Many observers are wondering how the left-populist renegades of Greece's Syriza party, which rose to power in January on the promise of delivering relief from austerity and renewed its mandate with a massive victory in the July 5 referendum, managed to negotiate a bailout deal on Monday that is substantially worse than what was available to Greece before Syriza took office.
The answer is surprisingly simple. Syriza forewent its only potential leverage over Greece’s creditors: the willingness to go through with a “Grexit,” or a Greek exit from the eurozone. Greece was not prepared to shoot the proverbial hostage in negotiations with Germany and the other eurozone nations. In fact, the Greek government was not even ready for the possibility of a Grexit if it was forced on them.
Why was Greece in such a weak bargaining position?
To understand why Greece’s Syriza-led government had only the Grexit card to play, it is worth explaining how the political dynamics within the eurozone had stacked the negotiations against Greece from the get-go. Germany is Greece’s largest creditor and the continent’s most powerful nation, but it was not alone in its resistance to Greek demands for economic relief. Greece was effectively up against the 18 other eurozone countries, which made for a very lopsided negotiation. Its struggling neighbors on the European periphery, including Portugal, Spain and Ireland, might have been seen as natural allies for Greece. But they all completed bailout programs that included intense austerity policies, so they were not about to endorse making an exception for Greece. Spain’s government in particular was concerned that granting Greece concessions would embolden its own resurgent, left-populist Podemos party. Slovakia and the Baltic states, which are economically comparable to or poorer than Greece, resented the idea of transferring more aid to a wealthier neighbor.
The continent-wide resentment of Greece is an elegant result of the way Greece’s bailouts were structured. Germany bailed out Greece’s government in 2010 and again in 2012 not to save Greece, but to bail out the German, French and Greek banks that held Greek government debt. Karl Otto Pöhl, a former head of Germany’s central bank, admitted as much. He said the bailout "was about protecting German banks, but especially the French banks, from debt write-offs." Consequently, as of January, just 11 percent of the 240 billion euro bailout funds had gone toward financing Greek government functions; the rest went to paying off Greece’s creditors. Then, in March 2012, the eurozone governments bought out the remaining Greek debt on the banks’ books at a 53.4 percent discount -- a good deal for the banks, since they would likely never receive repayment for the debts otherwise.
Bailing out German and French banks, and then having eurozone governments shoulder the burden, had two benefits. In addition to the practical matter of limiting financial contagion between Greece and the rest of Europe, it allowed Germany, France and the other eurozone nations to sell the bailouts to their domestic publics as charity for Europe’s welfare case rather than sweetheart deals for Europe’s unpopular big banks. As Mark Blyth, a professor of political science at Brown University, wrote in Foreign Affairs, “Chancellor Angela Merkel is not about to cop to bailing out [Deutschebank] and pinning it on the Greeks. Neither is French President Francois Hollande or anyone else.” The eurozone’s taxpayers were now on the hook for Greece’s alleged profligacy, generating political pressure to turn the screws on Greece no matter how much evidence showed that austerity was preventing Greece from recovering economically.
In addition, admitting that Greece’s bailouts were for the banks would weaken the political case against restructuring Greece’s debts, creating a possible slippery slope for debt write-downs for the rest of Europe. A eurozone-wide debt writedown, which former IMF senior manager Peter Doyle proposed in a June interview with The Huffington Post, would circumvent the problem of treating Greece differently than the other eurozone nations. But for political or ideological reasons it is not something Germany has ever really considered.
A more generous interpretation of the stiff bargaining position of European leaders is that they simply fear being in a position of constantly subsidizing Greece. As many analysts have noted, the unique problem with the eurozone is that the countries in it share the same currency but not a unified fiscal, banking or political system, which leaves countries with few tools at their disposal during a downturn. What is called a bailout between eurozone nations and Greece would really be a standard but unseen fiscal transfer in the United States between richer and poorer states. But maybe, as Josh Barro wrote in The New York Times, the Netherlands and Finland, for example, are not interested in playing the role of Connecticut to Greece’s Mississippi or Alabama if Greece is not willing to structure its economy more like theirs.
Whether the motives are cynical or genuine, however, European leaders’ morality politics made the notion of a significant restructuring of Greece’s unsustainable debt politically toxic. German politicians, in particular, have moralized endlessly about how their frugal taxpayers are being forced to pick up the tab for Greece’s irresponsibility. An example of how far this rhetoric can go is a German parliamentarian’s tweet calling Greece’s membership in the eurozone a “cancerous growth on the EU.”
And there has been no acknowledgement by Germany or the other eurozone nations that their banks were complicit in Greece’s fiscal irresponsibility. While Greece until the 2008 financial crisis took on debts it could not pay back, German banks are responsible for lending to Greece despite the known risks of doing so. The bad loans also contributed to Germany’s export boom in the 2000s by making it easier for Greek consumers and businesses to buy German products.
That is the bleak political landscape that Syriza stepped into when it came to office in late January. It could not threaten Europe with financial destruction, because the structure of Europe’s bailouts had already limited the possible damage of a Greek default by taking Greek debt out of private banks. It certainly could not appeal to European solidarity since its natural allies had already swallowed their austerity policies quietly, and the rest of the countries -- rich and poor alike -- had bought the narrative of Greece as lazy moochers.
