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Default is no Greek Tragedy

Posted on: July 31st, 2011

THE troubled citizens of Greece woke up last Monday morning with a lot less than a bump. Life was surprisingly smooth in the land of default.

The acropolis was still standing. The ATM machines were still working. Teachers, nurses, police and soldiers were cashing their pay cheques. The Athens trams were running on time. Greece’s citizens had a bounce in their step as they strolled into work.

Default had been faced. No disasters had afflicted them.

Perhaps it is just the Greek character. There is a common myth about Greece: that while the people are happy because they have loads of money, the government is broke; that the government’s bankruptcy is due to the people’s ingrained resistance to handing over their dues. Taxes are unpaid. The black economy is rife and businesses regularly keep two sets of books. The little man is detached from the big picture.

Europe’s guinea pigs for the new doctrine of default were not exactly celebrating, but were far from feeling the cold winds blowing from Brussels. It was business as usual. The deal cooked up by Merkel and Sarkozy had given Greece, the sinner, a reprieve. It was not a nation in mourning.

The initial market reaction — of relief — was followed by more sober analysis. Several global commentators were claiming that the bailout was a “bucket and spade” agreement. There were holes in the bucket. It would carry Europe over the summer holidays. Warnings of a third bailout surfaced. Greece was still borrowing money to pay its interest, hardly a solution.

Default was not the problem. Indeed, some suggested that there was not enough of this supposedly toxic ingredient in the package.

A top Financial Times commentator and associate editor Wolfgang Munchau reflected the rising scepticism. He saw the deal as a template, forecasting another rescue package for Greece, ominously asserting that the “private-sector participation will be a blueprint for bailouts that are yet to come. Second Irish and Portuguese programmes are likely”. Ouch.

On Friday the markets continued to agree with him. They are still signalling that Ireland and Portugal will follow Greece into default. They see the €800m interest savings and extended time for repayments as marginal benefits. The debt itself is still gigantic and probably unpayable.

Back in Dublin on Tuesday Michael Noonan told the Dail’s Finance Committee that default was the worst possible option. He would be well advised to stop digging that hole, because it is the most likely outcome — probably on his watch as Minister for Finance.

Noonan was showing fresh signs of competence as he fluently answered questions from TDs on details of the agreement. Armed with that new confidence, Michael should take a cold look at the Russian, Argentinian and Icelandic defaults.

For his seaside reading, Michael might ask the mandarins to dust down the archives in search of a few bald facts about this troika of defaulters.

If he does he will find that default was the door to recovery, not to doom. It was maybe politically humiliating, but it’s economically re-energising.

Michael and the Department of Finance are fond of insisting that default will keep us out of the credit markets for years, maybe even for a decade.

The Russian and Icelandic experiences suggests that this is rubbish.

Russia defaulted in 1998. Investors had warned the government that down that route lay exclusion from the global credit markets for at least a generation.

Russia defaulted in a disorganised spiral of financial chaos. The nation endured six months of pain — followed by a decade-long boom. Its stock market rose by a multiple of 20, and economic output multiplied by 10 — but far more importantly, the global investors were back lending to Russia within 12 months of armageddon. Default gave Russia the relief it needed to recover rapidly.

Far more recently, Iceland’s banks tumbled into an involuntary default in 2008. There was mayhem for a few weeks as its citizens took to the streets. Financial institutions went belly-up. Iceland engaged in an unseemly default dispute with Britain and Holland as it reneged on debts. The row is still raging.

So is Iceland now a global pariah, shunned from the tables of the mighty? At the very least, is the errant nation still excluded from the global markets?

Not at all. In June it held a $1bn bond auction. The offering was two times oversubscribed. Within just two-and-a-half years of default Iceland is back on the global credit markets. Its economy is forecast to grow by 2.2 per cent in 2011, rising to 2.9 per cent in 2012. Default set Iceland free.

And finally, Argentina. An even more spectacular case for Michael’s summer reading. Back in 2001, Argentina was a basket case. In that year it suffered eight general strikes, looting was common, its banks were broke, nearly 50 per cent of its people lived in poverty, while unemployment was spiking. It had five presidents in 10 days.

Argentina was heading for disintegration.

Argentina devalued and defaulted.

Default marked the beginning of a long recovery. A series of defaults have helped to sustain a dramatic return to prosperity.

Argentina is not yet back in world global markets because it has still not reached an agreement with the Paris Club of 19 creditor nations. It is currently negotiating a default with them. Once that is settled Argentina will be a welcome guest at credit markets.

When I mentioned the success of Argentina, Russia and Iceland after their defaults to Noonan in the Dail on Tuesday, he was dismissive. He painted a picture of Russians and Argentinians going hungry during the first months after default. He did not want that happening here.

Nor will it. All three of the above defaults were forced on the nations in chaotic circumstances. There was bound to be initial panic as they plunged friendless into the unknown.

The parallels with Greece are not identical. The other three defaulters were not in the euro, so could devalue as they defaulted. Neither Greece nor Ireland enjoys that flexibility; but the advantage of agreeing our default with our European partners will ensure against initial panic. That is why the ATMs are full in Greece this week.

No doubt the ATMs closed in Russia, Iceland and Argentina. If Ireland follows the template designed for Greece, our default will be structured and agreed. The debt burden will be reduced in a disciplined, calm way. Even the political humiliation will be minimal.

There is little doubt that Ireland will be given a second window of opportunity to unbundle the EU/IMF deal and default. Last week Cyprus, a springer from nowhere, looked like the fourth candidate for the rescue fund; Spanish and Italian bond yields were rising again as the two Club Med countries totter on the brink of crying for help. Even France continued to send out eerie vibes, when the IMF warned Sarkozy that he was vulnerable to spillovers from Spain and Italy. France, in danger of missing the deficit target agreed with Europe, is emerging as a heavy underbelly for Europe to carry.

The next bailout may not be far away. Ireland must participate, not just as another supplicant and contributor to a bigger fund but as a beneficiary of an overall debt settlement. When that day dawns the ATMs will still spit out the euros.