Alexis Tsipras’ Great Grexit Gamble by Shawn Tully @FortuneMagazine June 29, 2015, 3:11 PM EDT E-mail Tweet Facebook Google Plus Linkedin Share icons Greek Prime Minister Alexis Tsipras shocked Europe’s leaders, and shook the world’s financial markets, by taking the issue of how much “austerity” his nation can tolerate directly to the voters. In a televised speech on June 27, Tsipras proposed a referendum asking citizens to endorse or reject what appears to be the lenders’ final offer. The following day, the Parliament backed Tsipras’ plan, scheduling a vote for Sunday, July 5. Greece’s government forestalled a credit crisis by closing the banks until at least July 6 and limiting individual withdrawals to 60 euros a day. It’s obvious that the banks can’t reopen until Greece reaches, or nearly reaches, a deal with its creditors. With no agreement, depositors will rush to empty their checking and savings accounts, making it impossible for the banks to refinance existing loans or fund new ones. Tsipras is advocating a “no” vote and reckons if the Greeks obey his fiery call-to-arms, they’ll send a message to heads of state from Lisbon to Berlin that hardship cannot be imposed on a people against their will. That message should draw any reasonable creditor back to the negotiating table with a more flexible, humane set of demands, he reasons. For the plan to work, German Chancellor Angela Merkel, along with her peers, would need to persuade or overrule the IMF, EU, and their own ministers to embrace Tsipras’ position. This is the solution that Tsiprias has been expecting all along, but hasn’t obtained. The referendum is his ultimate, and perhaps final, pressure tactic for luring Europe’s most powerful to intervene. Greece’s political leaders contend that they’ve already made huge concessions. Indeed, it’s Greece rather than the lenders who’ve moved most to bridge the gap on spending and deficits. What’s unacceptable, they argue, isn’t the overall targets, but the creditors’ insistence on micro-managing every budget item needed to achieve them. “The Greek government pretty much capitulated on demands for the ‘primary surplus,’” explains James Galbraith, an economist at the University of Texas and an advisor to the Greek government. In most negotiations, he explains, the debtor nation is given wide flexibility in how it meets those goals. “It’s called ‘equivalent measures,’” he says. The Greeks proposed their preferred set of solutions. They consist of generating budget surpluses mostly through higher taxes on businesses and the wealthy, and through targeted increases in the VAT (value-added tax). But the lenders demanded that Greece make deep reductions in its pension system. “You’d have to take a swipe at the lowest tier of pensions, for the lowest income people,” says Galbraith. That is the primary hurdle in the current standoff. On June 25, just five days before the current bailout package expires, the IMF answered the last Greek attempt at compromise—in what the Greeks considered a contemptuous fashion. The Greek government had submitted a five-page proposal covering five policy areas, including goals for taxes and budgets. The IMF added language to the document in red ink, and crossed through rejected items, also in red, then sent the “corrected” version back to the Greeks. Most of the red ink appears in the “pension reform” section. The IMF added language requiring that “all supplementary pension funds are only financed with contributions,” apparently eliminating subsidies. The IMF also required freezing monthly payments in today’s euros, with no increases for inflation, through 2021. Those changes were unacceptable to the Greeks, who argued that they’d already capitulated on fiscal targets, but wanted the freedom to chart how to achieve them. “The government essentially agreed to steadily increasing austerity, but wanted to do it through taxes, not pensions,” says Galbraith. On June 27, Europe’s finance ministers held an emergency meeting. At that conclave, Greek finance chief Yanis Varoufakis requested that the creditors grant Greece a one-month extension on the bailout plan scheduled to expire in three days. The ministers dismissed the request. In his speech to the ministers, Varoufakis insisted that the vote on July 5 is not a referendum on Greece’s membership in the Euro. He said that the idea Greeks are really voting on a Grexit is logical only “if there is an implicit threat that a No from the Greek people to the institutions’ proposal will be followed up by moves to eject Greece, illegally, out of the euro.” Varoufakis contended that the European treaties make no provision for any member country to leave the common currency. In other words, he is saying if Greece votes no, its citizens will still want to remain in the euro. But if Europe’s leaders refuse to negotiate and a Grexit happens, the blame belongs to the EU, not Greece. The next day, Tsipras appealed directly to Europe’s heads of state. In a six paragraph letter, he asked each of them to reconsider Greece’s call for a one-month extension. He stated that, “negotiations will recommence on July 6, 2015, with a view to reaching an agreement immediately afterwards in line with a decision of the Greek people.” Merkel quickly rejected Tsipras’ request. Here is the Tsipras plan: Assuming the Greeks follow his advice and vote “no,” the creditors will respect the will of the people and the talks will resume. Right now, that’s not how Europe’s leaders see it. Their view is that when a borrower defaults, it must do what the creditors demand to get more money, no matter what its voters may want. So if voters reject the lenders’ program, and heads of state refuse to bend, the banks that closed on Monday will remain shut. The ECB is already declining to extend additional emergency funds to support Greece’s banks. A credit crunch would then force a Grexit. That would allow Greece to recapitalize the banks with newly printed drachmas. Another possibility is that the current crisis will drive the Tsipras government from power, leading to the election of new leaders willing to meet the creditors’ demands, keeping Greece in the Eurozone. Many pro-Tsipras observers think the creditors’ position is orchestrated to dispatch him from power. Nothing the heads of state or the creditors have done so far signals that the Tsipras plan will work. He’s essentially telling his people that they can spurn their creditors and default on their debt, yet somehow remain as a member the euro community. Sadly, the July 5 vote may be the exercise in democracy no one wanted, a referendum on the common currency after all.