And finally, Syriza had to reckon with the reality that Europe could use its disproportionate power to squeeze the country financially for political gain. In December 2014, for example, the IMF and the European Central Bank decided to withhold the final tranche of bailout funding in order to pre-emptively pressure the Syriza party, which was expected to win elections. More recently, the ECB’s cessation of liquidity transfers to Greek banks forced Greece to implement economically devastating capital controls, sending it back to the negotiating table on its knees.
Why was Grexit the best card to play?
Nonetheless, the political consequences of a voluntary Grexit could still weigh on European leaders, and were thus Greece’s only remaining source of leverage. If Greece was able to leave the eurozone without imploding, it would set a precedent that could send other skeptical countries packing if they encountered economic troubles in the future that soured them on the common currency. Suddenly, the entire European project would be in question. That is why the irreversibility of the euro has been a central principle of the common currency union. “The euro has never contracted -- it has always expanded,” Angelos Chryssogelos, an expert in the European Union at London’s Chatham House think tank, told The Huffington Post in late June.
A man walks by street art in Athens calling for Greeks to vote "no" on the July 5 referendum on the creditors' proposal. The overwhelming "no" vote in the referendum raised hopes that Greece might secure a better deal from its creditors. The opposite has turned out to be true. (Louisa Gouliamaki/AFP/Getty Images)
By showing that they were truly willing to leave the eurozone, and preparing for as smooth an economic transition as possible, the theory goes, Greece could scare the eurozone into giving it better terms. But contrary to its public claims, the Syriza-led government was never really prepared for that possibility. Former Greek finance minister Yanis Varoufakis told the New Statesman on Monday that in June he had proposed a plan for unilateral action if the ECB shut off liquidity to force a deal. The plan stopped short of a Grexit, but entailed issuing euro-denominated IOUs, writing off Greek debts to the ECB and nationalizing Greece’s banks. According to Varoufakis, on the eve of the July 5 referendum vote, Syriza’s inner cabinet voted the proposal down, 4 to 2. Even if the cabinet had approved Varoufakis’ plan, if the move ended up prompting the ECB to force Greece out of the eurozone, Varoufakis admits, he was “not sure we would manage it.”
The last-minute defeat of a contingency almost-Grexit plan is not surprising considering that on the eve of the referendum vote, Greek prime minister Alexis Tsipras was hoping to lose and resign his premiership, according to a July 7 report by the Telegraph based on conversations with senior Syriza officials.
The BBC even reported on Saturday that the Greek government had not coordinated any plans for a Grexit with the Bank of Greece or other key finance officials.
How could they have prepared for Grexit?
“They could have had a Plan B,” Blyth of Brown University told The Huffington Post. “Varoufakis has said there was a Plan B for a Grexit. But it should have been further along.”
The mistake of Varoufakis, Tsipras and the other Greek leaders, Blyth says, is that they genuinely thought they could cajole Europe into providing debt relief based on the logical economic argument that Greece’s debt is unsustainable and that austerity had not worked. They did not realize that the eurozone creditors’ opposition to debt relief was fundamentally political. It was politically impossible for Germany to forgive Greece’s debt after forcing other debtor nations to pay back in full and convincing its public that Greece was a parasitic welfare case.
“The idea that the same creditors that had refused them to that point would say 'OK we will give you debt relief' is breathtakingly naive,” Blyth added.
Journalist David Llewellyn-Smith mocked Varoufakis for “genteelly sipping lattes at a gunfight.”
The consequences of Syriza’s lack of preparation for a Grexit are now there for all to see. Even if Germany was bluffing, its claims that it would force a Grexit had more credibility at the negotiating table. Germany appeared willing to walk away from negotiations and let the Greek banks collapse, and Greece clearly was not. Once again in the final negotiations, through hawkish finance minister Wolfgang Schaüble, Germany wielded the threat of a Grexit to force Greece to surrender virtually unconditionally.
Blyth proposes that Greece could have prepared for a Grexit by initially “playing nice” with its creditors in order to secure as much euro currency reserves as possible. That would have let them ride out the imposition of capital controls long enough while they made arrangements to circulate new currency. If Germany actually wanted Greece out of the eurozone and did not respond with a better offer, Blyth reasons, Greece would at least be more prepared for life out of the eurozone and have the opportunity to reorient its economic policies without the creditors' oversight.
Peter Doyle, the economist and former IMF official, agrees with Blyth that “once Tsipras had decided that he was unwilling to be responsible for calling ‘Grexit,’ he had no negotiating influence left.”
But Doyle argues the eurozone nations’ eagerness to exploit Greece’s weak bargaining position may unintentionally jeopardize the deal that they imposed on Greece.
“The key mistake they made, in my view, was to humiliate Tsipras -- a mistake because he is the only politician in Greece with the remotest hope of carrying out anything like the deal laid out,” Doyle told HuffPost. “If he is ultimately discredited, there is no one else to replace him politically, and that leaves prospects for the deal very doubtful indeed.”