varoufakis’s great game by hans-werner sinn - project syndicate

6/1/2015 VaroufakissGreatGamebyHansWernerSinnProjectSyndicate

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ECONOMICS

HANSWERNERSINNHansWernerSinn,ProfessorofEconomicsandPublicFinanceattheUniversityofMunich,isPresidentoftheIfoInstituteforEconomicResearchandservesontheGermaneconomyministrysAdvisoryCouncil.Heistheauthor,mostrecently,ofTheEuroTrap:OnBurstingBubbles,Budgets,andBeliefs.

MAY29,2015

VaroufakissGreatGameMUNICHGametheoristsknowthataPlanAisneverenough.OnemustalsodevelopandputforwardacrediblePlanBtheimpliedthreatthatdrivesforwardnegotiationsonPlanA.Greecesfinanceminister,YanisVaroufakis,knowsthisverywell.AstheGreekgovernmentsanointedheavy,heisworkingPlanB(apotentialexitfromtheeurozone),whilePrimeMinisterAlexisTsiprasmakeshimselfavailableforPlanA(anextensiononGreecesloanagreement,andarenegotiationofthetermsofitsbailout).Inasense,theyareplayingtheclassicgameofgoodcop/badcopand,sofar,togreateffect.

PlanBcomprisestwokeyelements.First,thereissimpleprovocation,aimedatrilingupGreekcitizensandthusescalatingtensionsbetweenthecountryanditscreditors.Greecescitizensmustbelievethattheyareescapinggraveinjusticeiftheyaretocontinuetotrusttheirgovernmentduringthedifficultperiodthatwouldfollowanexitfromtheeurozone.

Second,theGreekgovernmentisdrivingupthecostsofPlanBfortheotherside,byallowingcapitalflightbyitscitizens.Ifitsochose,thegovernmentcouldcontainthistrendwithamoreconciliatoryapproach,orstopitoutrightwiththeintroductionofcapitalcontrols.Butdoingsowouldweakenitsnegotiatingposition,andthatisnotan

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option.

Capitalflightdoesnotmeanthatcapitalismovingabroadinnetterms,butratherthatprivatecapitalisbeingturnedintopubliccapital.Basically,Greekcitizenstakeoutloansfromlocalbanks,fundedlargelybytheGreekcentralbank,whichacquiresfundsthroughtheEuropeanCentralBanksemergencyliquidityassistance(ELA)scheme.Theythentransferthemoneytoothercountriestopurchaseforeignassets(orredeemtheirdebts),drainingliquidityfromtheircountrysbanks.

OthereurozonecentralbanksarethusforcedtocreatenewmoneytofulfillthepaymentordersfortheGreekcitizens,effectivelygivingtheGreekcentralbankanoverdraftcredit,asmeasuredbythesocalledTARGETliabilities.InJanuaryandFebruary,GreecesTARGETdebtsincreasedbyalmost1billion($1.1billion)perday,owingtocapitalflightbyGreekcitizensandforeigninvestors.AttheendofApril,thosedebtsamountedto99billion.

AGreekexitwouldnotdamagetheaccountsthatitscitizenshavesetupinothereurozonecountriesletalonecauseGreekstolosetheassetstheyhavepurchasedwiththoseaccounts.ButitwouldleavethosecountriescentralbanksstuckwithGreekcitizenseurodenominatedTARGETclaimsvisvisGreecescentralbank,whichwouldhaveassetsdenominatedonlyinarestoreddrachma.Giventhenewcurrencysinevitabledevaluation,togetherwiththefactthattheGreekgovernmentdoesnothavetobackstopitscentralbanksdebt,adefaultdeprivingtheothercentralbanksoftheirclaimswouldbeallbutcertain.

AsimilarsituationariseswhenGreekcitizenswithdrawcashfromtheiraccountsandhoarditinsuitcasesortakeitabroad.IfGreeceabandonedtheeuro,asubstantialshareofthesefundswhichtotaled43billionattheendofAprilwouldflowintotherestoftheeurozone,bothtopurchasegoodsandassetsandtopayoffdebts,resultinginanetlossforthemonetaryunionsremainingmembers.

AllofthisstrengthenstheGreekgovernmentsnegotiatingpositionconsiderably.Smallwonder,then,thatVaroufakisandTsiprasareplayingfortime,refusingtosubmitalistofmeaningfulreformproposals.

TheECBbearsconsiderableresponsibilityforthissituation.Byfailingtoproducethe

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twothirdsmajorityintheECBCouncilneededtolimittheGreekcentralbanksselfservingstrategy,ithasallowedthecreationofmorethan80billioninemergencyliquidity,whichexceedstheGreekcentralbanks41billioninrecoverableassets.WithGreecesbanksguaranteedtheneededfunds,thegovernmenthasbeensparedfromhavingtointroducecapitalcontrols.

RumorhasitthattheECBispoisedtoadjustitsapproachandsoon.ItknowsthatitsargumentthattheELAloansarecollateralizediswearingthin,giventhat,inmanycases,thecollateralhasaratingbelowBBB,thusfallingshortofinvestmentgrade.

IftheECBfinallyacknowledgesthatthiswillnotdo,andremovesGreecesliquiditysafetynet,theGreekgovernmentwouldbeforcedtostartnegotiatingseriously,becausewaitingwouldnolongerdoitanygood.But,withthestockofmoneysentabroadandheldincashhavingalreadyballoonedto79%ofGDP,itspositionwouldremainverystrong.

Inotherwords,thankslargelytotheECB,theGreekgovernmentwouldbeabletosecureafarmorefavorableoutcomeincludingincreasedfinancialassistanceandreducedreformrequirementsthanitcouldhavegainedatanypointinthepast.AlargeshareoftheacquiredresourcesmeasuredbytheTARGETbalancesandthecashthathasbeenprintedwouldturnintoanendowmentgiftforanindependentfuture.

ManypeopleinEuropeseemtobelievethatVaroufakis,anexperiencedgametheoristbutapoliticalneophyte,doesnotknowhowtoplaythecardsthatGreecehasbeendealt.TheyshouldthinkagainbeforeGreecewalksawaywiththepot.

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