A Parallel Currency for Greece: Part I

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Yves here. We’re overdue for a proper update on Greece, but in many senses, not much has happened. Greece has again threatened to default on the IMF in June, but the body language of Greek officials is that this time it will happen if a deal is not reached. Greek officials continue to be optimistic, which is ringing hollow in light of developments of last week. Merkel is backing the IMF as the decider as to whether Greece gets bailout money, and the IMF (Lagarde herself) has made it clear that the IMF is not cutting corners as to its process. There is also no indication that the IMF is willing to budge on substance, most importantly on Syriza’s red lines of cutting pensions and taking measures to boost worker incomes (while the IMF wants labor market “reforms” which mean more pressure on wages). The hard left wing of Syriza has become more vocal about opposing concessions to the Troika and advocating a Grexit. Tsipras beat back their challenge in a party meeting, but is sticking what increasingly looks like incompatible objectives: not giving in on its red lines and staying in the Eurozone. Note that the hard left dissenters, even though they lost this battle, still have enough votes in Parliament to deny Tsipras a majority from current coalition.

As this post argues, Greece can use parallel currencies to give it some more negotiating runway, but if the IMF is not going to relent, Greece will face near-term pressure that even the introduction of a parallel currency may not alleviate. We’ve put up the companion post, in which Bossone and Cattaneo argue that their proposal, the TCC, will have a positive impact on growth and debt sustainability under reasonable scenarios. But an IMF default will be a blow to confidence, will likely accelerate the ongoing bank run, and could lead to other measures being imposed (such as the ECB effectively limiting the ELA by imposing more stringent collateral requirements, and Greece losing access to trade financing as a result of the IMF default).

By Biagio Bossone, Chairman, Group of Lecce; Member of the Surveillance Committee, Centre d’Études pour le Financement de Développement Loca and Marco Cattaneo Chairman, CPI Private Equity. Originally published at VoxEU

Greece at a Critical Crossroad

Absent a deal with creditors, very soon, short of cash, the Greek government might default on its debt. To prevent this from happening, and to avoid taking new extra doses of useless and painful austerity, Athens could be bound to resort to the introduction of some kind of new domestic currency – in parallel to the euro – for the government to be able to make payments to public employees and pensioners while freeing up the euros needed to pay out its creditors. The ECB has not denied this possibility. Recently, ECB sources have unofficially discussed the issue with the media in some detail (albeit anonymously), and executive board member Yves Mersch has referred to a parallel currency for Greece as one of “the exceptional tools that any government can consider if it has no other options,” noting that all these tools bear high costs.1

Is this really so? Is it really the case that a parallel currency would be worse than the current medicine Greece is taking (and is set to be taking for an indefinite future)?

A parallel currency per se would neither prevent the risk of Greece’s disorderly default nor automatically help it out of depression. But not all parallel currencies are born equal, and there are various ways to design a parallel currency, each bearing significantly different implications.

Below we compare the proposals currently on the table and discuss how a parallel (quasi) currency could be designed to promote Greece’s economic recovery.1 The issue is relevant for all countries suffering a weak economic activity, with no autonomous monetary policy, and limited fiscal space.

Parallel Currency: Cochrane’s IOUs

John Cochrane (2015) considers the possibility that the Greek government issues small cuts, zero-coupon bonds as promises to repay the bearer an equivalent amount of euros at some future date (IOUs). These IOUs could take the form of paper securities or electronic book entries in bank accounts, and the government could roll them over every year, just as for any type of debt obligation. The IOUs could be used to pay public salaries, pensions, and social transfers as well as to recapitalise or lend to banks. The IOUs would trade at a discount, but if the government accepted them at face value for tax payments, the discount might not be large. Mostly, the discount would reflect the risk that Greece either reneges on its commitment to accept its own debt for tax payments or suspends the roll over, thereby defaulting on the new debt. As Cochrane notices, introducing the IOUs would amount to creating a separate or dual currency that would allow Greece not to leave the Eurozone.2

As Cochrane points out, in modern financial markets, not only does a country in default not need to change currency, it doesn’t even need the right to print money in order to actually print money, since, as he argues, bonds can be used as money these days.

