The end of the Greek bailout and how Greece could end up with two currencies.

By October 8th of this year, the European Finance ministers must decide whether or not to send Greece 11.5 billion Euros in bailout funds, based on the report of the ‘Troika’ (the EU, ECB, and IMF) as to whether Greece is holding up its end of the bailout conditions.

If the Troika and the European Finance ministers stick to the letter of the bailout agreement, then it is the end of the line for the Greek bailout: the bailout agreement, signed by the major political parties currently in power, forces Greece to do things like cut pensions, public wages, procurement spending, and privatise government property. What did the same political parties promise the Greek voters before the June elections? Well…. no pension cuts and no public wage cuts. And what about privatisation of things like government land? Well, the privatisation program has been conveniently derailed on legal grounds for years already with no end in sight, so forget about that one. Worse: the value of government property has plummeted since the assets have effectively been given to cronies, such as when parliament approved a bill allowing property developers to build on nature reserves reducing their value as assets.

In short, there is no way Greece will live up to the letter of its agreement.

It is thus a golden opportunity to reduce the damage of the bailout mistake. That damage has been severe enough already: it has lead to the impossible situation that domestic Greek economic policy is now portrayed by all major Greek political parties as dictated by outside forces, allowing all of them to shirk responsibility for real reforms.

Worse, despite the dire situation Greece is in, outside money has allowed the Greek politicians to simply not reform at all when it comes to improving economic dynamism. No reform to the constitution which outlaws the sacking of any public sector worker! No sacking of public employees and non-implementation of plans to do so in the last 3 years! No opening up of professions or reduction in the red tape that allows public servants to demand bribes! In essence, no improvement in public administration at all.

In case you might think I am exaggerating about this point, let us mull this crucial point over more carefully, starting with some of the stories of corruption that have come out just the last 3 months.


Take the case of Byron Polydoras, an MP for the same party as the current prime minister who is currently on a begging tour through Europe promising to do in future years what he doesn’t want to do now. Byron was parliamentary speaker for just a single day just before the last election. How did he spend that faithful day? Well, he gave his daughter a permanent job in his office. She now has a job for life on a good salary, protected by the constitution that does not allow her to be sacked! Whoever said that Greeks politicians are incapable of organising anything on short-term notice? I suspect Byron of having had the large amounts of paperwork that needed to be filled in ready in his desk for when an opportunity like this came along!

Not just is Byron still an MP, but quite defiant about his actions too, clearly expecting other Greeks to agree that nepotism is the whole point of being a politician. If you can’t help your family, even if it’s at the expense of others, why even bother running for office?

Nor is Byron an isolated case. Bribes are a normal part of life for people wanting a life-saving operation or the tax collector to pass them by. Transparency International in its 2012 report on Greece documents many cases, including a fascinating table on what the going bribe is for several services. Want a construction license? That’s up to 8000 Euro! Want to move up a surgery waiting list? That’s up to 20,000 Euro! Want you driving license (private sector)? That’s up to 500 Euro! Greece is thus currently 80th on its corruption index, leaving only Bulgaria behind it within the EU, and notably slipping from its already low 57th place in 2008.

Greece is thus a place with ‘corrupted legality’, where many anti-corruption laws are not enforced and some laws actively promote corruption (like illegal buildings that can be approved later). And it is not getting better in Greece, but worse. From an economic point of view, the deterioration is entirely to be expected and partially the fault of other European countries: corruption is foremost about insiders with political power squeezing outsiders and the Financial Crisis has empowered the insiders more than the outsiders. The EU has actively helped corruption by channeling all the bailout money through the Greek insiders whilst the outsiders in Greece have seen their businesses suffer from reduced market demand. The EU has thus been systematically rewarding the wrong people for the wrong things.

Are Greek politicians and the bureaucracies they head then not capable of decisive action at all? Oh yes they are, but only on matters that motivate them, such as picking on the politically weak. This for instance includes the recent pogromesque round-up of 6000 migrants in Athens during a massive police operation that swept through whole neighbourhoods. Bribes will of course be collected as we speak to determine who of these migrants stays and who doesn’t but it was a remarkably efficient and well-planned operation from a political system that always needs more time to do things it doesn’t want to!

There are thus plenty of economic and moral excuses for the EU finance ministers to pull the plug on Greece and let it decide its future by itself without EU funds keeping an impossible situation afloat. Better for Greece in the longer run and certainly better for Germany which has so far failed to appreciate the disastrous effect of its generosity.

Would Greek leave the Euro without the bailout money? Well, that depends entirely on Greece and no-one else. There is nothing inevitable about it, nor is there the legal apparatus for others in the EU to ‘force’ Greece out of the Euro.

