Greece's dysfunctional economy is now at the heart of a rescue effort that could be disastrous for the entire continent—and the rest of the world.
By SIMON JOHNSON and PETER BOONEPlutus, the Greek god of wealth, did not have an easy life. As the myth goes, Plutus wanted to grant riches only to the "the just, the wise, the men of ordered life." Zeus blinded him out of jealousy of mankind (and envy of the good), leaving Plutus to indiscriminately distribute his favors.
Modern-day Greece may be just and wise, but it certainly has not had an ordered life. As a result, the great opportunity and wealth bestowed by European integration has been largely squandered. And lower interest rates over the past decade—brought down to German levels through Greece being allowed, rather generously, into the euro zone—led to little more than further deficits and a dangerous buildup of government debt.
Now Plutus wants his money back. Europe is entering unprepared into a serious economic crisis—and the nascent global recovery could easily collapse due to the unsustainable and Ponzi-like buildup of government debt in weaker countries.
At the end of the G7 meeting in Canada last weekend, Treasury Secretary Tim Geithner told reporters, "I just want to underscore they made it clear to us—they, the European authorities—that they will manage this [Greek debt crisis] with great care."
But the Europeans have not been careful so far. The issues for troubled euro zone countries are straightforward: Portugal, Ireland, Italy, Greece and Spain (known to the financial markets, and not in a polite way, as the PIIGS) had varying degrees of foreign- and bank credit-financed rapid expansions over the past decade. In fall 2008, these bubbles collapsed.
As custodian of their shared currency, the European Central Bank responded by quietly opening lifelines to all these countries, effectively buying government bonds through special credit windows. Europe's periphery was fragile but surviving on this intravenous line of credit from the ECB until a few weeks ago, when it suddenly became apparent that Jean-Claude Trichet, president of the ECB, and his German backers were finally lining up to cut Greece off from that implicit subsidy. The Germans have become tired of supporting countries that do not, to their minds, try hard enough. Investors naturally flew from Greek debt—Greece's debt yields rose, and its banking system verged near collapse as investors and savers ran from the country.