big picture

These are the five basic principles that guide my thinking on the Greek crisis: 

#1. This is largely a Greek crisis. It was, of course, triggered by seismic changes in the global financial system, but the roots of the crisis can be found in the choices that Greek society has made over the last thirty years. The bankruptcy of Lehman Brothers, the straightjacket of the common currency, and the lack of centralized fiscal powers in Europe – these factors affected how the crisis has been played out, but they did not cause the crisis, nor can they solve it. 

#2. This is largely a political and social crisis whose most apparent manifestation is debt. When a country has a lot of debt it is easy to think that it faces a debt crisis, and Greece does face a debt crisis. But debt is a symptom of a sick political system. Debt was the price Greece paid for political normalcy when our government in the 1980s sought to heal political wounds by spending money on those who had been disenfranchised. Over time, profligacy created and perpetuated practices and institutions that made sustained fiscal consolidation impossible. 

#3. Greece should be judged not just on its fiscal targets but on broader measures of reform and change. In a fiscal and debt crisis, a country needs a credible path to a sustainable debt level. Such targets are easy to measure. But in a country facing a deep social and political crisis, the yardstick for success has to be wider. A plan that pays off debt with no reform – for example selling off state assets – is like giving aspirin to someone with a toothache: it provides relief but not a cure. So Greece should be judged by whether its political economy and its political philosophy are changing. A changed country, not just a less indebted one, is the goal. 

#4. The best option for Greece to achieve reform is a program along the lines negotiated with the International Monetary Fund, the European Commission, and the European Central Bank (in Greek lingo, the program is called the “memorandum” with the “troika”). This is hardly a popular view. Two-thirds of Greeks (or more) think the memorandum is a bad idea. In some ways, they are right to distrust a program that is inflicting enormous pain, is seen as imposed from abroad and does not offer a clear path out of the crisis. But before judging the program we need to ask two questions: are the alternatives better? And is the memorandum failing because its conception is bad or because it is not being implemented properly. 

When it comes to options, Greece has two: an outright repudiation of its debt; or a debt default coupled with an exit from the Eurozone. Many economists see the merits of these two options as so self evident that they are puzzled by why Greece would pick to inflict such suffering on the people to implement a program that is sure to fail. However, these economists tend to think of the crisis too simplistically. If debt is the problem, removing debt is indeed a solution. But in a country where there is endemic corruption, constant protests and civil strife, chronic tax evasion, a weak state whose chief purpose is to dole out patronage, and a private sector that is so heavily protected as to mock basis notions of meritocracy, it is hard to see how a default or a new currency are a “solution.” These recommendations start by asking “how can Greece lessen its debt burden” rather than, “what kind of crisis does Greece face?” Different questions, different answers. 

A second issue is whether the memorandum is doomed to fail or whether it is failing because it is not being implemented well. In some ways, the memorandum is not failing: for example, it is producing big changes in political economy, institutions and practices. But more generally, the government has made its position worse through its lack of political will. By failing to shrink the public sector quickly and by being too slow in reforming the private sector, it has fallen back on repeated tax hikes to plug its fiscal hole. As a result, society’s disposable income has collapsed. It need not be that way, and the government has options to rectify this condition. It could offer a tax break that it could pay for by cutting more jobs in the public sector and by allocating some money raised from privatizations towards tax relief rather than merely paying down debt. More importantly, slow progress on reform has amplified the public’s frustration from a perceived return to preferential treatment and favoritism. No society has much patience for such enormous pain so unevenly spread. 

#5. Greece is moving in the right direction, albeit slowly and unevenly. This seems counter-intuitive but if one looks above the fray of the everyday noise and onto the big picture, it is easy to see that Greek society is changing extraordinarily quickly. Not all the change is good, of course. There is more crime and civil tension. Health, mental and physical, is deteriorating. Xenophobia could easily mix with loose immigration controls to produce an explosive keg. 

But the true measure of reform is to assess Greece’s social and political dialogue. Few subjects are taboo any more. A country pushed the brink has no time for political correctness or for niceties; it has no time for diplomacy or for doublespeak. It has to confront reality and it has to deal with it. Of course, reality is not universal – different people have different views about how Greece got into this mess and what is best way to get out of it. But the dialogue has been enlarged in big ways and it is now possible to say things that would have been unthinkable even two years ago. Society is more open to ideas than ever before. This openness can be dangerous of course, and not all ideas floating around are constructive. But there are many ideas that are constructive and several of them are contained in the memorandum that the government has pledged to follow. And that is a promising sign. 

