Why Greece Should Default

Government debt as a percentage of GDP

3Saint Kitts and Nevis185.00
7Antigua and Barbuda130.00
14Belgium 99.70
15Singapore 96.30
16Egypt 85.70
17France 85.50
18Belize 83.60
19Canada 83.50
20Germany 81.50
21United Kingdom 79.50
22Bhutan 78.90
23Sri Lanka 78.50
24Dominica 78.00
25Saint Lucia 77.00
26Hungary 76.00
27Bahrain 75.30
28Israel 74.00
29Austria 72.10
30United States 69.40
31Spain 68.20
32Malta 68.00
33Cyprus 66.80
34Cote d'Ivoire 65.80
35Morocco 65.00
36Netherlands 64.40
37Nicaragua 63.60
38Jordan 60.70
39Croatia 60.50
40Mauritius 60.20
41Albania 59.40
42Malaysia 57.90
43Guyana 57.00
44Poland 56.70
45Vietnam 54.50
46Brazil 54.40
47El Salvador 52.80
48Switzerland 52.40
49Tunisia 51.80
50India 51.60
51Philippines 49.40
52Uruguay 49.20
53Finland 49.00
54Pakistan 48.60
55Kenya 48.50
56Norway 48.40
57Denmark 46.90
58Aruba 46.30
59Seychelles 46.20
60Colombia 45.60
61Thailand 45.60
62Slovenia 45.50
63Ukraine 44.80
64Latvia 44.80
65Costa Rica 44.50
66Slovakia 44.50
67Bosnia and Herzegovina 44.00
68United Arab Emirates 43.90
69Mozambique 43.00
70Argentina 42.90
71Turkey 42.40
72Ethiopia 42.30
73Panama 41.70
74Serbia 41.00
75Montenegro 40.00
76Czech Republic 39.90
77Ghana 38.70
78Bolivia 38.00
79Lithuania 37.70
80Mexico 37.50
81Yemen 37.20
82Tanzania 36.90
83Sweden 36.80
84Malawi 36.80
85Bangladesh 36.70
86Dominican Republic 36.40
87South Africa 35.60
88Cuba 34.90
89Taiwan 34.90
90Syria 34.40
91Romania 34.00
92New Zealand 33.70
93Senegal 33.20
94Venezuela 33.00
95Mali 32.60
96Trinidad and Tobago 31.70
97Australia 30.30
98Honduras 29.60
99Guatemala 29.50
100Namibia 27.40
101Zambia 27.30
102Macedonia 26.10
103Ecuador 25.50
104Uganda 25.00
105Indonesia 24.50
106Angola 24.50
107Korea, South 22.90
108Papua New Guinea 22.30
109Peru 21.90
110Luxembourg 20.40
111Botswana 20.30
112Moldova 19.30
113Gabon 18.30
114Nigeria 17.60
115Bulgaria 17.50
116Paraguay 17.40
117China 16.30
118Cameroon 16.20
119Kazakhstan 16.00
120Iran 11.60
121Hong Kong 10.10
122Saudi Arabia 9.40
123Chile 9.40
124Qatar 8.90
125Russia 8.70
126Uzbekistan 7.70
127Gibraltar 7.50
128Kuwait 6.80
129Algeria 6.60
130Estonia 5.80
131Wallis and Futuna 5.60
132Equatorial Guinea 5.50
133Libya 4.70
134Azerbaijan 4.70
135Oman 3.80
CIA World Factbook
(updated to 2011)

More than a year ago, I wrote about the economic problems facing Europe and the rest of the world. It's time for an update -- but this time concentrating on Greece. The numbers in the column on the right are from 2011 rather than the previous 2009.

Tomorrow (February 6, 1012) is the deadline for Greece to agree to terms with the European Union on a debt restructuring plan. They may nor may not come to an agreement with the EU tomorrow, but whether they do or not, they will be facing several more debt negotiations before they are done.

