I am sorry but there is no good solution. Greece borrowed too much money at German rates and they squandered it. Greece has done nothing for decades to build its productive capacity and they have now, again created the condition of default. If you read Rogoff, Greece's default in 1826 kept it out of international credit markets for 53 consecutive years. As I said above, the only solution is growth. You can use debt effectively if it is used to create productivity, such that you can grow and pay the debt back. That is not what Greece did. That is not what we are doing now. Austerity now or default, the economic result will be the same. I don't know how to get Greece to grow...I don't know how they could reengineer their economy to attract the capital inflo it would take to build economic growth.
what if they agreed an alternative repayment. for example paying a percentage of their gdp for a period instead of credit. this could stop it from defaulting. if they based return on output rather than the amount lent they could repay over a longer period to compensate.
That's been done before in the EM world through devaluation... Alternative, in the case of Greece (and, one could argue, the West as a whole), is severe wage deflation and a lowering of the standard of living.
Could you elabore a bit on why forcing bondholders to take a haircut is unaceptable for policy makers up untill today?
In and of itself, it's perfectly acceptable. What everyone is afraid of is a Lehman-like scenario, where forcing a few bondholders to take a haircut causes a whole bunch of scared investors to flee the sovereign bond mkt. It's one thing to have a run on little insignificant Greece/Portugal, but just imagine what happens when it spreads to Spain and/or Italy.
BTW, here's another nice summary on the situation from Simon Johnson: http://baselinescenario.com/2010/04/13/greek-bailout-lehman-deceit-and-tim-geithner/
Same in the USA. Countries which have faced this problem in the past have turned things around by slashing government spending and slashing tax rates. In America, we are doing the opposite.
If Greece remains in the EMU it cannot devalue. Even if they withdrew from the EMU and reintroduced the Drachma at a devalued rate they would not be better off. Devaluation has never caused growth, it obliterates the savings and pensions of the people and lowers the standard of living in return for reducing the government debt...same as default, same as austerity. With regard for renegotiating existing debt agreement to be paid under modified terms...Well, that is a default, that can only occur after a default, so it will have the same domestic economic effect as devaluation or austerity. The only compelling reason for this bail out is to protect the northern banks from writing down capital reserves as the Greek Debt is downgraded or defaulted. This helps banks at the expense of the people. The issue that is not much focused on here is whether the government and social cohesion in Greece will survive the austerity, especially in light of Misthos comments about the feelings of the people about this plan and the growing thought that default might be better. Reminds me of Iceland.
This is the exact point. The French President led the alliance for Greek financing only because French banks have about EUR 80 billion exposure to Greece. In Greece, this was presented by the media and politicians as French solidarity while Germans were presented as enemies. Apparently, it was the Germans who supported the good of the peeple by arguing of default and the French the good of the banks. Politics is a terrible thing, it should be banned.