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Greek Tragedy

Will Europe tank the world economy?

Shortly after Greek Prime Minister George Papandreou took office last fall, he learned that he’d inherited a massive booby prize: a budget deficit that was twice the amount the previous government had disclosed. But, when Papandreou came clean and promised to address the problem, the financial markets reacted violently. Interest rates soared, adding billions in debt-service costs to an already dire budget picture. And so, when Papandreou arrived in Washington in March, the stated reason was to push his brief against speculators--who, he claimed, had driven up Greek borrowing costs to usurious levels. “[We] were bold enough to reveal these problems,” Papandreou said at the time. “But we were also penalized for revealing these problems.”

Unofficially, however, the point of the trip wasn’t so much economics as political economy: to subtly suggest that Greece had allies outside Europe who could help deal with its debt crisis. For weeks now, the Greeks and their eurozone neighbors have been engaged in an awkward dance. The French and Germans, who hold outsize sway in the monetary union, have shunned talk of a bailout, which would go down in their countries about the way the Wall Street bailout went down in this one. (The image of entitled Greeks frolicking on sun-splashed islands occupies roughly the same mental space in Northern Europe that “fat-cat bankers” do in Middle America.) The Europeans imply that there’s little risk of contagion and believe Greece should largely clean up its own mess. For its part, Athens has formally denied interest in a bailout. But it has desperately played up the seriousness of the situation so as to obtain some sort of assistance, suggesting the turmoil could spill into Ireland and Portugal, even large economies like Spain and Italy.

By trekking to Washington, Papandreou hoped to ever-so-slightly tip the balance in this showdown. As Gikas Hardouvelis, a former economic adviser to one of Papandreou’s predecessors, described the thinking to me, “Let the Germans feel that you do have Obama’s ear so that they don’t feel like super dictators.” But the truth is that Washington can’t play a direct role for fear of meddling in European affairs.

Which raises an interesting geopolitical question: How does the world handle a crisis when the United States can’t step in? The answer, so far, is not very well. Without a third-party broker, it’s not clear that the Greeks and Europeans can strike a bold enough deal soon enough. And that could be a problem not just for Europe, but for the entire global economy. “Just as subprime in the U.S. affected Europe,” says Ted Truman, a longtime Fed and Treasury official who advised Secretary Timothy Geithner last year, “there’s no reason a crisis in Greece, Portugal, and Spain couldn’t affect the United States and the rest of the world.”


The day after his meeting with Obama, Papandreou turned up at the Center for American Progress (CAP), an influential liberal think tank three blocks from the White House, to field questions from a small group of journalists. He is in his late fifties, trim and mostly bald, with a modest gray mustache. All in all, he looks less like a world leader than the proprietor of a refrigerator-repair school you might see advertised late at night. Papandreou’s father, Andreas, was himself a Greek prime minister. But, while the father was famous for his fiery, rabble-rousing speeches, the son exudes a pronounced anti-charisma. There were times during the Q&A when it was tough to hear him over the whir of the air-conditioning.

Still, what Papandreou lacks in physical presence he more than makes up for in stature on the international stage. Hardouvelis points out that Papandreou is the current head of the Socialist International, giving him easy access to foreign eminences. Perhaps more important, his five-year tenure as Greek foreign minister beginning in 1999 won rave reviews in Europe and beyond. In 1996, Richard Holbrooke marveled that Greece and Turkey had been on the verge of war “over a little piece of land smaller than the State Department.” Many in Foggy Bottom credit Papandreou with defusing the decades-old hostility behind such flareups.

Against this generally favorable backdrop, the particular card Papandreou wants to play in his dealings with Europe is the threat of turning to the International Monetary Fund (IMF). European federalists cringe at the thought of the Fund’s shock troops landing on their soil--the mere symbolism would deal a blow to the idea of continental self-sufficiency. So Papandreou has sought leverage by publicly musing about inviting the IMF to Athens. “We have done our duty, what we were told to do ... it’s important for Europe to recognize this,” he said at CAP, alluding to proposals to pare back his country’s deficit. “In the case that Europe does not have the necessary tools, and a country like Greece did have real trouble borrowing, then the alternative would be the IMF.”

