Dean Baker
HuffPost, September 15, 2017

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Yanis Varoufakis begins his account of his half year as Greece’s finance minister in the left populist Syriza government (Adults in the Room, Farrar, Straus, and Giroux) with a description of a meeting with Larry Summers. According to Varoufakis, Summers explains that there are two types of politicians. There are those who are on the inside and play by the rules. They can just occasionally accomplish things by persuading others in the room to take their advice.

Then there is the other type of politician, those who don’t agree to the rules and will never get anywhere. Summers asks Varoufakis which type of politician he is.

We don’t know what answer Varoufakis gave to Summers, but he wastes no time telling us he is the second type. He is committed to accomplishing something for his people, most immediately the people of Greece in the struggle to end mindless austerity, but ultimately the people of Europe and arguably the world, in an effort to fight against needlessly cruel economic policies. If this means breaking with the decorum of the elites, so be it.

There is no reason to question Varoufakis’ commitment. He left a comfortable life in Austin, Texas to take up what he certainly knew to be an incredibly difficult job as Greece’s finance minister in the middle of a financial crisis. The newly elected populist government was despised by most of the business and political establishment in Greece and across Europe. Only a person with a genuine commitment to the stated goals of the new government would take on this role. But reading his account, it is questionable whether the path he took was necessarily the best one for Greece and for Europe.

The Long Six Months

To give the basic story, at the start of 2015 Greece was being confronted by the joint power of the European Commission (EC), the European Central Bank (ECB), and the International Monetary Fund (I.M.F), collectively known as the “Troika”, who were insisting that Greece impose further spending cuts and tax increases even though the country had already endured seven years of depression.

I am using “depression” in the interest of accuracy, not exaggeration. By 2015 Greece’s economy had contracted by more than 25 percent compared with its 2007 level. Employment was down by almost 22 percent from where it had been at its pre-crisis peak. By comparison, in the Great Depression the U.S. economy shrank by 28 percent from 1929 to 1933, but had exceeded its pre-crisis peak by 1936. Greece will be lucky if its economy gets back to its 2007 level of output by 2027.

The Troika had gotten the previous conservative government to agree to a wide range of tax increases and spending cuts that had both devastated the economy and left many of the country’s poorest people in desperate straits. They had agreed to large cutbacks in already meager pensions, as well as cuts to a variety of programs designed to serve the poor.

The ostensible purpose of these cuts was to have Greece build up a large budget surplus, which would allow it to repay prior loans from the Troika. The budget target demanded by the Troika was an annual surplus on the primary budget, which excludes interest payments, equal to 3.5 percent of GDP (a bit less than $700 billion in the U.S. economy in 2017). The Troika’s program also included a wide variety of other demands, including privatization of many public assets and measures designed to weaken the power of Greece’s workers.

While there was much for any progressive to object to in the Troika’s program for Greece, Varoufakis’ key point throughout the book is that the program clearly would not work if the point was to get the money back for Greece’s creditors. He argues that there was no way for Greece to run the large surpluses demanded by the Troika. This meant that the debt was likely to grow through time rather than shrink. He argued that the only honest route forward was a write-down of large amounts of the debt, admitting that this money was lost. After a write-down, which would free Greece of onerous interest payments, the country could get back on a course of stable growth.

The book is a tale of bureaucratic dysfunction and outright treachery. In the latter category we find the Socialist finance minister of France as well as the Social Democratic economy minister of Germany. Both are warm and supportive of Varoufakis in private meetings, but then turn around and condemn Greek profligacy when they speak in public. Any number of other figures accept the logic of Varoufakis’ argument in private, including top officials at the I.M.F., but then melt into submission in the presence of German Finance Minister Wolfgang Schäuble, Varoufakis’ main nemesis.

The account would be comical if the lives of real people were not at stake. We also get an inside look at the absurd bureaucratic structures that have been created by the European Union. Varoufakis repeatedly finds himself at meetings where no one has the power to do anything to help Greece in its efforts to seek debt relief. While much of this was obviously a deliberate effort at obstruction, the structures of the EU do make it difficult to get anything done and hold anyone accountable for what ultimately happens.

