The Greece Debt Crisis began in 2009 when the Greek economy came into the center of international attention. Greece was the first casualty of the financial crisis, which in turn threatened to destabilize euro currency, and the euro zone, thus putting at risk the European economy recession recovery. Initially, the Greek economy crisis was a European financial crisis due to the recession, which later developed into a political and social crisis (Mitsakis 250). At this time, Greek economy entered into a prolonged recession with its fiscal deficit and public debts worsened significantly. The debt crisis in Greece originated from various factors and aspects such as political, economic, and social causes. Although the financial crisis was a global, Greece was hit hard because it had a high level of public debts, the projected deficit deteriorated and also the unstable fiscal programs that were adopted by the new government. According to Moneim (2012), Greek government borrowed mainly from international capital markets so as to fund current account and budget deficits, thus leading to the exceptional growth of the debts reaching to 147.3% of GDP in 2010.
Causes of Greek Government Debt Risk
Greece entered into the euro zone in 2001 with an expectation to transform the country’s economy destiny. According to Kouretas (2), the adoption of the euro by Greece was beneficial because historically, Greece had high levels of inflations and lacked credibility in its economic policy. Thus, the introduction of the euro currency, led to the decrement of inflations in the country, hence reducing uncertainties associated with inflation distortion. The low inflation environment and decrease in nominal interest rates caused by the rise in borrowing and lending capability resulted in increased private investment and significant triggered growth rate of 3.9 % annually between 2001 and 2008 (Kouretas2).
The increase in growth rate was as a result of high consumption rates, business and housing investments in Greece. Also, according to Kouretas (2), adoption of the euro by Greece resulted in a decrease in uncertainty of exchange rates which led to a reduction in the costs of public debt servicing and fiscal adjustment facilitation.
However, at the beginning of 2009, everything changed as the country became a center of the financial crisis (Dellas and Tavlas 492). Kouretas (2) notes that failure of Greece to take advantage of the low inflation environment caused them to run fiscal deficits of 6% of GDP as well as increase the government spending share in the economy.
According to Dellas and Tavlas (504), for a monetary union such as the euro zone to be durable, there must be a well functioning adjustment mechanism. Greece did not have any adjustment mechanism to adjust money and credit growth, thus it ended up running many current accounts and fiscal deficits which they did not have policy measures for remedy. This is because Greece like Latin American countries did not have gold standards. The lack of the gold standards in Greece was the reason why it had large deficit current accounts since it experienced massive fiscal shocks, thus causing a buildup of external imbalances.
Equally, Greece lacked credible financial institutions to support the euro currency (Dellas and Tavlas 504). Although in the euro zone, the market perception was that Greek would become a safe investment due to bail out by the key Eurozone countries, it resulted in the Greece interest rate being suppressed by credit risk. Besides, low-interest rates increased the fiscal expansion since there was a perception that there were no prices to be paid for the buildup of sovereign debts in the euro zone. This led to external imbalances perpetuating further as a result of the perception that there was no credit risk in the euro zone.
Unsustainable Fiscal Policy
According to Kouretas (3), the financial crisis in the economy of Greece was a result of structural weaknesses and macroeconomic imbalances. Greece government before the debt crisis was for three decades run excessive budget crisis. Although the Greek economy experienced high rates of growth after euro adoption with favorable macroeconomic situations, the government was not successful in reducing deficits to below 3% as required by the Stability and Growth Pact. This led to Greece being under EU fiscal control since 2004, but the financial condition deteriorated in 2009. Besides, the monetary policy during this entire period was pro-cyclical and was mainly driven by spending, which led to over 50% spending of GDP by 2009. At the same time, economists had optimistic expectations for the future incomes which furthered consumption and spending. By 2009 the government and private consumption had reached 90%, making it the highest rate ever recorded in comparison to Japan, USA, EU-27 and other developed countries (Kouretas 3).
According to Kouretas (4), public debts and fiscal deficits in Greece, are independent of political regimes and dates back in 1970. Public debt was 25% up to 1980, and the external borrowing was only limited to investment purposes. However, in 1981, when the socialist government came to power, foreign borrowing was extended to boost consumption so as to raise living standards of its population. This saw the debt rate increase to 80% by the end of the 1980s and into the conservative government regime and the 1990-1993 political turmoil (Kouretas 4). In 1994 to 1999 the public debt reported a steady ration of 110% as a result of stabilization program that was put in place in by the new socialist government with the aim of meeting the Maastricht criteria.
High growth rate saw the debt/GDP ratio to fall between 1999 and 2004 and the falling rates continued due to major infrastructural developments which were in support of hosting the Olympics in Athens and financial transfers which were flowing from EU countries (Kouretas 4). However, in 2007, the borrowing rate increased to debt rates to 130%. This was as a result of economic shock which Greece fiscal policy failed to automatically stabilize because the policy was pro-cyclical rather than counter-cyclical in nature, thus making pro-cyclical policy the primary cause and source of such shocks.
