The Greek Referendum

The Greek referendum announced on November 1 by Greek Prime Minister George Papandreou is a big gamble and politicians rightly don’t like to gamble. I, on the other hand, like the idea. It will force the Greek public to face up to the fact that the Germans and other northern Europeans are no longer willing to support their habit of living high on other peoples’ money.

The Greek referendum announced on November 1 by Greek Prime Minister George Papandreou is a big gamble and politicians rightly don’t like to gamble. I, on the other hand, like the idea. It will force the Greek public to face up to the fact that the Germans and other northern Europeans are no longer willing to support their habit of living high on other peoples’ money.

Greece and many other governments, banks, and families have financed expenditures above their incomes with other people’s money for too long. The debt burden that has resulted has become too much to carry and lenders are no longer willing to keep on lending. Greece, to focus on today’s headline country, must reduce its debt, and reduce the government’s and the public’s borrowing (reduce spending and/or increase revenue) that created it and keeps it growing.

Some of Greece’s debt is owed to foreigner. Its borrowing from abroad to pay for its imports in excess of its exports can be reduced or eliminated by exporting more and/or importing less. To eliminate its trade imbalance Greek workers and firms must become more competitive with the rest of Europe and the world. Greek labor and produce markets need to be liberalized to become more productive. Retirement at 58 and generous vacations need to be brought into line with worker benefits in other European countries.

In announcing plans for the referendum, Papandreou stated that: “It is ‘time for the citizens to reply responsibly…. Do they want us to implement it or reject it? If the people do not want it, then it shall not be implemented. If yes, we shall proceed.’” [1]

But just what will the Greek voters be asked to decide? “’It’s difficult to see what the referendum is going to be about. Do we want to be saved or not? Is that the question?’ said Swedish Foreign Minister Carl Bildt.“[2]

The referendum might read: “Yes or No: ‘We agree to promptly adopt the market and fiscal reforms that we need to restore fiscal balance and external competitiveness in the future so that Greece will no longer need to borrow and spend other people’s money. As these adjustments will take time to restore competitiveness and eliminate the government’s need to borrow, the IMF and EU are prepared to lend the money needed to finance an orderly adjustment and banks around the world have agreed to write off half of their existing holdings of Greek government debt.’

A No vote would reduce that debt and any debt service payments to zero (full default), but as the government’s expenditures would still exceed its other spending commitments, the government would need to default on other domestic obligations as well (pensions, larger government salary and employment cuts, etc). Greece would be forced immediately to live fully within its much-reduced means and the suddenness of the government’s cuts would temporarily reduce Greece’s output and employment and government tax revenue even more causing potentially significant overshooting.

The beauty of a referendum is that people will need to face the truth and accept it or suffer the consequences of rejecting it. If they accept it and embrace and stand behind the reforms needed, the crisis for Greece will be over. External financing will still be needed as now planned to minimize the loss of output and revenue from the temporary adjustments needed.

The danger of a referendum is that the people will misunderstand the consequences and say no or will throw a childish tantrum and say no. The consequences of a No vote cannot be fully predicted. When faced with the larger cuts and disruptions full default would cause, civil society could explode with unforeseen results. Furthermore, the losses by banks and (largely Greek) pension funds holding Greek government debt would be larger causing larger losses to bank owners and creditors and probably French and other tax payers (the Greeks seemingly don’t pay taxes).

In this circumstance a possible, but not inevitable, further consequence would be Greece’s introduction of its own currency and a redenomination of Euro obligations of the government (at least) in the new currency at a depreciated exchange rate. If the government can force the re-pricing of wages and goods and services produced in Greece in the new depreciated currency, external competitiveness could be established (at least temporarily) with the stroke of a pen and the running of the currency printing presses. It is not obvious, however, that Greek workers would accept wage cuts via depreciation of the exchange rate of their new currency more readily than directly via nominal wage cuts.

To reintroduce its own currency, the Central Bank of Greece would offer to exchange Euros held by its banks and citizens for its own currency, though it is hard to imagine any of them taking up the offer. The real advantage to Greece of abandoning the Euro, and the source of the catastrophe that would almost surely follow, is that the government could now borrow the new currency from its own central bank. Rather than defaulting on many of its domestic obligations and/or implementing sharper than now planned cuts in government salaries and employment, the government could pay them with the new currency printed by and borrowed from the Central Bank of Greece. Printing money is not the same thing as growing food and building things, of course. So the introduction of its own currency would allow the Greek government to finance its continued deficits via inflation, i.e. reducing the real income and wealth of the private sector in order to transfer it to the government sector.

In Greece’s circumstances, monetary/inflationary financing of the government is a very slippery sloop that is likely to degenerate within a few years into hyperinflation as Zimbabwe recently demonstrated.

Beyond Greece

But what about Spain and Italy? What would be the consequences for their sovereign debt and for the banks and others that hold it of a No vote in Greece? Europe worries much more about this than anything that might happen in Greece. Restoring fiscal balance and improving external competitiveness will be much easier for Italy, for example, than it has been for Greece, if Italy only get on with it. A No vote in Greece would alarm market lenders but would also alarm the Italian government borrower and might well catalyze the reforms needed in Italy more quickly than a Yes vote. The fiscal and structural reforms that have already been discussed with Spain and Italy by the IMF and EU, if implemented, would remove market concerns about their ability to service their debts and thus restore interest rate risk premiums on such borrowing to German sovereign debt rates.

The uncertainty over the coming weeks of the Greek referendum outcome is unfortunate, but Spain and Italy need not wait, nor do they need EU money, to take decisive and credible actions to reassure market lenders.

