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Συμπόσιο της Σύμης

Κέρκυρα 22 Ιουλίου 2015

Grexit is a socially unjust policy proposal

Almost 20 years ago a significant majority of Greek economists came to the conclusion that it would be to the benefit of Greece to join EMU. Greece would lose the instrument of monetary and exchange rate policy but it was expected to gain in terms of monetary stability and growth prospects.

The major political parties also shared the same view not only for economic reasons but for political reasons too.

According to this view, EMU was seen as a step towards further political and economic integration in Europe. While in the mid-1990s it was obvious that it would be very difficult for Greece to join EMU in 1999, the official date of inception, it was agreed that Greece had to get prepared to join EMU at a later stage.

One can successfully argue that Greece did not, and probably still is not, meeting the theoretical criteria to belong to an optimum currency area. However, Greek economists and political parties were aware that in a globalized economy Greece had to adapt and make its economy more competitive and outward oriented.

They did understand at the time that there was an urgent need to introduce politically difficult reforms. Their expectation was that by joining EMU Greece would be more keen to introduce the necessary reforms through peer pressure.

Nine years after joining the Euro Area Greece was trapped in an unsustainable economic path. In almost every year until 2009 there was a government deficit, on an increasing trend post-2006. As a result while Greece joined the EA with a debt to GDP ratio below 100% and despite the high growth rates of the nine year period 2000-9, the debt to GDP ratio stood at 127% in 2009. In that year, the government deficit reached 15.7% of GDP, and not 6% as had been reported by the governing conservative party of New Democracy. The current account deficit in that year was almost 11% of GDP.

Greece was in a recession for the second year in a row despite a doubling of the government deficit between 2007 and 2009 from almost 7% to 15.7% of GDP. Against Keynesian theory predictions, fiscal expansion not only failed to prevent recession but the recession deepened as the deficit was increasing.

In spring 2010 Greece experienced a sudden stop: it lost access to capital markets and requested financial support from its European partners. Europe established a special mechanism and along with the IMF. Greece accepted to implement an Economic Adjustment Program in exchange for the financial support.

Over the first three years the Greek government managed to reduce the fiscal deficit by 7 percentage points and introduced many substantial reforms which in the discussions that are taking place today are neglected or ignored. Later governments prone to clientalism tried to replace or dilute them.

And this critique applies to both the conservative government of Mr. Samaras and to the Syriza -ANEL coalition government. Just to give an example: Syriza both as an opposition party and once in government opposed the assessment of academic staff in Greek universities. I would imagine that not assessing academic staff would be unacceptable both to UK and the USA.

In 2015, five years after the first program was signed Greece is still in recession and is expected to be so until 2016 inclusive. This is so despite registering a small but positive growth rate in 2014 and a primary surplus in 2013 and 2014. Even the current account deficit swing to a surplus however mainly as a result of a decrease in imports rather than an increase in exports.

The elimination of the twin deficits (fiscal and current account) came at the expense of growth and employment. Over the last seven years – the recession had started two years before the first program – Greece lost almost a quarter of its GDP and unemployment reached to 27%. At the same period all social indicators worsened.

Over the crisis some economists, mainly Anglo-Saxons, have argued that a Greek exit from the Eurozone will benefit the growth prospects of the Greek economy.

However there are good reasons to argue that a Grexit will have disastrous consequences for the Greek economy and the living standards of Greeks.

I believe that progressives should be more sensitive on the issue of rising inequalities. And I am arguing that a Grexit whether coordinated or not will result in an increaser of inequalities.

Although we have no experience of a country leaving EMU, over the last decades many countries mainly in Eastern Europe members of political unions left the union and introduced their own currency. However a Grexit would bear no similarity to the experience either of the break-up of Czechoslovakia or of Argentina. Because Greece at the moment has no access to capital markets at reasonable interest rates and is not in a program to get financial support for its funding needs.

Due to these limitations in the event of a Grexit, the economy will face two important financial constraints:

  1. i) The current account deficit would have to be in surplus to ensure the necessary net inflow of funds to finance imports and cover external debt repayments.
  2. ii) The budget deficit would need to be balanced. This implies a further reduction in spending. Otherwise the deficit would have to be financed by the country’s central bank through the issue of a new currency.

