In an ironically symbolic picture from last December’s riots inAthens, the poster ofGreece’s National Tourism Organisation appeared behind a shattered window, featuring the slogan: “Greece: The True Experience!”
Five years ago, with euphoria over Greece’s entry to the eurozone still fresh, urban infrastructure expanding, a galloping growth rate and a new-found pride from the successful hosting of the 2004 Olympics, Greeks were living their True Experience. This modern-day Greek dream is now crumbling, and it is not just because of the global financial crisis.
Relatively speaking, the impact of the crisis onGreecehas been less harsh, as it has been cushioned by the limited openness of the economy. Annual growth in gross domestic product averaged 2.9 per cent in 2008; it is projected to be stagnant or marginally negative for 2009.
Apart from the financial system, the crisis has particularly affected sectors that mostly relied on bank credit: construction and the housing sector – important growth engines in recent years – and the shipping industry.
It is also taking a toll on tourism, export manufacturing, and imports of capital goods and consumer durables. Credit has tightened, consumption has slowed down, and business investment has declined. The government has sought to finance public investment by using advance payments of European Union funds.
YetGreece’s main economic problem is not an outcome of the crisis but of complacency during the prolonged boom that preceded it.
Over the last decade, average growth in gross domestic product approached 4 per cent, and the official unemployment rate declined from 12 per cent in 1999 to 7.6 per cent in 2008. The euro eliminated foreign exchange risk, allowed low interest rates, accelerated credit expansion and increased capital inflows.
For years, domestic demand grew faster than supply, sustaining an inflation rate higher than the eurozone average, and a growing external indebtedness of both the public and private sector. This imbalance is demonstrated in a current account deficit of as much as 13-14 per cent of GDP.
The second major imbalance is fiscal. The budget deficit rose to 5 per cent of GDP in 2008, activating the European Commission’s excessive deficit procedure. However, Greece’s fiscal problem is structural – not merely cyclical.
At 97.6 per cent in 2008, the Greek public debt-to-GDP ratio is the second highest in the European Union and rising. Governments failed to take advantage of the good times to put the public finances in order. Reducing the debt-to-GDP ratio towards the 60 per cent Maastricht reference level within the next decade will require primary surpluses of 4-5 per cent of GDP.
Fiscal consolidation means tackling tax and social security evasion, adopting fiscal discipline throughout government, ending preferential treatment for the governing party’s supporters in the form of public sector appointments or contracts,and curtailing the large defence budget, preferably through a mutual moratorium with Turkey.
Fiscal sustainability is further aggravated by rising pension costs. A limited reform in 2008 focused on unifying the system’s numerous pension funds. Without further reforms, pension costs are projected to reach 19 per cent of GDP by 2050, one of the highest in the EU.
Several structural weaknesses underlie Greece’s twin problem of external deficit and public debt. Despite some progress in the run-up to eurozone entry, competitiveness has declined again, largely as a result of inflation rates that have been persistently higher than the eurozone average. Higher corporate profit margins have been a major cause of inflation, indicating that better enforcement of market competition is needed.
A number of important reforms are incomplete: reducing red tape that impedes entrepreneurship; liberalising closed shops; encouraging people to start working earlier and retire later; improving the effectiveness of social protection spending; reforming education. Universities are being suffocated by over-regulation and student militancy.
Greece posts high rates of youth unemployment, long-term unemployment and female unemployment. Its employment rates are among the lowest in the eurozone, reflecting a longer stay in education (for the young), inadequate social care or employment flexibility (for women) and higher rates of early retirement (for women and older employees). Combined with demographic ageing, this means that Greece could in the future have one of the highest dependency ratios of retired to active population.
It is clear that the “convergence model”, which took Greece to the euro and allowed per capita income to catch up with the EU average, has exhausted its limits. It should be replaced by a more extrovert, competitiveness-oriented model, based on strengthening the productive base and productivity through investment and structural reforms. The national saving rate (public and private) must rise; exports and competitiveness have to converge to eurozone levels.
Greece has turned things around repeatedly in the past, switching from “success story” to “problem case” and back again. Over the past 50 years, the country has posted the second-highest average economic growth in the EU-15. After losing ground in the 1980s it became a growth champion once again from the mid-1990s. A once-destitute Mediterranean economy has raised per capita GDP to 90 per cent of the eurozone average.
Greece has a comparative advantage in services, especially tourism and shipping. Leaders in south-east Europe, Greek banks remain profitable and well-capitalised by current EU standards. The country can develop into a regional business centre and energy hub. Greece’s geography and climate could attract retiring baby boomers, creating investment opportunities in health and other services.
Provided it can summon up the will to reform, Greece can turn itself around once again
The writer is professor of European politics and economy, Athens University of Economics
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