A Greek exit is not rocket science

Last Wednesday (July 1, 2015), the ABC radio presenter, Phillip Adams, in a wide ranging interview about the upcoming referendum in Greece and the prospects for the nation, asked the then Greek Finance Minister: “My jokes about printing drachmas in the cellars, remain jokes?” The then Finance Minister replied: “Of course they do … we don’t have a capacity … because … Maybe you don’t know that. But when Greece entered the euro in the year 2000 … one of the things we had to do was to get rid of all our printing presses … in order to impress on the world that this is not a temporary phenomenon … that we mean this to be forever … we smashed the printing presses, so we have no printing presses”. The interchange occurred at the 49:46 minute mark in the – following program. In my research for my Eurozone book, which was published in May this year, I studied in some detail how the euro was introduced, how it is disseminated, how the notes are printed and the coins minted and how nations in other contexts had introduced their own currencies. When I heard that interview I wondered why the then Greek Finance Minister would want to mislead the Australian listeners, even though interviews like this are no longer geographically restricted and that he was clearly intent on convincing the world, a few days before the referendum, that Syriza was committed to the euro and exit was not an option. Earlier in the week, I had railed against the lies and misinformation coming out of the EU leadership. The boot was on the other foot in this case. But it also raises questions of how an exit might occur in the event that Syriza actually stand up for its electoral mandate (anti-austerity) and refuse to agree to any further austerity. I doubt they will do that but hope springs eternal.

This map locates the Bank of Greece, Banknote Printing Works (IETA) at 341 Messogeion Avenue, 15231 Halandri (Athens).

The Bank of Greece has an information page where it describes the location, functions and capacities of – The National Mint – aka The Banknote Printing Works of the Bank of Greece.

We learn about its history (constructed in 1941) and by 1947, it was production the “1,000 drachma banknote (Series IV) and of cheques and other securities for the Bank and the Greek government”.

In 1971, the Bank of Greece became the legal tender producer in Greece (after the function was previously the responsibility of the Ministry of Finance).

The Bank of Greece tells us that far from smashing the printing presses, the “National Mint was organised in line with Western European standards and was equipped with state-of-the-art machinery for the manufacturing of coin dies and the striking of legal tender coins, commemorative and collectors’ coins, medals, etc.”

It retains those capacities to this day.

The European Central Bank tells us – The production and issue of banknotes in the EU member states – that “Thirteen EU Member States have their own banknote printing works”, with “eight countries” including Greece, locating this facility within the central bank.

When Greece entered the Eurozone, the National Mint’s functions changed marginally. It now produces euro banknotes and euro coins, among other things.

The Bank of Greece say that:

The tasks of the Banknote Printing Works Department are:

– To print the Euro banknotes after ECB’s approval.

– To strike Eurocoins on behalf of the Greek State and third parties, as well as commemorative coin series and medals.

– Το perform printing works on behalf of the Bank, the Greek State or third parties which mainly concern security documents, such as Securities, Bonds, Treasury Bills Surety Bonds,Lottery Tickets, Passports, Identification Cards, Residence Permissions etc.

IETA has “highly qualified and experienced personnel”, “state of the art equipment” and access to “materials of top quality and features that guarantee the high quality of final products”.

So despite what Australians were told on our national radio the other evening, it certainly looks like the ‘printing presses’ are fully functional and were not “smashed” in “the year 2000″ or, for that matter, in 2002 when Greece, in fact, entered the Eurozone.

Back in 2011, there was a story in the Wall Street Journal (December 8, 2011) – Banks Prep for Life After Euro – which bears on our story today.

The WSJ said that:

Some central banks in Europe have started weighing contingency plans to prepare for the possibility that countries leave the euro zone or the currency union breaks apart entirely.

It correctly noted in relation to the printing of euro banknotes, that the ECB “outsources the work to central banks of euro-zone countries”, which then either print their own (as in Greece) or “outsource to private companies”.

What was that? Other printing presses? It seems that even if the Bank of Greece was to “smash” its banknote printing presses, there are private printers lined up ready to go.

On May 18, 2012, the Wall Street Journal was at it again – A Product Greece Still Makes: Money – telling us that “Greece can actually print its own money”.

But the IETA works (National Mint) also print secure documents, which raises the other possibility. While the printing presses are working up sufficient drachma, the interim solution could be to print “money-line vouchers”, a task that IETA easily has the capacity to perform.

So the logistics of actually creating the physical tokens would appear to be trite and well within the capacity of the Greek government should they be forced to exit the Eurozone.

There has also been a lot of talk about the Greeks lacking the capacity to manage a currency swap. But it is only 15 odd years ago that the European nations (and their central banks) did exactly that. The transition to the euro was relatively smooth and the experience embodied from that transition would surely not be lost to the Bank of Greece.

They have already moved from drachma to euro – they know all the practical issues, albeit in a non-hostile environment where other Member States were doing the same thing. But the principles remain the same.

The euro nations thus have practical experience with the sort of legislation that would be required for redenomination having performed the same feat less than 15 years ago.

They already understand the processes that are required and the issues that might arise. They understand that people might get stuck in car parks and vending machines would need to be recalibrated, among the myriad of conversions that would be required.

