Greece’s exit from the Eurozone would be all pain, no gain

by Miranda Xafa

Vox
March 18, 2012

With Greece in deep recession for the fifth year running, several prominent observers have been calling on it to exit the Eurozone. This column argues this would not help Greece’s economy recover faster from its deep recession. Greece will still be the most heavily regulated country in the OECD and returning to a drachma would only add to the debt burden.

Greece has just concluded an agreement with the EU and the IMF on a second rescue package and a write-down of the debt due to private bondholders. The country is in deep recession for the fifth year running and the new package will bring more austerity. Faced with this grim outlook, several prominent observers, including Martin Feldstein (2011), Ken Rogoff, and Nouriel Roubini, have been calling on Greece to exit the Eurozone.

But a return to the drachma would be all pain, no gain (Eichengreen 2007). Exiting the Eurozone would only add to the debt burden without resolving Greece’s competitiveness problem, which stems primarily from regulatory barriers to competition, restrictive labour practices, and red tape that raise the cost of doing business. Greece ranks 100th in the World Bank’s Doing Business report and 119th in the Heritage Foundation’s Index of Economic Freedom, behind several sub-Saharan countries. Staying in the Eurozone, on the other hand, raises the question of whether Greece’s post-Soviet economy can deflate itself back to competitiveness. The answer is probably not, because real rigidities prevent the adjustment process from working. What Greece needs is what the IMF calls “growth-oriented structural reforms” – greater reliance on market forces and the rule of law.

Greece is the most highly regulated economy in the OECD. Profit margins or minimum remuneration is set by law in a number of professions (lawyers, engineers, accountants, pharmacists), and licensing requirements impose barriers to entry in others (trucking). It costs less to transport agricultural products from Central America to Greece by ship than it costs to transport them within Greece by truck. Labour contracts set wages on automatic pilot due to seniority clauses and other benefits unrelated to productivity, profitability, or performance. No amount of devaluation will get rid of these distortions.

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