The Guardian Unlimited, June 25, 2011
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The European authorities are playing a dangerous game of “chicken” with Greece right now. It is overdue for U.S. members of Congress to exercise some oversight as to what our government’s role is in this process and how we might be preparing for a Greek debt default. Depending on how it happens, this default could have serious repercussions for the international financial system and the U.S. (and world) economy.
The U.S. government has a direct and significant role in the Greek crisis because the U.S. Treasury Department has the predominant voice in the International Monetary Fund (IMF). The IMF, together with the European Commission and the European Central Bank (ECB) – the three are commonly referred to as “The Troika” – are negotiating a new austerity package with the Greek government. This package promises more suffering for the Greek people – that is acknowledged by all sides. But the Troika think they can ram it through the Greek parliament on Tuesday, with the threat that they will not disburse the next $17 billion installment of Greece’s current loan package, thus putting Greece in a situation of sudden default.
The Troika won the first round of its battle against the Greek citizenry, with a parliamentary vote of confidence last Tuesday; and if the ruling party’s slim majority holds up this Tuesday they will pass the austerity package. But it is a high stakes gamble, and this week’s vote won’t end the instability.
It has been largely forgotten, but there was a Greek debt crisis just over a year ago, in May 2010, that rattled world financial markets. It was exacerbated by the extremism of the European Central Bank, which was also playing a game of brinksmanship back then. On Thursday, May 6, 2010, the ECB refused to commit to buying European government bonds in the midst of the crisis. The idea was that this would be a form of “monetizing” the debt of the weaker Euro zone countries, just as the U.S. Federal Reserve has monetized hundreds of billions of dollars of U.S. government debt in the last few years. This was anathema to the ECB, which is considerably to the right of the Fed. But after a harsh negative reaction in world markets, including a plunging U.S. stock market, the ECB reversed its position four days later and began buying European government and private debt.
Perhaps the European authorities believe they have the tools to stem any panic that may occur this time in response to a Greek default. And as happened last year, they can count on the Federal Reserve to open a swap line of dollars as necessary. But it is worth noting how much the European debt situation has deteriorated over the last year.
At the peak of last year’s crisis, interest rates on the 10-year government bonds of Greece, Portugal, and Ireland were 12.4, 6.3, and 5.9 percent respectively. They are currently at 16.8, 11.4, and 11.9 percent. Credit default swaps for these three countries – a measure of the risk of default – peaked at 891, 460, and 273 basis points in the May 2010 crisis; they are currently at 1,977, 827, and 799.
Clearly the risk of contagion from the Greek crisis has risen significantly since last year. At the time, a number of economists (including myself) noted that the pro-cyclical policies imposed by the Troika would only worsen the Greek economy and its debt situation. This has clearly come to pass, as the economy shrank by 4.5 percent last year, unemployment continued soaring to more than 16 percent, and public opinion in Greece turned sharply against the austerity measures. A “voluntary” rollover by some of the bondholders, as currently proposed, will not resolve the problem. And there is only so much punishment that the Greek population (or the Spanish population, which has recently seen hundreds of thousands of protesters in the streets in the face of 21 percent unemployment) will take. The Greek government has already laid off 10 percent of its government workers, and the plan that they will vote on Tuesday calls for layoffs of another 20 percent. It also provides for a total of 12 percent of GDP of fiscal tightening for 2011-2015 – a recipe for never-ending recession, for the purpose of trying to pay off an unpayable debt to bankers and bondholders.
A Greek debt default appears inevitable, and the potential for financial contagion is significant. What is the U.S. government doing to avoid a financial crisis, and to prepare for the various contingencies that may be anticipated? One would think that after living through the events that followed the collapse of Lehman Brothers in 2008, some responsible government officials in the United States would be asking these questions.