With this weekend's big "no" vote in its bailout referendum, Greece has edged ever closer to finally leaving the eurozone. Its government is heading to Brussels today for last-ditch negotiations with European leaders over a new rescue package. But with a deal far from sure and time ticking away, a Grexit is starting to feel "more likely than not," as JPMorgan put it.
And what would happen then? If only we knew. Breaking up with the euro would almost certainly involve some nasty short-term suffering for Greece. But economists disagree about whether the pain might one day be worth the payoff. In one camp you have Nobel Prize winners Paul Krugman and Joseph Stiglitz, among others, who think that finally bidding goodbye to the common currency might actually be the country's best hope for reviving its depressed economy. In another, you have pessimists like the 246 economics professors from Greek universities who recently warned that doing so would lead to "disastrous economic, social, political and geopolitical consequences."
Since we lack an oracle to reveal what the future holds, I’ve outlined possible best- and worst-case scenarios for Greece in the event of a Grexit. But first, you might be wondering …
What if Greece doesn’t want to abandon the euro?
It might not have a choice. Greece can't technically be expelled from the eurozone. But it may have to bow out “voluntarily” if the European Central Bank cuts off the emergency loans that are now keeping the Greek banking system from collapsing. Were that to happen, Athens would need to start printing money in order to bail out its financial sector. Since Greece can't legally print euros, it would have to print new drachmas instead.
And we may well be approaching that endgame as Europe loses patience with Greece's left-wing government. After refusing to raise its current €89 billion ceiling on emergency lending over the weekend, the ECB took steps Monday that could theoretically make it more difficult for Greek banks to borrow, presumably to put more heat on Greece's negotiators. Should Athens default on a payment due to its European creditors later this month, it's plausible the central bank will close off the tap for good. It's also possible Greek banks will simply run out of cash in the coming days if the ECB just stands by and refuses to increase its cap on loans.
If Greece leaves, what's the best-case scenario?
Some argue that finally ditching the euro would be a blessing in disguise. The thinking goes like this: European policymaking—from its tight-fisted central banking philosophy to its demands for austerity—has acted like a vice crushing the Greek economy, and at this point, any deal that would keep the country in the euro would only prolong the misery. Leaving would be difficult, but liberating. Greece would default on its European debts and introduce a new currency. The new drachma would depreciate quickly, giving the economy a shot of adrenaline by helping Greek businesses sell more exports—who doesn’t love good cheap olive oil?—while luring more tourists to Santorini for affordable beach vacations. Yes, Greeks would see their bank accounts largely wiped out as their euro savings were converted into less valuable drachmas. And yes, prices of imported food, which Greeks rely on heavily, would rise. But there might be light at the end of the tunnel. As long as it's part of the euro, on the other hand, Greece's future is just a pitch-black slog with 25 percent unemployment.
"It’s becoming hard to see any path that doesn’t lead to Grexit," Krugman wrote recently. "It is also, although this is still something few want to accept, becoming increasingly obvious that Grexit is Greece’s best hope. Otherwise, where is recovery ever supposed to come from?"
Grexit enthusiasts, particularly Mark Weisbrot of the Center for Economic and Policy Research, often suggest that Greece could follow in the footsteps of Argentina, the poster child for surviving and even thriving after a massive default. In many ways, it's a seemingly tidy historical comparison. Much as Greece today finds itself stuck deep in debt with a depressed economy and a currency it can't control, during the 1990s Argentina tied its currency's value to the dollar, and later fell into a painful recession that forced it to accept a bailout from the International Monetary Fund in order to keep paying its creditors. But in 2001 and early 2002, the country changed course, defaulting on its loans and breaking the dollar peg, letting the peso fall in value.
The immediate aftermath was miserable—the economy crashed hard, leaving more than half the country's urban population in poverty. Food prices skyrocketed. Imported medications became scarce. There were street protests and riots. But while the upheaval was violent, it was also relatively brief. Aided by its cheaper currency, Argentina's economy recovered by 2005, which allowed the country to sit down with lenders and restructure its debts. From there it posted years of strong growth.
