Tuesday, July 28, 2015

Varoufakis and Plan B; Schäuble and the European Nightmare

Former Greek finance minister Yanis Varoufakis outlined his preparations for a parallel payment system and a possible exit from the euro and made other observations, especially about German finance minister Wolfgang Schäuble, in a conference call on July 16. It was hosted by the London-based Official Monetary and Financial Institutions Forum (“OMFIF”), which appears to have institutional and individual memberships from both the public and private sector from various countries. This includes both public and private fund managers. Though this has not been mentioned in any press accounts, I think it is fair to assume that Varoufakis was paid, and probably paid well, to participate. (Varoufakis is not setting any precedents here. Ben Bernanke for example has appeared before investor groups for pay, now that he no longer works for the U.S. government.) In any case, Varoufakis delivered for his hosts. I am not sure that what he had to say would have led to any good trades, but it was uncommonly interesting.
The July 16 OMFIF conference call was held under the “Chatham House Rule,” which allows for the information to be used but prohibits identifying the source or the other participants present. At the end of the call, one of the hosts, OMFIF managing director David Marsh, aware of the “slightly sensitive” information Varoufakis conveyed, admonished the participants in the call with a somewhat stronger version of this rule:
“…I do have to say also that you did say one or two things which were slightly sensitive regarding various episodes when you were a minister, so I would just like to say to everybody that none of this information that you have been hearing here should be used to make any trades of any sort in any way. But also please do not pass those on to other people, this is a private conversation under the famous Chatham House rule. And the idea is that you hear first-hand from Yanis Varoufakis, and also Lord Lamont, about their experiences –but this is not a public broadcast, this is not the BBC.” (Transcript of the call here; audio here.)
Mr. Marsh also reported that there were “84 people on the line from all over the world.” I suspect there were more than that, since multiple people could be listening to the call on a single speakerphone. Given that, it is surprising that it took 10 days for the information about Varoufakis’ preparations to set up a parallel banking system in Greece in the event the banks to leak. It was first reported on July 26 in the conservative Greek newspaper Kathimerini, which has been critical of the current Greek government. It seems likely that the leak was meant to embarrass Mr. Varoufakis and the current government. Indeed, some claim that Mr. Varoufakis has committed treason or other crimes. (I know nothing about Greek law, but I suspect that these allegations will not go anywhere.)
Since this story broke, Varoufakis and his two questioners Norman Lamont and Marsh agreed that the recording of the call be made available online. Subsequently, a transcript has also been released at the OMFIF website.
Why Varoufakis decided to make the secret preparations for an alternate payment system, including the hacking of the website for tax payments which he says was controlled by the troika, is not entirely clear. He had to have known, Chatham House Rule notwithstanding, that the information was too explosive to stay secret, given the number of listeners.
After listening to the call, I suspect that Varoufakis has bristled at the charge that the Greek government failed badly in its negotiations with the other Eurozone countries because they had no plan, and no credible way to threaten, pulling out of the euro. He implies that Prime Minister Tsipras did not have the courage to escalate the fight with the Eurozone countries by implementing the plan when the European Central Bank (“ECB”) forced the closure of the Greek banks. Varoufakis is prompted to tell this story after Marsh asks:
“You obviously didn’t have a Plan B and did rather weaken your negotiating argument, because the others were absolutely scared of you leaving and yet you said ‘Don’t worry we’re not going to leave.’ I think though just in the last couple of weeks you yourself did start to think about a Plan B, and I think you even gave some inkling about it in your interview with the New Statesman where there was a vote in the inner-cabinet in Athens after the referendum and you were in favour of trying to prosecute a Plan B and you were out-voted. Do you think there was still a chance, if everything goes badly, that there may well be a Plan B and that the Grexit - which nobody wants in Greece, I understand that - may come about even though it is something for which you are unprepared?”
Whatever the reasons Varoufakis made this public, the story he tells shows how dangerous the brinksmanship played by both sides were to European unity. What Varoufakis had in mind, using the Greek tax website as an alternative payment site, would not have been as provocative as another scheme to take over the Bank of Greece and use the euro notes in its vaults. This has been reported to have been an idea of former energy minister Panagiotis Lafazanis and Varoufakis. If Greece had done that, the fury of the ECB would have come down on Greece, and the notes would have been declared counterfeit. Varoufakis does not mention this in the call, and it is not clear whether he really supported this. In any case, the press has dropped this story.

