Tuesday, April 30, 2013

Greece’s Persistent State—and Budget Deficit

Since 2010, Greece’s overriding objective has been to shrink its budget deficit. Much is made of the fact that Greece will soon have a primary surplus—meaning that excluding interest payments, the government’s revenues will exceed spending. A closer look at the country's finances, however, paints a less optimistic picture (data from here). And more worryingly, the retrenchment of state is moving very, very slowly.

Revenues. In 2012, government revenues reached a six-year low: at €86.6 billion, the country took in less money than at any point since 2007. On a real basis (controlling for inflation), the picture is even bleaker as 2012 marked a ten-year low, meaning that in 2003, the country collected more revenue on a real basis than in 2012. However since the economy has been contracting rapidly (20% real decline since 2008), revenues as a share of GDP reached an all-time high (44.7% of GDP). As a share of national income, the Greek state has never collected more money than it did in 2012. In effect, higher taxes are preventing revenues from falling in line with GDP—hence the record level of revenues in 2012.

 
Total expenditures. Government spending has showed a similar pattern. On a nominal basis, spending is at a five-year low; on a real basis, it is roughly at the same rate than in 2003—2004. And just as in revenues, total government spending as a share of GDP reached an all-time high in 2012 at 54.8%. At no point in Greek history has the state spent more money as in 2012. Why is that?


Primary expenditures. What if we exclude interest payments? In that case, 2012 is no longer a low point since primary spending increased in 2012 versus 2011. On a real basis, primary spending was at the same rate as it was in 2005—2006; as a share of national income, primary spending was still an all-time high in 2012. The high level of spending, in other words, has nothing to do with interest rates.


Primary spending is the sum of six components: wages, social benefits, goods and services, subsidies, current transfers and capital transfers. Let us examine each in detail.

Wages (25% of primary spending in 2012). Government spending on wages has declined by 22% on a nominal basis since the peak of 2009; it has declined by a starker 28% on a real basis. On a nominal basis, spending on wages is still above its 2006 levels; on a real basis, it is roughly where it was in 2002—2003. As a share of national income, however, spending on wages remains at high levels—only in 2009 and 2010 did the state spend more on government wages than in 2012. In that sense, the state has made little progress in cutting back spending on wages.


Social benefits (46% of primary spending in 2012). On a nominal basis, spending on social benefits has declined by 9.4% since 2009; on a real basis, the decline is starker at almost 17%. Yet on a real basis, the state spent more on social benefits than in 2006. As a share of national income, spending on social benefits reached an all time high at almost 23% of GDP—which is 55% higher than the spending in 2000 (14.8% of GDP). The full data for 2012 is not available on a comparable basis, but spending on old age (pensions) kept rising during the crisis—it was 11% higher in 2011 than in 2008, for example. Unemployment insurance, although it has risen since 2009, still accounts for a mere 5% of spending on social benefits. By far, spending on social benefits forms the biggest component of state spending and the main reason why Greece has been unable to lower its deficit further.


Goods and services (9.8% of primary spending in 2012). This is the part of the budget that has shown the greatest drop—50% on a real basis since 2009. However, this includes a nearly €2 billion drop in spending on weapons systems, accounting alone for 22% of the drop between 2009 and 2012.


Other items (19% of primary spending in 2012). Of the remaining pieces, capital transfers form the most significant portion—they are also the component that rose most significantly in 2012 from €6.7 billion to over €15 billion—presumably, this includes the recapitalization of the Greek banking system.

*

Based on data from ELSTAT, Greece’s budget deficit actually rose in 2012. The Ministry of Finance, in its consolidated accounts showed a deficit of 6.6% of GDP—although the figure for the “Net incurrence of liabilities” puts a figure closer to that of ELSTAT. But what do these numbers tell us?

