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Foreign Exchange

Can Greece abandon the euro without quitting the EU?

In the final part of this three-part series, the International Financial Law Review, a sister publication of EuromoneyFXNews, discusses the consequences of legally dubious unilateral Greek action to reinstate a national currency without treaty reform agreed by all 27 member states.

 
 European Court of Justice, Luxembourg

According to Phoebus Athanassiou of the European Central Bank legal counsel, writing in his personal capacity, the clear implication of existing EU treaties is that a European Monetary Union (EMU) member’s “withdrawal from EMU, without a parallel withdrawal from the EU, would be legally impossible”. Under these constraints, unilateral Greek action to implement a national currency risks being struck down by the European Court of Justice or Greece's own courts.

Similarly, in the case of the US, in Texas versus White (1869), the US Supreme Court held that the US Constitution did not permit states to unilaterally secede, and that the ordinances of secession, and all the acts of the legislatures within seceding states intended to give effect to such ordinances, were “absolutely null”.

Such legal risks can seriously undermine Greece’s steps toward restarting its economy.

Savers strike back

With doubts as to the legality of redenomination, Greek savers might choose to fight the redenomination of their savings in the courts, while happily settling mortgages and credit-card balances in drachma with Greek financial institutions that are bound by Greek laws.

Indeed, savers might very likely choose to forgo cashing in any Greek government bond or bank savings even after it matures, in the hope they can sue and collect the same sum in euro rather than in drachma.

Such calculations, however logical for an individual, might collectively be ruinous. After all, the implication of such actions is a continuing decline in Greek money supply with the corresponding loss of nominal GDP.

Under these circumstances, no one would want to settle their savings that were previously in euro in exchange for drachma unless absolutely necessary. The only remaining flowing money supply would consist of drachma (as euro bills and coins are gradually used to pay for exports or are deposited abroad), which one would only accept with reluctance due to its dubious legal standing.

This phenomenon would again imply a vast contraction of nominal GDP, since the money supply would likely drop precipitously.

Aside from the monetary contraction, it is also easy to see how disastrous such a situation can be from a microeconomic perspective. After all, what a Greek manufacturer servicing local markets can charge would be in drachma, yet if it tries to pass drachma to its contract employees, landlords or suppliers under the new Greek laws, it would risk being sued for the same amounts in euro.

Such a manufacturer would therefore increase prices, operate with much-reduced profit margins or cease operation. When an entire economy faces such predicament, disaster looms.

Two possible legal approaches

While Article 50 of the Lisbon Treaty provides a right to withdraw from the EU, and thereby from the EMU, this route may be far too hard for a country in deep crisis.

After all, in the case of Greece, the EU represents its main trading partner, with more than half of all Greek two-way trade being intra-EU. Greece has also been a main net beneficiary of EU budget; $24 billion has been allocated for Greece for 2007-2013.

These funds contribute hugely to Greece’s current accounts balance, further reduce the state budget deficit, and are dedicated to finance public works and economic development projects, upgrade competitiveness and human resources, improve living conditions, and address disparities between poorer and more developed regions.

Furthermore, Article 50 entails numerous steps (such as the formulation of a set of negotiating guidelines on withdrawal by the European Council, a vote by the European Parliament to approve such guidelines, and negotiations with the withdrawing member by the European Council under such guidelines), and, unless an agreement can be reached earlier, requires two years from the start of the process to when the withdrawing member would cease to be bound by EU treaties, which is far too long amid a banking crisis.

During such a hypothetical crisis, thus, Greece must not take rash unilateral actions toward the adoption of a new currency. Instead, Greece should first ask its EU partners to rapidly provide it with a credible rescue package sufficient to restore its money supply or, if that proves undoable, to give Greece explicit permission to withdraw from the EMU.

After all, as Athanassiou noted, the fact there is no withdrawal possibility under EU treaties except under Article 50 does not exclude the possibility that such a right could be introduced by agreement between the parties to the treaties.

Indeed, consented withdrawals are, as a matter of international law, possible. Article 54 of the Vienna Convention on the Law of Treaties provides that the “termination of a treaty or the withdrawal of a party may take place: (a) in conformity with the provisions of the treaty; or (b) at any time by consent of all the parties after consultation with the other contracting States”.

Would the EU let Greece go?

Accordingly, when deep in a hypothetical banking crisis with no other way out, Greece should send an urgent appeal to its EU partners for either sufficient aid to restore confidence in the banking sector or, if such aids would not be forthcoming, their consents for Greece to exit the EMU.

It might be much harder for its EU partners to turn it down than would be the case if Greece had taken unilateral action to exit or, worse, already faced legal challenges in courts for such actions.

After all, if such an appeal is only made after court challenges, a political and economic decision might morph into adversarial court proceedings with aggrieved parties, and its EU partners might be afforded a convenient excuse to sit back, condemn the treaty breach and let the judicial processes progress.

Instead, its partners should be immediately put on the spot: will they rescue Greece and, if not, will they at least let Greece go to seek its own salvation?

While Greece’s EU partners might fear that granting such relief could encourage market speculations as to whether other members are vulnerable to exit, the fact a full crisis occurs after years of protracted negotiations and series of would-be rescue packages would have given courage to such speculations already.

Indeed, if and when Greek nominal GDP and money supply start to collapse, amid a deepening banking crisis, the significance of such calculations might pall in light of the looming humanitarian crisis that would ensue.

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