However, setting up an alternative payment system which could be switched to a new currency would have been provocative enough. Whether it would have worked at all is not clear, but it could only have bought Greece a bit of time and all hell would have been let loose in Europe. If there is a decision for Greece to leave the euro, the mechanisms to do this should be negotiated with substantial input from technical experts. It is a complicated undertaking to accomplish smoothly, and disputes over who owes what to whom are inevitable.
Also, in the conference call, Varoufakis indicates that Greece may have been set up. While the Greek parliament is passing legislation required by the preliminary agreement as preconditions to negotiating a final loan agreement, the IMF may very well decide that it cannot participate because the level of Greek debt is unsustainable. That could cause the whole agreement to fall apart, which may lead to a Greek exit from the euro, which is what Schäuble wants, though it is not the preferred outcome for Chancellor Angela Merkel.

According to Varoufakis, Schäuble wants to use Greece to terrorize France:
“[Schäuble] believes that the Eurozone is not sustainable as it is. He believes that there has to be some fiscal transfers, some degree of political union. He believes that, for that political union to work without federation, without the legitimacy that the properly elected federal parliament can render can bestow upon an executive, it will have to be done in a very disciplinarian way. And he said explicitly to me that the Grexit, a Greek exit, is going to equip him with sufficient bargaining power, with sufficient terrorising power, in order to impose upon the French that which Paris is resisting. And what is that? It is a degree of transfer of budget-making powers from Paris to Brussels.”
Schäuble is wrong both about economics and politics. Austerity has clearly not worked, and having Germany dictate to other EU countries how they should manage their affairs will also not work. In a perceptive column in The New York Times, Shahin Vallée writes that a euro leading to Germany being able to dictate will not be acceptable for other major European countries:
“…The choice will soon be whether Germany can build the euro it wants with France or whether the common currency falls apart.
“Germany could undoubtedly build a very successful monetary union with the Baltic countries, the Netherlands and a few other nations, but it must understand that it will never build an economically successful and politically stable monetary union with France and the rest of Europe on these terms.
“Over the long run, France, Italy and Spain, to name just a few, would not take part in such a union, not because they can’t, but because they wouldn’t want to. The collective G.D.P. and population of these countries is twice that of Germany; eventually, a confrontation is inevitable.”
While the France of François Hollande is not the France of Charles de Gaulle, France is still a proud country and will not stand for Germany dictating its fiscal affairs. France may be able to be “terrorized” (probably too strong a word) in the short-term, but that will not last long.

The basic problem is that a monetary union implies a fiscal union, and for that to work in Europe, it must have legitimacy and be subject to democratic control. There is no clear path for that to happen. Jean Monnet’s European dream is in danger of turning into a nightmare.

Thursday, July 23, 2015

Greece and the Future of the Euro: Whither Europe?

