Naive economics question re: public debt

The Greek public debt is €329 billion, or about $433 billion for a population of about 11 million.

The U.S. public debt, on the other hand, is about $15 trillion for a population of 309 million.

Per capita, Greece owes $39,000, compared to $49,000 for the U.S. So, why is Greece the whipping boy of Europe?

Its not the percapita debt which matters but the ratio of that debt to the country’s GDP. Greece has one of the worst such ratios around, perhaps 1.5-1.8x or so. For the US the ratio is closer to 1.

OK, but Japan’s ratio is even worse: 2.2. Why is everybody picking on Greece? I don’t get it.

The whole world is in debt for the same basic reason. All major developed countries practice a “fractional reserve system” where we basically make money out thin air. We borrow money from the federal reserve at interest. The federal reserve is a privately owned bank and the government borrows money from them just like any of us would borrow money from a bank, AT INTEREST. So ask yourself, if all the money we get comes from this bank, where does the money to cover all the interest come from?? It doesn’t exist! This is where inflation comes in. We inflate the money supply in various ways (create money out of nothing) to cover the old interest we owe the federal reserve. The process is then repeated. That created even more interest, which we then cause more inflation to cover that interest . Think of it as paying off a credit card with another credit card over and over again, except that the interest rate never goes down with each balance transfer. This covers it quite well, among many other interesting (and sick) topics.

http://www.youtube.com/watch?v=1gKX9TWRyfs

Let’s be a little less hyperbolic, shall we?

Money has ALWAYS been created out of thin air. In theory, in the past, money was “backed” by something “hard” like gold or silver. Of course, the value of such things also floated compared to everyday items, like wheat or services or whatever. So, we went from one convenient created system of value to another. There’s nothing wrong, per se, with our system of money.

Why is Japan not in such a bad way? The same reason the US and the UK aren’t. People trust them to be able to pay the interest on their loans for the foreseeable future. Part of that is based on the fact that each of those nations has its own currency.

Greece doesn’t have its own currency. It can’t inflate or deflate its currency at all, which is a problem. Its exchange rate against all other nations in the Euro zone (which tends to be where its debt is located) is 1:1. That won’t change as long as Greece is a Euro nation.

Greece is not an independent economic entity. If the United States or Japan practice poor economic planning, they are essentially only putting themselves at risk. But Greece is tied in with the Eurozone, which means its economic crisis will hurt the other countries in that union. So they have a legitimate cause to tell Greece to shape up.

That makes sense. So, for their own good, they should get rid of the Euro? Can they even do that? What about the other Euro countries? Wouldn’t that (Greece leaving) be in their best interest, too?

These are questions that people following developments have been debating for months, and indeed years. There is no clear answer to any of them yet. Well, except maybe the “can” one. It is possible that Greece could leave the currency union, although it would be complicated.

And costly, too, I guess. Wouldn’t they have to reprint all their money? When they switched to the euro, did they destroy the drachma bills?

The cost of printing the currency would be trivial. Heck, even Zimbabwe managed to keep printing money through the worst of its hyperinflation.

The “cost” to Greece would be from disassociating itself from the Eurozone. While the other Euro countries are putting pressure on Greece, they’re also seen as an asset to Greece by world markets. One thing propping the Greek economy up is the belief that countries like France and Germany are there to step in and save Greece from a total collapse (and the belief that countries like France and Germany are putting pressure on Greece to fix its problems in order to avoid that necessity). If Greece severed its connections with the Eurozone, its New Drachmas would probably sink like a rock.

