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Wednesday, February 3, 2016

Intellectual Thought vs. Pragmatic Common Sense

I take the liberty of publishing an email exchange with a Greek who teaches economics at a German university. I have only made a couple of minor changes in order to keep the exchange confidential.

Here is what the Greek wrote to me:

I have been following your blog ObservingGreece for quite some time now and would like to congratulate you on offering so many informative aspects and interpretations of the Greek economic crisis. You can perhaps imagine that for someone like me—a young professor of economics and economics education of Greek descent working at a German university—the ongoing Greek tragedy has been, and continues to be, both perplexing and frustrating at the same time. I am now experiencing the same mixture of feelings over the refugee crisis. Will Europe ever get its act together? I am reminding myself every day anew that hope never dies.

Sometimes I am wondering what academic economists can do—apart from entering politics. Perhaps the (second) best thing we can contribute is a level-headed analysis of what is going on. A former PhD student and I took the courage last year to attempt a game-theoretic analysis of the then ongoing confrontation between Greece and its creditors. We discern several indications that the Tsipras government followed a brinkmanship strategy and that the eurozone responded rationally by holding out; we thus reject the notion that the actions of the Greek government were just erratic and lacked coordination. We argue instead that the decisions of the Greek negotiators, including asking the voters to reject the earlier terms demanded by the creditors in a referendum, can be explained by the logic of strategic bargaining.

As a result of risk-taking on both sides, the deal struck between the two sides became more costly for everybody. The outcome of the confrontation between Greece and the eurozone thus resembles a classical prisoners’ dilemma: If both sides had acted in the common interest right from the start, a better deal for all would probably have been feasible. Instead both sides decided to trump the other and, by doing so, ended up with a much worse deal.

Perhaps you might find our work interesting? If so, you can find the working paper here (link eliminated). Your comments—including critical ones—would be highly welcome.


And here is my reply.

Thank you for your mail. In order for you to understand where I am coming from, let me quote from John Nash’s ending speech in the movie „A beautiful mind“:

"I have always believed in numbers. In the equations and logics that lead to reason. But after a lifetime of such pursuit, I ask what truly is logic? Who decides reason? My quest has taken me through the physical, the meta-physical, the delusional, and back and I have made the most important discovery of my career. The most important discovery of my life. It is only in the mysterious equation of love that any logical reasons can be found.“

Let me translate that into my own background. I, too, believe in logic, numbers and reason. But where John Nash’s quest in the academic world took him to the mysterious equation of love (in the movie, that is), my quest was in the business world and it took me to the solid basis of pragmatic thinking and common sense. To me, it is a waste of energy to analyze whether SYRIZA’s negotiations proved or disproved the game theory. The only things which matter to me are the questions: Did it work? Were the desired results achieved? Are we better off now? 

I agree with you that the results do correspond very much with the prisoner’s dilemma. But they only do so because one side in the negotiations decided to approach the whole subject as though it were an exercise in game theory. Game theory only works where people play games. 

Yanis Varoufakis may go down into history as one of the most interesting and flamboyant Finance Ministers of his time (and more). Perhaps like another John Maynard Keynes. But there is no question that in terms of results, he’s got to have been the worst Finance Minister the world has ever seen. He literally did enormous damage to his country. Why do I say that? Well, a pragmatic and common sense assessment: he could not convince any of his negotiating partners of his view of things and, in the end, he could not even convince his own Prime Minister, his boss, so to speak, of his views. There is no better measure of what failure is. Was/is Varoufakis right or wrong in his views? Well, I think he is right on more points than he is wrong. But the pragmatic and common sense reaction to that would be: „The graveyards of the world are full of people who were right!“

What could academic economists do for their country? Well, maybe this article which I wrote a long time ago will give you some ideas: An appeal to Greek brainpower.

I will look at your paper in the next days.


ADDENDUM - Reply to my above reply on February 9

My coauthor and I try to be as impartial as possible when it comes to economic analysis. We do not try to ``prove game theory.´´ We just think that understanding how ``games´´ work in theory can indeed help to better understand what is going on in the real world. Having said this, we are aware that many people tend to reject explanations that do not conform to their own worldview.

We are certainly not in the business of erecting monuments to Tsipras or Varoufakis or anyone else. Our interpretation of politics is inspired by political economy and thus devoid of any romanticism as to what the incentives of politicians are. In the paper we do not applaud the Syriza government for having fought successfully for the sake of the Greeks but, on the contrary, suggest that electoral concerns may have trumped other considerations in the negotiations.