For now the Greek saga that was commanding front-page headlines has receded to judge by the news coverage. In its place have come more up-to-the-minute stories, such as the Iranian nuclear deal, the opening of embassies in Washington and Havana, and the latest outrageous statements of Donald Trump. The reduction in news prominence of Greece’s travails in the Eurozone is understandable. After all, the Eurozone countries and Greece have reached a tentative deal and an agreement to finalize that deal. (Of course, all this will be followed by more talks when current deals become clearly impossible for the Greeks to fulfill.) The banks have now reopened, albeit with strict limits on cash withdrawals and economy-crippling capital controls still in place. During this time as the new deal is finalized, the Europeans have extended a €7.16 billion bridge loan to the Greek government, which they have used to pay their creditors, including the IMF and the ECB.
Nevertheless, for those of us who have followed the progress the Europeans have made in forming “an ever closer union” over the decades, the recent Greek saga provides both fascination and horror. Fascination, because it is inherently interesting. The experiment of a monetary union of nineteen sovereign countries is unprecedented, and a crisis, however predictable, provides a storyline that proves irresistible for those of us interested in this sort of thing. The horror comes from the suffering of the Greeks, the seemingly mistaken negotiating tactics of the new Greek government, the stupidity of their European counterparties who fail to act in their own interests, as correctly understood (to borrow a Realpolitik concept), and the very real danger that the European project will shift into reverse. This all is consequential and the implications for Europe and the world are much greater than the fate of a small country (albeit beautiful and with charming and friendly inhabitants) in the European “periphery.”
I always thought that the adoption of the euro was premature. The countries involved were too different, and adopting a uniform monetary policy for countries with different economic and social policies and different cultures and languages seemed as asking for problems. Those spearheading the drive for greater European unification of course knew this; they hoped that problems as they arose with the euro would serve for greater harmonization of policies in other spheres.
What was surprising was that the euro did as well as it did for as long as it did. It was even conceivable that it could be a competitor to the U.S. dollar as the reserve currency of choice. The economic crisis beginning in 2008 changed all that, and the euro flaws became easy to see. While various countries in what is called the periphery had and have problems which have been made more difficult to manage because devaluation of one’s home currency is not an option, the Greek situation has become the most difficult for the Eurozone countries. It poses starkly the question of whether the strategy of achieving a closer union through engrenage is now failing and whether the movement toward an ever closer union will now shift into reverse.
The Greek crisis has not only put the conceptual problems with the euro in bold relief; it also has shown the inadequacy of the economic theories, such as they are, of the leadership of the dominant country in EU, Germany, and that of some of the other northern and former Soviet bloc countries following Germany’s lead. Clearly, the policy of using austerity to solve debt problems has not worked. In Greece’s case, it has made the debt problem worse. The denominator of the ratio everyone looks at, debt to GDP, has been falling, meaning that the ratio has been increasing. The austerity of the past five years has prolonged and worsened Greece’s recession, turning it into a depression. Greece also does not have the option of trying to offset the decreased demand from austerity with a looser monetary policy than its main trading partners, given the euro. Judging from a presentation German finance minister Wolfgang Schäuble made earlier this year at Brookings, he apparently believes that austerity will generate confidence that a country is getting its fiscal house in order. This confidence will lead to greater investment and hence growth. Neither conventional macro nor experience provides justification or evidence that in the face of double-digit unemployment that this is correct. Moreover, the worsening debts to GDP ratios due to slower economic growth most likely have the opposite effect on confidence.
But beliefs die hard. The Eurogroup insisted on continued austerity for Greece, along with reforms to certain laws which arguably will give Greece a more efficient and competitive economy. While these may help the Greek economy once the current depression is over, it is hard to see how reforms to certain uncompetitive laws will help Greece get out of its current slump.
Also, the Eurogroup played rough with Greece during the negotiations. For example, it has been reported that Dutch finance minister and Eurogroup president Jeroen Dijsselbloem told Greek finance minister Yanis Varoufakis that, if he did not agree to the Eurogroup demands, “your economy is going to collapse...We are going to collapse your banks.” 
As it turned out, this was no idle threat. On Sunday, June 28, the European Central Bank (“ECB”) announced that it would not raise the amount of Emergency Liquidity Assistance (“ELA”) that the Bank of Greece could extend as collateralized loans to Greek banks. This was the day after Prime Minister Tsipras announced that he would submit the terms of the latest offer from the Eurogroup in a referendum on July 5. The restriction on ELA loans led to the closure of Greek banks on the following Monday, withdrawal limits of €60 a day, and capital controls. After Greek voters overwhelmingly rejected the latest (and by then defunct) offer of the Eurogroup imposing austerity on the Greek economy in a much watched referendum vote on July 5, the ECB again said on the next day that it would not raise the ELA amount and would “adjust” (i.e., raise) the haircuts on Greek government debt serving as collateral. This essentially brought the Greek economy to its knees, and a probably panicked Alex Tsipras agreed to even harsher terms than the Greek voters had rejected on July 13.
While the Eurogroup led by Schäuble and Dijsselbloem played very rough with Greece, it is fair to criticize the Greek government for its negotiating tactics. The economic arguments that the Greek officials were making made more sense than that of their more strident interlocutors, but the abrasiveness with which they conducted themselves and the call for a referendum look in retrospect to have been mistakes. It did not get them anything, except perhaps a worse deal than was originally obtainable.
On this point, though, John Cassidy of The New Yorker argues that “Syriza’s surrender wasn’t necessarily an ignominious one.” The reason is that this episode points out the necessity for change in Europe, thus, perhaps, paving the way for that change:
In the Marxist intellectual tradition, from which many senior members of Syriza hail, progress comes about gradually. To overthrow the existing order, you have to first mobilize the masses by stripping back the democratic veil and showing the real workings of the system: only then will the “objective conditions” be ripe for revolutionary change. Tsipras and Syriza didn’t create the conditions for change. But in bringing Greece to the brink, and demonstrating that its creditors were willing to see it collapse if it didn’t buckle to their demands, they did, arguably, succeed in showing up the eurozone as a deflationary straightjacket dominated by creditors. And they did this with all of the world watching. “One must know who the enemy is, in order to fight the enemy,” Alex Andreou, a Greek blogger who is sympathetic to Tsipras, wrote last week. “Syriza has achieved that. Now, it is over to you, Spain. Take what we’ve learned and apply it wisely.”
Having followed the developments, I do not think that Tsipras had such a devious negotiating strategy in mind. Cassidy is correct, though, that the outcome of the negotiations, with more still to come, has highlighted problems with the euro and EU governance. This growing realization may bring change, but what kind of change is uncertain. Cassidy concludes his article by quoting Tsipras’s comment to the Greek parliament that “this fight will bear fruit,” but goes on to write: “Only time will tell if that was wishful thinking.”

