Ruling out any writeoff of Greece’s debts, Angela Merkel is quoted today as saying “A classic haircut of 30, 40 percent of debt cannot happen in a currency union....” This echoes what Wolfgang Schäuble said last week: “....everyone knows that a debt haircut is incompatible with membership in the monetary union.”
OK, let’s take a moment with this. The United States is a currency union: fifty states with all their urban and regional subdivisions share a common currency, the US dollar. Are public debts of these subjurisdictions ever written down? Regularly. Orange County, anyone? Detroit? What law of nature or human affairs is supposed to make this impossible?
As a general proposition, the Merkel-Schäuble doctrine is obviously, indefensibly wrong. You’d think someone would call them on it.
So maybe the no-haircut rule is wrong in general but does apply to the eurozone. You could argue that writing down Greek debt reduces Germany’s assets as it decreases Greece’s liabilities and therefore constitutes the sort of transfer that the zone was carefully crafted to avoid. The problem is that this overlooks the fact that Greek debt is already worth less because the markets have correctly divined that it cannot be fully repaid. This is clear if you think of the mechanism by which a writedown would normally be executed: the existing stock of debt (or the portion of it drawn on a particular creditor) would be exchanged for a new bundle of instruments with lower face value but approximately the same market value. Such a transaction acknowledges and ratifies a loss in creditor value that has already occurred. Now, if you want to interpret the EU rules as forbidding the market to devalue the assets of creditors and the liabilities of borrowers because that constitutes a transfer—well, good luck.
So on closer analysis the German position is as absurd as it looks on the surface. It is a weak play for intellectual legitimacy. What it’s really about, of course, is the fact that Greek maturities are spread out over the coming decades, and that restructuring their terms will postpone the reality of default to future politicians. A writedown is immediate and pins the loss on the folks currently in control. And you can’t have that in a currency union, can you?