An Argentine Guide to the Greek Crisis

May 30, 2012 Andrés Velasco

Policymakers in Europe seem to be surprised at the ongoing bank run in Greece (and the nascent run in Spain). They should not be: anyone familiar with emerging-market meltdowns knows that a financial crisis nearly always follows a fiscal crisis.

SANTIAGO – Policymakers in Europe seem to be surprised at the ongoing bank run in Greece (and the nascent run in Spain). They should not be. Anyone familiar with emerging-market meltdowns knows that a financial crisis nearly always follows a fiscal crisis.

Argentina’s default in 2001 is but one useful example. In the Argentine crisis, the economy contracted by 18% and unemployment soared to 22% of the labor force. Greece is already close to these levels.

Argentina went through a complete and chaotic default on its public debt. In Greece, the “haircut” imposed on creditors so far has been managed by the European Union and the International Monetary Fund. But, with debt still unsustainable, the next round of Greek default could well make Argentina’s look positively Teutonic in its orderliness.

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Andrés Velasco

Writing for PS since 2001
110 Commentaries

Andrés Velasco, a former presidential candidate and finance minister of Chile, is Dean of the School of Public Policy at the London School of Economics and Political Science. He is the author of numerous books and papers on international economics and development, and has served on the faculty at Harvard, Columbia, and New York Universities.

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Christopher T. Mahoney Jun 11, 2012

From what I can gather, the Bank of Greece has no reserves (in euro or FX). If so, it will be difficult to establish an external value for the neodrachma unless either the ECB or the IMF make credit available.
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Christopher T. Mahoney Jun 11, 2012

Gresham's Law: Hoard euros, spend drachma.
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Asgeir B. Torfason Jun 5, 2012

This Argentinian solution might maybe have worked last year - but in the current situation it does not seem to be solving the European banking problem. Governmental reaction has been too little and too late. Still the article gives interesting insight, the feedback loop of fiscal and financial crisis is very illustrative as well as the political turmoil similarities. But devaluation of a new currency and capital controls are not sustainable. We need new economic thinking to solve the Eurozone case.
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Victor Beker May 31, 2012

One of the lessons of Argentina´s default in 2001 is that internal devaluation does not work. Downwards price and wages inflexibility makes it a very painful and unbearable long process. After four years of an ever-deepening recession/depression, Argentina had no alternative but to default and devalue her currency. It is not a valid alternative for Greece or any other Euro-zone country.
But the main difference between Argentina and Greece is that Greece belongs to the Euro-zone. If Greece defaults and leaves the Euro-zone, Spain and probably Italy will follow suit. The next round, as Velasco clearly explains, will be the run on the banks which hold the Greek, Spanish and Italian bonds. Saving these banks will be more costly than saving Greece now. The real issue is that there is not such a thing as a Greek, Spanish or Italian issue. There is an European problem which needs and European solution. The sooner the better.
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Michael Heller May 31, 2012

Thanks for this interesting article.

"Paying public sector workers with depreciated neo-drachmas implies a cut in the real wages that they receive."

That is a particular tragedy because -- according to some analysts of Argentina pre-devaluation -- timely labour market reforms (implicit wage devaluation) would have sustained the currency regime in a healthier form. That would have helped Argentina become more competitive and perhaps avoid the default.

Blejer wrote “in the public’s mind the increase in unemployment was rooted in macroeconomic factors and not in the structure of the labour market. This created demand for expansionary macroeconomic policies rather than support for reforms in labour relations”.

It relates to the feedback loop of course since Argentina after 1995 resorted instead again to public borrowing that ended in crisis.
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Zsolt Hermann May 30, 2012

As long as we discuss the situation in Greece in isolation, we are going to continue missing the point.
Today the situation is very different from the Argentinian example.
Today there is no hope for further growth to pull anybody out of crisis, Greece is simply the first domino to fall, surely followed by others.
There is not one economy, not even Germany or the "emerging market countries", who continue looking into the future with confidence.
On one hand our whole expansive, constant growth economic system has become unsustainable, on the other hand we are totally interconnected thus we all move in the same direction, either we all recover or we all fall.
And since our present system has become self destructive we can only recover if we fully understand why we became self destructive, what system we exist in, and how we need to change ourselves in order to adapt to the conditions surrounding us.
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