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Greek Crisis – a guide for the perplexed: Part I Global and EU Context

June 27, 2015

The following is from an appendix in an upcoming book to be released in the next few days, No Hair Shirts Energy & Climate Policy for Greece. The book discusses how energy and climate policy can help advance an anti-austerity agenda. It starts with means of relieving some of the immediate pain. For any non-Greek readers, the book includes an appendix discussing the crisis. This post excerpts the first of three short chapters within that appendix, and explains the situation of the EU, which is essential before moving on to discussion of Greece. If you already understand that context you may want to proceed directly to the second post, a concise briefing on the Greek Crisis, and the third post combating widely believed falsehoods about Greece.

  Global and EU Context for the Greek Crisis

For decades, deliberate policy in all rich nations and many poor nations reduced net income to poor workers, prosperous workers and much of the middle class. Cheap loans kept consumption and demand from dropping, thus preventing profits from falling. Even so, additional risk from demand generated by borrowing, rather than income, would have hurt profits by driving up the cost of money to businesses. However, complicated financial instruments concealed how risky many investments were. When, inevitably, some of these investments failed in 2008, larger bubbles were exposed. Cheap financing of consumption, which had substituted for income, dried up. Mortgages, credit cards and other investments in consumer financing fell to their underlying real value. Demand dropped suddenly and the world economy crashed.

In Europe, various treaty provisions for being in the euro made the crash worse; most of EU was forced to cut budgets and increase austerity, which is the worst way to deal with a recession caused by a sudden drop in demand. It was even worse for the poorer nations, which saw a larger percentage drop their total national wealth.

The normal way poor nations would deal with this type of crash would be to devalue their currency. Devaluing currency is a large one time hit to an economy. Real wages and profits drop as the local price of everything rises, especially imports. Goods also become cheaper on the world market, increasing exports. It is a large hit to the standard of living, but a one-time hit. The economy can then begin to recover. Though not a fair way of making this kind of adjustment, it is probably the fairest way possible under capitalism. At least the burden is not 100% on the working class, unlike the alternatives under capitalism. Because wages are effectively cut across the board, unemployment need not rise. Exports of newly cheaper goods make up for some the drop in national demand. Government spending on public works programs can make up for the rest. Part of the solution to a crisis caused by hidden debt bubbles counterfeiting value creation is open, honest debt financing real value creation.

However, as part of a single currency, the euro, the poor nations did not have the option of devaluing their currency. Worse, as part of the treaty provisions they agreed to when joining the euro, they could not engage in large scale public spending, because public debt was not allowed to rise above a fixed percentage of GDP. Nor could they take steps to make exports more attractive or imports less attractive. That would have violated “free trade” provisions. Note, by the way, that Spain had a budget surplus before the crash; in Spain the crash, as in the USA, was largely triggered by a mortgage bubble.

In a large nation, such as the USA, these disadvantages of a single currency are made up for by many responsibilities being national. For example Social Security and guarantees of private pensions are national. Medicare is national. Medicaid is more than 50% national, even higher in poorer states. Private healthcare is highly subsidized via tax deductions. Even social programs that are considered primarily state and local responsibilities in the USA, such as education and local law enforcement, receive modest Federal aid.

In the EU, the European Central Bank (ECB) has the power that goes with a single currency, but the EU upholds none of the usual responsibilities. In fact, the ECB imposes conditions on fulfilling the core responsibility of a central bank, defending bank solvency and preventing bank runs.  Such conditions are comparable to a local fire department refusing to put out a blazing fire consuming a house until the residents commit to weekly church attendance.

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