But, I hear you ask, if the Greek government cannot pay its bills in Euros then surely it must introduce some form of other currency to pay its bills, effectively leaving the Euro? This logic, which you sadly see all the time in newspapers, is plain wrong on two counts. First of all, a Greek government can overnight decide to simply pay only part of its bills with however many Euros it has, which is a form of bankruptcy without Euro-exit.

More fundamentally, the re-introduction of a second currency (the Drachma) in no way forces Greece to abandon the Euro. As long as Greece does not declare the Euro illegal tender on its territory, it can without major consequences start paying bills to other Greeks in new Drachmas, declaring that second currency to also be legal tender within Greece. You would then have one country and two currencies, something that is a bit cumbersome but not unique at all. Hong Kong has had two currencies for over a decade now and it works fine (the Hong Kong dollar and the Chinese Yuan). Until the old currencies were abandoned, the EU had two currencies inside each Eurozone country too, albeit for a short transition period. If Greece opts for this, there is no mechanism for the other Eurozone countries to kick it out of the Eurozone.

There are many advantages to Greece for having two currencies instead of abandoning the Euro: it doesn’t involve capital flight and thus hard-to-police capital controls. It doesn’t need banks changing the tellers and it doesn’t require a huge pile of Drachma’s to be distributed all at once but can be done gradually. There would simply be a Drachma paid to civil servants and all others dependent on the government, as well as the Euro in general circulation, leaving it to companies to decide how to pay its employees. It also would make it far easier for Greece to return to a single currency and hence can be politically motivated as a ‘time out’ period.

Having two currencies is also good for the rest of the EU: it leaves the Eurozone intact; it leaves the Greek government visibly bankrupt and thus introduces a threat-point to back up real fiscal discipline in the Eurozone; and it allows the Greek government to overnight pay its creditors only a fraction of the previous value (since the new Drachma would probably only be worth about half a Euro).

Author: paulfrijters

Professor of Wellbeing and Economics at the London School of Economics, Centre for Economic Performance

6 thoughts on “The end of the Greek bailout and how Greece could end up with two currencies.”

  1. Why would anyone domestically in Greece enter a contract that could be paid in ‘new drachmas’ if there are two currencies being used as legal tender? Seems like a risk no business would take, especially if the government is in the mood to pay bills with their new currency.


  2. if you are a civil servant or a welfare recipient, you have no choice but to accept what is given to you. The rest can choose and of course will want a risk-premium to accept the Drachma. However, the issue of the emerging conversion rate is a matter of normal market dynamics. Hence the rub is whether or not the Greek government will allow the market to set a conversion rate. if it does, then its a one-country, two currencies system that is much like Hong Kong with one currency pegged to outside events and the other not.
    Now, of course, if the Greek government insists that a Drachma has the same purchasing power as a Euro in all the shops and for all domestic contracts then the Euros will quietly leave the country as the prices of everything will soar with the flood of Drachmas, ensuring everyone pays in Drachmas and no-one pays anything inside Greece with Euros (at least not officially). Then, there is indeed a de facto Euro exit, even though Greece could still be in the Eurozone de jure but simply at ridiculous prices that reflect the low value of the Drachma and not the actual price in Euros.


  3. Paul
    Excellent post — a real insight into the practicalities of Greece’s response to its crisis.

    I do think you underestimate how difficult it would be for the Greek banking system to operate as part of the Eurozone without the co-operation of the ECB. If the Greek Government defaulted on its obligations to the ECB or the IMF or the EFSF then it would lose the co-operation of the ECB. What would follow would be a run on Greek deposits in Greek banks, and then what? Where will the liquidity to stem a run on the Euro deposits of Greek banks come from if not the ECB? If the run is not stemmed then the banks are insolvent. A collapse of the banking system would force the Greek Government to close the banks and re-open them (some weeks later) as Drachma only banks.
    Cheers, Sam


  4. Sam,
    Yes, the position of the banks is precarious and dependent on what the ECB does. However, and I keep returning to this point, Greek banks are already on life-support together with their government. The quiet bank run that has been going on in Greece for quite a while now is already subject to a decision of the ECB as to whether or not to give liquidity to the Greek banks. At the moment it is implicitly underwriting deposits via the emergency loan system (see: Yet, the only way the banks and the government can pay back their loans to the ECB, IMF, and others, is if those same institutions lend them more money to pay back their previous loans! Hence Greece has de facto already defaulted (banks included) in that almost no-one believes they can truly pay back, and a bank run is already occurring. It is only the visibility of the default that is now a choice and that choice of when to stop pretending Greece is solvent is up to the creditors. Whether or not the ECB keeps underwriting Greek bank deposits once the pretense of Greek solvency is removed is up to the ECB.


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