What motivated us to write the paper was the frequent misunderstandings and misinterpretations of how brinkmanship works in the media coverage of last year’s confrontation between Greece and its creditors. We show how such a strategy may have looked like in the Greek case. In doing so, we differentiate between threatening with Grexit and running the risk of a really painful Graccident. We also show that there are situations (``parameter value sets´´) where our game proceeds exactly like the confrontation between Greece and the creditors. The model thus helps us for example to understand what the purpose of the referendum may have been, and how it may have affected the outcome. Regarding this, we concede that this particular move was bold and tactically shrewd. But do we say the Greeks were smart and the creditors stupid? No. Do we say the Greeks were stupid and the creditors smart? No. What we are saying is that the outcome of the bargaining between the two sides does reflect the objectives and the strategies of more or less rational ``players.´´

In the second part of the paper we argue that the outcome was clearly not optimal for the actors. You said that this is no wonder, since only ``one side in the negotiations decided to approach the whole subject as though it were an exercise in game theory.´´ We beg to disagree, since we have at least developed a good argument to reject the interpretation that the Greeks were playing a game but the eurozone was not—or the other way round. You also speak of ``trust´´ and ``respect´´ the new Greek government did not enjoy in Berlin or Brussels, implying that reputation was irresponsibly scuppered by the Greeks. We point out again to our paper in which we say that making oneself deliberately unpredictable is absolutely necessary for someone who follows a brinkmanship strategy. The key question for us is whether Tsipras and his team actually managed to make the creditors believe the outcome of the process were unpredictable. A good brinkmanship player achieves this.

Did the Greeks pay a heavy price for their brinkmanship? Definitely. But did the Greek negotiators achieve something better with brinkmanship than they could have achieved without? Looking at the pros and cons of the third bailout package, our answer is most probably yes. Certainly the terms of the new deal were harsher than those offered by the creditors earlier. But that should surprise no-one, as the new deal is about an entirely new bailout with a much greater amount of money. 

22 comments:

  1. I want to quote from a movie, too, the tech/econ thriller "Disclosure":
    "Solve the problem!"
    I'd like to emphasize this even more "effing solve the damn problem instead of wasting everybody's time!". Because the whole approach of "a game theoretic analysis of the confrontation is so far besides the important pojnt that it's totally ridiculous. So much time and energy wasted on getting the best deal out of a horribly lousy situation, instead of trying to improve the situation. It's really like trying to sell a heap of dog crap by analyzing which kind of cherry on top would make it more attractive. What madness!

    Obviously, that's still the major problem of Greece. Even it's most intelligent and patriotic citizens only focus their thoughts on how to get more money out of the creditors, while the whole country goes down a drain. Nobody tries to analyze what is wrecking the Greek economy and how to create the legal and social environment to improve that. No surprise, then, that the willingness to help this nations, whose people do nothing to help themselves, is in constant decline! The letter by the young economist only reinforces that impression. It's FAIL on a grand scale, and I'm honestly concerned that such a misguided, delusional economist teaches at a German U. Our students deserve better!

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    Replies
    1. Dear Gray,
      Your comment has some black humour, some truths, some half truths and some generalizations.

      The many problems of Greece could be solved if a good trust was created by (Mr. kastner's previous thread) both creditors and leaders of Greece. Trust is gained in time but trust is also a two way street.

      I like your "go go" attitude to get things done. Most probably you work in the private sector which is goal orientated and watching the greek drama is completely frustrating. How i feel everyday. (Try living in it.) The drama will most certainly continue for years and the refugee crisis will only make things worse in the EU and especially for Greece on many scales. I just hope the drama of Greece is not as long and the Odyssey and the Illiad.

      Mistakes have been made, majority on greek leadership side, but some good things have excelled. Unfortunately, sometimes things within the Greek life go backwards as well.

      Time will tell.

      Sincerely,
      V

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  2. The typical Greek mental malaka, they are spending all their time in the past.

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  3. A lot of word to spend on something that is inconsequential. Y.V declared war and prepared for game theory, how about reading up on Clausewitz?

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  4. Stop talking, start walking. If you don't know the direction then ask somebody with success.

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  5. Greece is a mess. Always has been.

    But Europe is a mess too. The Eurozone even more so.

    Seriously, this procrastination (of Germany in particular) has to stop. It must decide. Either the Eurozone becomes some sort of half-federation (it can't become a federation like the USA cause it lacks a common identity) or it breaks up.

    Germany's strategy can only work in a booming world economy. Since the world economy isn't booming, it's strategy is failing.

    Last summer Greece almost pulled out. In the next political crisis (not just a possibility, a certainty) it will likely happen.

