Hans-Werner Sinn is the sometimes controversial head of Germany’s Ifo Institute, A German-based center for economic studies. He has been in the news for his warnings about the Target2 system at the heart of trans-national money clearance in the euro zone. I have been critical of his analyses in the past. However, regarding the best outcomes in Greece, Sinn made some insightful comments recently about a Greek exit from the euro zone which I would like to highlight. I have underlined the important bits.
An interview in Die Welt reads as follows:
Die Welt: Professor Sinn, does it make a big difference who wins the elections in Greece?
Hans-Werner Sinn: I would say no. Both will try to negotiate with the EU. The extreme parties would risk more and get more if they won. But they are more likely to fail too because the European Central Bank (ECB) would likely turn off the printing presses for Greece, and then Greece would leave the euro zone.
Die Welt: Is there really such automaticity to it: does the suspension of aid force an exit from the euro zone?
Sinn: Of course. Greece could of course leave and still get aid, but you can not stay inside without assistance. The large gap between what Greece generates and what it consumes is already fully funded by the ECB and the international community. If the money stops flowing, the Greek government would be insolvent. It then must nevertheless continue to pay its civil servants and soldiers. So it has to print new money, and that can only be drachma.
Die Welt: Won’t the tap be turned off for the Greeks if radicals did not want to meet the commitments of the previous government?
Sinn: Yes. We reached the point where one could say, a terrible end is better than a horror without end, two years ago. And what has happened in the meantime? The chaos in the Greek labor market has become ever greater. Banks and other investors, including many wealthy Greeks, however, were able to pass off the liability of their toxic Greek government bonds onto the ECB and taxpayers of core European countries. The faster the Greeks exit, the cheaper it will be for us, and the shorter the period of suffering for the Greeks. Wealthy Greeks play their game on the backs of ordinary people who get absolutely nothing from the current chaos in the labor market.
Die Welt: The German government fears that Greece’s exit would mean panic in the markets, exacerbating the problems of other countries in crisis.
Sinn: That is the danger, of course. But that danger will not get any smaller if we postpone decisions. The error was made two years ago. The financial losses for the Germans will get bigger the longer we delay, because the later Greece leaves, the greater the proportion of toxic Greek papers, which will have been transferred from the portfolio of investment companies into the direct or indirect ownership of German savers and taxpayers. International investors desperately need Germany as a garbage dumping ground. And the longer we leave open the door, the more junk they get rid of.
In other words, you can put off the problem by giving countries more and more credit to service their existing debts. But the moment when we stop, crisis breaks out again. Therefore it makes no sense to put public money at risk to extend the stay in the euro zone. We should prefer to absorb the financial fallout, since then a final payment would be in sight. With the current strategy, everyone is poorer. And if we have nothing more in the end, because along with Greece we finance all of southern Europe then the euro would break apart even more. This cannot be the solution.
Die Welt: Some legal experts say that when Greece leaves the euro zone, it has to leave the European Union under applicable law.
Sinn:Lawyers are resourceful people. I would suggest that, from a purely legal perspective, Greece could remain a part of the Euro-zone, as an associate member, but still introduce the drachma. We send Greece to rehab and at the same time put a return ticket in their hand. Through the temporary return to the Drachma, Greece would be competitive again. And Euro-partners would promise, if they conducted this or that reform, and their government finances were put in order, it could then re-enter at a new exchange rate. That would be a real incentive for the Greeks to do what is necessary – a lot more anyway than to constantly utter empty threats in exchange for aid.
I will just point out that Sinn is contradicting the notion that the Greeks can just print money and no one can stop them. I am not clear on this. However, what Sinn says about making Greece an associate member of the euro zone, allowing them to exit temporarily makes sense. It would solve the Greek situation once and for all. The question is whether others would want to take the same tack and if they didn’t what impact this would have on their creditworthiness or the ability of the Europeans to deal with the other countries in difficulty.
I don’t see this as a silver bullet by any stretch. In my view what happens in Spain is going to be the key to Europe because of the size of Spain’s economy, the size of the financial hole in Spain’s banks’ balance sheets, and the political pressure from the ill effects of economic depression. If Spain continues in depression, it’s game over. And right now, that’s where euro policy is.