There’s a scene in The Lord of the Rings where the wizard Gandalf confronts the Balrog, a hellish monster, on a narrow bridge in the Mines of Moria. The battle ends with Gandalf smiting the bridge with his staff, sending the Balrog plunging into a fathomless abyss.
There’s a twist to the tale, however. As the monster falls, one last swish of its whip curls round Gandalf’s ankle and drags him down into the pit as well. Views may differ, in the context of the eurozone debt crisis, whether Greece is Gandalf or the Balrog, but one thing is for certain, the risks of mutually assured destruction are high.
Both Greece and the hardline European countries demanding cast-iron assurances that they are not throwing good money after bad in a new 130 billion euro (US$172.6 billion) bailout have the potential to shatter what, at best, is a fragile truce. The Greeks might decide they have had a bellyful, and that default and departure from the euro is preferable to endless austerity and the humiliation of colonial status.
The Germans, Austrians, Dutch and Finns could come to the conclusion that Greece is a lost cause and that nothing politicians in Athens say about their commitment to collecting taxes, cutting spending and reforming the economy can be believed. They might decide, despite all the official statements to the contrary, to chuck Greece out of the single currency.
Although the creditors appear to hold all the trump cards, that is not really the case. Greek politicians can put their signatures to little pieces of paper pledging themselves to stick to the terms of a bailout deal, but once the money has been delivered and elections held, the incoming government could tell the other members of the single currency to take a running jump. Sovereign states — even those as vulnerable as Greece — always have that power.
What’s more, the Greeks have the advantage of knowing that a financial crisis precipitated by a messy default would hurt the rest of Europe more than it would hurt them. In Like a Rolling Stone, Bob Dylan sings: “When you’ve got nothing, you’ve got nothing to lose” — that’s a sentiment that resonates with many Greeks.
Dhaval Joshi, of BCA Research, makes an interesting point in this context. There are, he says, traditionally two ways of getting rid of your debts: You can grind them down, little by little, through protracted austerity programs. Alternatively, you can default, which gets rid of the debt quickly, but leads to a much sharper plunge in output.
However, for Greece, there is scant difference between the two: It will have a deep V-shaped recession if it defaults, but it is having a deep V-shaped recession anyway. And there is not one politician in Athens who believes that sucking a further 3.3 billion euros out of an economy contracting at an annual rate of 7 percent will do anything other than intensify the slump.
Those holding the purse strings are doing their own cost-benefit analysis. German Minister of Finance Wolfgang Schaeuble summed up the mood when he talked of pouring money down a black hole. If, as the northern European eurozone members clearly believe, Greece will be back for another bailout in the near future, why risk the wrath of their voters by handing over 130 billion euros now?
The assumption is that the European Central Bank (ECB) has created a firewall by throwing cheap money at commercial banks, and that there would be no repeat of what happened following the collapse of Lehman Brothers in 2008.