According to Abboushi (2010), Greek government spent more than half of its GDP annually in 1994 to 2009 on recurrent expenditures. Among the areas of spending by the government were payments for social programs which had questionable economic growth instead of stimulating the economy from recession. In additional to the liberal spending of Greece government, the workforce retirement age is 58 years, which is the lowest among all other EU countries. Therefore, in general, the government depended on public debts to generate liquidity to use in paying for financial obligations and social entitlements. Indeed, this is because the government had massive entitlement programs and its economy was stagnant with poor tax collection regime.
Also, Ozturk (26) also adds that an increase in public debts was a result of wrong policies, financial extravagance by the government, unsustainable retirement, unfair taxation system, populist practices and low competitive power alongside organizational and political problems of EU and euro zone.
Lack of Competitiveness
Greece economy lacked competitiveness, thus making it a chronic issue that dates back in the 1970s. Greece experiences high current account deficits, thus reflecting the economy’s lack of competitiveness (Kouretas 5). Inflation and wages increased during 2001 to 2009, in addition to productivity changes, which led to an increment in the average productivity as compared to other countries in the euro zone. Competitiveness in this period reduced by 20% as measured by consumer prices while it reduced by 25% when measured by labor cost (Kouretas 5). Also, wages increased by 5.5%and 16.5% in tradable and non-tradable factors respectively. Therefore, according to Kouretas (4), the Greek economy in international competitiveness lacked as a result of the failure of the internal devaluation of non-tradable sectors which if done would lead to resources being allocated to tradable sectors.
Falling competitiveness of the Greek economy and high growth rates resulted in an increment in current account deficits from 7% in 2001 to 14.5% increase in 2008. On the other hand, the debt rose to 200% a clear indication that deficits in the current account were as a result of strong interest rates by foreign holders of Greek financial assets.
Inefficiencies in Public Sector
There was a dramatic increase of employees and wages in the public sector, thus leading to the reallocation of capital and labor from the private sector(Kouretas 4). Tellingly, this resulted in the lack of competitiveness in addition to deficits in current accounts since the private sector is closely tied to the public sector because the government gave most of the contracts. Thus, the private sector became dependent on government projects, which limited its efforts to research, innovate and develop products. Thus, triggering a reduction in the overall competitiveness of Greece economy.
According to Katsaitis and Duolos (2009), significant amounts of Funds from E.U to Greece economy adversely affected the private sector. Greece private sector experienced a crowd out as a result of the EU funds. This is mainly because as Katsaitis and Dolous argue, the impact of such funds depends mostly on the institutional quality of the country receiving the funds. Therefore, the higher the quality the positive the impacts are and the lower the quality the negative the impacts are. With the private sectors depending on government projects, it made them of low quality, hence leading to adverse effects resulting in the crowding out.
According to Jurlin and Cuckovic (2009), Greece ranked 15th in institutional quality of 80 in EU-16 countries, which is below the standard value of 100. The institutional quality index has deteriorated since 2006.
Greece people have a negative attitude towards entrepreneurs and entrepreneurship, according to a survey carried out by the European Commission Entrepreneurship Survey in 2009 was a basis for evidence of the attitude of the Greeks on entrepreneurship. Answers to questions “Entrepreneurs think only about their wallet” and “Entrepreneurs exploit other people’s work,” according to the survey were more positive than those given in China’s communist.
According to Kouretas (8), the negative attitude can be mainly attributed to both conservative and socialist political parties for the past thirty years. This is because the two governments increased the size of public sectors and wages of employees more than that of those in the private sector, thus everyone searched for jobs in public sectors although payment was not related to productivity. This led to severe damage of Greek economic competitiveness since the governments concentrated more on the trade-off of votes in exchange for votes.
In support of this, Abboushi (2010) notes that Greece political and economic systems have underlying structural problems. They argue that Greece is not a friendly, particularly in business, thus hindering capitalization and entrepreneurship investments. According to World Bank report, Doing Business, Greece is ranked worst of the 27 members in the category of Ease of doing business in EU countries. In general, Greece ranked 109th in OCED countries, whereby it takes 19 days to register a business and 224 hours to file taxes. Also, the expanded public sector laid the basis for complex networks of red tape, fees, and taxes.
According to Moffet and Granitsas (2009), the cost of dealing with government bureaucracy in Greece contributes to 7% of GDP in paying for government regulations for businesses. Thus, the competitive business situation of Greece seems to scare aware entrepreneurs, particularly foreign entrepreneurs leading to decreased foreign investments which are one of the main sources of capital needed in an economy such as in Greece that is in crisis to pay public debts.
Faulty Public Records
Moreover, to fit in monetary guidelines of the euro zone, the Greek government misrepresented and falsified data on its public finances (Abboushi 2010). The embarrassing discovery puts Greece in the spotlight. Irregularities were cited in Greek financial information and also revised an upward estimate of the budget deficient more than one time (Davis 2010).
