There are few things more dangerous in economic discourse than a snappy but incorrect analogy. Unfortunately, these are all too common.
Nobel winner and New York Times columnist Paul Krugman made one recently, arguing that it might not be so bad if Greece defaulted, pointing out that Argentina did it a decade ago and ultimately came out quite well. Columnist (and Internet pundit) Daniel Gross made a similar argument, citing how well Iceland has done over the past year since its banks collapsed and its voters refused to bail out the banks’ bondholders and foreign depositors.
Perhaps Greece should consider defaulting, particularly if it might end up doing so involuntarily anyway. But the experiences of Argentina and Iceland are not good guides to what might happen if Greece goes down that road.
This is not to say that there are no similarities, particularly between Greece and Argentina. Both have had decades of imprudent fiscal policies. Both have backward-looking labor unions with great political power. Both have too many public employees for the size of their economies, and these employees are paid much better than those in the private sector. Both had long experience with inflation, at least prior to 1990. Both had large state sectors, with government-owning enterprises that would be private businesses in most industrialized economies. (This government ownership diminished in Argentina in the 1990s but remains in Greece to this day.)
There are important differences, however, between the two countries. While Argentina participates in Mercosur, a regional trade group with Brazil and other Southern Cone nations, this involves far less economic integration than does Greece’s membership in the European Union. Greece has participated in the Euro since 2001, bringing with that literally millions of private and public contractual obligations. Argentina has always had its own currency, however badly managed.
The differences in natural resources are most striking. Argentina’s population is four times that of Greece, but its land area is 21 times larger and includes some of the most productive farmlands in the world. It is hard to identify a nation with a more abundant natural resource base relative to population than Argentina. Greece does manage to be a net food exporter, thanks to its specialty items like olives and cheeses, but does not produce commodities like soybeans, wheat or corn for which there is burgeoning world demand. Neither does it have much in the way of minerals or other primary commodities. Its manufacturing sector is small and uncompetitive.
After a decade in the 1990s when Argentina tied its currency to the dollar but failed to exercise the fiscal discipline necessary for that to work in the long run, its economy blew up in 2002. The value of its currency plummeted, savers effectively lost much of their deposits and the country defaulted on its foreign debts. A few years later, under President Nestor Kirchner, it repudiated them. (Default is “we cannot pay.” Repudiation is “we won’t pay.”)
Other nations, particularly those like Italy whose citizens held many Argentine bonds, pleaded, but Argentina essentially got away with its repudiation. The nation pulled out of its slump, exports have been strong, and, superficially, the economy is hunky dory.
This is mostly true, however, because world commodity prices have been strong for several years, boosted by demand from East Asia. Argentina’s recovery, as so often in the past, depends on demand for its exports. It still has chronic fiscal problems that the government has finessed by imposing confiscatory export taxes and by appropriating funds from private pension plans and the foreign exchange reserves of its central bank.
Moreover, Argentina benefitted greatly from the forced devaluation of its currency. This made its exports cheaper and its manufacturing more competitive. And while countries holding its debt squawked when Argentina refused to pay, none had much political leverage to compel it to do so.
None of this is true for Greece. It does not have exportable commodities with booming prices. It no longer has its own currency, and leaving the Euro is fraught with problems. And other EU countries have tremendous political clout. All of this makes default much more difficult.
Using Iceland, a nation of 300,000, as a model for nations with many millions of people is inherently flawed. Moreover, unlike Greece, Portugal or Argentina, Icelanders are happy to pay enough taxes to fund their own government. They are not dependent on borrowing abroad to keep going. They don’t have large debts to roll over. They can go it alone with few complications if need be.
Moreover, the country is so small that it is patently impossible for Iceland to make whole all of the foreign depositors. Nor does it have a contractual obligation to do so. The United Kingdom and other nations whose citizens suffered when these banks failed can bluster, but in the long run they cannot squeeze blood from a stone. Their public bullying largely was street theater to mollify voters.
Yes, Iceland’s citizens are succeeding in refusing to compensate depositors. But that teaches no valid lesson for Greece or any other nation contemplating default.
A few in our own country use Argentina and Iceland’s experience to prescribe that we also repudiate our obligations. This is crazy talk. As the world’s largest economy and owner of the dominant reserve currency, examples from any other nation are likely to be treacherous. Default is a last-ditch option and we are far from that ditch.
© 2011 Edward Lotterman
Chanarambie Consulting, Inc.