Greece and all that – Unpacking Austerity in Europe



A respondent to my last week’s posting said:

How’s the Greek challenge to austerity working out again? I do believe they are being told to pull their heads in and get on with austerity.

Very true. But so far the Greek new new-left Syriza government is holding its nerve. Even if it ends up failing in its mission to end catastrophe politics in Europe, it does represent a beacon of hope for new left‑wing politics. That’s why the European political establishment is fighting so hard to keep Europe on its present slow suicide track by not making concessions to Greece’s government led by Alexis Tsipras.

The Economic Unreality

One of the big ironies is that Europe is behaving so much like it did in the late 1920s, except that then it was Germany playing the role now played by Greece. Germany’s debts then were those imposed by the Treaty of Versailles in 1919. These debts could only be paid if Germany’s vengeful post-treaty creditors (the victorious powers after World War 1) allowed Germany to run a trade surplus. Trade was the only way that Germany could earn the ‘gold standard hard currency’ required to pay those debts. Yet Germany’s creditors were themselves trying to run trade surpluses. They were indulging in ‘vendor finance’ which is just a fancy way of saying they were trying their very best to lend to Germany, not to be repaid.

I simplify. The creditor powers were trying to get their private sectors to lend to Germany’s private sector, with the expectation that the German government would tax its private sector heavily, and pay its reparations to the governments of France, United Kingdom and United States. The unintended aim was to make Germany’s private sector the biggest debtor in the global economy, with the private sectors of France, UK and USA becoming the biggest creditors in the global capitalist economy.

It’s the same in Europe today. The southern governments are being required to repay northern-based institutional creditors in ‘hard currency’ (Euros in this case). The only way this can possibly happen, given the determination of northern European and other creditor economies to run trade surpluses, is through huge lending to the southern private sector, enabling a boom in debt-fuelled spending in the south which would in turn enable the southern governments to collect more taxes.

It’s a fantasy of course, like the subprime housing loans of the mid-2000s. The Greek private sector today is in no better shape to acquire gazillions of Euros worth of imports on credit than the German private sector was able to owe gold marks in 1928.

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The Economic Theory (it’s quite simple really)

Because the Eurozone is a fixed currency zone (as was greater Europe under the gold standard). It means that trade imbalances need to be reconciled through a process of internal devaluation andrevaluation. This is another way of saying that northern European countries must, through higher inflation, run substantial trade deficits so that southern European countries can run the trade surpluses that enable them as countries (public and private sectors) to service their debts to the north.

The Euro problem results from a one-way flow of goods from the north to the south in the 2000s’ decade. The solution is a decade-long rebalancing one-way flow of goods from the south to the north. If interest is to be paid, the latter south to north flow must exceed the former north to south flow.

The basic theory of internal devaluations and revaluations says that the creditor bloc should have higher than normal inflation and the debtor bloc should have lower than normal inflation. That is understood (and has been understood ever since David Hume enunciated the ‘price-specie-flow-mechanism’ in the 1750s) as the normal means to achieve a one-way trade flow. Hume (and Ricardian economists subsequently) believed that this process was self-regulating. The drain of money from debtor countries like Greece would automatically create deflation. And the flow of money into creditor countries like Germany would automatically induce the required inflation. For this to work in Europe today we would probably need the inflation rate in Germany to be 10 percentage points higher than in Greece; eg 7% inflation in Germany and 3% deflation in Greece. Pigs will fly before the Germans will accept 7% annual inflation as part of the cure.

An Alternative Mechanism

Policymakers in dominant economies cannot create inflation when inflation is needed and is known to be needed. So an alternative to Hume’s mechanism is needed. Japan has tried valiantly to create inflation, but cannot.

In Germany’s case the authorities wouldn’t create inflation, even if they could. Germany is at core a mercantilist nation – a mercantilism aggravated by a semi-mythological national trauma over inflation – that understands economic success as the indefinite accumulation of trade surpluses. To be good world economic citizen, Germany needs to become like modern Japan, only more so. Japan today does run trade deficits, and does have the highest public debt to GDP ratio in the world, and has had zero interest rates for two decades.

There are other ways the objective of trade rebalancing could be achieved. One would involve protectionism, which, by the way, was not the cause of the Great Depression and was part of its cure.