A couple of things:

  1. Greece cannot devalue its currency, as it is part of the Euro. Devaluing your currency allows you to pay off loans more “cheaply.” Think of it like taking out a home loan and then having high inflation and getting cost of living adjustments. Your loan payments would stay the same, but your salary would go up. Of course, the price of food would go up, as would your car insurance and everything else, but the home loan would be relatively easy to deal with (assuming a fixed rate here). Devaluing isn’t all good news though - imports become really expensive, since your currency exchange becomes less favorable. This has two (similar) effects - luxury goods from first world countries become very difficult, or impossible to afford, and what were cheap imports now become more expensive - so the “cheap” Chinese imports now cost as much as local goods. The other downside to devaluation is that it hurts your credit rating and makes foreign countries and banks reluctant to lend you money in the future - increasing your costs on future debt. In addition, the country or its citizens may be forced to start taking more loans denominated in foreign currency, which means you can’t devalue again and you’re left to the will of the currency market. The US and Japan are able to devalue their currency if they need - and while doing so isn’t a good thing, its not as bad as a default, especially for the US since their lenders not only lend in dollar denominations, but also borrow in it.

  2. Japan is something of an oddity in that it owes most of its debt to domestic banks rather than foreign ones, and its debt is largely funded by its own citizenry - it really is kind of unique, so it isn’t very useful to compare against. But it has plenty of problems, too - Google Japan Lost Decade for some interesting history.

  3. But to the OP’s main point, it all comes down to debt servicing - that is, can you pay the loan, based on projections of revenues and expenses. Greece’s problem isn’t really the amount of debt, its amount of cash in hand, its currency exchange rates, or anything else. It’s problem is its lack of income. The country just doesn’t generate enough tax revenues, because it doesn’t have the economic base that the US or Japan (or France or Germany, or even Italy) have.

Which, if I understood Great Antibob correctly, actually is the whole point, isn’t it?

But how then could they rack up all that debt in the first place, if they’re a bad risk?

  1. Their income was a lot better prior to the 08 recession.

  2. See here.

eta: 3) People keep “bailing them out”, because they’re afraid of the ripple effects that a default or exit from Euro could cause.

When Greece joined the Eurozone its currency was suddenly shared with stronger economies like Germany and France. The ECB kept interest rates lower than it should have done - to benefit Germany - and that meant Greece was granted loans at much lower interest rates than they would have been able to get on its own. And Greeks took advantage of those cheap loans. It was also for the same reason that a lot of American citizens were granted lots of debt despite being a bad risk - it was a boom period, everything was rosy, and the creditors assumed everything would continue to be rosy.

The Greek government lied about everything.

This is a major reason for the anger in the country. The cuts in wages and pensions, the huge unemployment, and a future that has no way to get better is blamed on the government. You can rationally argue that the government was freely elected and that support was gained by essentially bribing people with well-paying makework government jobs, but that’s an argument more easily made from above and not from people who now need to decide between rent and food.

Long term, possibly yes. But the road getting from Here to There is a bumpy one, in the same sense that the Himalayas are bumpy.

If the Greek people decide their government is probably going to dump the euro, then they’ll want to withdraw their euros from the Greek banking system before the change is made so that they hold high-value euros in their hands instead of low-value new drachmas in the bank accounts. That is to say, exiting the euro means the government has to place controls on every bank in the country to prevent the flight of funds. No one knows exactly how that would work, except for “excruciatingly”. Add to that that Greece doesn’t even have a primary budget surplus. That is to say: even if you got rid of the interest payments on their debt entirely, they still wouldn’t be able to pay for all the things they try to pay for. They have to borrow money to pay for their earlier borrowing of money.

The Greek government lied about their national accounts so they were able to borrow more than they should have. They got caught. Now they can’t borrow. A goodly chunk of their problem is that ECB monetary policy is incompetent – money is far too tight in Europe – but the Greek government deserves plenty of blame, too, for getting themselves into this mess.

Which is why people are mad now. That’s a story I understand.

Thank you all for your enlightening contributions!

The Greek government did lie about their deficit, and that was a factor, but it’s not the main reason they were able to access cheap credit. Lots of governments do that; lots of individuals try to as well. The main reasons Greece was granted cheap loans were because rating agencies gave them too lenient a credit rating due to their membership in the Eurozone; the ECB kept interest rates too low for the overheating Southern economies; and lenders were too willing to persuade themselves the economic boom would last indefinitely. The reason “Greece lied” is so commonly cited is because it’s a way to shift the blame entirely on Greece, when in fact a lot of the blame lies with the German and French banks who lent out money too cavalierly.