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A “Grexit” from the Eurozone?

David Judd Jun 5, 2012

With the strong showing of the Coalition of the Radical Left (SYRIZA) in elections on May 6, the struggle against austerity in Greece has advanced to a new stage. With SYRIZA projected to receive an even greater share of the vote in the upcoming June 17 elections, the prospect of a left-wing government taking power in Greece appears more possible.

SYRIZA has declared its intent to reject the austerity conditions dictated by the Memorandum of Understanding with the "troika" of the European Union (EU), the European Central Bank (ECB) and the International Monetary Fund (IMF)–essentially, the conditions imposed on Greece in return for the bailout of the country's financial system.

This has raised fears in the mainstream media that Greeks will refuse to suffer further mass immiseration in order to repay the debts owed to European banks and investors. Politicians and bankers fear that Greece will be forced to exit the eurozone, the group of 17 countries that share the euro currency, thereby sending shock waves through the European and world economy.

SYRIZA's rejection of austerity presents a major political challenge to the European ruling class and their vision of the European Union. While the European ruling class has engaged in a fear-mongering campaign to paint the upcoming Greek election as a referendum on Greece's membership in the EU, SYRIZA has insisted that the rejection of austerity and the rule of the banks can and should be undertaken on a Europe-wide basis, and that implementing the party's program doesn't necessitate a Greek withdrawal from the eurozone.

In taking this position, SYRIZA has called into question the fundamentally undemocratic structures of the EU and the dominance of finance capital in all decision-making, and opened the discussion to a different vision of a united Europe.

However, it is unclear if this will be possible, because the decision ultimately rests with the German government, which dominates the ECB and thus has the power to decide whether Greece will be forced out of the eurozone.

Germany does not want Greece to escape the austerity regime it has imposed without punishment, because it would serve as an example to other European countries in similar situations, the so-called PIIGS (Portugal, Italy, Ireland, Greece and Spain)–especially Italy and Spain, the third and fourth largest economies in Europe, respectively.

This has set the stage for a showdown between SYRIZA and the neoliberal forces that control Europe's finances, headed by the ECB, IMF and conservative German Chancellor Angela Merkel. While the latter are attempting to portray Greece as the cause of the crisis, SYRIZA's leader Alexis Tsipras puts the blame for a possible Greek exit from the eurozone and the economic crisis as a whole squarely on the shoulders of the ruling class. As Tsipras recently said:

The threat to the future of the euro does not come from Greece and certainly not from SYRIZA…Look at what is happening in Spain, look at the anxiety of Italy, at the increasingly prevalent belief that the eurozone cannot survive in its present form without major changes, which will lead us out of the deadlock of austerity. The problem is not restricted to Greece, but to Europe–therefore, the solution must be European as well. This is our message.

While the overall political conflict that is playing out is a clear conflict between the European financial elite and the Greek population suffering a massive economic attack, the details of the financial situation and the possible results of a Greek exit from the eurozone are very convoluted.

In order to clarify what is actually happening in the financial arena, it's useful to examine the steps that led up to the present crisis, the plans put forward by SYRIZA and Europe's financial rulers, and what would likely happen under different future scenarios.

SYRIZA'S rejection of austerity comes on the heels of three years of failed bailouts and austerity measures. An understanding of the situation must start with the origins of Greece's debt, and the attempts that have been made so far to solve the debt crisis.

When Greece joined the eurozone in 2001, foreign loans started flowing into Greece from Germany and other wealthier countries, offering credit with low interest rates to Greek consumers, which allowed them to buy exports from these same countries in the European "core."

This built up Greek consumers' indebtedness and boosted foreign capital twice over: once via the profits on the interest on the loans, and once via the goods that Greeks imported with the loans. The financial success of Germany and other wealthy countries was thus paid for in part by a buildup of debt in Greece and other "peripheral" countries.

Bolstered by strong consumer spending, foreign banks lent extensively to Greek banks and the Greek government. The bankers assumed that because Greece was in the eurozone, the ECB would protect their investments in the event of a downturn in the Greek economy.