They tell us that the state is alive and well in Greece. Government spending—even excluding interest and capital transfers—was near an all-time high in 2012. Spending on wages and social benefits remains at very high levels—both in absolute terms and relative to national income. Meanwhile, the tax squeeze is pushing revenues to all-time highs despite a sharp contraction in economic activity. The tax payer is thus called to pay for wages and social benefits which persist at either all-time highs (social benefits) or near them (wages). So yes, Greece may soon get to a primary surplus, but without a serious curtailment of state spending—of which the 2013 budget targets—the primary will not do much good.

Monday, April 29, 2013

Is the Austerity Debate Relevant for Greece?

The debate over austerity has intensified in the past few weeks; this is relevant because folks in Greece will often say that, “research has shown that austerity is bogus, and Greece was just a guinea pig for the wrong idea.” Is that true?

The debate over austerity is, in fact, two overlapping debates—and both debates are mostly irrelevant for Greece. The first debate is whether fiscal consolidation (i.e. cutting spending and raising revenue) can generate economic growth in the short run. The second debate is whether there is a debt threshold after which economic growth takes a sharp hit. (See the end of this article for some references.) Over the past few years, there has been research that supports and rejects both propositions, thus producing highly conflicting messages for policy-makers. What should one make of this research and how does it apply to Greece?

To understand the policy dimensions of this debate, it is important to distinguish between austerity as a precaution and austerity as a last resort. In fact, this is the most important distinction to make and it is one that is seldom made. In the United States and other developed economies there is a debate over austerity as a precaution—a desire to bring order to the country’s balances for fear that without austerity, markets will start questioning the country’s ability to repay its debts. This is the line of reasoning that says “if we don’t balance the budget, we will become another Greece.” But in several European countries, including Greece, austerity was not a precaution but a last resort. Countries chose austerity not because they were afraid that markets would go after them but because markets were going after them.

The inability to separate austerity as a precaution and austerity as a last resort leads to great intellectual confusion. It is the reason why everything that Paul Krugman writes about Greece is irrelevant from the start—he is using an “austerity as a last resort” case to argue about “austerity as a precaution.” Of course, at the continental level, “Europe” is practicing austerity as both a last-resort and a precaution since Germany could in fact bail out the periphery by taking on debt itself (or inducing inflation). The problem is that unlike the United States, where there is a long history of federal-state relations, Europe has no mechanisms by which the debt-assuming core could protect itself against the profligacy of the periphery. So Germany may in fact be practicing “austerity as a precaution” but that is as much a political decision (cannot bail out the profligate periphery) as it is an economic decision (fear of rising interest rates or rising inflation).

To understand whether austerity makes sense in Europe in general and in Greece in particular, we ought to ask “compared to what?” In 2009, Greece’s budget deficit was 15.6% of GDP in 2009—at that point, fiscal consolidation was not an option but a necessity. Academics and policymakers could have a highly interesting debate about whether fiscal consolidation or deficit spending is the appropriate policy during a recession, but that debate would have been irrelevant because Greece could not choose deficit spending—markets refused to lend it money any more. The options facing Greece were different degrees of austerity: either an austerity of the type that the country has followed or a sharper, front-loaded austerity coupled with default, a new currency, higher inflation and other measures that would curtail the country’s standard of living.

The biggest problem with the austerity debate, however, is that it tends to underplay the nuances of each country and each case. It treats two countries with similar macro-economic indicators – budget balance, debt-over-GDP, economic growth, inflation – as similar. They are usually not. How countries got into a position where they require fiscal consolidation matters. There is a slow correction in that regard with more case studies (see the BIS article, for example or the IMF WEO 2012). But the details still get lost in the broader narrative. In my book, Beyond Debt, I explained the perils of this reasoning:

Assume an economy with ten people, each of whom spent €1,000 per month. One morning, a person walks into this economy with a gun and threatens to shoot anyone who spends over €800 a month. Consumption falls by twenty percent. Then, one person disobeys and is killed. With only nine people left, the economy now consumes only €7,200, a 28% decline from its peak. On paper, an economist might look at this economy and think it needs a monetary stimulus through lower interest rates. Or, the economist could say that the government should step in and support consumption directly since private consumers are not consuming. Of course, both suggestions would be absurd—what the country needs is someone to stop the guy with the gun. A Keynesian stimulus in an economy with underlying ailments is akin to trying to heat a room with an open window—the heat will help, but best to close the window first (pp. 84—85).