Another interesting disagreement that the Greek crisis revealed is the irrevocability of a country’s decision to use the euro. Interestingly, Schäuble has made no secret of his desire for Greece to give up the euro, at least temporarily. For him, this is not an immediate cost issue, since he argues that Greece leaving the euro would make it possible to forgive some of Greece’s debt and he says that the EU would provide Greece humanitarian aid during the monetary transition.
Schäuble’s preference for Greece to leave the euro is not new. For example, Andrew Ross Sorkin of The New York Times wrote an article at the end of June discussing a conversation in July 2012 between Schäuble and then Secretary of the Treasury Tim Geithner on this subject. Geithner reported in this conversation in his book, Stress Tests: Reflections on Financial Crises. Geithner was visiting Schäuble at his vacation home on an island in the North Sea. They had been discussing how to keep Greece in the Eurozone, but then, according to the article:        
To Mr. Geithner’s dismay, however, Mr. Schäuble took the conversation in a different direction.
“He told me there were many in Europe who still thought kicking the Greeks out of the eurozone was a plausible — even desirable — strategy,” Mr. Geithner later recounted in his memoir, “Stress Test: Reflections on Financial Crises.” “The idea was that with Greece out, Germany would be more likely to provide the financial support the eurozone needed because the German people would no longer perceive aid to Europe as a bailout for the Greeks,” he says in the memoir.

“At the same time, a Grexit would be traumatic enough that it would help scare the rest of Europe into giving up more sovereignty to a stronger banking and fiscal union,” Mr. Geithner wrote. “The argument was that letting Greece burn would make it easier to build a stronger Europe with a more credible firewall.”
Fast-forward three years. What Mr. Schäuble articulated that summer afternoon to Mr. Geithner is finally taking shape.
This is interesting, since many economists, most prominently Paul Krugman, have argued that Greece would be better off leaving the euro. Krugman is no fan of the austerity Schäuble has prescribed for Greece and other countries with debt problems, but there seems to be some common ground between him and Schäuble on the question of Greece and the euro.
From an economic perspective, the argument that Greece should leave the euro is strong. That, though, has to be at least somewhat tempered by politics, because the motivation for creating the euro was politics, not economics. The determination of many leaders in Europe to keep the Eurozone intact should not be underestimated, though it will be severely tested in the coming months and years. German Chancellor Angela Merkel disagrees with her finance minister on the desirability of keeping Greece in the Eurozone. Also, disagreeing is ECB Mario Draghi (“whatever it takes”). At a press conference on July 16 (after the Greek parliament vote on the deal) in which Draghi announced that the ECB would increase the amount of ELA lending the Bank of Greece can make to Greek banks by €900 million, he said (according to Bloomberg): “We always acted on the assumption that Greece will remain a member of the euro area. There was never a question.”
The crisis also brought about a noticeable rift between the two key countries of the EU, France and Germany. France, along with Italy, is more sympathetic to the problems Greece faces and is more willing than Germany to offer concessions in order to preserve the Eurozone and not set the precedent of a country giving up the common currency.
The vision of an ever closer union seems more distant, and, as for Schäuble, it is not clear what his vision is. A Europe in which Germany is viewed as being able to dictate policy is not sustainable. There will be a reaction against that; in fact, there already is. The uncertainty of Britain’s continued membership in the EU is more open to question, with some leftist voices, seeing the Greek debacle, having doubts about the benefit of membership, along with politicians on the right who have long held that position.
Most observers believe that the targets for primary surpluses will be impossible for Greece to meet. A new Greek crisis is likely. Whether the EU will end up putting off difficult decisions (“kicking the can down the road”) when that crisis arrives is uncertain. What can be said, though, is that the intransigence of Germany and some other Eurozone countries has put the European project in doubt.  

