In an article in Der Spiegel yesterday, Stefan Kaisser states that a Greek bankruptcy, although costly, is the best way to resolve the current situation in the EU. Current plans for Greece, as stated in the article, are the following: The Greek government is supposed to borrow the money it needs from the ailing Greek banks. In return, the banks receive sovereign bonds that they can, in turn, provide as securities for new loans from Greece's central bank. In this way, Greece's central bank is financing the Greek state in what is really just a kind of shell game that gets riskier the longer it is played. This arrangement reminds me of leveraging (the idea that instead of banks lending a proportion of what they have as deposits, they end up lending maybe 50 times more, a policy most large banking institutions adhere to) and is not one which leads to stability.
However, I do not believe that bankrupting Greece would solve anything.
On one hand, the consequences are unknown. Even Germany, with its strong economy, has to to prepare itself for a major economic catastrophe. And whilst the Germans may have the funds to bail-out their banks, most EU countries do not. So what would happen is that more countries will ask for help from the EFSF/ESM. What happens if these countries also face fiscal difficulties which would be a direct outcome of the Greek bankruptcy (and in essence German EU politics)? Let them go broke too?
The other big question is what happens after the bankruptcy. Does Greece go back to drachma or does it stay in the common currency? If Greece exits the euro then what is the message sent to other countries: bad fiscal planning and you are out of the euro? Will Greece be allowed to return after some years have passed? For conversation's sake let's assume that Greece does not do the stupid thing and remains in the Euro (although I highly doubt it, since anti-european movements will increase in popularity after a bankruptcy). What happens next? Who is going to lend a country which received enormous amounts of help from the ECB and the IMF and still managed to default? Guess: the ECB and the IMF again.
Although the Greeks should - and do - receive the blame for the situation in their country, Merkel's austerity remedies seem to have lost their charm since they have not been able to reverse the current situation. The Greeks themselves cannot do anything more than austerity measures and stimulus from the ECB anymore. What should be done is a change in German and EU politics: The ECB should be allowed to move directly and INDEPENDENTLY in order to buy Greek bonds or any other sovereign bonds deems proper, to restore order in the markets, just as a normal central bank would do.
Let us not forget that it is the Greek haircut we have to condemn for the current situation in the EU; and this is a direct consequence of political decisions (mostly German) which were based on flawed arguments. I do not think that it is too late for an ECB intervention which would end problems in the South in the next years and restore confidence in the markets.
As for the "spiral of threats and rescue actions" Berlin and Brussels got themselves into they only have to accuse themselves. It is never too late for admitting a mistake and moving on to correct it.