Greece and the myth of the easy economic fix

By Steven Pearlstein
WashPost
Wednesday, May 5, 2010

For the past year, I've been warning that the imbalances underlying the financial crisis -- the explosive growth of credit, the mispricing of risk, the mispricing of real estate and other assets, the overcapacity in the global economy -- were so huge that a quick and easy economic recovery was highly unlikely.

And for much of that time, it has looked as though I was dead wrong. Stocks rebounded, credit markets revived, corporate profits returned and bank balance sheets have been repaired. But the nagging suspicion is that too much of this rebound is the result of the massive fiscal and monetary stimulus that not only did its job of reversing what was a dangerous downward spiral, but also made it possible for many countries to delay dealing with those fundamental economic imbalances.

No better proof exists than the financial drama now unfolding in Western Europe, where for many years countries from Ireland to Greece used the financial cover offered by a new continental currency to overspend, overborrow and overexpand.

In the case of Greece, the government took on so much debt during the bubble years that there is almost no way out of its predicament. If Athens manages to make good on its promises to cut spending and turn a nation of tax cheats into taxpayers, there's a good chance it will trigger a vicious deflationary spiral -- falling prices, falling employment and falling government revenue -- that will make it impossible to repay debts. Or Greece could renege on its promises and find itself shut off from further borrowing. Either path leads to some sort of default.

(More here.)

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