While the German press and Merkel have portrayed Greeks as profligate spenders, from 1998 to 2007, Greece spent $5,400 per capita on social protection benefits, less than half the per capita sum for Germany and France.

Greece's sovereign debt (debt held by the state) was increased by wasteful spending on a number of projects, including the 2004 Olympics–which cost somewhere in the vicinity of $18.7 billion–as well as high defense spending. The latter accounts for 4 percent of gross domestic product (GDP) and totals $19 billion over the past decade, including $2.25 billion for three German submarines and $1.8 billion for 24 American F-16 fighter jets.

Greece's debt problem was compounded by widespread tax evasion by Greece's wealthiest citizens. Earlier this year, the Greek government published a list of 4,152 major tax dodgers who collectively owe the state a total of nearly $23.4 billion.

The bailout of banks by governments across Europe in the 2008 financial crisis and the resulting transfer of bank debt to European states were a blow to an already weakening European economy. The subsequent decrease in tax revenues raised concerns about the long-term viability of government debt across Europe. The private-sector financial crisis has thus mutated into an ongoing sovereign debt crisis, with Greece at its forefront.

The initial European ruling class response to the sovereign debt crisis was to bail out troubled governments while demanding that they cut costs through austerity measures and use the cash freed up to pay down their debts. But austerity resulted in further economic contraction, which decreased tax revenues and made it harder to pay back debt.

Greece's policy of gearing government spending towards the needs of creditors rather than social welfare is one of the reasons why the country has faced such a deep recession. Since revenues have not been used to prop up the economy or maintain the living standards of Greek working people, the country's economy has continued to plummet, and is in a worse position than at the start of the crisis.

Greece has already partially defaulted on its debt twice. In a deal negotiated with the IMF and EU in October 2011, which was extended to private banks just this March, holders of Greek bonds agreed to write off slightly more than half of the country's outstanding debt. This was a necessary precondition for Greece to receive its second international bailout package, worth $173 billion.

But even this measure, together with austerity, hasn't made a dent in Greek debt as a percentage of the country's GDP. In other words, even though Greece's total amount of debt has been reduced, the country's shrinking economy makes it impossible to pay down that debt.

Greece, of course, is not the only "problem" country of Europe. Portugal, Ireland, Italy and Spain have also imposed austerity policies in exchange for bailout funds from the troika. They are potentially on same road as Greece.

The widening debt crisis compelled the eurozone countries to try to create a financial firewall to stop a total meltdown. In March, European finance ministers pooled their resources to create a combined bailout fund of nearly $1 trillion, as insurance against any worsening of the sovereign debt crisis.

But $375 billion of that sum is currently on loan to Greece, Ireland and Portugal, and of the new money, much may not be available until 2014. And the wealthier European countries are only prepared to pay so much; Germany's GDP for 2011 was less than four times the latest fund's total, at $3.2 trillion.

Economists agree that should Italy or Spain unravel, the sum of all the existing bailout funds–which includes the IMF, the European Financial Stability Facility (EFSF) and the European Stability Mechanism (ESM)–won't be enough to prevent a collapse. And Spain is well on the way down.

In fact, a major reason why Germany doesn't want to allow Greece off the hook for austerity is the risk of Italy and Spain following its example. If Spain or Italy were to default, whether voluntarily or as part of a renewed crisis, German capitalists would be in serious trouble.

Europe's rulers are prepared to impose any amount of suffering on Greek workers in order to prevent Spanish and Italian workers from seeing the election of a left-wing government as an easy way out of austerity.

For the European ruling class, the only serious hesitation comes from the possibility that punishing Greece might simply lead to further market turmoil and an involuntary Italian or Spanish default, a possibility explored further below. And as the example of Greece shows, Europe's capitalists may also be constrained by the pressure of their own workers.

After an escalating series of struggles in Greece over the past four years against the austerity program imposed by the troika, including more than a dozen general strikes, SYRIZA has the potential for an electoral victory.