The inflationary pressures will soon lead to a hyperinflation as we have seen twice in the past history of Greece. In the mid 1920’s and in late 1940’s when deficits were financed through printing new money.

A Grexit would imply that Greece would default on a large part of its foreign debt. Without defaulting on a substantial part of debt service obligations, the combination of devaluation and recession would push the total external debt to even higher levels.

As a result Greece would have to produce greater and unattainable current account surpluses in order to meet foreign debt repayments.

That is why Greece will have no other option but to default on part of its foreign loan obligations.

Inflation will rise pushed up by

  1. a) the monetization of the deficit and debt repayments
  2. b) the impact of the devaluation on the CPI through the higher price of imported goods and services
  3. c) the pressure for adjustment of nominal wages.

With the country’s transition to the new currency, the living standards of Greeks will fall dramatically as their real income will fall. The wealth of Greeks, including the value of property and deposits, will undergo a similar sharp decline.

The argument that Greece’s exit from euro would enable the country to enhance the competitiveness of its economy through the devaluation of the currency has no real substance.

Most of the key export sectors of the Greek economy, as well as a significant part of production intended for domestic consumption, rely on imported raw materials and imports of intermediate and capital goods which it would be difficult to obtain due to the limited access to foreign exchange.

Therefore Greek firms would be forced to reduce their output and put their survival into doubt. Because their decision will in turn hamper access to finance and force them at the end of the day to default on their obligations with overseas creditors.

But even sectors such as tourism would not be able to fully benefit from Grexit as transportation costs and energy prices, would absorb a significant part of the benefit gained from depreciation. In the very short term, the tourism sector would also be severely hit by the uncertainty caused by the country’s default.

The increased pressure to recover salary losses resulting from domestic inflation –a known experience from 1980’s and 1990’s- would lead to even higher inflation gradually undermining any gains in competitiveness deriving from the initial devaluation.

In such conditions it will be very difficult to attract investment and consumption will collapse. The consequence will be rising unemployment and inequalities.

In distributional terms, the only ones to gain from a Grexit will be wealthier Greeks whose assets are already denominated in other currencies and reside abroad. The most vulnerable part of the population will be the first victims of a Grexit. That is why progressives should oppose recommendations for a Grexit or a pause of participation as it has been suggested by the German Minister of Finance.

Having said the above we should not remain silent on policy proposals that Greece should continue on the path of austere fiscal consolidation. Greece did manage to reduce its primary deficit from 10% of GDP in 2009 and produced a primary surplus of 0.3% of GDP in 2014. What is imperative for Greece is to put the economy on a path of sustainable growth. That is a pre-condition to help the most vulnerable part of the society.

As negotiations for a third program are at their beginning Greece needs a programme with a stronger growth orientation and a decision for debt relief.

It is correct that the debt to GDP ratio increased over the years of fiscal consolidation. This was due to the recession but also to the fact that Greece continued to have deficits after the 2009 crisis and up to today.

The debt problem was initiated by the fiscal irresponsibility of the years before the global crisis emerged. At that period Greece was enjoying significant positive growth rates but the debt increased from 180 bn euros in 2004 to 290 bn in 2009.

So we have to establish an institutional framework that in the future would prevent an explosion of the debt and would enable Greece to have available the fiscal instrument -as long as we are lacking a fiscal union- to be used in an event of a temporary negative demand shock similar to the one we were confronted after the global crisis in 2008-2009.

Greece should present its own reform plan to transform its economy to become more efficient and more outward oriented. It is important to be ready to introduce reforms in justice, in the functioning of the political system and public administration.

These are the major challenges that the Syriza – ANEL coalition government failed to address over the last six months. In reality what we observed was an effort to re-establish a clientalistic state and an economy that will mainly be controlled by the state leaving no room to private entrepreneurship.

Young Greeks deserve a better future and it’s our generation’s duty to set the conditions for that.