Wednesday, July 15, 2015

The Bank of Greece, the ECB, and the Euro

One of the little remarked on issues if Greece either decides or is forced to leave the Eurozone is how the Bank of Greece and the European Central Bank (“ECB”) would accomplish the divorce. It is difficult to get a handle on this for two reasons. First, there is no provision for a country to leave the euro in any of the legal documents that created the common currency, since the adoption of the euro by an EU member state was deemed to be irreversible. Second, the information provided by the ECB on its website is sparse concerning technical details. (The websites of the Federal Reserve System provide more information and provide it more clearly.) Because of this, what I have written here is my understanding of the situation, but there may be errors given the opaqueness of the publicly available information about Eurozone monetary policy and the operations of the ECB and the national central banks.
Much of what is done with respect to monetary policy, except for all-important decisions, is handled by the national central banks, not the ECB. The ECB, unlike the Board of Governors of the Federal Reserve System, is an actual bank, with assets and liabilities. However, much of the assets and liabilities of the Eurosystem are carried on the books of the national central banks.
The May 2015 balance sheet of the Bank of Greece shows on the liability side €27.4 billion of euro banknotes and €17.8 billion of euro banknotes allocated to it in the Eurosystem. It also shows €100.3 billion of liabilities related to the Target2 cross-border payment system of the European System of Central Banks. On the asset side, the balance sheet shows €38.8 billion of lending denominated in euros and related to monetary policy to euro area credit institutions (presumably mainly Greek banks) and €77.6 billion of other claims denominated in euro to euro area credit institutions. How these liabilities and assets (and others) would be handled or taken off the Bank of Greece’s balance sheet and transferred to the ECB and other national central banks is unclear.
It seems likely that the current Greek government had not thought about this during the painful negotiations with the other Eurozone countries. The majority of Greeks want to stay in the euro, though they hate the austerity that has been imposed. Since the Greek government could not credibly threaten to leave the euro and tell the Eurozone countries that they would lose additional amounts in addition to the debt they hold due to the monetary divorce, this gave the hard-line countries a negotiating advantage. The Germans and other essentially told Greece, leave the euro, we don’t care. At the same time, of course, the ECB was strangling the Greek economy by not allowing the Bank of Greece to provide additional credit to Greek banks. The Eurozone countries play rough.
Given all the current problems with the deal that was arrived at earlier this week, there should be some study of how to extricate the Bank of Greece from the euro. Greece’s departure from the euro is certainly a possibility at some point, and the taboo of considering it has been broken.
After all, the current deal may fall apart. The IMF may not extend more credit to Greece unless it is given relief on its current debt, which the Germans say they do not want to do. There seems little likelihood that the Greeks will be able to privatize enough assets in short order to put €50 billion in an escrow fund. Moreover, the economic policies imposed on Greece, assuming the Greeks carry them out, will likely hurt economic growth, making its debt problem even worse.  

Tuesday, July 14, 2015

A Note on Emergency Liquidity Assistance, the ECB, the Bank of Greece, and Greek Banks

