Beware of Europeans Bearing Claims of a Greek Deal

The pressure on both sides to avert a Greek default risks producing a flawed deal that fails to address the euro zone’s defects.

Greek Retail Economy As Deal Terms Rejected

A pedestrian stops to look at the newspaper front pages reporting the latest developments on the Greek debt negotiations in Brussels hanging outside a newspaper kiosk in Thessaloniki, Greece, on Thursday, June 25, 2015. Germany downplayed the chances of an imminent deal with Greece as Prime Minister Alexis Tsipras’s government rejected the latest terms set by creditors to unlock bailout aid. Photographer: Konstantinos Tsakalidis/Bloomberg

Konstantinos Tsakalidis/Bloomberg

“Peace for our time,” proclaimed Neville Chamberlain on his return from Munich. “Peace with honor,” declared Richard Nixon when he reached an accord to pull U.S. forces out of Vietnam.

European politicians will no doubt make similarly grandiose declarations if, as seems possible, they reach a last-minute deal to stave off a Greek default and exit from the euro zone in the coming days. Such announcements should ring no less hollow than those earlier proclamations in the ears of European citizens and investors.

Policymakers and markets have been obsessing about Greece since the country’s debt crisis erupted five and a half years ago. Much of that focus has been misplaced.

Greece itself has always been a secondary issue. That’s not to make light of the immense economic, political and personal trauma that the country and its people have endured. Yet a nation of just under 11 million representing less than 2 percent of the euro area’s gross domestic product will never determine the well-being of the 19-nation bloc. The real question has always been whether European policymakers would take advantage of the crisis to fix some of the fundamental flaws of the single currency’s design.

In many areas they’ve made progress. The European Union has tightened budgetary procedures and economic surveillance to reduce the risk that any future Greece could run up such massive debts. It has created a common bailout fund, the European Stability Mechanism, to help troubled member countries. It has created a single banking supervisory authority at the European Central Bank to help guard against future banking crises. And the ECB has discovered its role as lender of last resort to “do whatever it takes” to keep the euro alive. But none of those measures will prevent the buildup of future imbalances within the euro zone — or mitigate them when they arise.

There has been no shortage of ideas to reform the system to make it durable. A fiscal union along U.S. lines, which uses the federal tax code to alleviate oil busts in Texas or prolonged recessions in the industrial Midwest, was never in the cards for Europe, but baby steps — such as an expansion of the EU budget to 2 to 3 percent of GDP from just over 1 percent today — were proposed early on and would certainly help. Many proposals have been drafted to mutualize the debt of euro zone countries, with German academics calling for the issuance of eurobonds to cover member countries’ debts up to the Maastricht ceiling of 60 percent of GDP. Even the International Monetary Fund acknowledged its early mistakes and called on euro area governments to provide more debt relief for Greece; such a change wouldn’t amount to a permanent fix for the euro zone, but it would help Athens dig out of its hole.

Such ideas aren’t just absent from today’s discussions; they are politically verboten. Greece’s past sins and the amateurish performance of Alexis Tsipras’s Syriza government over the past five months have hardened attitudes in Germany and other northern countries such as Finland and the Netherlands.

Consider the contours of a likely deal. Reports say Greece would adopt new tax hikes and spending cuts and implement pension reforms to achieve a primary budget surplus of 3.5 percent of GDP by 2018. For Tsipras, who rose to power by railing against austerity, an agreement would mean betraying most of his campaign promises. And for what? Months of brinkmanship have pushed the Greek economy, which grew modestly for the first time in six years in 2014, back into recession; its banks, which regained market access last year, would be insolvent if not for ECB assistance; unemployment remains north of 25 percent; and the country’s debt is set to hit 180 percent of GDP this year, an amount everyone admits will never be repaid. Grexit remains in the air, whether or not Greece eventually defaults, puncturing the inviolability of the euro.

To remain inside the club, meanwhile, most of the other 18 countries have had to adopt German fiscal rectitude and generate current-account surpluses, putting a damper on growth but avoiding the risk that they might find themselves in the debtor’s seat in the future. In the short run, EU officials will be hoping that Spain’s economic recovery takes root before the December elections and prevent a rise to power of the antiausterity party Podemos. Longer run, the bloc’s stability depends on all of its members pursuing the same kind of austere, export-oriented surplus policies as Germany, indefinitely. Will domestic politics support such a change in economic policy over the long term in countries like France and Italy and Spain? Will the EU’s global partners? Prior to the crisis, the euro area’s current account was roughly in balance with Germany’s big surplus, largely offset by other members’ deficits. The IMF projects the euro area will run a surplus this year of nearly $390 billion, even larger than China’s. The Obama administration, determined to keep the U.S. recovery on track, will not take kindly to Europe trying to export its way out of trouble.

Angela Merkel and her EU colleagues may well kick the Greek default can down the road in coming days. But there is likely to be little peace for them over the longer term, and even less honor.