    Since Greece isn't repaying it's debt (nor will it), the creditors must get their act together, get rid of fiscal consolidation (hopefully in all of the Eurozone), have the ECB finance everybody's deficts (like the USA and Japaan do), and simply request some logical reforms like privatizations, restructuring of the public-sector etc. If Greece refuses, then no deficit financing.

    The Eurozone's policy is harmful and short-sighted.

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  6. Anatole Kaletsky has written some interesting commentaries on the Greek negotiations from a game-theoretical perspective:

    Greece is Playing to Lose (2015-Feb-09)
    http://www.project-syndicate.org/commentary/greece-germany-debt-forgiveness-by-anatole-kaletsky-2015-02

    Why Siryza Will Blink (2015-Mar-15)
    http://www.project-syndicate.org/commentary/syriza-eu-default-negotiation-by-anatole-kaletsky-2015-05

    A Greek Suicide? (2015-Jun-11)
    http://www.project-syndicate.org/commentary/greek-default-political-suicide-by-anatole-kaletsky-2015-06

    Why the Greek Deal Will Work (2015-Jul-22)
    http://www.project-syndicate.org/commentary/why-the-greek-deal-will-work-by-anatole-kaletsky-2015-07

    Kaletsky ends with a rather optimistic outlook, with the prospect of the third bailout program (at present in its first review). Unfortunately confidence and trust won't return and Greece's woes will continue as long as the country is stuck in its habits of red tape and payment arrears at all levels of the economy, both public and private. On a positive note, Greece's most exquisite export product remains respected and appreciated worldwide (I mean "teachers").

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  7. This is well worth reading.

    http://www.ibrarian.net/navon/paper/Clientelism_and_economic_reforms__exploring_the_p.pdf?paperid=19867978

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  8. @ V.
    Trust is not "gained in time". Trust is earned by the behavior, if you as Greece, go back on your word and signature continuously, then trust will never be gained.You have not yet started to gain trust.
    How many elections do you need before you stop blaming your leaders and realize that there is something wrong with your voters?

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    Replies
    1. Dear Anonymous 11:03 AM,

      Trust is gained only in time and only when both parties are ready to build trust. Time is abstratc so it can be short or it can be long.

      Behavoir is the "constant" of the equation within trust and time. Its a given.

      Have you ever thought why greeks changed so many parties? Have you ever thought why so many people voted for Syriza? Greeks have come a long way and have excelled and this even under this miserable crisis, meanwhile being the punching bag of Europe.

      Regards,
      V

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  9. How complicated can one explain this? Syriza bluffed on lousy cards, and they did not even have a poker face. When Schauble called them with his "do you feel lucky punk", they came back to reality and realized the game was for keeps.

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  10. Greeks voted for Syriza because Syriza promised them the same as the other parties, just more of it. Money.

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    Replies
    1. Sorry you are wrong,

      1st time in January, greeks voted for Syriza because they portrayed a new way of looking at things and changing the old ways of the past. nobody expected that their original Thessaloniki plan would be met but hoped that some austerity would be toned down. When the made a mess out of things people started to see their incompitence. As for the referendum vote it was a scam. One that would allow Tsipras to hold his chair for a little while longer. People voted No the to program, not because they are not willing to make change in our society but no to the manner and pain austerity is causing us.

      The september elcetions Syriza got a smaller % vs the original January election but it was with no competitor and with a significantly smaller base vote. Plus people still hoped that syriza can make an "easier" austerit package.

      Now? If there are any elections any time soon. Syriza will get maximum 15%. And is the reason why Syriza is trying to change the constitutoinal electorate as so no other party can get unanimous voting base. It is their last ditch to screw things up more.

      Sincerely,
      V

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  11. I keep on repeating that the Greek problem is mainly political and the economic problem is just a secondary manifestation. This is why it is not a good idea to apply common sense or game theory or economic theory. They are not particularly relevant, if no other reason that in political problems a) we do not have all the important
    information b) the motives and aims are often very well hidden. It is wrong for example to claim that Y. Varoufakis lost the negotiation/fight. This assumes that his aims were the same as the nebulous concepts of Greece or the Greeks or the common interest. The man, as many other politicians, is only interested in self-aggrandizement and personal profit. albeit to an uncommon degree. Seeing it this way the negotiations were a great success: rock star status, large fees for speeches and so on. Anyone that believes anything different is naive. Similar things apply to most politicians. Unless somebody takes a cynical view and works on the assumption that he/she is lied to consistently it will be
    impossible to understand what is going on.
    The refugee crises actually amplifies the political problem and pushes economics even further to the background. Think of it this way: having to choose between Greek collapse, leading to balkan instability and more refugees and funding under the table some Greek state needs (or even give a few kick backs) what do you think the German and Austrian chancellors would choose? They will obviously try to avoid collapse at almost any cost. I also suspect that I have located one back door channel of financing. The Greek banks are reducing their ELA exposure (ie returning money to the ECB) and, consequently,Greek bank deposits are going up. However I find very hard ti believe that Greeks are putting money back in banks. In the
    current environment of capital controls the expected thing is for money to stay in cash, outside the banking system, so that restrictions are bypassed. I believe someone is funding the Greek banking system to prevent collapse, a complete political aim with no obvious financial justification

