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Azeem Ibrahim Headshot

Lessons from the Greek Bailout

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One thing which history shows that the USA got right, as it evolved, was in waiting until its respective states became parts of the union before trying to ensure that they all shared the US' currency. It is a lesson that Europe is now learning the hard way.

The lesson is being learned with the harshest results by the frugal German taxpayer, who has just paid $140 billion towards a bailout for Greece, a country which has serially spent much more than it has brought in, lied to the EU about it, and looks incapable of change. Worse - this behavior is affecting the value of the euro in the pocket of those very German voters whose money is already being spent bailing Greece out. The truth is that membership of the euro means that Germany's bailout hurts, but is needed to protect the value of its currency.

As much sympathy as I have for Greece's population who will have to suffer under any plausible scenario, I have little for its government.

Its budget deficit in 2009 was 12.7 percent of GDP, and its overall debt was 113.4 percent of GDP - figures which take some years of mismanagement to achieve. That 12.7% deficit was originally claimed by the Greek authorities to be 3.7%, reflecting a lack of honesty about deficits which seems endemic. The governmental class which is almost universally in denial of these problems. The European Commission issued a report last year saying that the finance ministry had committed "severe irregularities" stemming from "the submission of incorrect data."

The country also has an old-fashioned legal system, and, as the Wall Street Journal pointed out, its land registry is not computerized and centralized, unlike most developed countries, meaning that if a farmer starts cultivating public land, he will eventually become its de facto owner. The country also makes it very hard to start a business or invest, both for legal reasons and informal ones, which is why it has one of the world's lowest levels of foreign investment.

Worst of all, the government can't change anything. Having declined to explain the situation honestly to Greek voters, it is faced with a population who regard any measures which might improve the public finances as needless political cruelty and stinginess. After Greece passed a pension reform bill in 2008 which sought to raise the pension age and stop early retirements, there were mass riots and the government was booted out of office.

Enter the single currency. What it effectively does is mean that the consequences of Greece's profligacy rebound on those countries which share its currency. When Greece defaults on its debts, the rest of the eurozone countries suffer. And that means that the richer, more responsible eurozone countries - and that mainly means Germany - are called upon to bail Greece out. But, of course, there is no way for the more responsible countries to get Greece to change its behavior to make sure that this kind of thing won't happen again. Worse, many argue that bailing out Greece makes it less likely to change its ways in the future, as it means that it does not have to face the consequences of its profligacy.

The point is that this lays bare the half-baked nature of the eurozone's economic union. It is a single currency without the political mechanisms to make sure that those who use it conform to the same rules, like the federal government can to an extent for states.

The lesson for the euro, and so for Britain, which is currently standing on the sidelines and weighing up the euro's pros and cons - is that in its first decade of life it was a rather misunderstood currency. Its perceived strength, and thus its strength in the money markets, was based not only on Europe's perceived global role, but also on the relative stability of its strongest members. What is now inescapable is the fact that the euro should be regarded as an uneasy average of some global heavy-hitters like France and Germany, but also much weaker countries like Greece (who's debt some credit agencies now rate as junk), and Portugal, whose economy has barely grown for years.

It's no surprise that there's so much anger in Germany at being so tethered to Greece. Apparently one German tabloid journalist recently pulled a stunt which struck a chord: going to Greece with a handful of drachma notes and offering them to locals. The message was clear. In the euro, Greece is the weakest link in the chain. And for many in Germany that means that Greece should kiss the euro goodbye.

Azeem Ibrahim is a Research Scholar at the Kennedy School of Government at Harvard University, Member of the Board of Directors at the Institute of Social Policy and Understanding and Chairman and CEO of Ibrahim Associates.