In the case of Greece, for example, arguing that the country would benefit from deficit spending is lubricous (even if it were possible, which it is not). When the recession started in 2008, real primary spending grew by 6.8%; in 2009, as the recession deepened, it grew by another 4.9%. In other words, the economy got a government stimulus of about +16% and yet the economy fell into recession. It would be hard to argue that in the 2006—2009, when the size of the state grew by a fifth, the problem with the Greek economy was insufficient government spending. The opposite was true.

Nor does one get a complete picture of “austerity policies” by merely looking at the headline figures. As I have written in the past, Greece’s policies are anything but austerity (see here, here, here, and here). Even in 2012, spending on government wages was barely below its 2010 levels as a share of GDP and considerably above what it was in the period from 2000 to 2007. Spending on social benefits reached (again) a historical high, and no, this is not because of generous unemployment benefits. Structural reforms, on which any fiscal consolidation really depends, have lagged and effectively stalled. In that environment, it is hard to create growth and it is hard to convince investors to lend you money because they see that you are not serious about cutting your deficit.

In sum, diagnostics matter. Details matter. The research on austerity can yield some insights but most of these are not very applicable to Greece’s case. Greece’s problems are painfully banal and they don’t need cutting edge to diagnose or cure. They require common sense and political courage. No amount of research can change that elementary fact. 
 
References

BBC, “The mysterious powers of Microsoft Excel,” April 20, 2013, http://www.bbc.co.uk/news/magazine-22213219

Harvard Business Review, “Austerity’s Big Bait-and-Switch,” April 11, 2013, http://blogs.hbr.org/ideacast/2013/04/austeritys-big-bait-and-switch.html

International Monetary Fund, “Chapter 3: Will It Hurt? Macroeconomic Effects of Fiscal Consolidation,” World Economic Outlook, October 2010, http://www.imf.org/external/pubs/ft/weo/2010/02/pdf/c3.pdf

International Monetary Fund, “Chapter 3: The Good the Bad, and the Ugly: 100 years of dealing with public debt overhangs,” World Economic Outlook, October 2012, http://www.imf.org/external/pubs/ft/weo/2012/02/pdf/c3.pdf

Krugman, Paul. “The 1 Percent’s Solution,” New York Times, April 25, 2013,

Perotti, Roberto, “The ‘Austerity’ Myth: Gain without Pain?” BIS Working Papers, No 362, November 2011, http://www.bis.org/publ/work362.pdf 

Pollin, Robert and Ash, Michael, “Austerity After Reinhart and Rogoff,” Financial Times, April 17, 2013, http://www.ft.com/intl/cms/s/0/9e5107f8-a75c-11e2-9fbe-00144feabdc0.html

Reinhart, Carmen and Rogoff, Kenneth, “Debt, Growth and the Austerity Debate,” New York Times, April, 25. 2013, http://www.nytimes.com/2013/04/26/opinion/debt-growth-and-the-austerity-debate.html

Reinhart, Carmen and Rogoff, Kenneth, “Responding to our critics,” New York Times, April, 25. 2013,

Tuesday, April 09, 2013

Greece’s Elusive Export Boom

Greece needs exports to generate economic growth. The press often touts the country’s newfound focus on overseas markets. But the numbers show a less positive and more complicated picture.

ELSTAT’s national accounts data show that Greece has, in fact, experienced an export boom. Exports of goods and services, which contracted sharply in 2009, have risen every year since then. Within a three-year period, exports have grown by €7.8 billion, or 17.5%, an impressive performance. Yet on a real basis, exports in 2012 were a mere 3% higher than in 2009, meaning the “export boom” is, in fact, mostly a matter of inflation. What is worse, exports on a real basis declined in 2012.