A better approach would be to adopt Social Credit style national dividends in the northern European creditor nations, funded by quantitative easing rather than by taxes, combined with the introduction in those northern countries of a 25 hour work week. That would turn the northerners into net consumers rather than net producers. (The word ‘net’ is important here; this is a green solution.) The already highly indebted northern governments would be taking on the deficits that the northern private sectors would not consider taking on. Northern Europe needs public debt at Japanese levels in order to balance the huge private surpluses endemic in the rich world.

The Politics

The real austerity agenda is one of privatisation. In a superficial sense, Greece’s government can pay a chunk of its debt if it sells all its assets to northern private interests. But, in making Greek resources plunder for foreign capitalists, the underlying trade imbalances would be accentuated by even greater imbalances in financial income – interest and profit outflows – that would add to the unspent private cash reserves in the north and have to be recycled as even more debt.

The other part of the political agenda is that the northern financial interests want compliant governments in the other southern countries. Compliant left-wing governments – the one’s that prioritise the reduction of government debt while confining their leftishness to identity politics – are just fine to these interests. They are desperate that Syriza-style anti-austerity live-with-debt politics does not spread to the likes of Spain and Italy and France. That kind of effective political economy would reveal the nakedness of the austerity Empress.

New Zealand’s Labour Party is still, in the main, of the compliant deficit-phobic left rather than of the brave and intellectually edgy new new-Left. New Zealand has one of the most indebted private sectors and one of the less indebted government sectors. Yet so much of what Labour is about is that we cannot afford this and we cannot afford that. Even the Governor of the Reserve Bank knows that we need more debt, not less. That’s why interest rates were cut on Thursday and will be cut again; to reduce the price of debt so that we get money moving again.

The Economic Reality

Your debt represents my employment. My spending represents your income. Your austerity represents my unemployment. My forced austerity represents your insolvency.

Greek government deficits (the additions to the debt) averaged over 10% of GDP since austerity was imposed. In the 10 years before the financial crisis they averaged 5% of GDP. Spain had public debt of only 36% in 2008, much less than Germany’s 64%. Since austerity Spain has reached 98%. Austerity, supposedly about compromising living standards in order to repay debt, has both shattered living standards and substantially increased the rate of accumulation of public debt. Counter-austerity, on the other hand, can raise Greek living standards making it possible for Greeks to pay more taxes, and can raise the GDP denominator, making the debt more serviceable.

The economic argument about European debt is simple, when looked at in a systemic way. Syriza addresses the systemic issues, and wins the argument. In a significant act of defiance, Greece reopened its public television network this week, two years after it was shut down as a failed public economy measure. Let public enterprise blossom.


  1. Bloody good post here,

    Ironical that Germany is the policy policeman of EU now so it is playing tit for tat here.

    We all know that for the survival of a global economy we need an even distribution of wealth which has never occurred and more belt tightening never will solve the global woes.

    Key is still borrowing $300 Million every week and we are living in la la land doing this while our economy is now failing because he has systematically allowed our production base shink every month as factories are closing down all over the country.
    We don’t even make woollen carpets any more but buy cheap imported toxic plastic carpets that don’t offer warmth and insulation to our so called damp mouldy homes?

    So if wool carpeting is not manufactured here and we are forced to use substandard man made fibre (Nylon) for our floor insulation perhaps we should point the finger at the Government?

    It is there flawed economic modelling that excluded the advantages of wool insulation who is responsible for harming our families who cant effort expensive electricity to heat our homes now.

    Secondly due to them we don’t have the options any more to use wool carpets – but only toxic Nylon carpets that are proven to have 300 damaging toxic cancer, cardiovascular, & nervous system damage, causing chemicals in their manufacture.


    Carpets cover the floors of our business and schools. Children play for hours on them, infants crawl on them and breathe deeply of their fumes, proud homeowners inhale that ‘new-carpet smell’, and all the while we are being poisoned by the chemicals, allergens and toxic dust that lurks in our carpets.

    Whether your carpets are new or old, they probably have more bad things in them than you want to imagine. The list is staggering. For new carpets there are ‘volatile organic compounds’ VOC’s. These include toluene, benzene, formaldehyde, ethyl benzene, styrene, acetone and a host of other chemicals, some of which have already made the EPA’s list of Extremely Hazardous Substances. Known carcinogens such as p-Dichlorobenzene are in new carpets, as are chemicals that produce fetal abnormalities in test animals. These chemicals also cause hallucinations, nerve damage and respiratory illness in humans.