The capping of Emergency Liquidity Assistance (“ELA”) at €88.6 billion to Greek banks is what gave rise to the current Greek bank holiday, capital controls, long lines at ATMs, and great costs to the Greek economy. It also gave the hardliners among the Eurozone group of nations the leverage to get the Greek government to agree to very harsh terms in order to keep the euro and stave off immediate economic collapse.
To read the press articles on this, one would have the impression that the ELA are loans made by the European Central Bank (“ECB”). This is not true. It is national central banks that make the loans, but the Governing Council of the ECB can restrict what the national central banks can do. The ECB’s two-page description of ELA procedures can be found here. The beginning part of the document states:
Euro area credit institutions can receive central bank credit not only through monetary policy operations but exceptionally also through emergency liquidity assistance (ELA). ELA means the provision by a Eurosystem national central bank (NCB) of:
(a) central bank money and/or     
(b) any other assistance that may lead to an increase in central bank money to a solvent financial institution, or group of solvent financial institutions, that is facing temporary liquidity problems, without such operation being part of the single monetary policy. Responsibility for the provision of ELA lies with the NCB(s) concerned. This means that any costs of, and the risks arising from, the provision of ELA are incurred by the relevant NCB.
However, Article 14.4 of the Statute of the European System of Central Banks and of the European Central Bank (Statute of the ESCB) assigns the Governing Council of the ECB responsibility for restricting ELA operations if it considers that these operations interfere with the objectives and tasks of the Eurosystem. Such decisions are taken by the Governing Council with a majority of two-thirds of the votes cast…
Note that the document states that the NCB, in the current case, the Bank of Greece, bears the risk arising from ELA loans. Therefore, what the Governing Council of the ECB has done ostensibly to protect the Bank of Greece is to raise the haircuts on Greek government debt presented as collateral to the Bank of Greece (“The financial situation of the Hellenic Republic has an impact on Greek banks since the collateral they use in ELA relies to a significant extent on government-linked assets”) and to cap the amount of the loans. Of course, this very action served to damage the Greek economy and make it more likely that Greece would default on its bonds.

The ECB is supposed to be an independent central bank, but this decision has all the marks of having been done for political reasons. It would be interesting to know what the President of the ECB, Mario Draghi, thought about this and why at least two-thirds of the voting members of the Governing Council voted the way they did. It may be some time before we know the answers to these questions, though, given the number of people involved, I suspect we will eventually learn something about what transpired.
Make no mistake. It was not the missed payment to the IMF that caused the current, acute economic crisis in Greece. It was the decision of the ECB Governing Council restricting the Bank of Greece to use ELA. This caused a run on the Greek banks, with the Bank of Greece not being able to provide more physical euros to the banks. Removing the current restrictions on account withdrawals and the capital controls will be difficult and will take time, because of the fear that this would engender more withdrawals and transfers of funds to foreign banks.

Wednesday, July 8, 2015

How Much Does Greece Owe? The Omission of Tier2 Liabilities

Statistics about Greek debt are hard to interpret, and different news outlets give different figures which are hard to reproduce. For what it’s worth, here are some statistics I have found.
According to a Greek news source (To BHMA), the Greek public debt was 312.7 billion euros at the end of March. Bloomberg reported in February that the Greek government owed 315.5 billion euros. Reuters reported at the end of June that Greece owed its official creditors 242.8 billion euros. This figure excludes what is owed to private sector creditors. It is also difficult to reconcile the other statistics in the article with this total amount.
However, what all these figures exclude are the liabilities of the Bank of Greece, which would likely not be paid if Greece were to exit the euro. Intra-European system liabilities reported on the May 2015 Bank of Greece balance sheet total 118.1 billion euros. Of this, 17.8 billion is related to physical euro currency and 100.3 billion has to do with cross-border payment transactions through the Tier2 system which connect national central banks of the Eurozone with each other. If Greece were to leave the euro, the European Central Bank would likely have to eat these losses. The Tier2 amounts owed by central banks to the ECB are not secured by collateral. The losses would be shared among the national central banks of the Eurozone.
While it is unclear how much the Bundesbank would be hit, Reuters reports that the head of the Bundesbank has told the German government about potential losses greater than the 14.4 billion euros the bank has set aside to cover losses due to the Greek crisis. These losses would flow through to the government’s budget. The German government, as other governments in the Eurozone, receives government earnings from its central banks. The profits would be less in the event of a Greek exit from the euro. The losses due to Tier2 liabilities would likely be an addition to losses due to bond defaults.
I first became aware of this issue when I read a Wall Street Journal blog item. As the blog indicates, we will likely be hearing more about this if Greece and the troika do not come to an agreement soon. While the Eurozone countries can bear the losses of a Greek exit, the messy and potentially costly central bank issues have to be a consideration.

