Monday, 3 July 2017

Adam Tooze & Varoufakis's 'financial deterrence'

Adam Tooze, a Professor of History, has a sympathetic review of Varoufakis' latest book here.

This caught my eye-
Tooze is conflating OMT (Outright Monetary Transactions), regarding which the European Court had made the judgement he refers to, and Q.E. (Quantitative Easing) which was a new policy initiative of Draghi's.
On winning its first election, the Syriza Govt. in Greece signalled it was reneging on the country's Memorandum of Understanding re. Euro Bailout conditionalities and thus was disqualifying itself from OMT whose mere existence, not use, was enough to reduce the cost of borrowing and contain contagion risk for the other debtor countries.

Had Greece not elected Syriza and stayed the course, it was expected to be eligible for OMT in 2015 and even direct Q.E (which increases liquidity in troubled local banking systems with some notional 'sterilization' (i.e. nullification of the inflationary impact) at the central level)

The market expectation that Greece wanted to comply with its MOU and thus meet the conditions for OMT support would have been enough to secure it cheap credit in order to continue down the path of primary surplus. In other words, the World would have said 'The Greeks are getting their house in order. The ECB is behind them. Thus they should be able to borrow at low interest rates and service their debt more cheaply.'

Tooze is rightly critical of German legal challenges to Draghi's very successful OMT and QE policies (whose effect was psychological rather than anything requiring profligate spending). It would be pointless to have an independent ECB if it were constrained from doing the sorts of things only a Central Bank can do.

As a Keynesian, Tooze is perfectly at liberty to criticise purely monetary tinkering and to call for  robust fiscal expansion. Europeans, however, were sceptical because the PIGS had incurred massive debt for investment in infrastructure and construction prior to the financial crisis. A lot of this money had been wasted. Corruption had increased. The entire Economy had been distorted. For Keynesian policies to work, not just Political parties but Civil Society itself had to change. Leaving aside Greece for a brief period after Syriza's first victory, the other PIGS took the bitter medicine of austerity because it was all to palpable that vested interest groups- including Public Sector employees and 'feather bedded' permanent employees- would not relax their vice like grip on the economy. Young people had to emigrate or make do as members of an impoverished 'precariat'.

Tooze, like other Anglo Saxon academics finds Varoufakis an attractive personality. He believes him to be a flag bearer for Keynesianism, despite the latter's self-description as a 'Hayekian Marxist'. Thus, Tooze speaks of Varoufakis as having a 'Machiavellian' plan to subvert Draghi's benign Monetary policy thus leaving no option on the table save Keynesian reflation.

This appears too charitable an assessment. Draghi had won a victory over the Germans in the European Court. He had the legal authority to extend OMT and perhaps even QE help to Greece in 2015. All the Greeks had to do was stick with the MOU and 'extend and pretend'. Failure to do so meant that Draghi's hands would be tied as would those of Syriza sympathisers in France and the other 'PIGS'.

Tooze thinks Greece could have 'blown up QE'. How? They'd already made themselves ineligible for OMT, forget QE. They weren't in the lifeboat. How could they blow it up?

The other peripheral countries were sticking with their MOUs and benefiting accordingly. Draghi was slowly but surely winning the fight against the stupider sort of German because the Markets were on his side.

Tooze says Greece could impose a haircut on its bonds as a type of blackmail- 'the nuclear option'. Yes, the ECB would have taken a hit. But, the markets would very quickly understand that this was just a pinprick. Moreover, getting shot of Greece meant the ECB's rating should rise not fall.

Thus, Greece had no 'financial deterrent' against the ECB.  It could be a minor embarrassment to some sympathetic Left leaning or more Keynesian Mandarins and Politicians. But there would be no lasting impact on anyone's career.
On the other hand, Greek pensioners and Financial Institutions would not recover. They would bear the brunt of the haircut. This has never been Syriza policy. They want to compensate Greeks who lost under the last haircut, not shave their head completely.

Suppose Syriza wanted to pauperise Greek pensioners, destroy its financial sector, shut down its banks, impose exchange controls and limit cash withdrawals and so on. Then it could credibly have threatened a haircut. Would the ECB have had to 'reevaluate its portfolio of sovereign bonds'? No. Why? The other PIGS were meeting the conditionalities for OMT. The Market would initially have jitters but then look at the map and say 'Oh! Greece is just a small country not contiguous to the rest of the Eurozone. So what if it goes down the pan? It's tiny.'

Tooze says a voluntary Greek haircut could have led to a new legal challenge to Draghi's QE. How? On what basis? The law had already been clarified. Only if Draghi proposed to break the law to accommodate the Greeks would a legal challenge be entertained. It is a different matter that political opposition, in Germany, to QE might have increased. But that political opposition wouldn't have mattered because elections were still years away.

Since Varoufakis is an Economist he can't possibly have believed Greece had a 'financial deterrent'.
Why is Tooze making such a ridiculous claim?
Surely there can be no substance to it? 
The answer is that Tooze is not an Economist. He teaches History.
He is trained to look at the facts regarding what actually happened- not what rational people would do in obedience to the correct Economic theory.

Tooze has a credible source for his assertion- and points us to this article by Paul Mason-
Yanis Varoufakis is pacing the marble hall, cellphone to his ear. In the Maximos Mansion, where the cabinet is about to meet, there’s a “spy room” for secure communications. But by June 21, Varoufakis—hunched against a statue—no longer needs it.

