The Greek euro tragedy is reaching its final act: it is clear that eitherthis year or next, Greeceis highly likely to default on its debt and exit the eurozone.

Postponing the exit after the June election with a new governmentcommitted to a variant of the same failed policies (recessionary austerity andstructural reforms) will not restore growth and competitiveness. Greeceis stuck in a viciouscycle of insolvency, lost competitiveness, external deficits, andever-deepening depression. The only way to stop it is to begin an orderlydefault and exit, coordinated and financed by the European Central Bank, theEuropean Commission, and the International Monetary Fund (the “Troika”), thatminimizes collateral damage to Greece andthe rest of the eurozone.

Greece’s recent financing package, overseenby the Troika, gave the country much lessdebt relief than it needed. But, even with significantly more public-debtrelief, Greececould not return to growth without rapidly restoring competitiveness. And,without a return to growth, its debt burden will remain unsustainable. But all of the options that might restore competitivenessrequire real currency depreciation.

The first option, a sharp weakening of the euro, is unlikely, as Germanyis strong and the ECB is not aggressively easing monetary policy. A rapidreduction in unit labor costs, through structural reforms that increasedproductivity growth in excess of wages, is just as unlikely. It took Germany ten years to restore its competitivenessthis way; Greececannot remain in a depression for a decade. Likewise, a rapid deflation inprices and wages, known as an “internaldevaluation,” would lead to five years of ever-deepening depression.

If none of those three options is feasible, the only path left is to leavethe eurozone. A return to a national currency and a sharp depreciation wouldquickly restore competitiveness and growth.

Of course, the process would be traumatic– and not just for Greece.The most significant problem would be capitallosses for core eurozone financial institutions. Overnight, the foreigneuro liabilities of Greece’sgovernment, banks, and companies would surge.Yet these problems can be overcome. Argentina didso in 2001, when it “pesofied” its dollar debts. The United Statesdid something similar in 1933, when it depreciated the dollar by 69% andabandoned the gold standard. A similar “drachmatization”of euro debts would be necessary and unavoidable.

Losses that eurozone banks would suffer would be manageable if the bankswere properly and aggressively recapitalized. Avoiding a post-exit implosion of the Greek banking system, however,might require temporary measures, such as bank holidays and capital controls,to prevent a disorderly run on deposits. The European Financial StabilityFacility/European Stability Mechanism (EFSF/ESM) should carry out the necessaryrecapitalization of the Greek banks via direct capital injections. Europeantaxpayers would effectively take over theGreek banking system, but this would be partial compensation for the lossesimposed on creditors by drachmatization.

Greece would also have to restructure and reduce its publicdebt again. The Troika’s claims on Greece need not be reduced in facevalue, but their maturity would have to be lengthenedby another decade, and the interest on it reduced.Further haircuts on private claims would also be needed, starting with a moratorium on interest payments.

Some argue that Greece’sreal GDP would be much lower in an exit scenario than it would be during thehard slog of deflation. But that is logicallyflawed: even with deflation, real purchasing power would fall, and the realvalue of debts would rise (debt deflation), as the real depreciation occurs.More importantly, the exit path would restore growth right away, via nominaland real depreciation, avoiding a decade-long depression. And trade lossesimposed on the eurozone by the drachma depreciation would be modest, given thatGreeceaccounts for only 2% of eurozone GDP.

Reintroducing the drachma risks exchange-rate depreciation in excess ofwhat is necessary to restore competitiveness, which would be inflationary andimpose greater losses on drachmatized external debts. To minimize that risk,the Troika reserves currently devoted to the Greek bailout should be used tolimit exchange-rate overshooting; capitalcontrols would help, too.

Those who claim that contagion from a Greek exit would drag others intothe crisis are also in denial. Otherperipheral countries already have Greek-style problems of debtsustainability and eroded competitiveness. Portugal, for example, mayeventually have to restructure its debt and exit the euro. Illiquid but potentially solvent economies, suchas Italy and Spain, will need support from Europe regardlessof whether Greeceexits; indeed, without such liquidity support, a self-fulfilling run on Italianand Spanish public debt is likely.

The substantial new official resources of the IMF and ESM – and ECBliquidity – could then be used to ring-fencethese countries, and banks elsewhere in the eurozone’s troubled periphery.Regardless of what Greecedoes, eurozone banks now need to be rapidly recapitalized, which requires a newEU-wide program of direct capital injections.

The experience of Icelandand many emerging markets over the past 20 years shows that nominaldepreciation and orderly restructuring and reduction of foreign debts canrestore debt sustainability, competitiveness, and growth. As in these cases,the collateral damage to Greeceof a euro exit will be significant, but it can be contained.

Like a doomed marriage, it is better to have rules for the inevitabledivorce that make separation less costly to both sides. Make no mistake: anorderly euro exit by Greeceimplies significant economic pain. But watching the slow, disorderly implosionof the Greek economy and society would be much worse.