Greece’s ultimate ace

The bout continues. The Southern Europeans in the one corner, just what you would expect from hot-headed opportunists, one party stabbing the other in the back. Everybody bickering, not getting anything organised. A shambles: A total of 17 hours are spent to agree on something, and it takes a mere 24 hours for one of the parties (on their own side) to torpedo the agreement. That debt relief is vital, says the IMF, nothing can be done unless this is agreed. That is in fact completely the opposite of what was said just a few hours before. A coop of headless chicken looks organized compared to that lot.

In the other corner, the opponent. With ruthless Prussian efficiency, the agreement is boxed through in an orderly manner. The people have voted for less stringent terms just a week ago, but as a man they now stand shoulder to shoulder with their national hero, their battered prime minister. He himself, with a realpolitik of which Bismarck would have been proud, uses the moment to unite the nation to embrace much needed reforms. And he does so with the passion of a Garibaldi, obtaining cross party support behind his plan. An impressive performance indeed.

If this will work? Everybody looking from afar is skeptical. The agreement is rubbish, says even the IMF, and will further strangle the Greek economy.

However, at the weekend, it seemed that Greece did not have an option but to surrender and accept. Did they not have anything which they could have thrown into the ring? Was there a credible plan B, with which Greece could have put its creditors under pressure?

They could have always taken the ultimate option, just walking away, and declare a moratorium on Greece’s debts. That would have been a pretty drastic step, but entirely feasible, given that Greece collects enough taxes to pay all its expenses, bar the interest on its debt. The Greeks know that they can do that, but, of course, that option is never discussed, as it would inflame tempers even further during negotiations.

Didn’t they have anything else between surrender and walking away, to improve their terms of the agreement?

A couple of days ago former finance minister Yanis Varoufakis told us what he preferred to do when the ECB closed its bank, in an interview to the New Statesman:

My view was – and I put this to the government – that if they dared shut our banks down, which I considered to be an aggressive move of incredible potency, we should respond aggressively but without crossing the point of no return.

We should issue our own IOUs, or even at least announce that we’re going to issue our own euro-denominated liquidity; we should haircut the Greek 2012 bonds that the ECB held, or announce we were going to do it; and we should take control of the Bank of Greece. This was the triptych, the three things, which I thought we should respond with if the ECB shut down our banks.

Ultimately the Greek government did not follow Varoufakis’ advice, but the threats were still there, obviously, for Tsipras to play them as jokers. Varoufakis believed that these threats were credible, and, perhaps, even to the extent that an agreement could have been boxed though quite quickly, within 24 hours, had they been brought into play.


a) issue IOUs (issuing some kind of government issued parallel currency)
b) haircut on Greek bonds, (selectively defaulting on ECB)
c) take control of its central bank, (which currently receives its instructions from the ECB)

Would these threats have been credible?

It seems that the issuing of IOUs is not a threat. Greeks have not carried out any preparation for this, and a parallel currency is no threat to the EU. In fact, Schaeuble brought it up in a meeting on Monday, suggesting that Greeks use a government issued currency to pay their debts WITHIN Greece. (I do not think he meant the G-Euro, which quickly would get Greece back on its feet again – the last thing Schaeuble seems to want)

The fact that Greece is unlikely to meet its next repayment to the ECB is also pretty clear. It is due in a few days . So far Greece has defaulted on 2bn to the IMF since the end of June, so therefore it is unlikely to repay the 3.5bn which is due on the 20th. A default on ECB debt is now more or less expected, unless the headless chicken organize a bridging loan.

So, that only leaves taking control of the central bank. What would that mean?

The central bank is always the lender of last resort to a banking system. That means it provides liquidity to the banking system, due to maturity mismatches (loans are long term, but deposits can often be withdrawn quite quicky) as long as the banks are solvent.

Greeks banks need that at the moment, as billions have been withdrawn from bank-accounts to send abroad, and to put under matresses. Currently the ECB does not want to play that role anymore (restricting the ELA limits to Greek banks), that is why Greece has had to shut its banks, impose cash withdrawal restrictions, and ban transfers abroad.

How would an independent central bank have helped?

Initially, there seems no great benefit. The Euro would still be the currency, but Greece would not be bound by the Eurozone institutions. That means that an independent central bank cannot print Euro notes, the most obvious issue for most Greeks at the moment. Greeks would still only be able to get 60 Euro per day out of cash machines. Equally, it would be unwise to immediately allow transfers abroad again, also with independence. Money would rush out.

But if confidence returns, the huge cash pile saved under Greek mattresses, about 4,000 Euro for each Greek, from baby to pensioner, will come back into the system. So will the money transferred abroad. So confidence is key.

And an independent central bank can give Greece just that, confidence.

How would confidence come back?

