Thursday, September 29, 2011

Response to Mr. Walter Koenig

Mr. Koenig responded to my comment in the WSJ with a passionate argument that Greece simply has to change totally before further financial support could be considered. Below is my reply.

As you can see from my blog, I totally agree with you that Greece as a whole needs to be changed from A-Z. That’s obvious for all the reasons you mention. But one cannot change a whole country from A-Z in a reasonably short time because that would lead to revolution. I say this because I experienced it live in Chile in the late 1970s and early 1980s. Chile did what you seem to want Greece to do: change traffic from one side of the road to the other, and pronto! Chile succeeded with that for one very simple reason: it did not have democracy. There is no way that a democracy would have survived the social costs which come along with such an abrupt change.

I am not a friend of expressions like “what should have been done”, “what should be done”, etc. However, I use them now to explain to you my position and, again, my position is formed and shaped by the actual experiences which I had in Chile (turning an economy around) and in Argentina (rescheduling debt).

If EU-elites had accepted the advice of those who were involved in the Latin American sovereign debt problems then (they rejected it!), then they would have let the Greek problem remain a Greek problem. Which means: as soon as you notice that a country faces a run on its liquidity, you have to draw a line because no one can ever stop such a run. The timing for that would have been mid-2009 when foreign banks cancelled their short-term credit lines for Greek banks and when Greek capital flight started in serious amounts. Instead of drawing a line, the ECB started replenishing the funds which private parties transferred offshore. I attach a link about that irresponsible behavior on the part of the ECB (I trust you read German).

Drawing a line means announcing to one’s creditors (not to third parties like the EU or other governments) that a debt rescheduling is necessary. The actual “rescheduling date” is set retroactively by a few months so that those creditors who managed to flee through the exit door have to turn back what they fled with. This is standard procedure.

The debt rescheduling would have essentially moved maturities of principal and interest into the future. And conditions for that rescheduling would have been very similar to the conditions which are being made today. And now is the point where 2 different views compete with one another.

The traditional IMF-view is (and there are examples which prove it correct): get the state’s household in order and, eventually, everything will trickle down to the economy and set things straight again. I happen to think that this traditional view won’t work in Greece for all the reasons that you list why things don’t work in Greece.

So the other view is that an economy no longer has a self-correcting ability. Thus, someone needs to “manage” it. We have “managed” economies in today’s world and, typically, they do not have the political system of democracy. Yet, they seem to be doing very well (China). Before one comes to the conclusion that “managed” systems are the cure to all our problems, I would warn that, over time, managed systems tend to run into all kinds of other problems.

If the economy cannot be “managed” by authoritarian rule, it has to be managed via incentives. And this is my point about Greece. Greece cannot self-correct any more; the bad habits are too engrained in the system (as you point out). A benevolent dictator (which some Greeks are already calling for…) would cure this problem in a hurry but how do you get rid of a benevolent dictator when he ceases to be benevolent?

And this leads to the points which I have posted over and over again in my blog. Greeks need to be shown in practice that there are better ways to run one’s economy and if that works, they may voluntarily copy that. When I talk about Free Trade Zones, I really mean “little Germany’s”. One is not going to turn Greeks into Germans (thank God!) but one can incentivate Greeks to adopt some of the German methods which have proved to lead to economic success.

Greece is a country with a staggering current account deficit. This means that the Greek economy desperately needs savings of other countries in order to function. There are, in my mind and based on my experiences in Chile, only 3 ways to solve such a problem: foreign investment, foreign investment and, again, foreign investment. The money can no longer enter the country as debt; it must enter the country as equity.

Capital flows to locations which offer the kind of incentives which the owners of capital seek. Greece would only need to ask those investors what they would like to have and offer it to them. Typically, this would be: the prospect of proper “corporate governance”; security of investment; the ability to operate internationally competitively; and the prospect of earning good returns on investment. Greece is presently light years away from offering that.

This could very quickly be changed. All Greece would have to do is to implement a new Foreign Investment Law which guarantees all those things which foreign investors would like to have. And since foreign investors would presently not even trust Greek laws any more, the EU should guarantee compliance with the Foreign Investment Law.

Once new investment starts flowing and new jobs are being created, people start recognizing light at the end of the tunnel. And if things go well, that light will lead to self-reinforcing forces. In Chile I could experience how a run on foreign investments started to take place.

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