Also, a report published by the European Commission in January 2010 on Greece’s budget deficit and public debts handling by the government, revealed that in October 2009, the government had revised its deficit from 5.5% to 7.7% of GDP in 2008. Also, for 2009 from 3.7% to 12.9% and again to 13.6%. The reported affirmed that Greek government provided an inaccurate economic status of the country, poorly documented bookkeeping and statistic agencies lacked transparency (European Commission 2010).
Such disclosures had an impact on Greek economy since credit rating agencies and bond markets saw Greece as untrustworthy and lacked creditworthiness. In fact, this led to a rise in bond yield and drop in credit ratings. Thus, Greece was unable to qualify for new debts to offset existing debts. Faulty public records were as a result of poor tax collection systems, resulting in corruption and tax evasion which were deep-rooted problems (Featherstone 925).
Solutions to the Crisis
Default on Debts
According to Vickstrom (63), Greece could default the massive debts that it could no pay, thus relieving its economy from the debts, instead of passing various austerity measures to minimize government spending. With the Greek economy, already shrunk, defaulting is a better alternative rather than keeping the debts afloat.
However, Vickstrom (63) notes that such default would create a domino for other countries to follow and default their debts this causing an impact on the global market with a 1.3% output contraction in 2012. If Greece defaults, Greek national banks would be one of the winners in such a situation (Launder 2010).
Vickstrom (64) argues that Greece can opt to leave the Eurozone and return to the drachma as its currency. This would result to its debts being written off to almost 100% because it is also a form of default. Leaving Eurozone would be advantageous to Greece because it would be in a position to devalue its currency, the drachma, thus becoming economically more competitive. This is because its export sector will rise since more foreign investors and countries would be willing to do business with Greek companies and Greece as a nation, bring cash into the economy.
Michelis (9) also adds that devaluation of drachma will improve Greek trade balance, thus alleviating its need to borrow more money thus reducing its debts. Also, the option of dropping out of the Eurozone by Greece would act as a threat to strong euro zone partners who would then intervene to solve the debt crisis. If Greece and other countries in the same situation of debt crisis leave the euro zone, the existence of the euro itself will be threatened.
Furthermore, the European project of integration, which has been in existence for 50 years would also be in jeopardy in case of euro zone drop out (Michelis 10). Also, if Greece drops euro and exits the euro zone, the euro stops being a legal tender and thus Greece will not be obliged to pay off its debts using the euro.
According to Michelis (5), Greece can borrow short-term debts to settle their overall public debt repayments. Michelis further notes that in 2010, Greece borrowed 110 million euros at 5.2% annual interest to be paid in three years, initially. However, the loan repayment in 2011 was increased to seven and a half years with annual interest of 4.2%, in return for Greece cutting wages, privatize public enterprises and property and freeze pension to meet fiscal and public debt targets.
Eliminate Tax Evasion
According to Michelis (18), putting up a credible tax audit system would ensure tax evasion is eliminated. This is by introducing a computerized system with checkers and balance which will identify tax evaders and arrears automatically. The methods can be followed by other EU members and other countries such as the US and Canada.
Besides, the system should be adjusted to fit Greek economic features such as one-third of the economy is contributed by self-employed people who pay in cash basis, thus can under report their earnings. Also, the negotiation settlements between tax auditors and taxpayers should be dropped. Finally, the government should improve its public services so that the citizens can feel they have an obligation to pay taxes and it is worth their sacrifices.
National Statistical Agencies
The statistical agency should be independent of any political influence and should be obliged to provide and compile valid and actual data which is reliable for the economy of the country (Michelis 12). For sound decision making by market participants, government and policy makers, there should be accuracy in the measurement of economic variables such as deficits, debts, GDP, and employment.
This would ensure there is no global shut out on the financial market as experienced before due to incomplete and unreliable data. Michelis notes that in reputable international databases such as International Financial Statistics of IMF, Greece has an incomplete data in time series of important macroeconomic variables (12). This hinders research on fundamental economic topics to be carried on the Greek economy.
The Greece government is in a tight situation to pay the public debts and additional bailout loans, fight and eradicate in-depth recession and implement stabilization programs. Such tasks are enormous and difficult to achieve within a short period. The Greek government has an option to buy time until the stabilization programs work, the economy resumes positive growth, and economic reforms have been implemented and completed.
Greece’s best option is to stay in the EU and Eurozone and meet its financial debts and deficits obligations. Therefore, it should adopt a new political force that will tackle the economic, institutional and policy deficits. This will be through the implementation of reforms that will change and transform Greece into Modern EU and at the same time adopt and embrace social change. Besides, Greece should use the current debt crisis as a beginning and an opportunity to create an economy that is better, improve national statistical and accounting systems and a more just and equal society.
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Davis A. Greek deficit revised to 13.6%, 2010. http://www.bloomberg.com/apps/news
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Oztruk, S., “Effects of Global Financial Crisis on Greek Economy: Causes of Present Economic and Political Loss of Prestige” International Journal of Managerial Studies and Research, 2015 Vol. 3(6), pp 26-35
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