By exercising the sovereignty embodied in its own constitution, the exiting European nation would reintroduce its own currency and immediately require all tax and other public contractual obligations within the nation to be denominated in that currency.

The strategic operations that would accompany this reissuance do not really concern us. Clearly, a covert operation involving a weekend, the announcement of a bank holiday and the imposition of capital controls for a period would be involved.

The announcement would then come into effect on the first business day of the new week.

The new currency would be empowered because the citizens and corporate entities would have to use it to extinguish their ongoing tax obligations.

The private sector would have to acquire that currency, notwithstanding any decisions or preferences it might have for another currency in which it might store wealth.

Even if there is a second ‘trading’ currency in use, the local currency will always be in demand as long as the national government can enforce its tax laws.

One of the major shortcomings of the several ‘dual currency proposals’ recently put forward as a way to resolve the Eurozone crisis is that they still insist that state taxes and charges be paid for in euros, thus giving rise to continued demand for that currency at the expense of the local currency.

So one reform the Government would have to pursue would be to increase the tax compliance structure to broaden the demand for the new currency.

The actual practicalities of creating the new currency (minting coins and printing bank notes) would involve minimal changes because as we noted above, the national central banks are already responsible for this function.

With sufficient forward planning, the new currency tokens could be issued on the first day of the new system.

There are various interim measures that can be used that would allow the new currency tokens to be produced in sufficient quantities. Secure vouchers, stamped Greek euro-notes, or just the unique Greek identifier on the notes, would all serve as interim measures.

When the Czech and Slovak governments decided to abandon their short-lived monetary union in early 1993, cross-border currency movements were prohibited while new Slovak banknotes were issued.

The old Czech banknotes were ‘stamped’ and were in use in Slovakia until August 1993.

The more significant issue is to decide at what parity the new currency will be introduced, relative to the euro and other currencies.

The net benefits of exiting the Eurozone would be increased if the losses embodied in the process of redenomination and subsequent (expected) depreciation were also minimised.

The preferred option is to fully float, but some analysts have argued in favour of pegging the new currency to the euro, which would involve participating in a new version of the Exchange Rate Mechanism (ERM II).

Accordingly, the national central bank would be expected to intervene in the foreign exchange market if the new currency was in danger of breaching the agreed upper or lower bands within which the currency was allowed to fluctuate.

The fixed exchange rate system in Europe over many decades failed miserably and created a bias towards recession in external deficit nations and a refusal of the surplus countries (particularly Germany) to engage in symmetrical foreign exchange operations when the currencies breached the allowable values.

Under these arrangements, the central bank would lose discretion over monetary policy and the interest rate would be dictated by the ECB policy rate.

Further, history tells us that the currency would become hostage to financial market speculators and this volatility would be beyond the capacity of the central bank to control given it would soon run out of foreign reserves.

In theory, the ECB could provide an infinite swap arrangement to allow the national central bank to maintain the fixed exchange rate, but that would be resisted by the Bundesbank among others because it would mean an expansion of euro currency stocks and increase the fear of inflation.

This likelihood was exactly the reason the Bundesbank refused to operate in a symmetric manner during the Snake and the first iteration of the ERM in the 1980s to help weaker currencies avoid devaluation.

While the new currency would eventually depreciate (perhaps not in the short-run as it would be in short supply – the proposal is not the same as breaking a currency peg arrangement, for example), the scaremongering that suggests it would be bottomless, leading to hyperinflation, is unfounded.

We can be guided, in part, by what happened to the Argentinean peso in the years after the Argentinean government floated it during the 2001–02 crisis. Greece, for example, would endure some short-term drop in the new drachma once it was traded on foreign exchange markets.

It is true that the nations such as Greece do not have the large quantities of natural resources that Argentina enjoyed, but it is equally untrue to say they have no desirable assets that are exchange rate sensitive.

Of importance is that Argentina created new export capacity given the competitive boost it received from the depreciation. For example, Greece would likely experience a tourism boom, notwithstanding the fact that the crisis has run down its capacity somewhat.

The positive change in the direction of the current account would also put a floor into the downward spiral of the new currency as it did in Argentina’s case.

Further, in the same way that Argentina had to bear a major inflation impulse as its currency depreciated, which eroded real living standards, the reversal in standards was just as swift as the currency started to appreciate on the back of renewed growth. Greece would experience the same dynamic as Germans flooded into the sunny Greek islands to escape the Berlin winter and enjoy the dramatically cheaper vacations.

A similar dynamic occurred more recently when Iceland entered crisis and saw its currency drop. The Kroner is now higher against the Euro than at any time since the crisis began and the gain in competitiveness the nation has enjoyed as been to its advantage.

What should the initial parity be?

The initial conversion rate is moot with the currency floating. The foreign exchange markets will sort out the levels quickly enough. Floating will give the domestic policy instruments (fiscal and monetary) maximum scope to pursue domestic aims including restoring growth and creating jobs.

However, some commentators have identified the possibility of the so-called ‘rounding up’ problem where converted prices are pushed up to the next finite currency unit does suggest some thought needs to be given to the parity.