Cochrane does not present his IOU idea as a policy advice for Greece, but only as a theoretical possibility, and supports instead the need for Greece to undertake structural reforms. However, he reckons that introducing the IOUs would still be a much better alternative than Greece leaving the Eurozone, with bank accounts being transformed, and people being paid in inconvertible drachmas. In the end, Cochrane concludes, promises for euros might be a superior option.

Parentau’s Tax Anticipation Notes

As a way to exit the austerity without exiting the Eurozone, Rob Parentau (2013) proposes that governments of peripheral Eurozone countries issue fiscal revenue anticipation notes to public employees, government suppliers, and beneficiaries of social transfers. These tax anticipation notes (TANs), which are well known public finance instruments to many US state governments, would have the following characteristics: Zero coupon (no interest payment), perpetual (meaning no repayment of principal, no redemption, and hence no increase in outstanding public debt), transferrable (can be sold to third parties in open markets), and denominated in euros. In addition, and most importantly, the notes would be accepted at par value by issuing governments in settlement of private sector tax liabilities. The tax anticipation notes could be distributed electronically to bank accounts of firms and households through some sort of encrypted and secure system, or they could be distributed as certificates to facilitate their possible ease of use in other transactions, subject to agents’ acceptance. Essentially, governments issuing tax notes would securitise the future tax liabilities of their citizens and create a type of tax credit that would not be counted as a liability on their balance sheets nor require a stream of future interest payments in fiscal budgets. The use of tax anticipation notes would free up euros for payment of externally held public debt and for imports of essential goods.

One advantage of this alternative financing approach, according to Parentau, is that the governments issuing these tax anticipation notes (these could be called G Notes for Greece, I Notes for Italy, S Notes for Spain, etc.) can pursue the fiscal deficits that are required to return their economy to a full employment growth path – fiscal austerity can be abandoned without abandoning the euro.

Against the possible risk that tax notes issuances could accelerate inflation, Parentau recommends that the central bank of each country be held responsible not only for monitoring inflation conditions, but also for creating early warning systems for the possible acceleration of inflation under the supervision of an independent third party, like the IMF or the ECB. To prevent inflation from accelerating, hard rules could be set in place, such as automatic government spending cuts or tax hikes.3

Varoufakis’ FT-Coins

Prior to taking the position of Minister of Finance for Greece, Yanis Varoufakis (2014) also contributed to the parallel currency idea for the Eurozone peripheral countries. He proposed that governments establish their own payment system backed by future taxes and denominated in euros, and use Bitcoin-like algorithms to create a new currency called FT-coin (where FT stands for future taxes).

According to Varoufakis’ proposal, individuals would pay, say, €1000 to purchase one FT-coin from a national Treasury’s website under a contract that binds the national Treasury to redeem each FT-coin for €1000 at any time or accept the FT-coin two years after issuance to extinguish, say, €1500 worth of taxes. Each FT-coin would be time-stamped so that it would not be used to extinguish taxes before two years have passed. Also, every year (after the system starts operating in full steam) the Treasury would issue a new batch of FT-coins to replace those that have been used for tax payments, on the understanding that the nominal value of all FT-coins in circulation does not exceed a certain percentage of GDP, thereby avoiding that all FT-coins are redeemed simultaneously and the government ends up with lower taxes. Once in possession of FT-coins, the individual might either keep them in her FT-coin e-wallet or trade them.

Varoufakis further proposed that in order to make the system fully transparent and transactions completely free, FT-coin would be run by a Bitcoin-like algorithm designed and supervised by an independent, non-governmental national authority, and just as in the case of Bitcoin, the total amount of FT-coins would be fixed in advance, at least in relation to a variable not in the government’s control (e.g., nominal GDP), while every single transaction (including tax payments using FT-coins) would be monitored by the community of FT-coin users through a Bitcoin’s typical block chain process.