This would allow it to implement its five-point program of immediate demands, which includes cancelling the austerity mandated by the Memorandum as a condition of the troika's bailout. SYRIZA vows to overturn laws that further cut wages and pensions; put on hold all debt servicing; and launch national and international investigations of the banking system.

SYRIZA's plan calls for suspending its debt payments, not an outright default. Yet if SYRIZA wins the election and implements its program, mainstream politicians and pundits expect Greece to be expelled from the eurozone and default on its loans. According to CNN's website, for instance, "While most Greeks want to remain in the eurozone, many economists doubt that will be possible if the bailout deal collapses."

A suspension of debt payments would push the entire Greek banking sector into insolvency, because Greek banks hold large quantities of Greek bonds. If the ECB refused to continue providing support for Greek banks, the Greek government would have little choice but to nationalize the banks, taking their debts onto the government's books. The government would have to provide the banks with large quantities of cash to pay back depositors. Otherwise, a run on the banks would send them into collapse.

Nationalizing bank debt would be difficult for the already cash-strapped government. As part of the eurozone, Greece lacks the ability to print its own money. The only way to keep the banking system solvent might be for Greece to leave the Eurozone and revive its own former currency, the drachma. But that's an unattractive option for ordinary Greeks, as we will discuss further.

Despite the risks, however, rejecting the austerity conditions of the Memorandum and ending Greece's punitive debt payments is the only way to stop Greece's economic nightmare.

Since approximately 85 percent of new loans are going towards servicing Greece's existing debt, the cancellation of debt payments and the loss of new loans would largely cancel each other out from the perspective of Greece's budget. Greece's primary deficit–what the government borrows to cover spending other than payments on the debt–is actually quite low, approximately 2 percent of GDP, down from over 10 percent in 2009.

A left-wing Greek government could also boost its revenue by collecting the billions of euros in taxes that Greek capitalists have evaded, and by raising tax rates on the rich. In fact, SYRIZA's expanded 40-point program for a massive realignment of Greece's economy and society includes raising taxes on those with incomes over $626,000, corporate income, financial transactions and luxury goods, as well as for cutting military expenditures. As Tsipras has said:

There is a great deal of leeway for slashing public spending, but not from salaries or even worse by throwing 150,000 people out in the street, as the memorandum suggests. The bulk of the waste is elsewhere. It is in the sinful contracts issued by the civil service, in the fees for a countless number of commissioners, administrative advisers and golden boys, in kickbacks of all kinds, in infrastructure projects that are paid at two or three times their actual cost, and in the state's willingness to give up on any of its interests in order to serve private interests. As far as revenues are concerned, the biggest problems are the recession, tax evasion and the systematic exemption of the haves.

While mainstream commentators are predicting that Germany will insist on Greece leaving the eurozone if it abandons austerity and stops repayment on the debt, Tsipras apparently intends to enlist other countries in danger of default, such as Italy and Spain, in order to put pressure on Germany's Merkel, and hopes that she will blink at the prospect of dealing with the consequences of a Greek departure.

Thus, when asked whether it was realistic for Greece to remain in the eurozone while maintaining SYRIZA's policy of "no sacrifice for the euro," , "It is a reality that we can fight for." Tsipras has expressed a cautious optimism, stating at a press conference in Berlin, "I do not think that a rejection of the austerity program means that the country would have to leave the eurozone…We will try to find solutions at a European level, and I am convinced we will be able to succeed."

But it's not clear to what degree the rulers of other European countries, even those facing potential defaults of their own, will be willing to back SYRIZA's demands. For instance, the recently elected social-democratic prime minister of France, François Hollande, snubbed Tsipras during the SYRIZA leader's visit to Paris, despite the fact that Hollande is under pressure from his left to offer at least token opposition to austerity.

While Hollande has some differences with Merkel and her government in Germany, he is no anti-austerity radical. He is committed to protecting French banks, which are heavily invested in Greek bonds and those of other "peripheral" countries. He may use SYRIZA's gains as a point of leverage in negotiations with Merkel and the ECB, but he will not adopt a radical program that threatens the interests of French capital.