“It is worth noting that the social consequences of Argentina’s recovery were enormous,” Weisbrot wrote in 2012. “Even though the economy had a brief downturn during the world recession in 2009, employment in Argentina is at record levels. Poverty and extreme poverty have been reduced by two-thirds, and social spending has nearly tripled in real terms, since the default.”
Could Greece pull off a similar feat? Maybe so.
All that sounds pretty good. But what's the worst-case scenario?
Imagine all the riots, drug shortages, and widespread destitution, but without Argentina's happy ending.
As James Stewart outlined at the New York Times, there are a number of reasons to think that a Greek euro exit wouldn't work out quite so well as Argentina's adventure with default. Perhaps most important of all: Argentina is a major agricultural power that was lucky enough to start its recovery just as a massive commodities boom, fueled by China's insatiable appetite, was taking off. Argentina exported a lot of soy and corn, which had the twin benefits of boosting growth directly while bringing much-needed foreign exchange into the country at a time when it was difficult for Argentina to access international capital markets.
Greece, in contrast, is not a major exporter and may not be poised to become one, especially if it's forced out of the European Union and its trade pacts. Worse yet, as Stewart notes, its most important exports by far are refined petroleum products such as gasoline and diesel, which require imported crude to produce. Since oil is priced in dollars on the international market, a falling drachma wouldn't make Greek refiners much more competitive or profitable.
Meanwhile, it's no sure thing that a cheap currency will help much with tourism, especially if there are mass protests mobbing the streets due to a financial crisis. Tear gas has a way of scaring off vacationers.
Weisbrot argues that economists and journalists have overestimated the contribution that the worldwide commodity boom made to Argentina's recovery. The real reason the country began to grow so quickly after its crises, he believes, is that defaulting on its IMF debt and letting its currency float at market rates allowed the country to abandon austerity policies that were weighing it down, much as Greece is being suffocated today. But his theory has some notable critics, including Yanis Varoufakis, Greece's just-resigned firebrand finance minister, who called the idea that his country could "pull off an Argentina" "profoundly wrong."
Greece would have plenty of other issues to worry about aside from exports. Joseph Gagnon of the Peterson Institute for International Economics notes that Greek corporations and banks will still owe debts denominated in euros, which will become harder to pay as the drachma devalues, possibly leading to bankruptcies. Meanwhile, if the government decides to reverse the spending cuts it's made in recent years and run a deficit, it will likely have to finance it by printing money, which could lead to severe inflation. This is to say nothing of the more mundane but significant technical challenges of introducing a whole new currency, which is more complicated than simply breaking a peg. As University of California–Berkeley economist Barry Eichengreen wrote years ago while speculating about a potential breakup of the euro, “Computers will have to be reprogrammed. Vending machines will have to be modified. Payment machines will have to be serviced to prevent motorists from being trapped in subterranean parking garages.”
Then, of course, there's the question of Greece's debts to Europe, which won't necessarily disappear, even if the government stops paying them back. Economists Carmen Reinhart, of Harvard University's Kennedy School, told me that could make it difficult for Greece to find new buyers for its debt in the future. She and Christoph Trebesch, of the University of Munich, have found that in the wake of sovereign defaults, countries tend to start growing fairly quickly and regain their credit ratings—but typically only once they've restructured their old loans and resolved whether and how much they will repay their lenders.
“I don’t want to be like a wet rag, but I think the prospects of growth without resolution of the debt situation are very limited with and without a euro," Reinhart told me. "You’re not going to have potential new creditors lining up to make new loans to Greece when the rules of the game are just not known."
So if all goes wrong, Greece could end up with a plunging currency, frightening inflation, little to no engine driving its economy, a spate of corporate bankruptcies, and no access to credit. Its predicament now is dark. But is it worth risking that kind of economic affliction to break from Europe's yoke? I honestly don't know. Then again, it might not have any option but to find out.