According to Varoufakis, one advantage of such scheme is that taxpayers would see their inter-temporal tax bill reduced. Also, to the extent that the FT-coins trade at a premium over their face value due to their above-par tax worth, they grant additional spending power to their holders, which could support aggregate demand. In other words, if the redemption value of one FT-coin for the state is €1500, above its face value of €1000, there is an incentive for the FT-coins to trade in the market at a premium up to their tax-worth to the state. This is the source of the additional spending power that the FT-coins grant to their holders.4

Our Proposal: Tax Credit Certificates5

The government would issue tax credit certificates (TCCs), to be assigned to workers and enterprises free of charge. The tax certificates would entitle the bearer to a tax discount of an equivalent amount maturing in, say, two years after issuance. Such future entitlements could be liquidated in exchange for euros and be used for immediate spending purposes. Liquidation of the certificates would take place against purchases of tax certificates by those who want to acquire the right to future tax discounts. For investors, the tax credit would in fact be a safe investment instrument paying an interest comparable to a two-year zero-coupon bond. Besides, not being a debt instrument, the tax certificates would be safer than bonds.

Through liquidation, the tax credit would allow future tax discounts to be transformed into current spending. Under conservative estimates of the income multiplier (even less than 1), simulations show that the new spending taking place over the tax credit certificates deferral time would generate enough fiscal revenues to compensate for the euro shortfalls that the government would incur by receiving tax credit for tax discounts at their maturity.6

Tax credit certificates assignments would supplement disposable incomes and add new spending power to income earners, thus stimulating demand. The Greek government could use the tax certificates to increase net monthly salaries, reduce actual gross labour costs (by allocating a part of them to enterprises, in proportion to their labour costs), and even fund humanitarian actions, job guarantee programmes, and the like. By cutting labour costs, the tax credit would support exports, balance the effects of stronger demand on imports, and make Greece attractive for investment and production relocation from abroad.

The review above points to a number of considerations, which we will discuss in the second of this two-part series (to be posted tomorrow).

1 For a review of earlier proposals for a parallel currency in the Eurozone, see Schuster (2015).

2 Cochrane’s IOUs resemble those issued some years ago by the then fiscally-distressed State of California to overcome the US prohibition on states to print money, by making transferable IOUs acceptable for bill payments, see California State Controller’s Office, “State Controller’s Office Information on Registered Warrants (IOUs) Issued in 2009,” 10 November, 2010 . Cochrane’s IOUs also resemble those discussed by ECB sources for Greece, see footnote 1.

3 In addition, Parentau envisages public/private inquiries into eventual specific supply bottlenecks in the chain of production, which could trigger the redirection of infrastructure spending to help clear those bottlenecks. Inquiries into sectors with above normal profit margins or real wage growth persistently in excess of labour productivity growth could also be launched. Excess profit taxes designed to incentivise higher reinvestment rates, as well as collaborative bargaining in cases of aggressive labour demands, could be required to address any such inflationary pressures on the supply side. Also, using TANs to implement an employer of last resort approach to labour market improvement could have a stabilising effect on inflation.

4 Other advantages would be that the system would ensure: i) a source of liquidity for governments that is outside the bond markets, does not involve the banks, and lies outside the restrictions imposed by Europe; ii) a national supply of euros that is perfectly legal in the context of the European Union’s Treaties; and iii) that FT-coins could be used to increase benefits to society’s weakest members or to funding needed public works; and iv) a mechanism that allows a free and fully transparent payment system outside the banking system, that is monitored jointly by every citizen (and non-citizen) who participates in it.

5 We have elaborated the proposal with Luciano Gallino, Enrico Grazzini e Stefano Sylos Labini, and made the subject of a public appeal posted at http://www.syloslabini.info/online/wp-content/uploads/2014/11/Appello-Inglese-rivisto_9-03-2015.pdf.

6 This is possible because the income expansion triggered by TCC injections works out its effect across the whole two-year deferral time period attached to the TCCs prior to their maturity and, therefore, expands output to a point where the related additional fiscal revenues exceed the euro shortfalls determined by the use of TCCs for tax reduction. Our simulations (see Part II of this column) show that the minimum (threshold) value of the income multiplier that makes this effect possible is less than 1.

