The Greek Referendum ‘No’ and the World Economy

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By Dr.Martin Patrick*           

Crisis has become part of economic life of the people all over the world. This decade and the last decade witnessed several crisis, starting with the US subprime crisis in 2007 and now passing through (not ending with) the Greek crisis. In between these two we witnessed world recession in 2008, European sovereign debt crisis in 2009, which was a situation when government of particular country was unable to repay its debts. Greek was the most affected country in the latter episode.

Background

In 2010 the debt crisis was mostly centered on events in Greece. The Greek economy was one of the fastest growing in the euro zone during the 2000s. From 2000 to 2007 it grew at an annual rate of 4.2 per cent as foreign capital flooded the country. A strong economy and falling bond yields allowed the government of Greece to run large structural deficits. Successive Greek governments have, among other things, run large deficits to finance public sector jobs, pensions, and other social benefits. Large public deficits are one of the features that have marked the Greek social model.

Adding to the above, the onslaught of the recession and subsequent introduction of various financial stimulus packages, the government expenditure like public job creation, pensions, social benefits etc on various countries took on gargantuan proportions to support these packages. To support these packages government was forced to borrow heavily consequently generating high fiscal deficits. Since 1993 debt to GDP has remained above 100 percent. Greek’s debt load reached 143 per cent of GDP in 2010 and now it is 170 per cent of GDP.

In short, the popular and widely accepted explanation for the Greek crisis is the growth of debt. This is really a proximity cause of the crisis. The bail outs and social expenditure as the reasons for high deficit and debt burden also do not reveal the true picture. One missing element is creating accounting practices.

Creative Accounting

The financial crisis that began in 2007 had a particularly large effect on Greece. Two of the country’s largest industries are tourism and shipping, and both were badly affected by the downturn with revenues falling 15% in 2009. The revision of Greece’s 2009 budget deficit from a forecast of “6-8% of GDP” to 12.7% in late 2009 (a number which, after reclassification of expenses under IMF/EU supervision was further raised to 15.4% in 2010) has been cited as one of the issues that ignited the Greek debt crisis. In 2009, the government of George Papandreou revised its deficit from an estimated 6% (8% if a special tax for building irregularities were not to be applied) to 12.7%. In May 2010, the Greek government deficit was estimated to be 13.6% which is one of the highest in the world relative to GDP.

This added a new dimension in the world financial turmoil, as the issues of “creative accounting” and manipulation of statistics by several nations came into focus, potentially undermining investor confidence. To keep within the monetary union guidelines, the government of Greece has been found to have consistently and deliberately misreported the country’s official economic statistics. The emphasis on the Greek case has tended to overshadow similar serious irregularities, usage of derivatives and “massaging” of statistics (to cope with monetary union guidelines) that have also been observed in cases of other EU countries, especially Italy. However Greece was seen as probably the worst case. In the beginning of 2010, it was discovered that Greece had paid Goldman Sachs and other banks hundreds of millions of dollars in fees since 2001 for arranging transactions that hid the actual level of borrowing

There have been a growing number of reports about manipulated statistics by EU and other nations aiming, as was the case for Greece, to mask the sizes of public debts and deficits. These have included analyses of examples in several countries or have focused on Italy, the United Kingdom, Spain, and the United States among others. Italy also has a high debt, but its budget position is better than the European average, and it is not considered among the countries most at risk.

Bail outs and Austerity measures

To overcome the crisis, on 5 March 2010, the Greek parliament passed the Economy Protection Bill, expected to save €4.8 billion through a number of measures including public sector wage reductions. On 2 May 2010, the euro zone countries and the IMF agreed to a €110 billion loan for Greece, conditional on the implementation of harsh Greek austerity measures. Another bail out was provided in 2012. A bail out of Greece with an extra $157 billion (109 b euro) of government money plus a contribution by private sector bondholders estimated to total as much as 50 billion euro by mid-2014. A host of similar measures that adopted in the country did not help them to tackle the crisis.

The crisis is seen as a justification for imposing fiscal austerity on Greece in exchange for European funding which would lower borrowing costs for the Greek government. The austerity measures include: reduction in bi-annual bonus , cut on public sector allowances, fixing limit of month pension installments, Return of a special tax on high pensions ,extraordinary taxes imposed on company profits, increase in VAT ,rise in luxury taxes and taxes on alcohol, cigarettes, and fuel , equalization of men’s and women’s pension age limits ,average retirement age for public sector workers has increased from 61 to 65, public-owned companies to be reduced from 6,000 to 2,000. And with the banking crisis and tax revenues plummeting amidst the instability, Greece’s economy has weakened again, making a deal even harder to reach.

Now, debt repayment deadlines came and went, with Athens missing a €1.5 billion repayment to the IMF. The country now faces a €3.5 billion payment to redeem bonds at the European Central Bank in two weeks.

Referendum and the World Economy

The final result in the referendum, published by the interior ministry, was 61.3% “No”, against 38.7% who voted “Yes”. The immediate impact of this referendum on the world economy is the creation of certain amount of panic in the world economy, particularly in the capital market. It has been witnessed by all capital markets in Europe. In the long run, if the Greek government is able to negotiate with EU and other agencies successfully, it will lead to positive outcomes. The first question is therefore whether there is a future for Greece in the Euro in the wake of a No vote and with Alexis Tsipras as a negotiating partner?

The second question is whether Greece will quit European Union? ‘Grexit’ (the exit of Greece) and ‘Pax Germanica’ ( the supremacy of Germany in EU) are the terms largely used in the context of Greek crisis these days. If it quits European Union due to the failure of negotiation, the world economy will be adversely hit. Which option will be selected by Greece in the new context? The strong ‘No’ vote in Sunday’s referendum, spurning the extra austerity demanded – mainly by Germany and the International Monetary Fund – in return for an extension of bailout funds, has strengthened Tsipras’s position and hence the possibility is for the second option. But the Greek Prime Minster will depend on this strategy as a last resort. Being a clever politician he will make use of the results of referendum for a better deal through good and successful negotiation However, there would be no ’easy solutions’ to this problem, as the Greek Prime Minister remarked.

 

 *  The author is the Chief Economist of CPPR. His views are personal and does not reflect or anyways represent the views of Centre for Public Policy Research

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