Capital controls in Greece? A response to Professor Sinn

Agora
Photo by MacroPolis
Photo by MacroPolis

While capital controls might be an appropriate intermediate solution for Greece as argued by Professor Sinn in his recent Financial Times note, Professor Sinn misses or misrepresents the picture on a number of counts.

To begin with, Professor Sinn misses the point regarding the incentive for the Eurozone (EZ) to provide sufficient liquidity, say via Emergency Liquidity Assistance (ELA) under a capital controls regime for Greece, since the cost of a funded capital controls regime is lower than Grexit. In fact, capital controls are a likely intermediate outcome as they would isolate the Greek system imposing a minimal cost to the creditors as compared to the potential negative consequences of Grexit, while they would also be less costly for Greece than Grexit. The EZ has an incentive to sustain such capital controls at this juncture, providing time for the Greek people to definitely decide their future inside or outside the euro, and for the Greek government to chart a path constrained by the realities on the ground. Euro exit would be an unprecedented event rendering the EZ into an unstable fixed exchange regime.

Second, Professor Sinn appears to confuse the concept of insolvency with the lack of liquidity. Should the European Central Bank stop funding a solvent commercial bank that lacks liquidity, simply because ELA has reached an arbitrary upper bound?

Third, Professor Sinn misrepresents facts in a couple of aspects related to Cyprus. The increase in ELA for the Cypriot banking system occurred mostly between April and July of 2012, in a period of political turmoil in Greece. For example, two billion of the ELA increase to the Cypriot Banking system during this period of heightened uncertainty in Greece was directly due to outflows from the branches of Laiki Bank in Greece, and another 1.2 billion due to the downgrade of Greek covered bonds held by Laiki Bank. This, and a good part of the remaining increase in ELA cannot be attributed to “wealthy Cypriots whisking their funds to safer places.” It should be noted that Cypriot bank branches operating in Greece had never received bailout funds from the Greek program, and deposits in these branches in Greece were then exempted from the March 2013 Bailin of the two Cypriot banks even though these branches were among the most problematic ones in terms of solvency issues.

Moreover, unlike what Professor Sinn writes, the Cyprus bailout cost is not 10 billion but less than 9, as one billion set aside for the Cooperative Bank has been deemed unnecessary, and since the Cypriot economy outperformed Troika/MOU predictions so far both in terms of GDP growth and in terms of fiscal performance. This compares with 13 billion from own Cypriot funds including the bailin of the two Cypriot Banks.

Fourth, Professor Sinn, also misses the transient nature of ELA assistance. For example, in the case of Cyprus ELA has dropped from 11.4 billion in March 2013 to 8.4 billion by December 2014. Similarly, a drastic decrease in ELA dependence from peak levels had been observed in the case of Greece until the recent increase in uncertainty.

The above reduction (repayment) of ELA also suggests that it is the locals (taxpayers/depositors with higher taxes, borrowers with higher interest rates, investors e.t.c.)  that end up paying for the ELA accumulation and not taxpayers in the rest of the EZ. Alternatively, if ELA funds were not paid back in full, what would be Professor Sinn’s greatest fear regarding the rest of the EZ taxpayers? Illegal “money creation” leading to inflation?

Finally, when it comes to imposing capital controls, the EZ should allow and technically assist Greece in placing tax based capital controls on outflows rather than imposing absolute capital controls on the quantity of capital outflows. This scheme could bring in valuable revenue for the Greek Government as proposed in “The alternative of (tax-based) capital controls for Greece."

*Marios Zachariadis is an associate professor in the Department of Economics at University of Cyprus and a member of the Cyprus National Economy Council.

1 Comment(s)

  • Posted by: colm mccarthy

    You are too kind to Prof Sinn. The notion of exchange controls in a monetary union is laughable. In Cyprus even the internal convertibility of the currency (bank deposits) was restricted for a time.

    The Eurozone is not a proper monetary union, it is just a common currency area.

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