See original post for references

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  1. William C

    There was a photograph in the weekend press here in London showing Tsipras looking quite extraordinarily cheerful.

    It may mean nothing of course but I was surprised he could look so happy if the sky really were about to fall in,

    1. Yves Smith Post author

      Tsipras reconfirmed that he is not budging on pensions. This is also a red line for the IMF and the Eurogroup, which would have to approve any bailout deal. Merkel made it very clear that she is backing the IMF. Merkel was Tsipras’ only hope for getting a break. The Eurocrats seem to think they can readily handle any fallout from a default within the Eurozone, and Mr. Market seems to agree. Tsipras still seems to be in deep denial that the IMF is not about to relent. His last possible recourse is to get the US to pressure the IMF, but the US has only 16.7% of board votes, and Obama threw Greece under the bus months ago. Maybe he believes a parallel currency is a magic bullet; we are told on good authority that Greece has invited in top experts to brief them on the idea. But see the intro to the Part II post as to why the damage of a default alone would considerably offset (if not more than negate) the lift that a well designed parallel currency might provide.

      1. c

        The markets seem to always underestimate the fallout from events. We have seen a lot of this in the last 8 years. I would expect more damage that expected, especially with the derivatives out there.

        1. Yves Smith Post author

          Oh, I don’t disagree that things could become very disrupted, particularly if this moves over time from a default in place to a Grexit. But the markets are not reacting in anticipation. This is completely different from the Eurozone in 2010 and 2012 during previous bailout talks, when periphery bond spreads gapped out. Thus the authorities believe that they are at much less risk.

  2. Greg

    A parallel currency is the only way forward in my view, but a parallel currency is NOT a cure all. Its only part of the solution for sure. The Euro system is, and will continue to be for some time, punitive to Greece but many of the same problems could arise with the parallel currency if it isn’t managed properly. Its the neoliberal principles behind the Euro which are strangling Greece. If they start a parallel currency and use the same principles for managing it, they will achieve no relief. This is why Cochranes plan is to be ignored. He is a Chicago school neoliberal to the core, his goals are not to strengthen the Greek state to make it better for the Greek citizens. He’s simply looking to monetize more Greek public assets and create more income streams for investors.

    Paranteaus plan is much better because it puts tax driven value at the forefront, which is really what all modern currencies are primarily about. Greeks have to look out for other Greeks if they want to pull out of this. This doesn’t mean to be anti immigrant or xenophobic but recognizing that it means something to be Greek rather than Italian or German. Use your own currency to express your own values unapologetically. If you want to allow your street cleaners to retire at 55 and have a state pension? Do it! Screw the rest of the Eurozone. Let the Germans work til 70 and die at 74 if they wish. Obviously there will be tradeoffs. Greece needs to be able to produce domestically most of the things a retiree wants or else they all have to pay import prices but that is true everywhere.

    1. Santi

      I guess that parallel currencies inside the Eurozone would make sense really if the existing Euro debt and current Euro banking system was mutualized, at least to some extent like the 60%GDP and capped deposit guarantees. If the Greeks will go bankrupt and the banking system illiquid, I don’t think it would help, this is what their caveat in the second part is about…

      For instance, if the Greeks had a 10,000€ deposit guarantee coming straight from the mouth of Mr Whatever It Takes, do you think the bank run would still be ongoing?

      I mean, they are part of a long term solution, but first we need to fix the mess and open sustainable ways forward.

  3. Santi

    Funny typo: the supposed “P” in “Out Proposal” is actually a N-ary Product Unicode character in the page. This is not in the original page. Was intended? For a typography freak like myself it is really a funny finding… ☺

  4. -jswift

    It all seems a bit surreal: the IMF already produced a report admitting the Greek deal was in violation of their own rules, as it was structured by the EU to satisfy their own short term interests, as opposed to the longer term interests of Greece. Evidently the EU brought in the IMF to play hardball or ‘bad cop’ if necessary, but it seems, since the report, that Lagarde is more interested in just getting her money back – and its actually the EU she is counting on to get it, not Greece, though she obviously can’t say this explicitly. But the EU is still trying to use the IMF as their bully. If I understand?

