Can Greece really default and stay in the euro?

I’ve become convinced recently that Greece’s best option regarding the economic crisis its enduring is to default and to do so while retaining the euro. This is, essentially, the argument Yanis Varoufakis has been making.

All along he’s been saying that providing loans to a country that is insolvent and imposing stringent austerity on an economy in chronic recession is absurd and will result in an economic death spiral. So far, Varoufakis has been proved right. Austerity has not turned Greece’s economy into a lean, mean fighting machine, but killed it stone dead. It has also contributed to the social fabric of the country being torn asunder and engendered dangerous levels of internal strife. But what of Varoufakis’ remedy, of defaulting and staying in the euro?

In the debate I published previously from Bloomberg TV, former IMF board member Miranda Xafa repudiates the idea of a default within the euro, suggesting that the European Central Bank would simply stop financing Greek banks, which would immediately collapse, only for Varoufakis to state that if the ECB did do such a thing to Greece, then it would prove that ‘there is something fundamentally wrong with the eurozone’.

Varoufakis goes on to argue that if an economic disaster similar to the one befalling Greece were to befall California or New York, for example, then there would be no question of expelling these two states from the dollar zone; rather, the other 48 states and the federal government would rally round and make sure California or New York pulled through. If the euro represents a unified currency worth its salt, Varoufakis’ argument seems to go, then the ECB would act in relation to Greece in the same way as the federal reserve would act in relation to California or New York.

Except haven’t we learned from this crisis that, indeed, there is ‘something fundamentally wrong with the eurozone’ and that what binds the dollar zone – a shared sense among its 50 constituent parts of national identity and national solidarity – is absent in Europe, which still operates on the dog-eat-dog level of 27 different and competing nation-states?

And then there’s this piece by Joshua Chaffin in today’s Financial Times, examining the consequences of Greece defaulting and dwelling on this point of dispute between Miranda Xafa and Yanis Varoufakis, over whether it’s possible for Greece to renege on its loan commitments and stay in the euro.

This is what Chaffin writes regarding the crucial point on what the reaction of the European Central Bank would be to a Greek default:

‘It might be possible to keep Greece in the eurozone and contain the damage if the ECB were to provide a lifeline to the country’s banks, some analysts believe.

‘But it is also possible Frankfurt would decide it could no longer accept Greek government bonds as collateral. Without ECB liquidity – cut-off from financial markets – Athens would have to print drachmas to pay its bills.

‘The new currency would plunge in value against the euro. That would trigger another wave of defaults for businesses and citizens, unable to pay outstanding debts in euros. Litigation, and even deeper recession, would probably ensue.’

Conclusion: Varoufakis’ proposed course of action, of default within the euro, seems to be predicated on a belief that the ECB will act politically, in accord with the ideals of European solidarity, and not economically, in accord with the interests of the stronger eurozone countries, which would rather not have to be burdened with Greece and its wrecked economy; it is a belief this crisis has shown has little basis in reality.

*ADDENDUM: If, as I suggest there is no political imperative for the ECB to save Greece, there may be an economic imperative for the ECB to do this, as Varoufakis explains here.