What Would a Grexit Look Like?

Michael Stephens | June 19, 2012

Slate‘s Matt Yglesias nicely captures the gap between the reactions of opinion-makers to the Greek election results and the reactions of markets (Sunday’s electoral results point to a coalition government centered around New Democracy and Pasok): “Markets were supposed to be reassured. Instead they’re freaking out. European stock markets are declining, and Spanish bond yields are back into the 7 percent danger zone. What went wrong?  Perhaps the better question to ask is how it ever got to be conventional wisdom that maintaining the Greek status quo was the reassuring option?”

A Greek exit from the eurozone is still very much a live possibility.  And given that the election results represent a continuation of the status quo, you might say a Grexit is even more likely.  If you believe the status quo is unsustainable, and that only something like a Greek New Deal would bring the growth necessary to pull Greece out of its depression, then there is little room for optimism.  So what would a Greek exit actually look like?  C. J. Polychroniou tackles this question in a new policy note.

Polychroniou argues that it was a mistake not to allow Greece to proceed with an orderly default two years ago.  While Greece is in for some economic pain whether it stays on the euro or returns to the drachma, it would, he argues, be better off in the latter scenario given a well-worked-out strategy for an orderly default (which is to say, better off compared to being continuously “rescued” with what are essentially bailouts of the EU’s banks attached to austerity directives, leaving Greece with the doubtful task of substantially reducing its debt-to-GDP ratio while shrinking its economy).  Polychroniou’s assessment of the relative costs of a Greek exit is based in part on his reading of the background political conditions:

The gloom-and-doom scenario involves a disorderly default on Greek government debt and assumes that Greece will be completely cut loose. This scenario essentially removes all political considerations from the picture and is highly unlikely to happen. It is a scenario much closer to a Hobbesian “state of nature,” when a Machiavellian outcome is far more probable. Indeed, a more likely scenario is that the Grexit will be orderly (the German Ministry of Finance and virtually all major banks,
including the ECB, have already made contingency plans), and that both the EU and the IMF will become involved in damage control.

Read it here.

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