6. An economic truth consists of a proposition that is deducted by sound logic “from simple assumptions reflecting very elementary facts of general experience.” Cf. Robbins (1932), p. 104. Whether such a proposition is useful is an entirely different matter.or, in the main text:
Because of the complexity of human society, the social sciences always provide many different explanations for the relationship between any two variables. While many of these hypotheses might be true [meaning, here, that they are correctly deducted from Robbins' "simple assumptions"], even when they contradict each other, inevitably some will have greater explanatory power than others.Thinking about economics as a vast web of competing theories, each true but with varying explanatory power, is obviously not the best way to end up with clear, decisive conclusions. That is not always a problem; sometimes eliminating the faulty and the weak propositions is enough to arrive a at a clear conclusion (see: my posts on austerity here, here, here, here and here). But in the case of Greece & the Euro, there are just too many unknowns and too many variables. To begin with, the arguments I've made about austerity in general - and in the Netherlands in particular - absolutely positively with bells on do not apply to Greece. They simply have no alternative to DEFCON 1 levels of austerity. That is true not because the EU says so, but because the capital markets say so. (And, within the capital markets, it's not the evil ratings agencies, but the actual bond traders. There is actually very little evidence that sovereign bond downgrades - as opposed to corporate bond downgrades - have had a significant effect on interest rates during this crisis.) The next concentric circle of reasoning encompasses not just Greece, but also the other PIGS (one I, because Ireland is not included). Sustained competitiveness differential between the core and the southern periphery = sustained current account deficit for the latter = sustained borrowing by the latter (or, theoretically, other forms of FDI, but that is hardly going to cover the entire CA deficit). Combine that with: single currency ≠ rebalancing through devaluation, and you arrive at a serious problem. This is the wider Eurozone crisis, and it needs to be fixed somehow, not just for the benefit of Greece, but for the sake of the entire Eurozone. Analytically, there are two solutions:
- The Eurozone can be broken up, with the periphery countries leaving (or having their own common currency). This SEURO can then be periodically devalued relative to the NEURO, thus preventing a scenario where Germany owns every piece of Portugal, Spain, Italy and Greece, up to and including the Azores and some chunks of Cyprus.
- Instead of lending or investing their current account surplus, the core countries can simply give that money away. The problem is, of course, that we're talking serious money here. Greece alone had a 2011 Current Account deficit of € 21 bn, and adding Spain (€ 37,7 bn), Portugal (€ 11 bn) and Italy (€ 50,3 bn) to that adds up to a total hypothetical bill of € 120 bn which needs to be covered somehow. In an intact and healthy Eurozone, part of the solution would be a realistic interest rate for all things PIGS, which would have the effect of making it harder for these countries to import (or to spend full stop), because of increased financing costs. But at the end of the day, a large portion of that sum would have to be covered through pure transfers, and there aren't enough Greeks working abroad to do that through private sector remittances alone. Either through the tax bill or through the inflation tax (i.e. central bank printing press), the public sector will have to make up the difference. In the long term, the only way out of this is an inflation target that is higher than 2% and (politically) sustainable for all EU countries. Having an average inflation rate of 2% is not very interesting if the spread around that mean is too high. It is better for Europe to have a slightly higher rate if that is what it takes to reduce the inflation differential within the Eurozone.
- A Greece-only SEURO is not a SEURO but a Drachme. And such a currency would not be devalued, because it would be quite capable of plummeting without central bank help. Which brings us to major uncertainty no. 1: Plummet by how much?
- Greece has zero bargaining power vis-à-vis Germany and the other core countries to push for a permanent annual gift or for a higher inflation target. Both are absolute no-go's for Germany. The best they can hope for is to hang on by their fingernails until the crisis subsides through economic growth elsewhere. More German tourists on Greek beaches = Greek economic recovery. Major uncertainty no. 2: How much longer until the EU average GDP growth is back at pre-crisis levels? And major uncertainty no. 3: What will be left of Greece when it is?