Pressure from center-leftists like Hollande may help wring some concessions from Germany. Ultimately, however, working-class mobilizations throughout Europe are the only road to defeating austerity.

While SYRIZA has demanded an end to austerity as a solution to Greece's crisis, the European ruling class is struggling to come up with its own solution to the crisis. So far, this has been to continue the same failed strategy of the past three years, with the options under debate restricted to additional bailout funds and minor tinkering with austerity.

France, Italy and Spain, among others, have proposed raising additional bailout funds by having all the eurozone countries jointly issue "eurobonds," which would allow the debt of troubled countries to be refinanced at lower interest rates. That's because their repayment would be guaranteed by countries with relatively stable economies, especially Germany. This would also transfer a chunk of the periphery's debt to the coalition of 17 eurozone countries.

Yet this move would only move the debt from the weaker countries to the stronger ones, not eliminate it.

More important, this strategy is not something the European ruling class agrees on. At a recent EU summit, Hollande insisted that eurobonds should be on the table, while Merkel, unwilling to make further concessions or put Germany on the hook for any more debt, called this option completely unacceptable. Merkel also claims that issuing eurobonds is illegal under EU law.

Having the ECB simply print euros to lend to heavily indebted countries would be a more direct solution than issuing eurobonds. That option, however, is not even under consideration. Germany and France both oppose this move because it would lead to higher inflation throughout Europe. Furthermore, opponents argue that there is a legal obstacle for the European Central Bank. In this view, the ECB's mandate makes price stability–that is, avoiding inflation–its top priority.

Moreover, even if more bailout funds materialize, it's unlikely that they'll be made available to Greece if SYRIZA wins the election.

Germany, the ECB and the IMF have threatened Greece with dire consequences if it fails to continue with the austerity program mandated by the Memorandum, which has created the fear that if SYRIZA follows through on its plans, Merkel will find a way to kick Greece out of the eurozone.

The EU constitution doesn't provide any way for countries to be forced out of the eurozone, but if the ECB, on the instructions of the German ruling class, stopped providing Greek banks with temporary liquidity, Greece would effectively be expelled from the eurozone. If Greece is forced to relaunch its old currency, the results will be devastating for Greek workers.

One of the main effects of a return to the drachma would be a near-instant devaluation of the new currency, which economists estimate would be around 50 percent. Once the drachma was put into circulation, there would immediately be a great deal of demand from banks, businesses and consumers to convert it into euros to use outside Greece, while no one outside Greece would have much use for drachmas.

The resulting depreciation of the drachma would slash workers' wages and pensions by half, if the common estimates are correct. This would only exacerbate the results of previous austerity policies.

The depreciation would be worsened by a speculative spiral, as currency traders sold drachmas in anticipation of further devaluations and bet against it in the futures market. This would create the potential for hyperinflation.

SYRIZA has also warned that a devaluation would initiate a race to the bottom in workers' wages throughout Europe, as struggling economies attempted to compete against each other for limited export markets. And any planning for a transition faces the difficulty that a popular expectation that euros in Greek banks will soon transform into drachmas could itself prompt an immediate run on the banks.

From the standpoint of the capitalists, the alternatives for Greek workers are to suffer in the frying pan of German-driven austerity, or to leap into the fire of an immediate cut in their living standards through a new drachma and rapid inflation.

Some have argued that a new, devalued drachma would open the way for a Greek economic revival. They point to the example of Argentina in 2001, which devalued its currency following an economic crash. As a result, Argentina exports became more competitive internationally and helped fuel its recovery.

However, in 2001, Argentina's main trading partners, Brazil and China, were experiencing rapid economic growth and thus could afford to buy lots of Argentine exports. Today, Greece's trading partners, which are mainly other European countries, are suffering almost as badly as Greece itself, so they are in no position to purchase large quantities of Greek exports.