If the Germans are listening, they need to hear what he is planning to do. With nine days to go until the Greek bailout program ends, Varoufakis is about to offer a significant compromise to the lenders. Pensions will be cut, and taxes hiked—hitting the fiscal targets demanded by Europe. That’s Plan A. If it doesn’t work, there is a Plan B, which he explains almost in a whisper:

“My very strong suspicion is that the powers that be, at least within the Eurogroup, have made up their minds to give us an offer we can’t possibly sign up to, and that as a result, there’s going to be bank closures on Tuesday.”

Are you ready for that? I ask him. “Of course not,” he says. “Nobody is ready for Armageddon.”

“The big question is this: Once the banks close their doors, are we prepared to do what it takes—and respond to this aggressive act by the [European Central Bank] and the Bank of Greece aggressively—by haircutting the €27 billion of SMP bonds we owe to the ECB?”

Varoufakis knows defaulting on the ECB would be like dropping a financial atom bomb. We store the only copy of the interview in a safe and wait for Armageddon. But it doesn’t come.

If Syriza had gone to Brussels and provoked the showdown, scrapped €27 billion worth of debt to the ECB and mobilized the vast network of support it enjoyed in Europe, it might have stood a chance. Instead, Greek negotiators spent the next week pursuing the same strategy of compromise that had got them nowhere for months.

On Friday, June 26, Prime Minister Alexis Tsipras walked away from the negotiations and called a referendum; but it was never backed by the kind of action Varoufakis proposed.

By July 13, Greek resistance to austerity was over: With the economy close to collapse, Tsipras was forced to sign a new bailout deal, handing economic sovereignty to Brussels. The first left-wing government in modern Europe had been effectively destroyed. The delight of the European elite was summed up by Slovak Finance Minister Peter Kazimir: “tough for Athens” he tweeted, “because of their ‘Greek Spring.’”

The ECB had to increase Emergency Liquidity Assistance by 40 billion between February and June 2015 to keep Greek banks open. Reneging on 27 billion historic debt would have meant the ECB could stop ELA and end up with less cash outflow. Good Business Practice for Brussels but Armageddon for the Greeks.
Reneging on historic debt when you are on the IV drip of Liquidity Assistance is crazy.
It isn't an 'atom bomb' you can target at your Creditors.
It is a 'dirty bomb' which poisons only your own demesne.

Tooze takes a different view.

Is Tooze serious?
Greece posed no contagion risk in 2015.
How could it?
The private sector had no exposure to it.
The ECB is a central Bank with massive assets.
A Greek default would have been a pin-prick, nothing more.
On the other hand, getting shot of Greece would boost the ECB.
But it would also boost the Euro.
The German trade surplus would have been affected.

No doubt, Coeure and Draghi (both of whom are economists like Varoufakis and thus had a class interest in not seeing him screw up) liked Greece and didn't want it to turn into Zimbabwe on the Mediterranean. No question, they'd have got a bashing in the Press for a week or two if Greece went down the toilet. But no European institution- including the ECB- was imperilled by Greek suicidal stupidity. The Greeks could threaten to cuddle up with Putin, or even embrace Islam, and it would have made no difference. The only 'deterrent' they possessed was of threatening to send hordes of their young people into Europe to take jobs from the natives. Sadly, Greeks are lovely people. Europe wants more of them to come and settle and get jobs and pay taxes and start families. Nobody is going to give Greeks money to stop their youngsters from coming to their countries and enriching their communal life.

Tooze ends his sympathetic review by highlighting two points- viz.

1) Varoufakis's irresponsibility towards other PIGS. However, as we have seen, since they were meeting their conditionalities, they were legally covered by OMT and nothing the Greeks could do endangered that. 

2) That actually the whole thing was a delusion. There was no Greek 'ICBM', just a 'dirty bomb' they exploded upon themselves.

I believe Greece could have led the way in 2015. A good economist able to speak German could have made the case that 'odroliberalism' required an expansionary fiscal stance. Why? Well, by standard Keynesian arguments, the ECB commitment to 'Price Stability', is multiply realisable. Taken together with the notion of a 'Social Minimum', it militates for what Kennedy called 'budgeting for a full employment surplus'. Of course, Econometrics has moved on a lot since the Sixties. That's a good thing. It is easier now to make a sound statistical argument which would hold up in the European Court that sustainable price stability requires an end to stupid deflationary policies which have no basis in Economic theory and no support in empirical data.

Sadly, Varoufakis was not a good economist. He is an excellent self-publicist- a 'rock-star'- but he damaged Greece very badly during his short tenure and has made the task of sensible Economists, confronted by ignorance and prejudice, that much more difficult.


Anonymous said...

A tad unfair to Varoufakis. China was prepared to buy Greek T bills in March 2015. Germany stopped them simply so as to break Greece and flaunt its hegemony over Europe.

windwheel said...

Syriza had threatened the Chinese stake in Piraeus and so they were playing nice with the Greeks. However, the ECB wouldn't give Emergency Liquidity Assistance to Greek banks to buy Greek T bills thus permitting them to multiply credit in Euros.

China was willing to supply only a billion or so. Emergency Liquidity Assistance was 30 or 40 times larger. There was never any chance that the Russians or the Chinese or anyone else would have supplied that sort of assistance. Anyway China has got what it wanted. Piraeus is now securely theirs- the Greek directors have been squeezed out- and they are making other strategic investments of the sort Syriza swore to never allow.