Are the Germans about to give up on the Greeks? Are they about to allow the Greeks to leave the euro? It certainly feels like that. The EU has just issued an ultimatum to Greece. All the talk of a friendly deal is gone. Greek politicians say they need more time to examine the austerity attached to the release of the next tranche of the €110bn loan.
But austerity isn’t working and the Greeks know it. Athens adopted the troika’s strict budget targets in May 2010 — nearly two years ago — in return for a €110bn rescue. Last year the Greek economy shrank by 6pc and the country’s budget deficit is still close to 10pc of GDP. Its current account deficit is also stuck at 10pc of GDP and anyone who could have got their money out of Greece will have done so ages ago.
With no credit, unemployment has risen to 18pc. As we pointed out in this column last week, over half of young Greeks are out of work. This can’t go on. And as the great American economist Herbert Stein observed, “when something can’t go on forever, it will stop”.
Leaving the euro now must be an option for the Greeks, because they are looking down the barrel of what they see as years and years of indentured slavery to foreign creditors. Maybe they will vouch for the uncertainty of a new drachma rather than the absolute certainty of 10 years of contraction. Who wouldn’t?
At the highest level in Europe the cracks are beginning to appear.
In Brussels, Jose Manuel Barroso — maybe thinking that his native Portugal will be next — insisted that eurozone leaders would continue to strive to keep Greece in the euro. This was in contrast to Neelie Kroes, the Dutch commissioner who suggested to the Dutch press that a Greek exit wouldn’t be a big deal.
The Portuguese should be worried because with the latest round of cheap ECB financing, the Germans may be confident that they could allow Greece to go overboard without capsizing the project. The language has changed in the past week. Up to now, the deal was to quarantine Greece on a drip-feed of money, keeping it barely alive but sending the message out that while Greece is different, the family will look after it.
The Greeks are gambling that they can get cash without having to cut yet more.
They are hoping that they can just borrow more and more to maintain their standard of living. The Greek threat is if you don’t give us cash, we bring the whole thing down around you. The Greek position or ace is that Germany will blink first. Up to now this might have been the case.
But much has changed over the past week. The ECB is now lending enormous quantities to European banks at 1pc for the next three years. By the end of this month it will have lent close to €1 trillion. The banks are getting a free 5pc carry on this and are delighted.
The Germans might now be thinking that we have enough liquidity from the ECB to call the Greeks’ bluff.
Emboldened by the fall in Italian and Spanish bond yields, what if the Germans see beyond the Greek threat?
If they cut Greece off and inject money into every other nook and cranny of the eurozone, maybe they can get rid of Greece and manage the shock. If this could be achieved, the Germans would be delighted. This would allow them to get rid of a delinquent member and send a strong signal to the rest of them that more messing won’t be tolerated.
If this is an accurate interpretation of the last few days, then it will be reminiscent of the demise of the Gold Standard in the 1930s.
Back then the French behaved like Germany now. The French wanted to punish the Germans when the Germans, like the Greeks, desperately needed to roll over huge borrowing they owed to the Americans.
While the Greeks now are a different proposition to the Germans in 1932, the end game was the same. The Germans abandoned the Gold Standard but the French couldn’t control the consequences.
In fact the Swedes were the first to see through the Gold Standard. They abandoned it, printed money, allowed their exchange rate to fall and slashed interest rates. And guess what? Sweden was the first country to come out of the Great Depression.
Could the Greeks do the same as the Swedes? Yes why not? At the moment, Greece is facing a generation of austerity. It has to borrow 10pc of its GDP just to pay for its imports each year. Its economy is in freefall. The deal with the euro is that every country has to become more German to survive. Greece will never be Germany, so what’s the point?
Leaving the euro would lead to months of chaos as savings were converted to the new drachma. The local banks would see their balance sheets wiped out, if they were to pay their foreign creditors, so guess what? They won’t pay. They will pay in drachma. Inflation will take off and wipe out the debts, which have been converted from euros. The government will balance its books overnight or will borrow heavily from its central bank, which is printing the new drachmas.
It will be the cheapest place in Europe to go on holidays. And like all the other countries that abandon a strict currency regime that they can’t bear — such as Iceland a few years back — the economy will start to grow again. They will fall back on the IMF to stabilise the economy with a big loan, which will be senior to all the defaulted stuff. This worthless debt they will buy back at some ridiculous price. And life will start again.
On the 20th anniversary of the Maastricht Treaty, that’s the way things are likely to work out.
Once the world sees that there is life after the euro, as there was after the Gold Standard and lots of other now defunct currency arrangements, the financial markets will ponder who is next.
Don’t be fooled that this European debt story is over. It is not; in fact the interesting bit hasn’t even started yet.