In a way, Greece is in Purgatory. Our country is divided into those who think that we were in Paradise and are on our way to Hell. The people who benefited from the old system fall into that group. There are those who think we came from Hell and are going back to Hell – these are the pessimists and they have reason to be so. I doubt anyone thinks we came from Paradise and are going back to Paradise. My view is that we came from Hell and have a good shot at reaching Paradise. Oddly enough, Purgatory looks and feels like the reform program that the troika has put in place. Purgatory is no fun but it’s worth going through because of what lies on the other end. At the end of the day, I remain optimistic that we can end up in Paradise. But I won’t be surprised if we do not.

3 comments:

  1. Nikos,

    I find myself in the strange situation in partly defending the peripheral EU countries against the onslaught of misunderstanding by the richer core EU countries on a "Greek" website mostly blaming the Greeks.
    I qualitatively disagree with you assertion that this is mainly a Greek problem.
    As a Dutchman living in NY, I have a combined European and US viewpoint. I most agree with Paul Krugman’s viewpoints, which are typically supported by independent data.
    Once the Euro currency was introduced under the limited set of EU integration conditions, mainly the lack of fiscal and political integration, the current EU crisis was set to happen. The only real question was when and how bad it would get.
    Of course, poor conditions in Greece did not stimulate competitive improvements leading to poor tax collection and poor labor productivity comparable to the core EU countries and made things much worse. But, even countries like Spain an Ireland, which “did everything right” got into trouble although for “apparently” very different reasons.

    One thing I don’t hear much mentioned in that the “capitalistic” US is basically very “socialistic” in its federal core, while the as more “socialistic” perceived EU, is much less so. People in NJ and NY are paying every year for the “Greeces” of the US. As I illustrated below in a pasted email from Q1 2012 to friends, for every Federal tax dollar NJ taxpayers paid, they “receive” only $ 0.61 back. The poorest States New Mexico and Mississippi received just over two federal dollars for every $ paid in federal taxes. There is no expectation that this will ever change.
    To make the EU work long term, large transfer payment from richer countries to poorer are likely to be required on a yearly basis as well. That does not mean that there should not be a strong drive for productivity improvements in Greece and other peripheral EU countries, but it is clear that only productivity improvements will not be enough while staying in the Euro currency.

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  2. Nikos, (Note this is the 2nd one of a series of 3 but I see that all charts fell away. Look for charts at the links provided))

    In my opinion, Finland, The Netherlands and Germany (in that order) are the main actors “pushing” political “solutions” negatively affecting the current EU problems.
    See Krugmans contribution form 2/25/2012: http://krugman.blogs.nytimes.com/2012/02/25/european-crisis-realities/

    Krugman there explains (not for the first time and he is not the only one either) that PIGS’s problems have nothing to do with high social expenditure, which before the crisis, happened to be less for all PIGS than for Germany.



    Looking at the budget deficits, Greece’s stands out, but Italy’s and France’s are very close,
    While Portugal’s budget deficit is smaller than that of France, Germany or Austria. Note that Spain had a small and Ireland had a sizable surplus! (The PIGS are in red).


    There does not appear to be much correlation.
    In reality, it only has to do with the current account balances (or the net differences for each country between imports and exports).
    And of course, for every buyer in the PIGS countries there was a seller in the Non-PIGS countries responsible for the transaction.
    In my opinion, the sellers have as much responsibility for the current problems as the buyers do (and just as in the case of pushing hard drugs, maybe even more). If the PIGS would never have joined the Euro, the “rich” EU countries would not have earned as much money and the PIGS would not have been in the current bad situation.


    If the PIGS were not in the Euro, there ability to borrow would be limited by high interest rates (~16 % for Greece before joining the Euro) and a dropping currency would allow them to become more competitive without damaging their internal economy severely.
    Just like there will always be difference in human capabilities, cultural difference and location (land area fertility, recourses, etc.) and therefore individual income, there will always be differences in the productivities of countries and in the rise of productivities.
    Only if the productivities and rise is productivities and their abilities to turn this into exportable products would be and stay the same for all EU countries, there would be no significant current account imbalances.

