The International Monetary Fund has published its latest Article IV report on Greece, the introduction of which features this remarkable chart:
(Thanks to FT colleauge Mehreen Khan for pointing it out.)
Aside from putting the scale of Greece’s depression into the proper context — something Alphaville has covered here and here, for example — it suggests Greece missed a trick by remaining a member of the euro area.
The comparison to America in the Great Depression is particularly relevent because, like the euro crisis, it was preceded by an epic lending boom within a system of fixed exchange rates. The mix between public and private borrowing differed across countries according to circumstance, but the growth of credit in the 1920s was broadly analogous to what happened in the 2000s, much of which in turn can be explained by the creation of the euro.
After years of attempting to balance budgets, letting banks fail, and tightening monetary policy to maintain the dollar’s peg to gold, America eventually switched course and pursued a policy of reflation in 1933. (That’s t+4 on the chart). In particular, the Federal Reserve broke the link to gold and synchronised its stimulus efforts with the elected government. The practical result was a burst of inflation, a significant decline in real debt burdens, and a big upswing in economic activity that lasted until the “Roosevelt recession” of 1937.
If any country in the world could have benefited from looser monetary policy in the past seven years, surely it would have been Greece, which suffered (and still suffers) from achingly high capital costs, sky-high debts, and depressed asset values.
Unfortunately for Greeks, however, the institutions of the euro area were designed to prevent anything comparable to America’s 1933 reflation. The single currency’s founders were more concerned with limiting the “competitive devaluations” of the 1970s and 1980s, which seems quaint now.
The IMF’s provocative comparison therefore suggests the Greek government’s best option, albeit one that didn’t look particularly appealing at the time, would have been to restore monetary sovereignty and inflate its way out of its debts as soon as things started looking bad, perhaps in 2010 or 2011.
Combine the loosening of domestic financial conditions with a favourable move in the exchange rate and you might have ended up with a situation comparable to Argentina in the early 2000s — a bad deal compared to Greece’s history of convergence in the 1990s but much better than what actually happened.
The interesting question is if the logic still holds today. On the one hand, the economy has stopped shrinking. But it also hasn’t been growing, and there don’t appear to be any policy changes on the horizon that might meaningfully tackle the massive shortfall in Greek domestic spending and unemployment. The IMF would never suggest Greece leave now, given the preponderance of European votes on the board of directors, but its latest analysis hints at some interesting ideas.
The analytics of the Greek crisis — Gourinchas, Philippon, and Vayanos
The euro was pointless — FT Alphaville
Spain’s “beautiful deleveraging” shows euro area’s limitations — FT Alphaville