Most of the EU members are in the same kind of boat Greece is in, but they aren't taking on as much water -- yet. The heart of the problem for the debtor nations of the EU is the euro. In the old days, when Greece got too far into debt, they could inflate the drachma (their prior currency), let the drachma go way down versus the rest of the world and pay off the debt with much cheaper drachmas. The fact that the world charged Greece extremely high interest rates to subject themselves to this shell game tended to keep Greece from borrowing more than they needed.

When the euro came along, Greece was able to get cheap loans as did the other weaker members of the EU. Greece lowered the retirement age, made awful agreements with the public employee unions and paid for it with cheap euros. They never considered that they couldn't devalue the euro to pay off their excesses.

The current rescue plan allows Greece to cut their debt in half. The banks would write-down the portion forgiven. In return, Greece must drastically cut social programs, reduce benefits to retirees and public employees and cut the size of the government. The rescue plan isn't as generous as it sounds, either, because the majority of the bonds are held by Greek banks and retirement plans. Most of the pain will be domestic, not European.

If Greece agrees to the restructuring plan, here's what will happen: (1) Unemployment will go way up as a result of the budget cuts and government layoffs. (2) Unemployment obligations will cause Greece to need even more money than is currently budgeted, causing them to fail to meet the debt benchmarks and forcing another round of renegotiations. (3) Because they cannot devalue their currency and the EU agreement prohibits them from invoking duties on imports from other EU nations, Germany and the rest of the EU will continue to flood Greece with cheap imports that Greece's shattered economy will not be able to compete with. This will cause even more layoffs and yet more rounds of renegotiations into budget concessions.

This cycle of belt-tightening causing weaker economy, causing more expenditures, requiring more belt-tightening will continue for quite a while. As I discussed in my previous article, Japan's economy peaked in 1990 and 20 years later their stock market was a quarter of what it had been and their outlook wasn't rosy. This was for a nation that still had a good economic reputation, had not defaulted, had control of their currency and could impose import tariffs on everyone. Certainly the earthquake/tsunami has worsened Japan's position, but they are still miles ahead of Greece, even thogh their debt in comparison to the size of their economy is considerably worse.

If Greece stays in the EU none of us will be alive when they crawl out of the abyss.

If Greece were to leave the EU they could repudiate all euro debts, not just a portion; revert to the drachma, or whatever they chose to call it; pump inflatable drachmas into their own banking system, without having to give the Europeans anything; erect barriers to imports, giving Greek industry breathing room; and begin to restructure their social agreements with retireed and unions at a much slower pace.

Amazingly, they probably wouldn't have any trouble getting loans. They'd owe nothing. Just like consumers who go through bankrupcy have better credit than they did when they were debt-strapped, Greece would be free to start over with a clean slate.

This path is not without cost, however. It would be humiliating. Domestic inflation would be awful as the supply of cheap imports dwindled. Traveling outside Greece would be hideously expensive because of the cheap drachma. They would still have to negotiate with their retirees and unions -- and the elected leaders could no longer blame outsiders for the austerity.

But despite the costs, Greece will have an easier time leaving the EU now rather than later. The current rounds of demands will not resolve Greece's problems. It only buys them time. The structural issues (fixed value of the euro, inability to impose tariffs on imports and domestic social contracts) will cause them to need to negotiate again and again as they reach the bottom of each cycle. This could easily go on for 50 years, assuming the rest of the EU lasts that long.

The EU is essentially a rigged game. It gives those member nations who produce goods cheaply easy access to the markets in the economies where the competition simply cannot compete. Most modern industries require massive amounts of capital to become efficient. This makes it virtually impossible for an industry to bootstrap itself into a competitive position. This is why, for example, almost all the automobile manufacturers in the EU have consolidated into just a handful in Germany, France and Italy, with a few, like Volvo being purchased by Asian interests mainly to acquire technology so they can enter the game.

February 5, 2012