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THE GREEK ANOMALY: THREE BAILOUTS AND A CONTINUING
CRISIS
by
MARKOS BEYS PAPACHRISTOU
Submitted in partial fulfillment of the requirements
for the degree of Master of Arts
Thesis Adviser: Professor Elliot Posner
Department of Political Science
CASE WESTERN RESERVE UNIVERSITY
January, 2017
CASE WESTERN RESERVE UNIVERSITY
SCHOOL OF GRADUATE STUDIES
We hereby approve the thesis/dissertation of
Markos Beys Papachristou
candidate for the degree of Master of Arts *
Committee Chair: Elliot Posner
Committee Member: Peter Moore
Committee Member: Joseph White
Date of Defense: December 9, 2016
* We also certify that written approval has been obtained
for any proprietary material contained therein.
To my Parents
Christos and Patricia Papachristou
Table of Contents
1. Introduction.......................................................................................................................1
2. Origins and Causes of the Greek Crisis.............................................................................7
2.1 Issues with the Greek Politics and Economics...........................................................7
2.2 Economics of the Greek Debt...................................................................................14
3. EU – ECB – IMF Bailouts of Greece..............................................................................20
3.1 Bailouts and Austerity Measures..............................................................................20
3.2 Cost of Austerity.......................................................................................................28
3.3 Why Austerity Failed................................................................................................33
4. Bailouts of Other EU Countries: Ireland, Portugal, Spain..............................................42
4.1 Ireland and Greece....................................................................................................43
4.2 Portugal and Greece..................................................................................................48
5. Alternative Scenarios.......................................................................................................52
5.1 Growth with Debt Reduction....................................................................................52
5.2 Default and Grexit....................................................................................................57
6. Summary..........................................................................................................................63
References ……………………………………………………………………….…….67
List of Tables
Table 1. The Three Greek bailout Packages .......................................................................32
List of Figures
Figure 1. Evolution of Greek Debt ....................................................................................15
Figure 2. Growth Rates of Greek GDP..............................................................................16
Figure 3.
Greek Trade Deficit ...........................................................................................17
Figure 4.
Labor Productivity and Cost ..............................................................................18
Figure 5.
Unemployment in Greece and the EU...............................................................29
Figure 6.
GNI per capita in Greece and OECD................................................................30
Figure 7.
Relative Unit Labor Cost in Eurozone...............................................................36
Figure 8.
GDP Growth in Ireland and Greece .................................................................44
Figure 9.
Competitive Wages of Ireland and Greece ........................................................45
Figure 10. Export Volumes of Ireland and Greece .............................................................45
Figure 11. Portugal’s Competitiveness in terms of Labor Cost ..........................................48
ACKNOWLEDGMENT
The author wishes to express his appreciation to his adviser Professor Elliot Posner for
helping him during his research work. Thanks are also due to his thesis committee
members and mentors, Professors Peter Moore and Joseph White.
The Greek Anomaly: Three Bailouts and a Continuing Crisis
Abstract
by
MARKOS BEYS PAPACHRISTOU
This thesis explores the main aspects of the Greek economic and political crisis which was
triggered by the increasing size of the Greek debt. By 2010 the debt has reached
unsustainable levels impeding the country's access to financial markets. Many causes long
preceded the crisis and obstructed modernization of the Greek economy. These included
paternalistic, clientelist and rent-seeking politics. Accession to the European Union (EU)
and later the Eurozone, despite early successes, accelerated Greece's deficit spending and
its debt. The EU responded with a succession of three bailouts under increasingly strict
austerity measures. A perfect storm of causes combined to yield disappointing results
compared to austerity programs of other Eurozone countries. There has been a major
austerity cost in economic, political and human terms, severely affecting the social fabric
of the Greek society. In addition, the Euro currency has created trade imbalances between
stronger and weaker states with the latter being unable to devalue. According to many
experts, only a substantial debt reduction may help Greece's recovery.
1
1. Introduction
The Greek economic crisis at the start of 2010 rocked the stability of the European
Union (EU). To make matters worse, several more economic crises in Ireland, Portugal,
and Spain occurred about the same time. Reluctantly, the EU had to respond by providing
financial support to the stricken countries by bailout contracts under strict conditions. In
the aftermath of these EU crises, two key questions are raised: first, why three bailouts
have not worked in Greece in contrast to singular bailouts given to Ireland, Portugal and
Spain, which have seen positive albeit modest economic improvement. Second, how is it
possible for a member of the EU that was considered to be a successful, growing economy
in Europe for more than a decade prior to 2010, could end up in such a deep economic
crisis that has resulted in the loss of at least 25% of it’s GDP from 2010-2015?