The most obvious starting point for the new currency to avoid these practical issues would be for the Greek government to adopt a one for one parity against the euro and let the currency float.

What about reintroducing the Greek payments system?

An essential but relatively straightforward part of the exit strategy would involve the re-establishment of the sovereign national central bank.

First, the existing national central banks retained most of their prior functions and structure when they entered the so-called Eurosystem.

Second, there are already well-defined structures in place between the Eurosystem and the European System of Central Banks (ESCB), which is composed of the ECB and the central banks of all 28 EU Member States. This structure allows nations outside the Eurozone to conduct independent monetary policy (that is, set their own interest rates) but still allows for close cooperation through the General Council of the Eurosystem. The first priority for the central bank would be to introduce a viable payments system to facilitate the new currency.

A payments system (from the RBA:

… refers to arrangements which allow consumers, businesses and other organisations to transfer funds usually held in an account at a financial institution to one another. It includes the payment instruments – cash, cheques and electronic funds transfers which customers use to make payments – and the usually unseen arrangements that ensure that funds move from accounts at one financial institution to another.

A legal framework defining operating procedures and standards backs this system up. There are two types of systems: wholesale (for large transactions) and retail (for consumer related transactions).

Introducing a robust wholesale payments system would not be a major issue. The central banks already had functional systems in place when they entered the Eurozone. Further, in terms of the Eurozone’s TARGET2 system, non-euro nations such as Denmark already voluntarily link their national central banks to this system.

There are also alternative systems operating in Europe, which process euro denominated transactions (for example, the system run by the European Banking Association). The retail system would be even easier given the widespread use of the so-called Single European Payments Area (SEPA), which is a system for simplifying bank transfers in the euros. Even non-EU nations (Iceland, Liechtenstein, Norway, and Switzerland) are members, as are Monaco and San Marino.

Second, the new central bank would have to redefine its relationship with the ECB. It would now set its own policy interest rate and be responsible for so-called official transactions, which include foreign exchange market interventions. Much of this expertise remains in the national central banks, given the structure of the Eurosystem.

So in practical terms, I see no real issues in introducing its own currency that are beyond the capacity of the Greek government and the Bank of Greece.

But, there remain issues that need to be addressed:

1. How to handle the euro denominated public and private debt that is outstanding.

2. How to handle bank deposits denominated in euros within the exiting nation.

3. How to manage the possibility of currency depreciation and to minimise the resulting inflation risk and protect real living standards.

5. How to reduce speculative capital flows (for example, using capital controls).

6. How to deal with any changes to the legal framework governing cross-border trade if the nation also is expelled from the EU, among other issues.

I dealt with each one of those issues in detail in my Eurozone book and provided a best-practice template for managing the issues and exiting as smoothly as possible – given that the early days would be somewhat chaotic.

Conclusion

A lot more people are speculating on a Greek exit. That has been going on for some years now as the inevitability of exit or long-term Depression became more obvious.

On June 1, 2012, the Wall Street Journal article – Bloomberg Tests Post-Euro Greek Drachma Code – related how for a short time one Friday currency traders “were shocked to see a brand new currency appearing on their Bloomberg screens: a post-euro drachma.”

It would be naive to believe that the Greeks haven’t been developing a contingency plan. The EUObserver article (July 8, 2015) – Final deadline for Greece, as EU prepares for Grexit – tells us that the European Commission has developed “plans for how to deal with a Greek exit from the eurozone”.

They are “in detail”.

The point is that the ‘logistics’ are not much of a challenge.

And the benefits of immediate growth that Greek could enjoy are on offer. They should never have joined the Eurozone. They should have exited in 2010, given they made the mistake to join. They should have refused the bailout in 2012. They should exit today.

All the talk that they won’t be European anymore is waffle. Maps don’t change with an exit. And Greeks could hardly claim to share a culture with Northern Europeans anyway as a result of entering the euro.

The reports coming out of Germany at present indicate that “Griechen bashing” is reaching fever pitch.

It was reported in the Neue Osnabruecker Zeitung yesterday (July 7, 2015) – Oxi zu griechischem Essen? – that:

Restaurantbesitzer Marinos Ioannidis musste am Sonntag einmal tief durchatmen. Der Grund? Eine E-Mail von fünf Gästen. Sie möchten in Zukunft nicht mehr in seinem griechischem Restaurant speisen.

Which means a local Greek restaurant had received five E-mails from people saying that they no longer wanted to dine in his Greek restaurant.

But on a brighter note, the story in today’s NOZ – Trotz „Nein“: Deutsche Urlauber sagen „Ja“ zu Griechenland – tells us that despite the NO vote, German tourists are still keen on taking holidays in Greece.

The German Travel Association (Deutsche ReiseVerbands) says that Greece is a very popular German holiday destination with strong booking growth continuing.

With an exit and a lower drachma, the islands would be buzzing with more German euros!

On a positive note, even though I hate soccer, the Greek team won 2-0 against Ukraine in the European Championships on Monday, and yesterday, the German Under-19 team was defeated in its first game by Spain 3-0.

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That is enough for today!

(c) Copyright 2015 William Mitchell. All Rights Reserved.