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Why Greece Declined a Euro Holiday

BRUSSELS – For the entire first half of this year, since the far-left, anti-austerity Syriza party came to power in January, the Greek saga virtually monopolized the attention of European policymakers. Even as their country’s economy crashed, Greece’s new government remained adamant in demanding debt relief without austerity – that is, until mid-July, when they suddenly agreed to the creditors’ terms. Indeed, as of July 13, Greece’s staunchly anti-austerity government has been obliged to impose even tougher austerity and pursue painful structural reforms, under its creditors’ close supervision.

Why did the Greek government concede to terms that not only controverted its own promises, but also closely resembled those that voters had overwhelmingly rejected in a popular referendum barely a week earlier?

Many believe that Greek Prime Minister Alexis Tsipras was responding to an ultimatum from his European partners: Accept our demands or leave the euro. The question is why a Greek exit from the euro (“Grexit”) amounted to such a potent threat.

In fact, from an economic perspective, Grexit no longer represents the potential catastrophe that it once did. After all, the main short-term cost – financial-system disruption – has already materialized in Greece: banks and the stock market have been shut down, and capital controls have been imposed. While those actions were needed to stem large-scale capital flight and prevent the banking system’s collapse, they also caused the Greek economy to contract sharply.