Arnold Kling asks economists to fill in the blank:
“Greece will achieve economic success when ____”
There is an answer from the Austrian perspective, but first I want to highlight some thoughts from other prominent bloggers.
Option A: Paul Krugman of The New York Times believes that they need a major reduction in their debt burden.
“Two years after the Greek program began, the I.M.F. looked for historical examples where Greek-type programs, attempts to pay down debt through austerity without major debt relief or inflation, had been successful. It didn’t find any.”
Option B: John Cochrane urges structural reforms:
“Advice remains, stop fooling around, massive structural reform tomorrow morning, grow like crazy, pay off debt.”
Option C: Scott Sumner wants the country to build a factory that pumps out nGDP units at an ever increasing, but predictable, pace (I’m kidding, he thinks leaving the euro is likely their best bet):
“a Grexit may be the best outcome for Syriza. There would probably be six months to a year of financial chaos (as occurred in Argentina), followed by many years of very strong RGDP growth for which Syriza would get credit (as in Argentina.) The new Greek currency would immediately lose half of its value, creating a huge boom in industries such as tourism.”
Option D: none of the above
So which is it from an Austrian perspective, A, B, C or D? Surprisingly it’s option E: All of the above. Before we get into that though, a brief rephrasing of Austrian Business Cycle Theory (ABCT) will be helpful. The Austrian description of a recession comes down to the market’s realization that the path of the economy is unprofitable, and that the path must be altered until a profitable way forward can be found. If we piece together our three answers we can create a larger solution that not only should work for Greece but also agrees in principal with major voices in the field of economics.
First we have Krugman’s prescription for reduced debt, and specifically reduced debt servicing. This is widely accepted as sound advice for companies that enter bankruptcy protection, and the same holds true for countries. Many have suggested that austerity alone is the way to go to demonstrate Greece’s willingness to pay for their mistakes (while Krugman goes the other way and says debt reduction with no austerity). This is conceptually problematic for the Austrian as this pathway is highly limiting. It is possible that there is a path to growth that can be found with this combination, but it is far from certain. Pursuit in this direction eliminates any possibility that would contain a short term reduction in income as that would lead to a ballooning of debt and probably an increase in the debt/GDP ratio.
The repudiation or reduction of debt fits nicely into the Austrian model and into generic advice from this perspective. The debt was built up during the unsustainable practices that caused many of Greece’s problems and attempting to pay it off tie Greece’s path to those choices for even longer while also convincing investors in Greek bonds that those purchases were sound for even longer. It should be noted that the debt is not limited to bondholders, obligations to Greek citizens such as pensioners should also face a similar haircut. The same double effect can be noted in this case as well. The government will reduce their expenditures but if they do so without touching pensions those who work in the public sector will be granted greater security than those in the private one. Such a mismatch can only lead to more interest in working in the public sector and thus higher costs for the Greek private sector as they fight for quality employees.
Moving on to Cochrane’s advice, this is just straightforward common sense. Virtually every analysis of Greece’s situation at least nods to major structural problems in Greece. If your issues are caused by cronyism, corruption and government interference in markets then it shouldn’t be a shock if the only way out is to cut back on those issues. No one expects Greece to jump to the top of the corruption perceptions index, but any improvement could open up opportunities for entrepreneurs to help push the economy forward.
Scott Sumner’s suggestion is more subtle than either of our first two, and at first it might seem surprising that a return to a national currency would be included in an Austrian analysis but there is a strong case that it would be a step in the right direction. One of the foundations of ABCT is that prices carry information crucial to properly functioning markets. Moving to the euro was supposed to bring the stability of a powerful currency to peripheral European countries that would encourage foreign investment by reducing exchange rate risk. This logic failed because it is healthy markets that drive the stability of the larger zones which allows for strength and stability of their currency. Trying to impose stability to create healthier markets is backwards as that instability was actually information about the health of those economies. As part of the euro, the immediate effects of Greek policy decisions were swamped by even minor actions of more influential members. The excesses that built up over time were not consistently punished by market forces because the question of how much debt they could service became swallowed by the greater questions of what would happen with that debt when it became an issue for the euro as a whole. An astute investor that realized the structural problems early and shorted Greek debt could be wiped out by a political decision made in Berlin, which made the question of solvency more complicated and opaque than necessary. Additionally the lack of their own currency totally eliminated a secondary pathway of transmitting information- that of fluctuating exchange rates. Returning to the Drachma would allow for greater transparency and in all likelihood the better functioning of Greek markets.
To answer Arnold Kling’s question that started this piece, Greece will achieve economic success when the weight of past mistakes is reduced, including not only bond prices but promised benefits as well as reforms to cut back government influence and corruption, and markets are once again allowed to set prices that reflect Greece as a country and not Greece as a tiny portion of a massive conglomerate.