Martyred on the euro altar

The Greek debt crisis can be depicted as the ultimate high finance game of “chicken”.

On the one side, the creditor nations of Germany, France et al prescribing the austerity terms that must apply before Greece gets a penny more aid to stave off default.
On the other, masses of rioting Greek citizens rejecting the rescue package and seemingly not caring if public service wages and social welfare gets paid next month, somehow believing that the “mutually assured destruction” that will ensue will persuade Greek creditor nations and their countries’ banks that their best interests lie in forgiveness rather than punishment.

On the sidelines are the Irish, apparently too timid to protest their lot as citizens, but gradually becoming aware that if the Greeks get results by playing extreme hardball then perhaps it is time to think about changing tack.

Certainly, recent pronouncements by Minister for Finance, Michael Noonan and Tanaiste, Eamon Gilmore, have been markedly less pliant than before. The notion that obedient clients like Ireland are effectively penalised for swallowing its harsh medicine while the Greeks walk away is hard to take: the appeal of becoming a rogue debtor state becomes greater daily.

Desperate times require desperate measures: certainly they have worked that out in Greece. Here, we are only starting to contemplate an endgame that now looks likely to include what was previously unthinkable – our exit from the euro.

David Marsh is a man better qualified than most to give some assessment of that likelihood. Back in 2009 he wrote the seminal book on the subject. Now, just two years later, The Euro – The Battle for the New Global Currency, is arriving in a new edition and, at the rate things are changing on the continent, looks like it may have to go back to the printers on a fairly regular basis.

Marsh believes that it is “fairly likely” that Greece eventually will be forced to leave EMU – although the timing is still far from clear. That said, he believes there are three “guiding precepts” which also have relevance for the Irish situation.

First, the Germans will not pull the plug on Greece – “at least, not overtly”. History, according to Marsh, rules this out: “Germany has no wish to return to the psychology of the Second World War. If Greece decides to leave EMU, this will be because of a sovereign decision of the Greek government, the Greek parliament and the Greek people, based on an interpretation of the country's national interest.“

Second, whatever the Germans do, they will not act by themselves. In any new currency arrangement in Europe, the Germans will ensure that they are surrounded by a reliable set of cohesive partners with which they carry out a large share of their trade.

Third, if the Greeks eventually decide to depart from the euro, they will not be left “swinging in the wind”. They will be given “help aplenty” to weather the transition. “Just as the Germans have no interest in being labeled the sole villains of the piece, and will attempt to make alliances with others, no-one has any interest in seeing the Greeks left alone as martyrs - even if that is a Greek word.”

Marsh sees recent events such as the clash between the European Central Bank and the German government on whether "forced" restructuring should form part of the next Greek aid package as part of an elaborate “blame game”.

“All parties in the drama are seeking to offload responsibility for any mishap on to others,” he says. Ultimately, however, it seems that France and Germany have purchased extra time “for what will turn out ultimately to be a heroic but fruitless exercise.”

If that is indeed the case, and we arrive at what would previously have been considers an inconceivable precedent, how far behind can Ireland be? And what will it mean?

Marsh’s book gives some idea of the cost of the euro break-up – and it is not just borne by debtor states.

As far back as 2007, former Bundesbank President Karl-Otto Pohl, saw Italy as a possible exit candidate, saying that its entry was a “mistake” but he went along with it because the Banca d’Italia governor was his friend and he thought membership would “exert a useful discipline on Italy.”

In 2008, Lorenzo Bini Smaghi, a European Central Bank Executive Board member and a man frequently to be found in Irish newspapers exhorting the Irish to stick to the plan no matter how many dead bodies pile up, wrote as follows:

It cannot be totally excluded that a country goes through a recession and gets into difficulties, and comes into a situation where it might consider leaving the Euro area and returning to the former domestic currency. But… what would happen to the country’s debt? Would it be in Euro or – in the case of Italy – in new lire? That would amount to a default vis-à-vis debt holders in a lot of other European countries, so such an occurrence would be less like Russia in 1998, and more like Argentina in 2002. Such a state of affairs would not be merely a currency crisis but a full-scale political crisis. It would lead to capital controls, and probably suspension from European Union.

This was spelled out even more clearly by Banque de France governor, Christian Noyer:

The assumption is that leaving EMU would mean a depreciation of the currency against the Euro. This would inevitably lead to large debt service problems. Most of the country’s public debt would be in Euros, so debt service costs measured in the new domestic currency would rise by the amount of the depreciation. If the country decided unilaterally to re-denominate its debt into the new national currency, this would keep the value of the debt service unchanged for the debtor, but would lower it for the creditors – a move that would ruin the country’s credibility. In both cases, market interest rates would rise sharply, seriously penalising the economy.

The benefits of euro exit, as set out by proponents such as David McWilliams are seductive. The idea that we devalue, deflate and kickstart out export machine seems the only engine towards meaningful growth in the face of the alternative of relentless austerity cuts and tax increases to service unmanageable debt levels.

The problems occur when the country’s credibility is “ruined” and “market interest rates …rise sharply, seriously penalising the economy.“

So, effectively, euro exit would almost by definition mean debt default at some level. And, just like creditor foreign banks and the ECB would now face the prospect of having their debt paid back in punts, the Irish saver will also have an acute problem when the government imposes capital controls to ringfence domestic, euro-denominated savings, prior to leading savers to the Irish punt slaughterhouse.

McWilliams and the exit/default proponents are clear on this.

Argentina not only defaulted, it broke the convertibility with the dollar – and the currency collapsed. People with assets lost out because asset prices fell. People with savings lost because their savings, which had been equivalent to dollars, were now in the devalued peso. People with debts gained because their previous dollar debts were cancelled and turned into peso debts.

If and when Ireland elects to go down this route it is uncertain whether Irish savers will accept their fate with the same meekness with which the average citizen has reacted to austerity to date. On the other hand, those wallowing in debt might see things rather differently. Whatever the case, in the case of exit/default, it is fervently to be hoped that David Marsh’s thesis on the Greek endgame will apply, where the Europeans resist the temptation to leave us “swinging in the wind” and refrain from making Irish martyrs.

The Euro – The Battle for the New Global Currency by David Marsh is published next month by Yale University Press