Saturday, July 4, 2015

A Note on Scalia's Dissent in King v. Burwell

Many conservatives find Justice Antonin Scalia's dissent in King v. Burwell more persuasive than Chief Justice John Robert's opinion for the Court. This is even true of at least one conservative writer who argues that the Court's decision was good for the Republicans, because a ruling for the plaintiffs would have meant that Republicans' divisions and inability to agree on an alternative would have become all too plain.
I disagree that Scalia's dissent is convincing or persuasive. I have read both the Court's opinion and Scalia's dissent. For all its bombast, one reason that Scalia's dissent fails to convince is that it makes an assumption that is not supported by any evidence he cites, namely that Congress probably wanted to withhold subsidies to qualifying residents of states that did not set up their own exchange as a way to incentivize them to do so. Never mind that no one was aware of this incentive until some enterprising lawyers who want to see the Affordable Care Act repealed brought this case.
In this connection, Scalia writes:
“…the Affordable Care Act displays a congressional preference for state participation in the establishment of Exchanges: Each State gets the first opportunity to set up its Exchange, 42 U. S. C. §18031(b); States that take up the opportunity receive federal funding for ‘activities . . . related to establishing’ an Exchange, §18031(a)(3); and the Secretary may establish an Exchange in a State only as a fallback, §18041(c). But setting up and running an Exchange involve significant burdens—meeting strict deadlines, §18041(b), implementing requirements related to the offering of insurance plans, §18031(d)(4), setting up outreach programs, §18031(i), and ensuring that the Exchange is self-sustaining by 2015, §18031(d)(5)(A). A State would have much less reason to take on these burdens if its citizens could receive tax credits no matter who establishes its Exchange… So even if making credits available on all Exchanges advances the goal of improving healthcare markets, it frustrates the goal of encouraging state involvement in the implementation of the Act.” (pp. 15-16 of Scalia Dissent)
In contrast, Roberts concludes at the end of the Opinion of the Court:
“Congress passed the Affordable Care Act to improve health insurance markets, not to destroy them. If at all possible, we must interpret the Act in a way that is consistent with the former, and avoids the latter. Section 36B can fairly be read consistent with what we see as Congress’s plan, and that is the reading we adopt.”
Roberts is right. Because of the legislative situation (especially after Scott Brown's win of Senator Kennedy's Senate seat, though Roberts does not mention this), Congress did not carefully vet the language for sloppy drafting, but interpreting the Affordable Care Act the way Scalia does makes a mockery of the law. This case was brought to the Court for blatantly political purposes by lawyers who searched for and found some plaintiffs who did not want to receive health insurance subsidies.

Thursday, July 2, 2015

A Few Observations about Greece, Debt, and the Euro

New twists and turns in the current Greek disaster keep coming rapidly. Last Saturday (Friday in the U.S.), Prime Minister Alexis Tsipras announced a surprise referendum to take place next Sunday (July 5) on the latest offer by the troika for an extension of the “bailout.” The Greek parliament subsequently approved this referendum. The European Central Bank then announced that it capped the amount it will lend to Greek banks, which are faced with large withdrawals by understandably nervous depositors. This forced the Greek government to close the banks until at least next Monday and to limit Greeks to withdrawing 60 euros per day from ATMs. Tourists with foreign bank cards are not limited, and one assumes that Greeks who have foreign bank cards can get around the restriction. However, ATMs are running out of cash and the lines to use them are long. Then on Tuesday morning came the news that Tsipras had written a letter saying he is willing to accept the terms of the latest troika offer with some amendments. The Germans maintain though that there is nothing to negotiate until after the referendum, and Tsipras is still urging Greeks to vote no, that is, to say that they do not accept the troika’s offer.
There has obviously been a negotiating failure here on a scale that one rarely sees. The Greeks want to stay in the eurozone; most European governments want Greece to stay. (There may, though, be some disagreement between German Chancellor Angela Merkel and her finance minister, Wolfgang Schäuble.)  The apparent dislike and disdain of each side for the other, along with less than diplomatic public statements and differences on the underlying economics, has made agreement difficult, if not impossible. It is often remarked that the Europeans, when faced with problems, like to kick cans down the road; in the current situation, they have yet to find the right can to kick.
What is distressing is that the Europeans do not want to admit what is perfectly obvious; the Greeks cannot pay all of their debts.  It needs to be restructured and effectively partially forgiven (as would happen if there were a bankruptcy option for  countries similar to that available to corporations). It is not in anyone’s interest to perpetuate a situation where Greek creditors effectively advance new loans to pay off old ones, all the while strong arming Greece to follow economic policies that hinder economic growth. This hurts Greece and the creditors, since it weakens Greece’s ability to pay down its debt. The creditors need to admit that they will not be fully paid back.
The pressure being applied to Greece suggests that some of the Europeans want to cause the current Greek government to fall. What other reason would there be not to discuss how to restructure and partly forgive the outstanding debt? If the goal has been to punish Greece for its profligate ways, that certainly has been accomplished. The past, though, cannot be changed; the parties need to agree on what is the best for all of them going forward.
Also, what the current crisis demonstrates is the folly of the euro. (In 2011, I wrote about this.) Too many countries, with different economic situations, cultures politics, languages, legal systems and so on were allowed to join. There is no way that the current eurozone is an optimum currency area. Moreover, the necessary additional surrender of some sovereignty to a central government with respect to fiscal policy has not been accomplished. And Greece got admitted to the club by cooking the books, while the other members apparently looked the other way.
Catherine Rampell of the Washington Post wrote in a recent column about the euro:
“…Milton Friedman, among other Cassandras, explained why nearly two decades ago in an essay detailing the best (the United States) and worst (Europe) conditions under which to create a currency union. In Europe, where countries are divided by language, customs, regulatory regimes and fiscal policies, a common currency would inevitably prove disastrous, he wrote. Shocks hitting one country would heave themselves across the continent if individual countries could not easily adjust prices through their exchange rates.

