Mini-Case: To Exit or Not

When the euro was introduced in 1999, Greece was conspicuously absent from the list of the European Union member countries adopting the common currency. The country was not ready. In a few short years, however, European leaders, probably motivated by their political agenda, allowed Greece to join the euro club in 2001 although it was not entirely clear if the country satisfied the entry conditions. In any case, joining the euro club allowed the Greek government, households, and firms to gain easy access to plentiful funds at historically low interest rates, ushering in a period of robust credit growth. For a while, Greeks enjoyed what seemed to be the fruits of becoming a full-fledged member of Europe. In December 2009, however, the new Greek government revealed that the government budget deficit would be 12.7% for 2009, not 3.7% as previously announced by the outgoing government, far exceeding the EU's convergence guideline of keeping thebudget deficit below 3.0% of the GDP. As the true picture of the government finance became known, the prices of Greek government bonds began to fall sharply, prompting panic selling among international investors, threatening the sovereign defaults.

Several years into the crisis, the Greek government debt stands at around 180% of GDP and the jobless rate among youth is above 50%.The country's GDP declined by about 25%. Severe austerity measures, such as sharply raised taxes and much reduced pension benefits, were imposed on Greece as conditions for the bailouts arranged by the EU, IMF, and the European Central Bank. In addition, people were allowed to have only restricted access to their bank deposits, to prevent bank runs. Opinion polls indicate that the majority of people in Germany, the main creditor nation for Greece, prefer the Greek exit from the euro-zone, popularly called Grexit, while some people in Greece are demanding Grexit themselves and restoration of the national currency, the drachma.

Looking at the case, what are the root causes of the Greek predicaments; (ii) what are the costs and benefits of staying in the euro-zone for Greece, (iii) What are the measures that need to be taken to keep Greece in the euro-zone in the long run if that is desirable, (iv) If you were a disinterested outside advisor for the Greek government, would you advise Grexit or not? Why or why not ?