There might be a one-word explanation for why Greece is likely to ultimately capitulate to European demands for more austerity: Argentina.
Greece is hardly the first nation to face the prospect of defaulting on its sovereign debt obligations. Argentina has defaulted on its external debt no fewer than seven times since gaining independence in 1816, most recently last year. However, it is Argentina’s 2001 default on nearly US$100 billion in sovereign debt, the largest at the time, that poses a cautionary example for Greece.
Should Greece default, “Argentina is an apt analogy,” said Arturo Porzecanski, a specialist in international finance at American University and author of numerous papers on Argentina’s default. However, for Greece, “It would likely be worse. Argentina was comparatively lucky.”
Illustration: Yusha
Daniel Gros, director of the Center for European Policy Studies in Brussels and the author of A Tale of Two Defaults, a paper comparing Greece and Argentina, agreed.
“Default would be much worse for Greece than it was for Argentina,” he said.
Like Greece today, Argentina had endured several years of hardship and austerity by 2001. It borrowed heavily from the IMF, the World Bank and the US, all of which demanded unpopular spending cuts. The IMF withheld payments when Argentina — like Greece — failed to meet its deficit targets. A bank run led the government to freeze deposits, which set off riots and street demonstrations. There were deadly confrontations between police and demonstrators in the heart of Buenos Aires, and then-Argentine president Fernando de la Rua, fled the nation by helicopter in December, 2001. In the last week of 2001, Argentina defaulted on US$93 billion in sovereign debt and subsequently sharply devalued the peso, which had been pegged to the US dollar.
In addition to social unrest and a wave of political instability — at one point, the nation had three presidents in four days — Argentina’s economy plunged into depression. Tens of thousands of the unemployed scavenged the streets collecting cardboard, an enduring image that gave rise to the term “cartoneros.” US dollar-denominated deposits were converted to pesos, wiping out more than half their purchasing power.
Despite this trauma, the Argentine economy stabilized in 2002. The nation was able to repay the IMF in full by 2006, but it has never re-entered the international debt markets. It has refused to comply with a ruling by a US federal court judge that it must repay in full private creditors who did not participate in the nation’s debt restructuring. As a result, Argentina defaulted again last year, and the standoff continues.
Even without much external financing, Argentina’s economy has fared relatively well since 2002, leading some economists, notably Mark Weisbrot of the Center for Economic and Policy Research in Washington, to suggest that Greece should default, suffer the short-term pain and follow Argentina’s example.
However, even Greek Minister of Finance Yanis Varoufakis, who advocates standing up to the EU’s demands, said the idea that Greece could default and emulate Argentina was “profoundly wrong,” as he put it in a recent blog post.
Argentina’s economic recovery was largely driven by a fortuitously timed surge in commodity exports driven by demand from fast-growing Brazil and China.
Although the commodity boom is long over, and Argentina’s economy today is at best stagnating, those two nations still account for about 28 percent of exports.
Soybean meal, corn and soybean oil are the nation’s top three exports. Argentina had a population of more than 41 million and GDP of US$610 billion in 2013. Although it is a net importer of energy, it has vast shale oil and gas reserves that could make it self-sufficient.
By contrast, Greece is heavily dependent on imports. Its top three are crude oil, refined petroleum and pharmaceuticals, all necessities. While its top export is also refined petroleum, it has to import crude oil for its refineries. Its only major homegrown exports are fresh fish and cotton. It would be hard to significantly increase sales of either product: The EU has strict quotas to prevent overfishing, while cotton production is struggling from reduced demand for textiles and a lack of bank financing.
Everyone pretty much agrees that, if Greece could devalue its currency, as did Argentina, its economy would benefit. However, it was also relatively easy for Argentina to devalue the peso by severing its link to the US dollar, a tie that was self-imposed. As Varoufakis said, Greece does not have a currency that is pegged to the euro. The practical challenge of disseminating a new currency would be enormous. Moreover, Greek savings now denominated in euros — and, in many cases, deposited in European banks outside Greece — cannot be converted to drachmas, as Argentines converted savings into pesos.
Converting to the drachma would also be a crushing blow to the private sector, much of which finances its activities with euro-denominated loans from non-Greek banks.
“They wouldn’t be able to service the debt with devalued drachmas,” Porzecanski said.
Nor would Greek courts have the final say in any ensuing litigation.
In Argentina, “the government ruled that a corporation or bank that owed debts denominated in dollars were payable in pesos at a one-to-one exchange rate,” Porzecanski said. “They could do that with internal debt. But Greek companies have a lot of cross-border obligations. The European Central Bank has kept Greek banks alive. Its collateral would be worth only a small fraction if Greece leaves the euro. The Greek banks would be insolvent immediately.”
In sum, he said: “It would be a royal mess.”
However, as game theorists point out, there’s no guarantee a rational outcome will prevail.
After surging early this week on optimism that Greece had come forward with a workable proposal, markets gyrated on concerns that it still did not go far enough to satisfy Greece’s major creditors. Varoufakis, while saying that leaving the euro would be a disaster, added that a Greek default would be manageable and give Greece more leverage in longer-term negotiations to keep Greece in the EU and eurozone.
No matter how much worse it might be for Greece than Argentina, “the outcome will ultimately be determined by politics, not economics,” Gros said. “Economists are terrible at predicting political outcomes.”
Porzecanski put it another way: “Do the Greek people know they are playing with fire and might get burnt? It is what they voted for, and they seem to have voted with their eyes wide open. Not everyone values prosperity the same way [as people in the US and most of Europe do].”
For others, which evidently includes many Greeks, ceding national sovereignty to foreign lenders might be worse than economic chaos.
As Varoufakis wrote: “I salute the Argentinian people for having toppled a regime, and more than one government, that tried so desperately to sacrifice a proud people on the altar of IMF-led austerity.”
People in nations like Venezuela and Cuba have tolerated failed economies and low standards of living for years, and Russians seem all too willing to follow Russian President Vladimir Putin into recession.
“Populism and nationalism are still potent forces,” Porzecanski said.
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