the analysts know what they are talking about, and Europe’s political elites – the elites that created this impasse – know even less.
We were told almost religiously that Britain could not safely leave the Gold Standard in 1931 or the ERM in 1992, or that such moves would set off dangerous inflation, and were told much else besides by the shroud-waving hysterics and defenders of the status quo.
We know what actually happened. The UK had its best decade ever relative to other major powers in the 1930s, at least in modern times. Its democracy remained rock solid through the late Depression as others crumbled one by one, or ended in paralysis as in France.
The ERM liberation cleared the way for one of Britain’s less awful decades in the 1990s. The alleged inflation blow-off never occurred. Sterling regained its former level against the D-mark, at the proper time when the cyclical conditions were appropriate.
We were told that Argentina could not leave the dollar-peg once 90pc of mortgages were dollarised, but it did exactly that in 2002 – after street insurrection, five governments in two weeks, and the helicopter rescue of President de la Rua from the roof of the Casa Rosada.
Argentina simply passed a law converting all internal dollar debts into peso debts. Sovereign states can do such things. The country went through a few quarters of trauma. It then saw blistering growth of near Chinese levels of 8pc or so for several years. It overtook its former level of output very fast.
Yes, I know, Argentina could ride the global resource boom, selling soya beans and such to Asia. And yes, Argentina is now screwing up royally again under La Passionata. My point is that the status-quo-mongers denied that Argentina could pull off this feat.
If Greece were to convert its public debt into drachma, it would be in a perfectly viable position. Its private-sector debt is one of the lowest in the OECD.
The EU bodies would have a vested interest in preventing the drachma falling too far in an overshoot, since its own Greek credits would fall pari passu. The ECB might sensibly start buying drachma bonds as part of its reserve diversification.
The devaluation could be held at around 40pc or whatever is appropriate to restore labour competitiveness. My guess is that tourism would recover within a few months, and then boom, provided there was a credible government. The Greek food industry would come back to life. So would light manufacturing.
Investors would flood into the country once the boil had been lanced. This has happened so many times before in the emerging world. Some thought Indonesia would disintegrate in 1998 after the currency fell 70pc. Look at it today.
The chief danger is not for Greece. It is for the rest of the eurozone. If the German political establishment is unwise enough to force Greece out of EMU on the assumption that the country is a special case, it will be disabused of this illusion very quickly.
Total debt levels are 100pc of GDP higher in Portugal, and the country has roughly the same current account deficit. The only difference is that Portugal began its austerity death cure later and has not yet had time to enter into the full vortex of debt-deflation and collapse. Give it a few more months.
Spain and Italy are 20pc overvalued against northern Europe. They too are in wrong currency. They too are carrying out draconian pro-cyclical tightening – 2.5pc and 3.5pc of GDP in one year respectively, far beyond the therapeutic dose of 1pc suggest by the IMF – and they too will find themselves in a self-feeding downward slide.
Be that as it may, global investors will not hang around to see how the experiment unfolds. Nor will Spanish and Italian citizens. Deposit flight will be instant and massive. Indeed, it is already happening, judging from the Bundesbank’s latest Target2 claims on Club Med peers. This reached €644bn in April, or a quarter of German GDP.
Those in the Bundestag, the ECB, and the EU elites now playing nuclear brinkmanship with Greece – ie, threatening expulsion unless Greeks vote again in June, and get it right this time – have misunderstood the predicament they are in. Shakespeare had a term for this: hoisted by their own petard.
As Syriza leader Alexis Tsipras likes to say, Greece has the "ultimate weapon". It can bring down the whole house of cards.
There is no "clean" way to end EMU. But there are certainly degrees of havoc. The least destructive is for the German core to withdraw in an orderly way, leaving EMU to the Latin bloc with euro contacts in tact.
The worst possible way to do end this misadventure is to light the fuse in Greece and set off a chain-reaction of uncontrolled EMU exits and sovereign defaults. Unfortunately, the colossal misjudgement now being made in Berlin and Frankfurt makes this unhappy ending more likely by the day.