The negotiations over Greece aren’t about Greece

Earlier today, I was listening to an interview with IMF head Christine Lagarde dance around the issue of the unsustainability of Greece’s debt load. And she said something very telling. She said that debt haircuts were not on the table but that maturity extensions and interest rate reductions were, but only AFTER Greece implemented reforms demanded by the Troika.

What’s important to realize when Lagarde says this is that although she’s talking about Greece, the negotiations with Greece are not really about Greece itself per se. They are about the maintaining or imposing an economic paradigm for every country in the EU that Greece has been flouting – and this is a paradigm that the IMF supports as much as the ECB and the EU. Greece is just being used as an ‘abject’ lessons for other larger EU economies.

Think of it this way: 25 years ago, the EU signed on to the idea of a single currency in Maastricht. The question marks at the time were Belgium and Italy – Italy because of its constant currency devaluations and Belgium because of high government debt loads. The EU figured out how to deal with Belgium and Italy by creating the stability and growth pact which said that all member states had to keep their deficits under 3% and get their debt under 60%, or at least moving in that direction. Underneath these simple rules lies a whole economic ideology though. And that orthodoxy says long-term growth and a stable currency are best maintained by liberalized free markets and fiscal discipline.

Fast forward to the sovereign debt crisis and you can see the problem: Greece wasn’t maintaining fiscal discipline and at the same time a lot of pundits were saying the ‘solution’ was Grexit ie. leaving the eurozone and depreciating the currency. This goes against everything in the implicit contract eurozone members made when they gave up their currencies for the euro. There was no way that the Troika would allow this. And that’s why even today, into the third bailout, Greece is still under the Troika’s thumb.

The difference now is that populism everywhere has made it clear that submitting the Greek economy to the rack is politically counterproductive. Hence Lagarde’s comments: de facto debt writedowns for Greece — but only after it shows it has bought into the economic orthodoxy underlying the euro. Will this work? For now, yes, it will work politically. Greece has been isolated by the ECB’s QE program and there are now more existential problems — with populist anti-EU candidates doing well in upcoming elections in the Netherlands, France, and Italy. Greece will fall in line because it has no leverage. Eventually, it will get its ‘haircut’, but only in the form of super-long maturities and super-low interest rates. 

In the meantime, let’s see how Wilders does in the Netherlands and whether the situation has any wider implications for the EU and the next elections in France.