    The only way to solve any future problems is to take measures to make sure that within the EU for each country all current account balances are always zero (Euros imports = Euros exports).

    In a single currency area, there are only two ways to do that:
    1. Make and enforce laws that prevent trades leading to a current account balance
    2. Create a Tax Union, with internal transfers making up for the current account balances

    Option 1 is hard to enforce and would severely hinder trade within the EU, defeating its purpose.
    So, only option two remains.

    Buy the way, the US “selected” option 2; Federal moneys pay amounts (using a standard formula) to all citizens who qualify in all states for Social Security (AOW in the Netherlands), Medicare, Medicaid, Veteran Health Care. Together these money streams are called “Federal Transfer Payments”.
    In addition, federal funds are paid for military bases, weapons and munitions manufacturing, forest management, National Park management, pretty much spread evenly over all 50 states (all State senators and Representatives made sure that happened).

    Since a non-effective “solution” can still be political “acceptable”, such options have so far been chosen, even if there is no probability of success.

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  3. Nikos,

    It now looks like by 2020 Greece will again be at 160% of GDP (where they were before this bailout) and a same bailout is needed again and again.
    But even those estimates were made based on the very optimistic expectations and on 2011 data before the drastic budget cuts in Greece were implemented.
    The Greek economy is in freefall, the 7% drop in GDP last year is likely to be much larger for 2011 and tax revenues are only likely to drop even further.
    This means that the next Euro Bill 100 bailout / debt write-off is likely to come in 2013.
    In addition, unemployment is rising; both extreme right and left wing parties are growing, as are racist attitudes towards immigrants. Greece might even lose its democracy

    Since the current approach does not deal with the true problem, the problem will expand to Portugal, Ireland, Italy and possibly Spain.
    The Kiel Institute has calculated the percentage of primary surplus (= surplus excluding interest payments) as percentage of GDP needed to keep the debt loads stable and the size of the debt reducing needed.
    See: http://www.ifw-kiel.de/think-tank/policy-support/The-Kiel-Institute-Barometer-of-Public-Debt%20/The%20Kiel%20Institute%20Barometer%20of%20Public%20Debt%20/view?set_language=en

    You can see there that Portugal, Ireland, Italy and Hungary need their debs reduced by 15 to 55%. But that is assuming a growth rate of 2%, which they may never reach under their current debts. Hence, the cuts are likely to be larger. The “barometer” does not have factors for productivity and yearly productivity improvements; it inherently assumes that the settings for these factors are the same for all compared countries.
    We know that productivity and productivity changes are lower for the weaker EU countries. This does not only mean that the debt reductions will need to be larger, but also that without moving to an EU Tax Union sending “transfer payments” back, more and more countries will fall into this trap, until Finland (everything else remaining the same) is the last one standing. Germany would become the poor brother of Finland, Luxembourg and The Netherlands, but due to its size, it will be able to handle this.

    The only good development I see is that the EU is pushing for restructuring of the Greek institutions and to open its overly protected labor market. This should have been done 10 years ago as a condition for entering the EU.
    It is also good to realize that if the PIGS would not have joined the EU, they would not have been in the current debt situation; their currencies would have devaluated which even slightly rising debt/GDP ratio’s resulting in more attractive export position, which on itself would have led to the development and growth of export businesses.

    The solution is not technically difficult, but requires political will.
    The EU heads of governments could meet over a weekend and come out with the unanimous decision that they will move to a Transfer Union (as the US is) as soon as possible, replacing by Jan 1st 2013 most current national income taxes by EU income taxes (enforced by EU tax auditors as the IRS does in the US), while making temporary transfer payments until then. In that case, the EU’s problems would be mostly solved.

    Yes, the EU tax auditors would be harsh on Greece, Spain and Portugal, especially in the first years, but Italy would have a lot to gain by better tax auditing as well and the same would apply for some other countries (like Belgium). And of course, the reduction of available income due to more effective taxation would be more than offset by the transfer funds then paying for unemployment benefits, basic health care and food support flowing from EU coffins.
    The “transfer payments” would maintain a minimum level of income and health benefits for the poorest people in the poorest EU countries while the products purchased with them would be mainly produced in the richer EU countries, continuing the advantages of production at larger scale.

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