Varoufakis explains to us his negotiating strategy, and ostensibly the strategy of Syriza government to which he belonged. The goal was to accomplish debt relief while staying in the euro zone. He knew that the Troika would never grant debt relief without some threat. (Why would they give to a populist government that had harshly criticized them a deal that they would not give to a subservient right-wing government?) Varoufakis’ threat was to leave the euro zone and establish a new currency.

Throughout the book, he is very clear that the goal was always staying in the euro. For an outsider following the negotiations closely at the time, this certainly seemed to be the case. However, he argued that the exit option was essential in order to force concessions from the Troika. His ranking of outcomes was always first, stay in the euro with debt relief, second leave the euro and unilaterally default, third stay in the euro and endure further austerity.

To jump to the finish, Greece ended up staying in the euro and enduring further austerity. In other words, it ended up with the worst option. In Varoufakis’ account this was due to the unwillingness of his government to be prepared to carry through on the threat to leave the euro. Without this threat, the country had no bargaining power and therefore no option other than further austerity.

The Exit Option: Was It a Real Threat?

To evaluate Varoufakis’ assessment it is worth asking about the motives of the Troika. One that he repeats several times is that debt relief would imply that the first two bailouts Greece had received had been a hoax. In effect these bailouts were about rescuing banks (mostly German and French) from their bad loans, not about helping Greece get back on a stable growth path.

Varoufakis is undoubtedly correct about the purpose of the bailouts, but governments have gotten very good at hiding the reasons for their actions from the public. Part of the Obama administration’s stimulus package was a first-time homebuyer’s tax credit. The credit almost immediately stopped the plunge in house prices as people rushed to get the $8,000 the government put on the table (myself included). However since the bubble had not yet fully deflated, house prices began plunging again in the summer of 2010 after the credit ended.

The tax credit had the effect of allowing the payoff of hundreds of billions in mortgages that likely would have gone bad if the house price decline continued. Many of these mortgages were in the hands of banks or privately issued mortgage backed securities. When the homes were sold the new mortgages were almost exclusively government backed, since the private securitization market was destroyed by the financial crisis. This little trick was especially pernicious since the temporary reversal in pricing was most pronounced at the bottom end of the market. In effect, the credit was a great way to get hundreds of thousands of moderate income households to buy into the bubble market before it fully deflated.

Virtually no one paid attention to this massive transfer of high risk debt from the private sector to the government through the tax credit and to this day even most careful followers of the crisis haven’t noticed this effect. It not plausible the reason for refusing a write-down of Greek debt was just to hide bailout loans. When it comes to public deception, Varoufakis was dealing masters of the art. These people certainly could have found some clever way of giving a backdoor debt write-down which would not require any acknowledgement of the purpose of the previous bailouts.

A second possible motive was to force labor market reforms on Greece and other countries in the euro zone. This was clearly a goal of the bailout packages, but it is not clear that it precluded debt forgiveness. Varoufakis even says that he offered to work out an acceptable package of labor market reforms with Schäuble, but he didn’t express any interest in pursuing the issue.

Perhaps Schäuble didn’t think he could come to any agreement with Varoufakis on the issue, but if labor market reform really topped his agenda, it’s hard to believe that Schäuble would not at least pursue a preliminary discussion on the topic. In this respect, it is worth noting that Emmanuel Macron, Varoufakis’s great French ally on the write-down issue, is putting labor reform front and center in his agenda as president of France.

The third reason, which Varoufakis hints at several times, is that if Germany agreed to a write-down for Greece, it would be pressed to do the same for Italy, Spain, and other heavily indebted countries. While Greece is small change in the context of the EU budget, Italy and Spain certainly are not, especially if both are seeking write-downs at the same time. Certainly Schäuble understood that he had to give the respectable politicians running other heavily indebted countries at least as good a deal as he gave to the scruffy radicals running Greece.