Of course, no one expects Greece to call in the IMF unless it’s truly on the verge of a meltdown. Among other obstacles is the European Central Bank (ECB), whose authority over monetary policy is supreme. (By contrast, the Fed must answer to Congress on occasion.) The ECB jealously guards its bailiwick and would be horrified to take orders from IMF officials. “The Germans are concerned about the ECB,” says former IMF chief economist Simon Johnson, a TNR contributor. “They will control it next--it’s their turn dammit! They don’t want the IMF kibitzing.” If nothing else, the Germans and French enjoy disproportionate influence on the IMF board. They could effectively prevent the Fund from accepting a Greek plea for help. This is all the more likely when you consider that French President Nicolas Sarkozy has been warily eyeing his countryman Dominique Strauss-Kahn, the IMF managing director, for months now. Strauss-Kahn has hinted at a presidential run in 2012, and Sarkozy presumably isn’t eager to make him Europe’s savior. [Editor's note: Following the print publication of this piece, the German government changed course and suggested it might support an IMF intervention. The French and the ECB appear to remain opposed to the idea, though the situation is fluid.]

By the same token, observes Jacob Funk Kirkegaard of the Peterson Institute for International Economics, few doubt the French and the Germans would pony up if Greece were really teetering. Nothing would deal a bigger blow to the European project than a spectacular flameout by one of its members. The point is just that resolving a situation like Greece’s shouldn’t require the threat of imminent collapse, by which time the crisis could have spread around the globe.

That’s the reason why, for all the headaches it poses, the IMF deserves to be more than a bargaining chip. While noble, Papandreou’s deficit-cutting efforts aren’t likely to be sustainable. They simply ask too much of his country too quickly, attempting to reduce a deficit of 12.7 percent of GDP to under 3 percent within three years--all at a time when Greece is already in recession. Even if Greece can painlessly refinance the roughly 20 billion Euros in debt that come due this spring, future refinancings will be brutal if the austerity regime unravels. “I think the amount of adjustment they’re asking for in a short period of time is in the draconian category,” says Truman. “It’s likely to fail. So we’re going to have another chapter.”

Pretty much the only way to avoid a relapse is a financing package worth at least tens of billions of euros. That would buy Greece some time to roll back its deficit at a more humane pace. And, as a practical matter, the IMF is the only institution that can quickly muster enough cash.

But the case for IMF intervention isn’t just economic; it’s political. For all the tensions it would create in Europe, turning to the IMF could actually solve many more. As the Financial Times’ Martin Wolf has pointed out, the Germans are basically pursuing two contradictory goals in their dealings with Greece. On the one hand, they want to inflict pain so as to restore credibility to EU rules governing deficits, which members have flouted for years. On the other hand, they want to preserve European cohesion, which could fray if the Greeks--and other countries at the continent’s periphery--feel they’ve been wronged. Wolf wagers that one or the other goal must give. But turning to the IMF might resolve this contradiction. However embarrassing it would be for Europe as a whole, it’s Greece that would bear the scarlet letter of IMF assistance--a loss of face few neighbors would care to repeat. At the same time, notes Randall Stone of the University of Rochester, the Greeks wouldn’t have the pedantic Germans to blame for their plight. They could focus their ire on those faceless bureaucrats at the IMF’s Washington headquarters.

And then there are the Americans. Though Obama administration officials don’t appear overly concerned about Greek contagiousness, they probably secretly pine for an IMF intervention. Both Geithner and Larry Summers, the top White House economic adviser, have said that most countries are too slow to respond to a financial crisis, and too tentative once they do. The two men have long favored a “Powell doctrine” of overwhelming financial force. Only the IMF can execute that here.

Alas, decorum dictates that Geithner and Summers essentially keep quiet. And so, on his way out of Washington, Papandreou was left to plead his own case. At the CAP session, one reporter mentioned a recent Greek debt offering that went slightly better than expected. “We had the good news of having our borrowing ... at a rate which was lower than previously, but still not low enough,” Papandreou bleated. “That’s not, in the long run, sustainable.” Then again, he added joylessly, he was still “in the process” of negotiating with the Europeans. Somehow, it was not reassuring. 

Noam Scheiber is a senior editor of The New Republic.