    Otoh, the IMF will seriously suffer in terms of credibility if Greece ends up standing up to their threats and defaulting, and this will be a serious blow to US prestige, as the IMF is widely regarded as an arm of American foreign policy; especially with recent Chinese maneuvers to create an alternative,
    and despite having “only 16.7% of board votes” — it usually exploits splits among the others and this suffices to prevail (but usually they have EU backing, so this could be insufficient in this exceptional case). Greece is a bit too big to be crushed if they defy the IMF here, and the fact that they are justified by the IMF report seems to leave the onus back on the EU. Since no-one wants to be seen as blinking first, the main obstacle to a short term solution is figuring out a way everyone can back off a bit, but without showing it.

  5. James

    I would also think that the following would be an option:
    Issue Euro denominated bonds with a redenomination provision, which would essentially mirror the tips structure in the US. Each bond would come with a provision that if at some point the greek government decides to leave the single currency the remaining principal and interest payments, received in new drachmas, would be tied to the Euro-new drachma exchange rate. It seems to me that these instruments would have zero default risk, zero redenomination risk, and would have to pay a very low rate of interest.

    I think the fact that the Greek government has not at least publicly pursued/discussed any of these options, nor made any attempt to “grow their BATNA” is very telling. My sense is that they are the Greek Equivalent of the Tea Party here in the united states- essentially a re-branding of unpopular status quo policies

  6. Russell Scott Day

    Is this not awfully complicated? Well not that bad. I however offered the Insurodollar in early May to the Democratic Party Orange County Chapter as a Resolution aimed at an alternative to the Petrodollar.
    Some of the reasoning behind the Tax anticipation note involves similar to insurance the value of the life of the citizen.
    For Greece and others gone on too far there is left only a core to stay in the borders of the nation. Often we see youths just go, only to return from careers spent in other nations.
    US citizens are well trapped in the US if not in states.

  7. Paul Hirschman

    Here’s an opportunity for China to lend money to Greece on the basis of a rational plan for national revival.

    A game changer.

  8. Paul Hirschman

    To gain a foothold in the heartland of the West. Symbolically, it would mark a new era in geopolitical dynamics. Audacity is the mark of a young, self-confident, wealthy, powerful, rising, power. (Look at how many European powers have signed onto China’s economic development bank already.) It would be a rather palpable demonstration of its arrival on the world stage.

    The US wants to frustrate China in the South China Sea–so China buys its way into the eastern Mediterranean. (China’s ties to Russia would be bolstered by China gaining access to such an important strategic Mediterranean nation.) China’s efforts to expand its economic development initiative (and currency influence) would be advanced. It would certainly test the “left-wing” identify of the current Greek government–Can Greece leave behind its parochial European roots and declare itself part of a genuine world order?

    Greece could benefit from this Chinese strategy because it need not fear China’s military influence. It could enjoy the premium of its distant location in relation to Beijing, and get a good deal in resolving its economic catastrophe. China’s immediate as well as long term benefits could be immense. Instead of being outflanked by the US, it would begin to return the favor.

    The price of this turn of events in China’s favor might be quite minimal.

  9. Paul Hirschman

    I forgot to mention the obvious leverage this move would provide Athens: it would be able to threaten Brussels and be taken seriously. (China need not bail out Europe if Athens defaults. Athens gets the capital it needs directly from Beijing. Yes, such a move would shake the world order–but that’s what audacity is all about. Greece is desperate, and China is ready to change course, or at least speed up the one its on. At the very least, it would back us off of the Spratly islands, would it not?)

  10. alex morfesis

    P/H : if china (or india) were to step into the big boy shoes, they would need to pony up the 35 billion the IMF has tied down with Greece. THAT would be a show of force, and would be a game changer…being seen as more reasonable than the IMF would be the wave shifter…but it is not going to happen…china needs the IMF western markets to sell its goods…it is not ready to fart at France or the IMF to make a point…

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