Think of it this way, you have a business and pay all of your employees in hundred dollar bills. The government then announces you have to pay everyone in fifty dollar bills and hundred dollar bills will now not be accepted in the country. Your employees are still happy because they get the same amount of bills and as long as they buy things produced internally prices have not gone up. Meanwhile you can now sell your goods overseas for half of what you did before and you gain alot of market share.
One of Greece’s main industries is tourism. After devaluation a Greek vacation would be much cheaper. This would stimulate the tourism industry.
Tell that to Argentina. They’re only immune until their creditors sue and start seizing foreign assets. Then they have to play ball.
Besides, the implications of a debt default are that creditors become much less willing to lend money and demand much higher interest rates. That has disastrous consequences.
puddleglum, who handles money in your family? : )
I guess the question boils down to: assuming no money printing occurs (and so prices stay put) why is it so certain that the drachma will fall drastically in the foreign exchange markets?
This implies that a lot of people will sell drachmas at a discount. Again it is just a transfer of wealth from these people to the turism folk and co. Zero sum.
Or is it not?
Foreign investors, if they are even willing to lend to the Greek government, would demand very high interest, leading to inflationary problems, leading to a devaluing of the Drachma, etc.
The Greek government could just decide to cut the money supply in half or do whatever draconian measure they deem necessary, but currency markets rely on stability, and where there are major questions of stability, investors always assume the risk is high.
Frankly, Greece will find it inordinately difficult to find anyone willing to lend them money. They need show that they can stabilize their debt load and get their economy functioning in a sustainable manner. Leaving the cushion of their EU big brothers would, by most estimates, leave them worse off.
Wait, wait, wait please.
1st statement OK
2nd statement… how does high interest demand lead to inflation exactly?
3rd statement… inflation+devaluation=same prices (to the outside)
The third question comes first:
Inflation means the currency is getting less valuable. Devaluation also means the currency gets less valuable. Inflation can happen without specific government choices; devaluation occurs because the government specifically takes action to do that. This would be a double-whammy that would make Greek money worth much, much less.
If there is no money printing then there is no point to change the currency. Everyone knows this. So at the first hint that a change is going to occur everyone would try to get their money out of Greece as fast as possible. Money printing is good for three things, reducing debt payments, reducing unemployment and greater exports. Since presumably the debt is denominated in Euros, that would not be a help.
The real reason to go back to the drachma would be unemployment. Since the money is worth less it is easier to hire people or keep people. It is like if everyone in the country agreed to take a pay cut. Except that no one has to agree to take a pay cut so the central bank decides it for everyone at the same time without the populace even realizing it. This is because we think of prices and wages in terms of the currency not in terms of actual buying power. This would be transfer from the currently employed to the currently unemployed in the short term. In the longer term the increased employment would benefit most Greeks.
Devaluing the money would benefit exporters and the tourist industry while hurting importers. This would probably be on balance good for Greece since their tourism industry is so big.
While the inability to borrow in the international markets has been the focus of much of the commentary in this thread that is not really the big problem with a change in currency. Greece currently runs a primary budget surplus so it does not need to borrow at the moment. If you look at serial defaulter Argentina, you see that they still find people willing to lend them money periodically because even in international finance there is a sucker born every minute.
The main problem is the banking system. Replacing the Euro with the new drachma would slice the value of every bank account in Greece. So at the first hint of the new currency every depositor would rush to try to get out of Greek banks and into European banks. This would mean the collapse of every major Greek bank. The EU is currently acting as the FDIC for Greek banks. If Greece changed currency they would no longer do this and the Greek government does not have the money to insure the banks. The entire banking sector would collapse and people’s savings would be mostly gone. Credit would dry up and no one in the country could get a loan. This would grind the Greek economy to a virtual halt.
That is the choice Greece has. Stay in the Euro and pretend they can pay back the loans or go to their own currency and admit they don’t have the money to repay. If they stay it is a slow motion train wreck with massive unemployment and if they leave it is a sudden collapse.
Puddleglum, that was clear and thorough. ‘takes of hat’ smilie, still to be invented
So… in what conditions do you think those folk will be living in five years time, either way they go?
Will they have to sell the rest of the country and disperse? After all, they’re only 10 million.
Can they refuse to form a government? That way the creditors won’t have a counterparty to demand money from! There. Solved.
Greece cannot do this. They do not use the drachma anymore. They use Euros and they cannot print them willy-nilly.
We are discussing the possibility of Greece leaving (or being expelled from) the EU, at which time they would need to come up with their own currency.
Please try to keep up with the class.
Greece owes money they can not pay back. Germany does not want to acknowledge this because they are still hoping to get their money back and the German politicians don’t want to be seen as weak. Greece does not want to acknowledge this because it would mean getting getting kicked out of the Euro and having to sit at the little kids table metaphorically. Both Greece and Germany are trying to avoid reality and that does not usually work.
What they are trying to do now is to implement structural reforms to make Greece more competitive economically while making the repayment terms easier. This could work in theory, but if the Greek voters wanted their economy reformed they would have already done it. By electing Syriza they have shown they do not want to be forced to reform their economy by Germany. When this fails, they will keep trying to negotiate since no one wants to make a tough decision whether to stay or go.
The most likely outcome is a continuation of the status quo. High unemployment, a succession of short lived governments each promising to get more out of Germany than they are willing to give. Every year another round of failed negotiations leading to economic stagnation and political turmoil. This will continue until the European central bank decides that there are other parts of Europe that matter besides Germany and loosens monetary policy. This will still not be adequate but it will stabilize unemployment at 15% or so and allow the Greek economy to start slowly growing again. This should take 3 - 5 years.
The other likely scenario is Germany kicks Greece out of the Euro as a warning to Italy and Spain. In this scenario, runs destroy the banking system. The Greek economy shrinks about 10% in six months. Older people have their savings wiped out and are destitute. Whichever party is in power is destroyed in the next election and some scary small parties do uncomfortably well in the next election. The new Greek government hosts Putin, and the Chinese leader, and says awful things about Germany. After six months the economy stops shrinking and in a year it starts growing slowly. In three years it is growing at a good clip and in seven years it is the same size it was before the crisis and then resumes its normal anemic growth rate.