opinion | Charles W. Calomiris

Greece’s next crisis

Reversing reforms as they begin to pay off holds consequences for all of Europe, and yet bold new steps are still needed

Alexis Tsipras, opposition leader and head of radical leftist Syriza party, leaves the parliament building in Athens Dec. 29.
Alexis Tsipras, opposition leader and head of radical leftist Syriza party, leaves the parliament building in Athens Dec. 29.(reuters)

The consequences of Greece’s Jan. 25 elections are highly uncertain. There’s a real — and properly dreaded — possibility that Alexis Tsipras of the radical-left Syriza party will assume a leadership role in the new government. Tsipras, who named his son Ernesto (presumably in homage to Che Guevara), offers Greece the sort of snake oil economic thinking that the Kirchners purveyed in Argentina and that Hugo Chávez sold to Venezuela.

Syriza’s popularity has baffled sophisticated analysts, but as in Venezuela and Argentina, it reflects predictable reactions to economic hardships. Greece has suffered five years of economic decline and sustained high unemployment, especially for young people. Not surprisingly, once things get bad enough for long enough, people favor change — even when it is not a good idea. Voters support populists who tell them that, if it weren’t for obstructionist foreigners (in this case, the Germans), they could have their cake and eat it too.

Ironically, however, Greece has made progress in repairing its economy. Stifling labor regulations have been relaxed, tax receipts are up, and Greece is running a primary government surplus. Greek debt service (now largely comprised of payments to public creditors) may be manageable given the subsidies that such creditors seem willing to provide, if growth returns. Business investment was starting to improve.


But reform has been slow and incomplete, and the government’s decision several months ago — backed by the troika, as the European Commission, the International Monetary Fund, and the European Central Bank are referred to locally — to declare the mission accomplished was a major error. It exaggerated the progress made and failed to recognize deep problems that remain. The government played into Tsipras’s hand by increasing public impatience with economic stagnation.

If Tsipras follows through on his promise to reverse existing reforms, then continuing troika aid is unlikely. Another debt default and a euro exit would be likely. Unlike in 2010, Europe is now prepared for a Greek default and devaluation. In response to a Tsipras victory, a spurned troika might step aside and let it happen.

The resulting flight of capital and political isolation of Greece would likely precipitate other actions by Syriza that would increase government control over the economy — to disastrous consequences for growth.


Lost in the discussion, however, is the fact that new leadership in Greece could take radical steps — without insurmountable damage to the economy. A reform program of improving tax collection, deregulating labor, cutting wasteful government employment and patronage, and reforming pensions remains the only long-term path to progress. But it will require the election of responsible political leaders willing to consider bold, new ideas.

Obstacles do exist: The immediate economic costs of structural reform may be too great to sustain; structural reform has been hobbled by the political intrigues of the Greek Parliament, which is paralyzed by corruption and clientelism. Both, however, can be addressed.

One potential tool to relieve short-term pressure is redenomination policy, which was used in the United States in 1862 and in Argentina in 2002 with some success. Although this usually accompanies a devaluation, it need not. Greece could stay on the euro but simply reduce the nominal values of deposits and loans at Greek banks, and of wage contracts, to, say, 0.85 of current value (a big enough change to matter, but not big enough to lead to a revolt by dispossessed depositors and workers).

Redenomination would improve businesses’ balance sheets through debt relief and reduce real wages. Both could expand investment and employment, make Greece more attractive to tourists, and increase exports. Redenomination also might boost credit. Although the reduced euro values of deposits and loans offset one another on banks’ balance sheets, loan redenomination also reduces default rates, raising banks’ net worth and thereby expanding bank credit.


There are pitfalls: Expropriation via redenomination may reduce foreign investors’ and domestic depositors’ future willingness to supply funds. The government would need to convince markets that redenomination will never be repeated, or it could produce contractions of bank funding and investment.

Redenomination could be particularly useful in responding to a bank run should depositors see Syriza’s election as an indication Greece will decide to exit the euro. Because redenomination achieves effects similar to devaluation, responding to deposit withdrawals with a redenomination paradoxically could reduce pressures for further withdrawals and reduce the chances that Greece drops the euro.

Redenomination cannot restore Greece’s long-term growth or competitiveness. As Argentina’s current status shows, without continuing structural reforms — ending its licensing raj of businesses, improving tax collection, promoting an independent judiciary, and abolishing wasteful political patronage in government employment — Greece will not move forward.

Yet, if corrupt parliamentarians and entrenched special interests oppose reforms, what can be done? Countries that have successfully overcome entrenched corruption — such as Hong Kong in the 1970s — offer some lessons. Shake-ups to the allocation of power, including judicial authority, are needed to root out habitual graft.

Greece, for example, could radically decentralize governance, permitting its regions to control their own taxes, regulation, spending, and judiciaries. Decentralization spurs regional competition and allows experimentation in providing government services. The problem with this approach is that existing local governments also tend to be corrupt.

This, though, is where the European Commission could play a crucial role. During an interim period, regional authorities could be administered under the auspices of the commission, which could oversee anti-corruption efforts and the creation of an independent judiciary. Greeks are resistant to ceding authority over internal affairs to outsiders. Ironically, although Greece clings to EU and eurozone membership in recognition of its own weak political and judicial institutions, it still resists using EU membership to help fix its institutional maladies. That should change.


I don’t presume to lecture Greeks about whether these radical policies are desirable on balance, or how such policies should be structured. But with Tsipras waiting in the wings, I suggest that radical alternatives to the risky status quo may be worth serious consideration.


2012 | Robert Kuttner: Germany’s chance to show economic mercy

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Charles W. Calomiris is professor of financial institutions at Columbia University and a research associate of the National Bureau of Economic Research.