1. Fact: No country can go bust borrowing in its own currency

Everybody is sure, that Greece will NEVER be able to repay its debts. From the IMF to the German Bild reader, from the Greek to the US government, everybody seems to be in agreement. Greece will not be able to repay all of its debt, it is insolvent.

However, the situation completely changes, if the Central Bank becomes independent.

There has never, ever, in the history of humanity, been a country which could not repay its debts, as long as they were issued in a currency, over which they had control.

In other words, you cannot go bust, if you borrow in your currency and you issue your own currency. Period. That means Greece is solvent, with an independent central bank, whatever anybody else might think.

2. There will never be another currency than the Euro – no Drachme ever

This constant threat of a new currency, which is to be devalued, hangs like a bad spell over Greece.

It is devastating to Greek business confidence at the moment, and an independent central bank with the Euro as its currency, will kill that Grexit possibility (Drachma version) once and for all.

The Euro is the currency of Greece and will stay the currency of Greece. Its own independent central bank can decide, and nobody can scare the Greeks into any other currency.

3. Greece can repay its debt

Greece could, of course, not print banknotes, but it could borrow from its commercial banks and transfer the money abroad to repay its debts to the IMF/ECB/EFSF/EMS and individual European countries. All Euro 240 billion.

Let us say that again: Greece will repay all its debt to the public institutions which lent it 240bn over the last 5 years.

Now Greece owes its own private banking system the money.

How would the Greek Central Bank create the liquidity for the banking system? Just as the ECB creates the liquidity to the banking system, it enters numbers into a computer. That is all.

4. An independent central bank can produce additional income for its banking system while significantly reducing interest cost to Greece

Clearly, the loan remains a loan, even if it is transferred from the EU/IMF to the Greek banking system. It seem a bit of a big transfer 240bn, but ultimately the Greek taxpayers are still liable for the 240bn. That has not changed.

Except, this time the Europeans are out of the loop. Germans would breath a sigh of relief, finally the loans are back in Greece. Nothing to do with the Germans, the IMF, the Slovaks or the Finns any more. These countries can behave like partners again towards Greeece, and not as enemies.

Could the Greek banking system cope? It has at the moment around 400bn of loans outstanding, after lending another 240bn to the Government its total assets would be 640bn. Clearly, the additional 240bn would create a lot of income for its banks. Even if the interest rate was only 0.25%, it would create 600 million of extra income each year, adding to the depleted capital base of Greek banks. (More on them in my next post).

On the other hand, the interest cost of 600 million is much less than the 4 billion it spends on the EU/IMF debt at the moment. So, having transferred the loans from its current EU/IMF creditors to its own banks, Greece saves about 3.5bn of interest cost a year. That money previously flowed out of the country to repay its creditors. Now the 600 million gets recycled in the Greek economy, making the banking system stronger.

Or let us put that another way, the 3.5bn saved each year is the equivalent of 3.5bn debt relief each year, or cutting 1.5% off your 240bn debt each year. Clearly, this is absolutely crucial to a cash-strapped country such as Greece.

5. In due course, the Greek Independent Central Bank could provide its own quantitative easing program

The ECB urrently pumps liquidity into the European banking system, by buying assets at a rate of 720bn per year.

Greece, whose economy is only some 2% of Euro-area GDP could buy assets of 14bn each year, if it followed through with a QE programme of a comparable size. That would pump money into its own economy.

So, clearly, who is in charge of the Central Bank has enormous power.

Mr Varoufakis would probably have been right, an independent central bank, issuing Euro money though bank loans (although not notes) is not something the ECB wants. The ECB would have settled quite quickly, as it would not want another big currency issuer of Euro splitting out from the Eurozone.

So the question remains, why did Tsipras not go with Mr Varoufakis’ plan and threaten it, or even go through with it, and take charge of the central bank?

Maybe nobody realises what a powerful lever this is. This is possible, as nobody commented on the potential impact of Varoufakis’ words, when they were published. Also, it would have been a Grexit of sorts, although the most desirable option, as, like Montenegro, Greece would still have Euro its currency, but not play by the ECB rules any longer.

Secondly, the debt relief issue, Greece will be offered some debt relief, that is clear from the most recent statement of the IMF. It might as well try to wait whether that is available.

Thirdly, Tsipras does not want to not lose the chance to unite the country for significant changes. As Bismarck and Garibaldi, he will want to be remembered one day. Or more likely, he just wants to get Greece out of this mess.

That ace, the Independent Central Bank, can still be pulled out and thrown into the ring by Greece anytime it likes.

A Grexit with keeping the Euro as its currency. A comfortable thought for the Greeks.

Probably something Mr Varoufakis thinks, too, as can be seen from the first question of the New Statesman interview:

Harry Lambert: So how are you feeling?

Yanis Varoufakis: I’m feeling on top of the world…


Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s