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    Replies
    1. I agree with your Y.Varoufakis analysis.

      But as for the politicians, just like Tsipras thought, they hope to be the leader/savior who leads Greece out of the crisis. This can be done but not by doing nothing. The status of savoir will be highly lucrative to the politician who successfully does this. I believe ND currently has such mindset. They have promised nothing, where people know they will pass hard measures meanwhile, there high in the polls. People simple want to get this over with but at least with some compitent government.

      As for the banks. Well if you calculate that the average greek has to pay out another surcharges, simply to pay bills and make bank transfers, busniess transactions, the capital controls have helped the banks. personally in 8 months i have paid on a personal level 120 euro in bank surcharges. 1 million greeks at minimum doing the same plus 1 million small businesses, the numbers add up to nice figure of 0,5 bil.

      Sincerely,
      V

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  12. Activities or results, can Greece destinguish between the kitchen and the bathroom? I think your young professor pen-pal answered that question. Even now, after the result is visible, he defends Syrizas way of negotiating. The disastrous result he will ascribe to the fact that somebody placed the kitchen where the bathroom ought to be.
    Some people may find it "charming" if the result is caused by a very small child. Small children will grow up and become annoying adults if they are not weaned in time, more so if they expect others to clean up their mess.
    Lennard

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  13. Greece this, Greece that. All true.

    But anybody who thinks that the Eurozone is going to reform itself (in the image of Germany) in this toxic climate has another thing coming.

    Let's remind ourselves, in July the Greeks basically voted in favor of bankruptcy knowing full well that it might mean an exit from the Eurozone. The only reason that Greece didn't exit from the Eurozone is because it's government reneged on what the Greeks voted in favor of. For how long shall this continue? Not much longer. Eventually Greece will declare bankruptcy (as it partially did in June 2015) and it will be up to the Europeans (via the ECB) to decide whether Greece shall remain in the Eurozone. This will test the cohesion of the Eurozone.

    The other alternative is for the ECB to finance the deficits of the member-states until the crisis is resolved (as it shall when the mountains of debt are eradicated).

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  14. Quite OT, but as Varoufakis is named: As everybody expected he is continuing to go ranting.
    Next Tuesday he will be founding member of new European movement in Berlin: http://diem25.org/
    And on Monday he will talk a little bit: https://www.youtube.com/watch?v=Vc1vMTTfaQc
    Just for case you like to analyyzing it, with your knowledge of German as well as partially Greek.

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  15. @ theAthensdog.
    It's a big step to admit that the economical problem is a manifestation of a political one. The next step is to admit that the political problem is a manifestation of the voters values.

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  16. @ TheAthensdog.
    So, some secret powers are financing the Greek banks to prevent a revolution? In real life you can find funnier stories. At a large presentation, the National Bank of Greece announced that they will get deposits from many new big clients. They will be part of a new program called Act4Greece, it will be a crowd funding program for social and development financing. The PM (present) said that it will enable the government to carry out a substantial part of their parallel program. The purpose of the first 4 funds will be:
    -School meals for primary school students in Western Attica.
    -Health care and humanitarian aid on border islands of the Easter Aegean.
    -Education and research web application on the Greek revolution of 1821.
    -Modernization of the art theater infrastructure.
    The persons who will presumably run the projects were also presented. What was not stated was who would actually control the money.
    The fun will be even greater when the persons controlling the funds are found to be family members and old party hacks, and when they try to leverage the funds via bank loans.
    Lennard

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  17. It was not new to the European negotiation team that the Greek negotiation team was unpredictable. It was however news for the Greek team that the only two options they had were bad, and that Europe did not really care witch one Greece would choose. The options only became clear when Mr. Scheuble spelled them out for them.
    In all fairness. It was not the fault of the Tsipras government that their cards and options were so bad, they had inherited them from previous governments. It was a lack of realism not to acknowledge the options, a mistake they are in the process of repeating now.

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