This one seems the most compelling. If we assume the governments of other euro zone countries are run by competent people, then there is no way that Schäuble could give any substantial debt reduction to Greece and keep it secret from them. If he allowed Greece to write down a substantial portion of its debt he would have to do the same with other countries. This would be real money. For this reason it is completely understandable that Schäuble would not want to give Greece a debt write-down; he would have to soon do the same with other troubled debtors.

Of course we have to take a step back and ask what would be the problem if the EU did make the money available to allow large-scale debt write-downs for all the heavily indebted countries. The ECB did have the money for even a major dose of debt forgiveness since after all it prints the stuff.

Whatever the economic reality might be, we shouldn’t rule out the possibility that these people really don’t understand the basic economics. They may really believe that the euro zone was genuinely constrained in its ability to finance debt forgiveness. If this is the case, Schäuble’s refusal to seriously discuss terms with Varoufakis makes perfect sense.

There is another aspect to the issue that is worth considering. Varoufakis’s trump card was the threat to leave the euro. He is undermined in this threat by his prime minister, Alexis Tsipras, who backs away from the threat when push comes to shove.

But suppose that Germany, and in particular Schäuble, didn’t care if Greece left the euro. Back in 2011, at the height of the crisis, Greece’s exit could well have led to the collapse of the euro. But by 2015 the markets had stabilized. ECB bank president Mario Draghi’s commitment to “do whatever it takes” to support the bonds of the countries in the euro zone had done its job. The interest rates on the non-Greece crisis countries had come down to very manageable levels. They likely felt that the euro could withstand a Grexit at that point, even if they might have preferred a compliant Greek government to accept their package.

If this is the case, then the threat to leave the euro was of little value. The real choice was accepting the bailout conditions and staying within the euro or taking the leap and leaving. Tsipras was elected on the agenda of ending the austerity and staying within the euro. If this was impossible, then the question was which of his commitments to the public he should break. He may have chosen the wrong one, but he really had no good choices from day one.

In this respect it is worth noting an issue that Varoufakis mentions in passing but doesn’t fully pursue in the book. As his meeting with various ministers and officials were proving fruitless, Varoufakis had an opportunity for a face to face meeting with Schäuble. At this meeting Schäuble explained that Greece really didn’t belong in the euro. He proposed an orderly departure, which he said could be a temporary time-out. This departure would come with a grace period on debt obligations and assistance in re-establishing its own currency.

It’s not clear if Schäuble was fully serious in putting this proposal on the table or that he had the backing of Angela Merkel to pursue it. However if debt forgiveness within the euro was not a possibility, this sort of orderly exit certainly would have been the best possible option. If there was any way Greece could have pushed forward along the lines Schäuble suggested to Varoufakis, this should have been his top priority. However his book suggests that he treated the proposal as a passing curiosity, not something that should distract him from his quest for a debt write-down within the euro.

There is one point that should jump out at any reader of this book. The title, “adults in the room” is a quote from I.M.F. managing director Christine Lagarde. It refers to the people with whom Varoufakis spent his six months negotiating. By contrast, he and his scruffy populist colleagues had questionable status in this world.

On this topic it is worth checking the scorecard. These are the people who controlled economic and financial policy as the world saw the growth of asset bubbles of unprecedented size. The collapse of these bubbles, coupled with the weak response of fiscal policy, and to a lesser extent monetary policy, cost the world tens of trillions of dollars of lost output. This translated into tens of millions of people needlessly going unemployed, millions losing their homes, and others going without access to health care or being denied the opportunity to get an education. (FWIW, the I.M.F. now projects that Greece’s primary budget surplus in the years ahead will be almost exactly the 1.5 percent of GDP offered by Varoufakis.)

The events of the last decade were a true disaster from which we have still not fully recovered. In a just world, the people who were responsible for this momentous failure would have been pushed out of their jobs. Instead, with few exceptions, the same group of people who led us into disaster are still the ones determining economic policy. These people may have considerable power, but that doesn’t make them adults.