Greece: This Decade's Argentina?

There's been a bit of discussion floating around about whether the US's deficit and debt situation makes it appropriate to draw comparisons with Greece. Of course, such a comparison is ridiculous for a number of reasons, not least because the US has its own currency. But Greece has been on my mind lately for unrelated reasons, including the following news:

Euro economists expect Greek default, BBC survey finds
Greece is likely to default on its sovereign debt, according to the majority of respondents to a BBC World Service survey of European economists. Two-thirds of the 52 respondents forecast a default, but most said the euro would survive in its current form.

...The forecasters the BBC surveyed are experts on the euro area - they are surveyed every three months by the European Central Bank (ECB) - and as well placed as anyone to peer into a rather murky crystal ball and say how they think the crisis might play out. The survey had a total of 38 replies and two messages came across very strongly.

Not only do I agree that default by Greece on its sovereign debt is quite possible... but I think it increasingly likely that policy-makers in Greece may decide that it is the least bad option at this point, particularly in the face of an increasingly hard-line attitude from Germany regarding bailouts (which will only be reinforced by recent election results).

The problem is easy to lay out: Greece has more debt than it can realistically make payments on, and being a euro country also has a currency over which it has no control. If it had its own currency, it would be in a classic debt crisis similar to several Latin American countries in the 1980s, or possibly Mexico in 1994.

However, it effectively has a fixed exchange rate with the rest of the euro zone, and has invested enormous political and economic capital in maintaining its committment to the euro. In that sense, the best analogy might be with Argentina in 2001, which was struggling to maintain a rock-solid fixed exchange rate with the US dollar through a currency board arrangement.

Argentina in the late 1990s had a slowing economy, uncompetitive industries, large current account deficits, and a vast amount of external debt denominated in a currency that was not its own. Sound familiar? In an effort to meet its debt payments while simultaneously keeping its exchange rate pegged to the dollar, the Argentine government squeezed and squeezed the economy. Finally, however, the resulting deflation and recession grew so severe that the government collapsed, and in early 2002 a new government dropped the peg to the dollar (after fiddling with a hybrid system with multiple currencies existing simultaneously) and eventually defaulted on its debt.

And look what happened.




From 1999-2002 Argentina suffered through years of a gradually contracting economy as it tried to maintain its peg with the dollar and service its external debts. When it finally dropped the peg in January of 2002 and then defaulted on its external debts, the economy (along with the value of the peso) crashed quite spectacularly.

But after a year or two, things didn't look so bad in Argentina. And through most of the 2000s, the economy did quite well, despite the loss of the ability to borrow internationally.

I'm not necessarily advocating that Greece follow the same path. However, I do think that the comparison with Argentina in 2001 is a very good one, and because of that, that there is indeed a very good chance that policy-makers in Greece in 2011 will reach the same conclusion that policy-makers in Argentina did in 2002.