My Lords, I want to suggest a specific course of action in the debt crisis, but let me first put it in an abstract context. The result of increasing the size of a rescue fund is that it creates both a precedent and the expectation that it will be increased again-or, as the jargon has it, a moral hazard. And if that rescue fund is based on a central bank, which by definition cannot go bust in the way that other banks can because it can turn on the printing press, that can only have one of two consequences: either in an extreme case it will feed through to inflation, if you believe as I do that inflation is a monetary phenomenon; or you may be able to achieve such a rapid rate of growth that the inflation is absorbed and subsumed in a gradual but slow drift upwards of prices at a lower rate than the nominal rate of growth.
Last week the European Financial Stability Facility rescue fund was increased from its original level in May 2010 of €440 billion to a potential €1 trillion, and there is already talk of it being necessary to raise it to €2 trillion or even €3 trillion, larger than the GDP of Germany. Then remember that the world tends to be divided between those who save and those who borrow. The inclination of borrowers is, as the old advertising slogan has it, "take the waiting out of wanting". There is normally, however, a fear of having to repay loans. If a debt is forgiven or partly forgiven by the lender, then there is sometimes the irresistible temptation-indeed, the clear message-to borrow more. This is made even more tempting if the lender apparently has an unlimited supply of funds.
Now we have Greece, which has been offered a bailout apparently with no enforceable strings attached. That way lies contagion and thus a further crisis. I believe that Greece should be required to leave the euro area, but certainly be allowed to remain inside the EU. Greece will then have the opportunity of deciding whether to invent a Mickey Mouse currency, which it might choose to call the drachma, or to continue to use the euro. Greece outside the euro area will have no borrowing capacity underwritten by the European Central Bank. If it reinvents the drachma no one will take that currency seriously. Remember that the three classical functions of a currency are as a store of value, as a unit of account and as a medium of exchange. A reinvented drachma is unlikely to have any of those. If Greece continues to use the euro it will be in the same position as any of us. It will only get the number of euros that it can earn by selling its goods and services. Greece will have to devalue, which in this case would mean cutting pay and prices from previous euro levels. Without help, in the short run it will not be strong enough to survive the political pressures this would cause.
I am so glad that the noble Lord, Lord Hannay, drew attention to the important role of the International Monetary Fund in all this. I totally agree with him. In fact, I would propose that Greece should become a ward of the IMF. The IMF, which of course cannot print money, will dole out to Greece such sums as it has provided over the decades to other economic basket cases to prevent them becoming failed states. There are plenty of precedents for countries in crisis using a currency other than their own. Yugoslavia, after Tito died, used the deutschmark, and various South American countries have from time to time used the US dollar.
The other advantage of what I propose is that other countries will not wish to leave the euro area and will therefore have a real incentive to accept the necessary tough political decisions in order to avoid a default that would have that consequence. First in line would be Italy. Germany, with 27 per cent of the euro area GDP, is big enough to absorb all the debts of Greece, which has only 3 per cent of the euro area GDP. Italy, of course, represents 17 per cent of the euro area GDP and is therefore too big for Germany to swallow. That is why Greece should be treated in the way I am proposing, but I would say straightaway that Greece is historically and culturally central to Europe, and I hope that in due course, if these disciplines are used, it would come fully back into the European family.