The Greek crisis explained, in pictures

Between 2007 and 2012 several Eurozone countries — Portugal, Ireland, Greece, Spain — needed bailouts. In each case, the recipient countries threatened that they would leave the Eurozone if the bailout terms were too harsh. Germany and the other AAA-rated European countries countered with threats to withhold the bailouts if the recipients did not agree to austerity and economic reforms as part of the bailout terms. The threats were treated by financial markets as credible (the price of gold, for instance, soared, as each bailout deadline approached). Hence both sides gained leverage and the bailout packages, though harsh, conformed to the desires of the recipients. This was a classic game of chicken, illustrated here with tractors in honor of the American movie Footloose. In 2013, Cyprus attempted the same strategy. Eurozone financial markets did not react. Probably, Cyprus was seen as small enough that if it exited the Euro there would be little impact on other Eurozone economies. As a result, Cyprus had no leverage. The brinkmanship strategy was a failure. The terms of the bailout Cyprus received were exceptionally harsh – much harsher than those currently offered to the Greeks. Money was taken from Cypriot bank accounts to pay for the bailout, for instance. Cyprus accepted the bailout nonetheless. This was the last time a Eurozone member employed a brinkmanship strategy… …until 2015. Greece, under a Syriza-led government, made another attempt. Rather than threatening to leave the Euro, though, they threatened to default on debts from prior bailouts. The financial markets once again did not react, even as negotiations went to the brink and Greece defaulted on IMF debt. Greek negotiators tried everything, including good-cop-bad-cop and...

The crisis that made the Eurozone

Most economists have been too pessimistic about the Eurozone crisis. The famous names who forecast a Eurozone breakup – Martin Wolf, Niall Ferguson – were generally guilty of confusing “broken” with “cannot be fixed”. There were good reasons for this confusion. Politicians in European countries engaged in repeated games of brinkmanship in an effort to obtain more attractive bailout packages. The winning strategy in brinkmanship is, of course, to convince the other side that one is willing to go over the brink, while disregarding the increasingly extreme threats from one’s negotiating partner. To this end, politicians in bailout recipient countries make a lot of threats that they did not, in fact, intend to carry out – e.g., “we will leave the Eurozone if you do not offer a better bailout package”. AAA-rated countries made equally empty threats – e.g., “if you do not undertake reforms, we will not give you a bailout”. Economists tended to take these negotiating-strategy pronouncements at face value. Moreover, a necessary measure of bargaining power in these games of brinkmanship was the impact on financial markets. German bank stocks would plummet when the Greeks threatened to leave. Interest rates on Greek debt would soar when the AAA-rated countries threatened to throw the Greeks out. Economists are accustomed to interpreting market distress as a sign of economic distress. In this case, these market movements meant that both Northern Europe and Southern Europe had leverage, and the bailout packages were relatively equitable. The last such attempt at brinkmanship (so far) was Cyprus, whose disingenuous claims to be on the verge of leaving the Eurozone produced almost no...