[1] Howard Schneider and Michael Birnbaum,  “Greek referendum call upends euro plans” The Washington Post, Nov 2, 2011, page A1

[2] Ibid.

Author: Warren Coats

I specialize in advising central banks on monetary policy and the development of the capacity to formulate and implement monetary policy.  I joined the International Monetary Fund in 1975 from which I retired in 2003 as Assistant Director of the Monetary and Financial Systems Department. While at the IMF I led or participated in missions to the central banks of over twenty countries (including Afghanistan, Bosnia, Croatia, Egypt, Iraq, Israel, Kazakhstan, Kenya, Kosovo, Kyrgystan, Moldova, Serbia, Turkey, West Bank and Gaza Strip, and Zimbabwe) and was seconded as a visiting economist to the Board of Governors of the Federal Reserve System (1979-80), and to the World Bank's World Development Report team in 1989.  After retirement from the IMF I was a member of the Board of the Cayman Islands Monetary Authority from 2003-10 and of the editorial board of the Cayman Financial Review from 2010-2017.  Prior to joining the IMF I was Assistant Prof of Economics at UVa from 1970-75.  I am currently a fellow of Johns Hopkins Krieger School of Arts and Sciences, Institute for Applied Economics, Global Health, and the Study of Business Enterprise.  In March 2019 Central Banking Journal awarded me for my “Outstanding Contribution for Capacity Building.”  My recent books are One Currency for Bosnia: Creating the Central Bank of Bosnia and Herzegovina; My Travels in the Former Soviet Union; My Travels to Afghanistan; My Travels to Jerusalem; and My Travels to Baghdad. I have a BA in Economics from the UC Berkeley and a PhD in Economics from the University of Chicago. My dissertation committee was chaired by Milton Friedman and included Robert J. Gordon.

4 thoughts on “The Greek Referendum”

  1. Warren,

    I’ve been advising the European Commission and IMF (adhoc) i.e. no-pay yet) for the past three months. You can view my advice at They have adopted half of what I advised them to do, but Germany and France won’t allow a vote on Unification of the European Union, forming a United European Union (or whatever they want to call themselves)Treasury, issue Eurobonds which would cover all debt issued by all European Union “member states”, establish a central government, move the ECB to neutral territory (Belgium maybe), and cross cancel all inter-European Union debt between member states with one another. At least seven countries including Greece want to enact my suggestions, but France and Germany both want to be in charge of the EU and the ECB.
    What’s a Financial consultant to do? All I’m asking for, is for the EU countries to get out of the 1800’s already. If you remember the US history, in the 1800’s every township, town, city, etc. had their own bank and currency, debt instruments, etc. Our Second Bank of America was authorized to issue currency. Our treasury was authorized to levy and collect income taves.
    Why can’t/won’t the EU trade “state” sovereignty for Economic and Financial Stability, Security, and National Security. These are some of the most arrogant people who want their own country to come out on top even if the EU collapses on top of them.
    Greece’s austerity is a good idea if it is balanced over ten years. They need to terminate more government employees, cut welfare benefits, reform their social programs, etc. (it’s in my blogs). I don’t envy Mr. Pompandriou one bit.
    I did not recommend the property tax. That’s what caused most of the fuss so far. 165% debt to GDP can be reduced slowly by 10% annually with a balanced budget after the 10% cut. Angela Merkel added the “bank haircut of 50%.” Then turned around and asked China for a spare $1 trillion. What nerve! If they Unify, most of their debt is washed in paper under the table.
    The price: sovereignty.

    Let me know what you think.


    Mark R. Winkle
    Consultant One
    Financial, Environmental, and Legal
    Research Consulting

    1. Mark,

      Borrowing needs to be subject to more discipline. Fewer and/or tougher government bailouts will improve market discipline (better pricing of lending risks) and some strengthening of the EU sanctions for excessive government borrowing would add additional discipline. But I can understand the reluctance of many Europeans to increasing the powers of the European Commission much.

      1. Under the present rule of “who has the bigger bag of gold, I would agree with you. If the “member states” were united as one country, their collective cross debt could be cancelled out under the new treasury. I proposed a ten percent pay down per year of debt with a balanced budget after that first ten percent was deducted. This was generally approved. The second step was to recirculate the currency by establishing a national sales tax to be spent as small business loans, college education loans, and vocational school loans. This would stimulate job growth, increase the educational levels of their youth and others for advanced technology jobs, and quell the restlessness of the students. I also proposed a 2% transaction fee for stock and bond transaction which would balance out the “tax on the poor”. Even your old bosses have adopted most of my outlined plan of a ten year pay down of debt in a balanced stable fashion.
        I see in today’s news that the Greek PM has withdrawn his bluff of a referendum. I think the EU will unify by this time next year, hopefully not out of desperation, but because an economic union alone is like marrying just for the money. The honeymoon is short and the marriage ends in a quick disaster for everyone.


        Mark R. Winkle
        Consultant One
        Financial Consultant

  2. Papandreou is a very shrewd politician. He knows his domestic politics, and he could not merely agree with the Brussels agreement, so he proposed the referendum to compel the issue in Greece. Perhaps he didn’t figure on the outrage from the rest of the EU, but he seems to accomplished what he needed in Greece. Since the choice is now phrased as EU membership and duro vs. drachma and isolation, and the public know they’re better off with the euro, he will probably prevail. I wonder if he also is counting on some additional sweeteners from Germany and France?

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: