Myths and Reality about Economic Crisis in Greece

28 July, 2015

he Greek economic crisis is one of the hardest ever seen in peacetime by developed nations. Since 2008, the economy contracted by fourth and came close to the US economic downturn during the Great Depression. The unemployment exceeds 25%, while the same figure stands at 50% among youth.

The Greek crisis is mostly covered by the Georgian media in the context of intense confrontation between Athens and the EU: Greeks are asking for help, whereas leading EU nations are trying to impose certain demands upon, them instead of showing solidarity, and further exacerbate the crisis. In reality, the situation in Greece has specific causes that do not cross its borders. Greece became the first advanced economy that defaulted after the Second World War because of flagrant state interference in the economy, political clientelism, government’s fiscal negligence and irresponsible promises.

The most regulated economy of the EU was created in Greece many years ago. For instance, prices for over-the-counter drugsare fixed by the state, while the right to conduct pharmacy business is exclusively granted to licensed pharmacists. One pharmacist, in turn, can only own one pharmacy. The working hours of pharmacies and other trivial things that must be usually dealt with by business-operators based on market demand are strictly regulated by the state.

Similar to pharmaceutical industry, the state is blatantly interfering in almost every part of the economy. Greece is the worst performing country among OECD members under World Bank ease of doing business index. Excessive regulation means excessive expenses and less productivity for business. This is why, labor costs in Greece are about 25% higher compared to Germany. According to World Economic Forum, Greece is behind countries like Suriname and Nepal in terms of labor market efficiency.

The government spending in Greece has been on the rise for years along with the structural problems in the economy. In the 1970th, when democracy was restored, the practice of trading public service jobs in exchange for political support saw unprecedented up surge and remained wide spread throughout ensuing decades. Currently, there are only two private business employees for every civil servant.

Enormous state apparatus has not only been putting huge strain on the state budget, but has also been impeding economic growth and breeding corruption. Starting business or construction project in Greece requires going through immense bureaucratic procedures. Thus, problems are often solved by paying a bribe. Greece is the most corrupt country in the EU according to Transparency International corruption perceptions index.

The rise of government spending was also triggered by expensive social security system. Greeks retire earlier than citizens of most of the other Eurozone countries after working 35 years on average. Pension fraud is overwhelming. As a result, annual expenses on pensions in Greece reached 18% of its Gross Domestic Product (GDP), which is highest in the EU. The same expenses in the US amount to 5% of GDP.

Membership of the European Community since 1981 and becoming part of the Eurozone 20 years later brought investments and significant economic growth to Greece. However, this did not sufficiently translate into budget revenues due to massive tax evasion. Greece has been losing revenues of 3-4% of GDP annually, because significant parts of the population hide their real income. Latest figures put the size of shadow economy at 24% of GDP.

Greece found an easy way out by financing its ever increasing expenses through debt instead of cutting down spending, liberalizing economy, improving tax collection and carrying out other reforms. Initially, the government could easily borrow at low interest rates. Creditors were attracted by the stability of Euro, low inflation and EU’s requirement that budget deficit in its member states must not exceed 3% of GDP.

The Greek government debt increased dramatically in the 2000th. Nonetheless, the government claimed that the budget deficit was persistently 3.4% of GDP. It was shortly discovered that the government was lying. The real deficit in 2009 stood above 15% of GDP. It is now well-known that the Greek government also fabricated figures in 1999 when accepting Greece into the Eurozone was being decided.

On the one hand, Greece lost the trust of private creditors and thus, could not borrow on capital markets. On the other hand, the world financial crisis in 2008 hit the Greece economy hard and budget revenues plummeted. Greece was on the brink of collapse. The government debt in 2010 made almost 150% of GDP, while paying for existing liabilities was only possible by borrowing more. Greece became entirely dependent on international financial institutions.

Greece was helped out by European Commission, European Central Bank and IMF (Troika). The Greek government was required to implement unpopular, but indispensable reforms in exchange for assistance, including reducing bureaucracy and social spending, deregulating economy, balancing budget and privatizing state assets.

In 2010-2012, Greece was earmarked 240 billion Euros with very low interest rates and favorable repayment schedule. Foreign debt obtained from private creditors has almost been completely replaced. The amount of money due to be repaid annually became manageable 2.3% of GDP. At the same time, European Central Bank started the Emergency Liquidity Assistance program worth 90 billion Euros to help local banks. However, the Greek government breached promise and left many of its commitments unfulfilled. For instance, the government hired 70,000 additional civil servants instead of pledged spending cuts.

Greece could not overcome the crisis unlike other indebted EU members and required additional assistance of around 80 billion Euros. In January 2015 Parliamentary elections Greeks dissatisfied with status-quo voted for the radical leftist coalition Syriza, which blamed worsened social conditions on Troika’sdemands and promised to give upon their implementation.The new government requested Troika to write down its debt and backtrackon most of the reforms launched in previous years.

The leader of Syriza and Prime-Minister Alexis Tsipras hoped that leading EU nations would not be risking the Eurozone unity and would yield.Greece would default on its existing liabilities unless no agreement was reached on the new bailout package, which could potentially result in its exit from the Eurozone. Tsipras called referendum to boost his bargaining power and received public support for the second time.

Athens approach resembled more a threat of suicide and thus, Troika could not be blackmailed. Greece would risk becoming a failed state in case of leaving the Eurozone. According to various estimates, the new currency (most likely Drachma), where the Greeks’savings would have to be converted, could depreciate by 60%, while the economy was expected to shrink by 20%. Private businesses that had liabilities in Euros would go bankrupt. The government would have tobe much bolder and quicker in cutting its spending than demanded by Troika, because it could no longer borrow. Imported goods would have to be rationed. The country would be seriously risking to be engulfed by social chaos and disorder. The developments in the late June 2015 demonstrated, albeit on a smaller scale, what could potentially happen if Greece exited the Eurozone.

It became clear that Athens would fail to repay an IMF loan in due course (by June 30), when the negotiations with Troika hit the stumbling block. Greeks afraid of Drachma’s possible return started to immediately withdraw their bank deposits. The government ordered banks to shut down. Cash withdrawals from ATMs and international wire transfers were also restricted in a bid to prevent massive capital outflows and save the financial system from collapse.The real threat of food and drug shortages emerged, because importers could not pay their suppliers. Greece was on the brink of a humanitarian catastrophe.

Eventually, Athens agreed on all conditions of Troika it previously opposed. The long standoff with creditors left the Greek economy in even more dire conditions. The small growth achieved in 2014 was again replaced by downturn in 2015. Tourist season was disrupted, but the capital controls hit the banking system hardest. It will take a lot of time and effort for banks to regain trust of investors and continue financing the economy.

Greece was given the last chance to create modern, competitive economy that is not dependent on credits. This requires swift reforms and sound macroeconomic management, which is a prerequisite for economic recovery. Unfortunately, Syriza was elected on the assumption that Greece would keep funding largest bureaucracy and pensions system in Europe at the expense of others. It has neither sufficient competence, nor adequate mandate to deal with this challenge.

Malkhaz Natindoshvili