Just one year after wealthier EU governments and International Monetary Fund extended more than $150 billion in emergency financing, Greece is unable to meet the aid plan's deficit reduction targets and grow fast enough to make its debt payments more manageable.

The European Central Bank and IMF insist that Athens can meet these targets but raising taxes or cutting spending further would only slow growth even more and likely cast Greece into a deep recession from which it couldn't recover.

Now, Greece is slipping from a liquidity crisis into downright insolvency. Bond investors are demanding yields 20 percentage points higher on Greek debt than on comparable German debt. Rolling over existing bonds, as those come due, will be prohibitively expensive and the collapse of Athens' finances seems inevitable.

Unless Greece gets significant concessions and loans at preferential rates from the EU and IMF, it will be impelled to ask private creditors to accept bonds with longer maturities and paying lower interest rates than the bonds they currently hold. As the market value of those securities would be much lower than the face value of Greece's current outstanding debt, such a restructuring would constitute a "soft default."

Exacerbating the crisis, the ECB has threatened to cut off support for Greece's private banks if Athens restructures its debt. The ECB reasons that the banks' holdings of Greek debt would make them a bad risk but it doesn't extend such thinking to German and other European banks holding Greek government paper.

The European Central Bank and IMF remain firm that no such restructuring is necessary but cutting government spending or raising taxes enough to pay higher interest rates as debt rolls over would be self defeating. The recession that would result would reduce debt servicing capacity, not improve it, and endanger political stability as social services were slashed and unemployment skyrocketed in tandem.

The alpha and the omega of Greece's debt crisis -- and those that could follow in Portugal, Ireland and other distressed states -- are the anomalies in EU institutions that make difficult financing pensions and other social benefits in Greece and other poorer EU economies.

The 1992 Maastricht Treaty significantly harmonized product and safety standards and methods of taxation across the continent and was supposed to remove untold barriers to growth.

It didn't, because European strict labor laws and business regulations discourage individual initiative and investment and the EU's much advertised single market raised expectations among voters in poorer countries that pension and social benefits would be on a par with Germany and other rich states.

The single currency, the euro, introduced in 1999, was heralded the next great elixir but it too failed to rev up growth because it addressed a problem that didn't exist and created a new major barrier to the effective management of macroeconomic policy.

Prior to the euro, the European Currency Unit linked at fixed rates the national currencies of many of today's euro zone countries. The ECU was accepted as payment in international commercial transactions -- the primary void the euro was supposed to fill.

However, each country could print its domestic currency and occasionally devalue against the group as its circumstances might require. With the euro that flexibility was taken away from poorer countries like Portugal, Spain, Greece and Ireland.

Germany, like New York, greatly prospers by participating in a huge single continental market but Brussels cannot tax Germany to subsidize Greece's welfare state in the same way Washington taxes New York to subsidize Mississippi's Medicaid.

With all that wealth to itself, Germany provides generous pensions, gold-plated employment security and jobless benefits, short work weeks and the like. Meanwhile governments in Greece and other poorer EU states struggle to keep up, pile up lots of debt and can't scale back too much without risking political upheaval because their populations won't accept they cannot enjoy the same perks as the Germans.

If Greece still had its own currency, it would still have had to cut spending and increase taxes -- but not by nearly as much as the EU aid pact requires -- because Greece could also devalue its currency against those of richer EU economies to make exports more competitive, accelerate growth, and increase debt servicing capacity.

Now things have gone too far. Greece's debts are too large and are denominated in euro, not the Greek drachma.

The only real solutions are for Greece to restructure its debt -- both sovereign and private creditors should take haircuts; abandon the euro and reinstate the drachma; and rethink its welfare state.

Like Americans, the Greeks will have to work longer to retire and accept other less generous social benefits but they could reassert control over their economy.

The alternatives are endless EU bailouts -- something German and French voters are doubtful to allow -- loss of Greek sovereignty and economic collapse.

(Peter Morici is a professor at the Smith School of Business, University of Maryland School, and former chief economist at the U.S. International Trade Commission.)

(United Press International's "Outside View" commentaries are written by outside contributors who specialize in a variety of important issues. The views expressed do not necessarily reflect those of United Press International. In the interests of creating an open forum, original submissions are invited.)

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