In addition, the Greek economy is not built to produce for export; Greece's exports-to-GDP ratio is among the lowest in Europe. While Greece might gain more advantage from a boost to its tourism revenue, this would not be enough to counteract an already weak economy and the effects of devaluation of the drachma.

There are other problems with launching a new drachma. Even the process of physically putting the new currency into circulation would be logistically difficult. It's estimated that it would take over a week to put new drachmas into the country's ATMs, creating a period in which Greece suffered a cash shortage. This could cause the country's economy to temporarily grind to a halt, getting the post-default economy off to a rocky start.

Devaluation would not affect all Greeks equally. Because Greek capitalists hold much of their savings abroad, their capital will remain in euros. This makes them better able to weather a devaluation than most Greeks. In fact, if and when the drachma devalued, they would be able to buy devalued Greek assets at bargain-basement prices, allowing them to consolidate even greater control over the Greek economy.

Many Greek workers and members of the middle class have recently begun withdrawing their savings from banks while they can still receive them in euros (thereby further weakening Greek banks' solvency). But if Greece had to relaunch the drachma, Greek workers would receive both wages and pensions from that point on in devalued drachmas. They would therefore see their purchasing power and living standards substantially reduced, unless they could win dramatic wage increases and other concessions through struggle.

Whether or not Greece leaves the euro, a Greek default would have a major impact beyond Greek borders. Many European banks–not only Greek but also French and German ones–own large amounts of Greek debt in the form of government bonds.

If Greece defaults, those bonds will become worthless, further weakening European banks. Greek banks will certainly be insolvent and many French and German banks will also be in danger. Spanish banks own fewer Greek bonds than their French and German counterparts, but since the former are already close to bankruptcy, a Greek default could push some over the edge.

The direct risk to foreign banks may be lower now than it would have been in previous years, because the banks already wrote off half the money owed them by Greece just this March, and they have unloaded much of the rest to vulture hedge funds (at slashed prices) as well as the ECB (as loan collateral).

However, it is impossible to say exactly how much the losses from a Greek default would total, or who would suffer them, because Greek bonds are not the only forms of debt in play. Banks and speculators also hold so-called "credit default swaps" and other derivatives, which amount to side bets on Greece's credit. Many of these speculative instruments are not publicly traded and have ambiguous rules for payout. As a result, no single person anywhere in the system knows exactly who owes whom how much.

In any case, the bigger impact of a Greek default may be indirect. Any such default–and the failure of the ECB to prevent it–will increase fears that Italy and Spain will follow Greece. The bond market will increase the interest rates on Italy and Spain to compensate for the greater risk of lending them money, which will make it more expensive for these countries to borrow, thereby pushing them closer to a default.

And as with Greece, any risk to the credit of Spain or Italy is a risk to the solvency of the Spanish and Italian banks–a risk that will be heightened if their creditors have just seen the ECB allow Greek banks to go bust in order to punish the Greek government.

A Greek default will deepen the existing recession and prompt a new wave of attacks on the working class. EU politicians may start to talk about the need for "growth" instead of austerity, but EU capitalists will continue to try to restore profitability by squeezing workers.

As EU leaders continue to attempt to solve the sovereign debt crisis by forcing massive cuts in wages and social protections, the only option available to workers to protect themselves is through a mass, organized fightback.

A victory for SYRIZA would do much to advance this struggle both in Greece and throughout Europe, giving hope to workers attempting to resist control over Europe's economy and their lives by the neoliberal forces of finance capital.

A SYRIZA victory would mean the rejection of the Memorandum, which in turn would set the stage for an expanded struggle against austerity both within Greece and in other European countries.

As Tsipras has tirelessly repeated, the sovereign debt crisis can only be solved on a European-wide level and requires the active, coordinated struggle of the European working class. The rejection of the Memorandum is thus only the first stage in the escalation of the broader anti-austerity struggle.

This article was originally published by The Socialist Worker. Aaron Amaral, Petrino DiLeo and Gary Lapon contributed to this article.

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