“Rather than promoting political unity, Friedman argued, ‘the adoption of the Euro would have the opposite effect. It would exacerbate political tensions by converting divergent shocks that could have been readily accommodated by exchange rate changes into divisive political issues.’”
Finally, the mishandling of this crisis by both sides may have some very bad political consequences. It raises questions about whether “the European project” can go forward. Not only is Greece an issue, but the UK is trying to negotiate what amounts to associate membership in the EU before their referendum on EU membership. The National Front in France is pleased with the developments, since it wants to take France out of the EU. The political ramifications in other “periphery” countries, such as Portugal, Spain, and Ireland, is uncertain and there may be growing doubts about Italy’s economic situation. It is not that difficult to imagine the movement towards an “ever closer union” shifting into reverse.

If the Greek situation continues to be handled badly, this may result in Greece moving closer diplomatically to Russia during a period that tensions are on the rise between Russia and the West. Also, Greece is one of the countries that migrants to Europe first go to; a less than cooperative and impoverished Greece would not help address this problem.
Finally, there should be concern about the internal political situation in Greece if its economy continues to deteriorate. The regime of the colonels ended in 1974 and Greece became democratic. That was forty-one years ago, which may seem like a long time, but many people are still alive who had direct experience of that regime. While a military coup would seem to be unlikely, it is unpredictable what will happen when countries are subject to depression for a long time or high inflation, or, worse, both at the same time.

Greece and GDP-Linked Bonds

It is perfectly obvious that at some point Greece’s creditors’ will have to admit that they will not be paid back in full. This morning there are reports that the IMF has highlighted this point.
One idea that the Greek Finance Minister Yanis Varoufakishas has floated is to replace some of Greece's existing bonds with GDP-linked bonds. The merit of this idea is that it is one possible way to make both Greece and its creditors understand that their interests are aligned. With this type of bond, the greater the Greek economy grows, the more the creditors would receive.
There are some obvious problems, though, that would have to be addressed. A GDP statistic that everyone could trust is essential; at this point, creditors may not be willing to trust a number the Greek government produces. Also, GDP numbers are also subject to revision as new data comes in. A decision would have to be made at what point a number is final for purposes of the bond. Also, there is probably not insignificant economic activity in Greece that is “off the books.” How to account for this in coming up with a GDP number is a question.
Consequently, we will probably not see a GDP-linked bond, at least not one marketed to private creditors. However, since much of Greek debt is owned by public sector entities, it may be an idea worth pursuing along with others. The European creditors of Greece have made a mistake in not wanting to discuss ways to restructure and partially forgive Greek debt, and the Greek negotiating tactics have seemed ill-advised. If Greece and the troika find a way eventually to talk seriously about how to deal with the Greek debt problem, GDP-linked bonds are not essential to a solution but are worth considering.
(Some of what I have to say here is informed by my work at Treasury designing Treasury’s inflation-indexed bonds.)