Forget the easy option … it isn’t!

by Chris Graeme [email protected]

‘In My View’ is written by freelance journalist, photographer and Editor of Partners in Business, Chris Graeme, who lives in Lisbon and enjoys subjects such as world economics and politics.

Why Portugal shouldn’t leave the Euro, in my opinion.

This week the Nobel Prize-winning economist Paul Krugman was in Lisbon to pick up honorary doctorates for his contribution to economics.

The American, one of the best academics of his generation, has been predicting for four years now the stark choices that are currently facing the European Union and its weaker members like Greece, Portugal, Spain and Ireland.

He said on Monday that Portugal’s choice was this: either swallow the austerity and reform programme or leave the Euro.

Neither choice is a happy one; staying in the Euro means curtailed economic growth for the best part of five years, falling tax revenues and public service cuts, reductions in public sector wages and pensions and high taxes for the foreseeable future.

But what of the alternative? Some analysts and economists are actually saying that perhaps Portugal should leave the Euro and return to the Escudo.

Let’s just look at what that would mean for a moment. They argue that after two or three years of chaos and pain, Portugal’s economy would become more competitive, exports would soar and Foreign Direct Investment would start coming back.

They point to the Argentina example which, 10 years ago had its currency, the Peso, pegged to the US dollar.

That country too couldn’t meet its debts, for various reasons, defaulted and now, 10 years down the line, is arguably back on its feet and doing quite well.

What they don’t tell you is what happened to that country in the run-up and interim between the default and the road to recovery.

Those who remember the images on our TV screen at Christmas 2001 might recall Buenos Aires resembling a war zone; police sirens, troops on the streets, barricades, burning cars, looted shops, smashed banks and flaming ministries.

Thousands of pickets blocked the streets and angry, violent clashes between the police and crowds, which made last summer’s riots in London look like a walk in the park, left 39 dead and hundreds injured.

The thought of burning public buildings, smashed cars and looted shops fills me with absolute horror.

That followed the traumatic experience that was the result of the demands of the IMF at the time for austerity measures designed to prevent Argentina going bankrupt.

And before you grab your frying pan and put on your ‘Kill a Banker Today’ T-shirt, consider the economic and financial implications of default as well as the social ones.

In 1999, in the run-up to default, Argentina’s austerity measures, largely because they were carried out too strictly and swiftly, caused the country’s GDP to shrink by 3.9% (a similar pattern is emerging in Portugal I believe).

After the then prime minister Carlos Menem was forced out, a new government took the helm with the mission to ‘save the country from imminent collapse’ (how very emotionally Latin American!).

The new government was faced with the devaluation of the Peso which would have effectively doubled Argentina’s debts – pegged as it was to the Dollar – and interest payments overnight.

To stabilise the deficit, the government slashed public sector salaries by 13% and privatised more public companies, made the labour laws more flexible, cut social spending and raised taxes (like here).

All measures which Paul Krugman says Portugal needs to follow, yet, at that time, he called them “catastrophic” for Argentina.

By that time too, all the financial markets were closed to Argentina which had seen its credit ratings reduced to more than ‘junk’ status (just like Portugal).

By 2001, unemployment hit 25%, bankruptcies soared and 40% of patients being seen by doctors were suffering from anxiety and depression (ringing any bells?).

In fact, one Argentinean psychologist compared what was happening in the country and to the mood of the people as similar to what happens in wars.

That summer, total chaos reigned in the streets of Argentina’s cities, people started taking their money out of the banks and transferring it to the United States and Uruguay.

The Government ran out of money and couldn’t pay public sector workers, it issued food coupons, or patacónes, which weren’t always accepted in the shops.

In an act of desperation to stem capital flight, the Government effectively nationalised the banks by freezing bank accounts in December 2001 and preventing its citizens accessing $66 billion worth of savings.

Each account holder was only allowed to withdraw 250 pesos per week (about €43) and the prime minister was forced to flee the Casa Rosada in a helicopter.

Of course that step led to the emergency government defaulting on $95 billion of debt held by international banks – debt which has still not been paid to this day.

Of course, if Argentina had stopped pegging its currency to the Dollar sooner, and defaulted on its loans earlier, the outcome probably would have been the same.

Surely, therefore, it makes more sense for countries like Portugal and Greece to reschedule their debts rather than default on them, stay within the Euro, rather than leave it, and carry on with vital structural reforms, but at a sensible and realistic pace, rather than at the galloping rate happening now which is strangling the economy.

It is not in Portugal’s interest to leave the Euro. If it did its currency and banking system would, like Argentina’s, collapse overnight.

At the same time, it is unreasonable to apply a medicine that will kill the patient it is designed to cure.

Any fool can see, even an eminent one like Paul Krugman, that there are two stark choices on the table. Surely the answer is somewhere in between?

Also read ‘Nobel Prize winner says Portugal should slash its salaries by 30%’