The data from the Bank of Greece paint a similar picture, albeit with more granularity. Services, which have historically made up 2/3 of exports, have performed poorly in recent years—in part due to tourism (see here) and in part due to shipping. Goods, by contrast, have shown a clearer upward trend, rising at an average 13% a year. In other words, the growth in nominal exports is really the result of higher exports of goods.


On closer inspection, however, this growth is somewhat spurious. Of the €6.7 billion increase from 2009 to 2012, almost 2/3 comes from higher oil exports. The rest (€2.3 billion) are the result of other, non-oil exported goods.

In principle, there is nothing wrong with oil exports, of course, expect that oil (product) exports are made possible only after (crude) oil is imported and refined. As a result, there is a limit to how much economic growth oil exports can generate. The oil balance (imports minus exports) is still negative by €10.2 billion. More importantly, the growth in exports is almost exclusively the byproduct of weak domestic demand: in 2008—2012, domestic demand fell by 122 kb/d, while exports grew by 112 kb/d.


To summarize. On a national accounts basis, exports have grown since their 2009 low point, but were flat on a nominal basis in 2012. Taking into account inflation, however, exports have not grown at all since 2009. Services, which tend to dominate the export basket, have performed poorly since 2009; goods, by contrast, have shown a steady boom. Yet within that goods growth story, 2/3 can be attributed to growing exports of oil product, which are merely the result of weak domestic demand. If there is an increasingly competitive Greece which is exporting more to the world, the data is hardly picking this up.

Greek Tourism (Mostly) Disappoints (Again)

Every year, I write an article about how tourism has once again failed the Greek economy (see here, here, and here). Alas, 2012, was no different—with one exception.

Tourism receipts fell by 4.6% in 2012 (data from here). This was the third worst performance since 2000—only in 2003 and 2010 did Greek tourism bring in less than it did in 2012. In fact, given that a euro in 2012 was much less valuable than one in 2000, tourism receipts in 2012 were 32% below their 2000 levels. In other words, the decline of Greek tourism has been chronic, and 2012 marked just another bad year.


In general, Greece’s problem has never been attracting tourists—the number of tourists visiting Greece has been one of the few positives in a story of negatives (although Greece’s market share is declining, meaning that Greece’s growth is failing to keep pace with the broader market). Rather, Greece’s deeper, structural deficiency has been value extraction: tourists tend to spend less and less time in Greece and they also spend less and less money per night. That explains why, for example, receipts from tourism in 2012 were 6.6% below their 2005 levels even though the number of tourists was 7.8% higher.


Yet 2012 marked a slight departure from these broad trends. Last year, Greece’s chief problem was tourist attraction as the country received 910,000 fewer tourists than in 2011, a 5.5% decline that was roughly in line with the 4.6% reduction in revenues. Tourists from France, Germany, the United States and Belgium registered steep declines; those from Russia, the United Kingdom and Albania were the only bright spots in terms of higher arrivals.

There is one piece of news that was heartening, however: spending per night increased for the second year in a row from €69.6/night to €71.1/night. In fact, this was only the second year since 2005 that the increase in spending outpaced the increase in inflation—where, in effect, the real income that a tourist brought to Greece rose (this is the last line in the table).

It is hard to overstate the importance of this trend. If, in 2012, Greece had been able to get out of a tourist the same amount of money per night, in real terms, than in 2005, the country’s tourism receipts would have been 20% higher in 2012. Another way to look at it is this: the fact that a tourist spent only €71.1/night, versus the €69.7/night in 2005, carried an opportunity cost of €2 billion.

This is why value extraction is so important. Tourists spent less time in Greece (9.08 nights versus 10.66 nights in 2005) and they spend less each night they stay in the country. Therefore, even though Greece is able to attract more tourists, it cannot generate more money. Thankfully, 2012 included some positive data points in that regard as spending per night rose for the second year in a row. There is still a long way to go, but it’s a good trend.