    Other compounds in new carpeting that affect your health are adhesives, stain protectors, mothproofing and flame retardants. That ‘new carpet smell’ comes from 4-PC, associated with eye, nose and upper respiratory problems that are suffered by many new carpet owners. 4-PC is used in the latex backing of 95% of US carpets. In 2000 the 3M Company removed the chemical perflouro-octanyl salphonate from their product, Scotchgard, because it had been found to cause reproductive problems in rats. It had also been found in high levels in the wildlife of urban areas. Mothproofing chemicals contain naphthalene, which is known to produce toxic reactions, especially in newborns. Fire retardants often contain PBDE’s which are known to cause damage to thyroid, immune system and brain development functions in humans.

    • wow thankyou clean green I didn’t know the new carpets were so toxic but it makes sense,im am in the process of recarpeting and have been looking at new nylon carpet which is cited as easy to keep clean ,as warm as wool, non staining.

      Back to wool carpeting for me ,If I can get it that is.

  2. Give me break – even by the worst of the lefts standards of “free lunches for everyone” the Greeks did it to themselves. Massive tax evasion, absurd pensions, endemic corruption, zero work ethic etc!
    And why should Germany and England give them free money?

    • If you had read carefully, you will see that I argued that the Northern European countries should allow Greeks to pay their international debts by working; ie by running a trade surplus, producing stuff for the benefit of others. That’s what repaying debt means.

    • Interestingly enough, when you get right down to it, it’s the fact that the English and Germans expect free money in the form of interest from people that they’re depriving of working that is the problem.

      They need to learn and accept the reality of loaning money:

      When you loan someone money, be it an individual or a government, then you’re taking the risk that you’re not going to get it back.

      Large chunks of Europe loaned out money and now they’re demanding it it back rather than accepting that the risk that they took called due.

  3. Why aren’t you credited for this story Keith Rankin?

    I have one question about the Greece situation that I just can’t figure out. In all the reading I’ve done on the crisis I’ve not seen an explanation as to why the Greek government can’t default on their debt but remain in the eurozone. It just seems to be assumed to be technically impossible, but it is never explained why. Do you have any ideas as to why this wont work?

    • I think there’s no technical issue. In practice, it would be a negotiated default on part of the public, debt. Actually, I understand that already happened, around 2012. Certainly the Greek public debt to GDP ratio has not gone up by as much as it should have, given the size of the Greek government’s ongoing deficits.

      To foregive all Greece’s public debt would be seen as an extreme case of moral hazard. We have to remember that, from the European creditors (bond-holders’) point of view, this is not really about Greece. It’s about Spain, Italy and France. The creditors would want a punishment meted out that is at least proportionate to the size of the crime as they see it.

      Also it’s political. The Euro conservatives and centrists do not want to be forced to even contemplate the Syriza analysis of the systemic crisis that Europe faces. Instead, the Euro Area as a whole is trying to worm its way out by running increasing trade surpluses with the rest of the world. That means, in time, a globalisation of the Euro crisis.

      • interesting that the IMF have just given the Ukraine more funds even though they are on the verge of default and in ca civil war.

        • I think im on to the capture system now, there is nothing wrong with my math, you just don’t like what I write .
          Ok as you wish .

      • Thanks for the response, that helps clarify the issue for me.

        I think that the lender also deserves some blame if they are not repaid though. After all I would not lend to a drug addict or similar and expect to be repaid.

        • The debt that accumulated in Portugal, Ireland, Greece and Spain in the first decade of the Euro was essentially ‘vendor finance’. In particular, Germany’s export machine cranked up and made all these sales to the southern countries.

          In trade you get paid (for your exports), directly or indirectly, in imports. Germany did not want to accept imports as payments. Instead, Germany and other mainly northern countries became creditors, meaning that the south should pay later (in the form of exports from the south to the north). That ‘later’ is now, so the northern countries need to accept payment in the form of imports.

          The southern countries (and Ireland) are now running trade surpluses. They are meeting their trade obligations as best as they can, under extremely difficult circumstances. But they are exporting to countries outside of the Euro area. The problem that is accentuating the crisis is the failure of the northern countries to accept payment in the form of imports.

