Adam Smith Institute

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The accepted wisdom on Greece

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Detlev Schlichter had a great piece on his Paper Money Collapse blog yesterday, in which he argued that Greece should return to the gold standard. But let’s leave that conclusion aside for the moment – what I really liked about the article is the way it systematically debunks a lot of the dodgy ‘accepted wisdom’ circulating about the Greek crisis.

In particular, Schlichter takes aim at the idea that Greece would be better off outside the euro because that would allow it to devalue its currency, and in the process monetize (or inflate away) its debt while boosting exports. According to the accepted wisdom, such a policy would allow Greece to get over its debt problem and give its economy a shot in the arm.

But as with much accepted wisdom, this is really just another example of the good old broken windows fallacy in action. Yes, inflation might erode your debts. But it also undermines savings – preventing the accumulation of real capital – and distorts economic decision-making. Before long, inflation inevitably turns out to be the road to economic ruin.

And yes, devaluation might boost exports. But that doesn’t do much to further overall prosperity: the boost to exporters only comes at a cost to importers, while in terms of access to internationally traded goods and services, everyone immediately becomes poorer.

Crucially, moreover, Schlichter points out that this ‘soft money solution’ isn’t even likely to succeed in its stated objective – avoiding a default:

Once the markets sense that the government or its central bank tries to “inflate the debt away”, the currency and the domestic debt get sold and real interest rates shoot up. This quickly worsens the debt dynamics for domestic borrowers, most importantly the government itself. In the end you get both, hyperinflation and sovereign default, as has happened numerous times before.

Ultimately, you can’t get away from the fact that governments just can’t keep spending more money then they raise in taxes. And they can’t just print away their problems with money created out of thin air. A successful, sustainable economy needs sound public finances and sound money. The have-your-cake-and-eat-it-too approach is a dead end.