Peterson Institute for International Economics
May 10, 2012
The Greek election on May 6 delivered a result that was only marginally surprising, defeating both “establishment parties,” the center-right New Democracy and the Socialists, or PASOK. Together they fell short of a majority, with only 108 seats for New Democracy and 41 for the Socialists, out of 300 parliamentary seats. Because it is unlikely that any government can be formed among the seven parties in the parliament, new elections will have to be held soon. The outlook is more uncertain than ever, and the risk of a potential Greek exit from the euro area has increased.
When faced with this type of electoral upset in small member states, the EU has historically adopted two distinct response strategies, one aimed at voters and the other aimed at recalcitrant political leaders. The first strategy was employed in 2009 when the Irish first rejected the Lisbon Treaty reforming the European Union. Subsequently, when a few meaningless revisions were added to the Treaty, the Irish voters adopted it in a second referendum. It was the threat of economic and political isolation that persuaded them to change their mind. The second strategy unfolded at Cannes last year. It was then that the EU threatened Greek political leaders with economic ruin (in the form of a euro exit) in order to force them to rethink their response. Both these strategies were designed to overcome member state democratic processes and get to the “right answer” for the European Union as a whole.
We are about to see both these strategies potentially applied to Greece, ushering in a period of intense political instability in the euro area as this one or two-stage game of chicken gets under way.
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