          Yes, in Greece, due to lax fiscal systems, the government took on much of what would otherwise have been private debt. Further, the Greek government itself had been a good customer of German businesses. The major reason why public debt stands out much more in Greece, however, is the Olympic Games of 2004, awarded to Athens in 1997, before the Euro currency was created. This was an international event, and it was appropriate that infrastructure in Greece was improved for such an event.

        • Correction. Greece, Spain and Portugal are running current account surpluses but not trade surpluses.

          This is a hard one to work out. Normally an externally indebted country (eg NZ, Australia) runs a balance of trade surplus and a current account deficit. These southern Euro countries are doing the opposite.

          My explanations would be thus:
          1. Core interest rates in Europe are zero, so there will be minimal flow of interest from south to north.
          2. Southerners working in the north (or outside the Euro Area) are remitting substantial amounts of wages to their families.
          3. Northern-owned firms in the south are making losses rather than profits.

          It’s a difficult problem to follow in the media, because most of the commentators are not framing the problem for what it is; a Euro problem of unbalanced trade that’s becoming a global problem of unbalanced trade.

          • Yes, thanks. And those subsidies (net flow north to south) would be supplemented by welfare benefits if the EU were to become a fiscal union. That’s why federations like Australia don’t have the Euro Area problem with respect to their states.

            • Correction. ‘If the Euro Area [not the EU] were to become a fiscal union.’

              I sense that the EU nations not in the Euro Area will eventually have to make a choice: join the Euro Area or leave the European Union. The coming referendum in the UK confirms English ambivalence towards the EU, signalling an eventual exit, even if the referendum favours staying in. The interesting subtext is, I understand, that Scottish independence may be facilitated. Scotland would like to join Ireland as a full member of the EU and the Euro Area.

  4. “protectionism, was not the cause of the Great Depression and was part of its cure.”>> Really?, in 1930s New Zealand, lamb prices crashed as countries decreased food imports. In Argentina reduced English beef quotas lead to permanent structural changes in their economy.
    Otherwise a thought provoking article.

    • Thanks for raising this issue. You are right in that falling agricultural prices and import-aversion were significant forces in bringing about the Great Depression. But the main means to reduce imports in the 1920s were deflationary policies, not protectionist policies.

      The causes of the Great Depression lie in the global economy of the 1920s, and the eventual cure lay in the (eventual) individual sub-global (national and imperial) responses in the 1930s.

      The 1920s was about countries trying to run trade surpluses through policies of ‘internal devaluation’, known then as ‘deflation’. The goal was to reduce imports and to increase exports. This made some sense to the deficit countries with dwindling gold reserves, including the UK and of course Germany. The worst offenders were the money hoarders, USA and France.

      It is true that the US Smoot-Hawley tariff of 1930 substantially aggravated the extreme global imbalance. This is because the US was the country that had been running trade surpluses for a decade; the world economy then needed the US to become its biggest spender. Instead, the US did the very opposite, substantially reducing its imports.

      One of the most important events bringing the UK out of depression, and eventually much of the rest of the world was the (intended temporary) abandonment of free trade (in 1931). It gave Britain the freedom to adopt expansionary policies which could be assured to boost the British domestic economy. Britain’s imports soon revived, despite tariffs, as British incomes recovered. Important here to NZ was the negotiated ‘imperial preference’, through which growth in British imports would boost empire exports. In return, NZ switched to buying a significantly greater proportion of its imports from the UK (eg British instead of American cars). Through the late 1930s, a revival of the empire economy facilitated a revival of the global economy, though too late to bring Germany back into the global trading system.

  5. Even the Governor of the Reserve Bank knows that we need more debt, not less. That’s why interest rates were cut on Thursday and will be cut again; to reduce the price of debt so that we get money moving again.

    And it still won’t work as the reason why money isn’t moving is because it’s all accumulated at the top ~1% of the population who don’t, probably can’t, and just won’t anyway spend all their income. This is capitalism where all the wealth accumulates into the hands of the few and the economy and then the society collapses. Along the way we’ll get a hell of a lot of deprivation and death eventually leading to revolution.

    It could be said that Greece is having a type of revolution now in an effort to prevent further deprivation and the onset of destabilisation. If the rest of Europe doesn’t come to the table to talk seriously about renegotiating the debts of Greece then there’s a high chance that we’ll see the more physical type of revolution.

    The lesson that needs to be taken from all this is that We cannot afford the rich.

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