A Greek Exit Could Make the Euro Area Stronger

by Jacob Kirkegaard

Bloomberg
May 23, 2012

A Greek exit from the euro area would inflict heavy damage in Greece and throughout Europe. It could also be one of the best things that ever happened to the currency union.

Greece’s repeat parliamentary election next month will serve as a referendum on whether the country should end its 12- year membership in the common currency. An affirmative answer would trigger a cardiac arrest of the Greek economy, as the banking system collapsed and foreign suppliers refused payment in drachmas. The financial system of the euro area, by far Greece’s biggest international creditor, would suffer hundreds of billions of euros in losses.

For the European economy as a whole, the primary danger would be the reintroduction of currency risk into what has been billed as an irrevocable monetary union. When Greek banks collapse, or have to be closed for a prolonged holiday to facilitate a forced conversion of deposits into new drachmas, one cannot predict whether citizens and firms across the periphery of Europe will pull their money out of their banks just in case. The result could be financially disastrous.

The potentially dire repercussions have led many to assume that no responsible European policy maker would allow a Greek exit to take place. By this view, all the talk about letting Greece leave is merely a scare tactic. Europe’s leaders will blink first in their game of chicken with Greece and ease the terms of the country’s austerity program.

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