A number of factors both of internal and external origins have contributed to a
“perfect storm” situation in Greece. However, the causes of the crisis are not only fiscal
and economic, but have also had deep political and cultural roots.1 The primary reason
which is mainly cited for the crisis is the rise of the Greek debt which was accumulated
over the years since Greece joined the European Union and then the Eurozone in 2002.2
Traditionally, Greece would borrow money from financial institutions to cover
budgetary needs (gaps in the budget) and some funds would then be allocated for projects.
This borrowing (this money was easily available between 2000-2009) increased with
Greece's entry in the EU and the Eurozone. The EU membership was used by the Greek
2
governments as "collateral" cover to keep obtaining funding at low interest rates from
central banks and sustain a financial equilibrium in the country. In fact, during this period
Greece actually achieved significant economic growth (at least 5% on average). However,
this growth was partially driven by special funds (with some strings attached) which were
allocated by the EU to help sectors of the Greek economy.
Of course, the Greek debt kept on growing as well during this economic growth
period. Nonetheless, it seemed manageable as the country appeared to be a low risk for
international investors and financial institutions.3 This was unwisely facilitated by the
greed of creditors to lend more money to Greece without consideration and thorough
testing (the so-called stress test) of Greece’s long term ability to maintain a reasonable debt
to GDP ratio.4
The EU response to the Greek crisis, especially in Germany, was very slow during
the early stages; it focused mostly on arguing about legalistic issues and treaties. However,
the markets took this inaction as a lack of EU guarantee on the Greek debt which led to a
degrading of Greek bonds and a rise on their interest rates. This was the official position
of the EU prior to 2010: no bailouts. Then the EU, concerned about contagion effects,
moved together with the IMF, to bailout Greece at first in 2010. Subsequent bailouts in
2012 and 2015 were needed and made under increasingly severe austerity measures.
However, these bailouts which were conditional on austerity have not been
effective. On the contrary they have caused economic collapse in Greece which is evident
by numerous indicators such as unemployment rate of over 25% and at least a 25% decline
3
in its’ GDP.5 Moreover, the social, human cost and politics of the austerity have been very
high, breaking the mainstream two party system with radical political forces from both the
hard left and the far right gaining in power and influence.
Alternative economic rescue plans have been proposed ranging from pro growth
policies and reforms with heavy debt haircuts, to defaults and exit from the Euro (Grexit).
Many of these ideas and plans appeared in widely read articles and were promoted by
some international experts in economics, finance and political science. However, none of
these plans have been implemented as they were all resisted one way or another by the
bureaucracy of the European Commission (EC) which influences the Eurogroup, i.e. the
Eurozone Working Group.6
Generally, there has been a failure from the Eurozone institutions in dealing with a
crisis of this magnitude. The main reason for this is that the architecture of the whole EU
was envisioned as an economic union but, despite such rhetoric, was not based on federal
political structures, instead treating its members like separate entities.
It should be noted that other Eurozone countries with weak economies were also
impacted by crisis during this period and also had to go through bailout plans. Ireland,
Portugal and Spain needed bailout support to survive their crises whereas Italy came under
stress but remains without a bailout thus far. All these countries were able to recover and
exit their bailout stage. Although there are similarities, nonetheless there are significant
differences between Greece and the situation of the other so called PIIGS countries
(Portugal, Ireland, Italy, Greece, Spain), making the Greek crisis more acute and
4
exceptional.
Certainly, there were a number of pre-existing conditions and peculiarities in the
Greek economy, political structure and culture prior to its accession to the EU and the
Eurozone. The Greek economy was traditionally family oriented with strong roots in
agriculture, small businesses and self employment. There were many small, family run
businesses that were protected and closed to outsiders. The Greek economy was severely
lacking in modernization when it ascended into the EU, lagging well behind its northern
EU counterparts.
The political system in Greece has been paternalistic and clientele oriented as
practiced by both the center-left and the center-right parties that ruled Greece for decades.
The system was based on rent seeking favoritism extended to party members in form of
political appointments in the government and the state sectors. Traditionally, the state
sector in Greece has been among the largest in Europe with state employees having
relatively modest salaries but enjoying benefits and job security. The bloated government
size contributed to budgetary shortages which were exacerbated by corruption and a
notorious tax evasion culture practiced in Greece for decades.
It is without doubt that Greece was unprepared to join the Eurozone in 2002.
Although these facts were well known, they were nonetheless disregarded by the EU
authorities. By joining the Euro, Greece attained top credit ratings which facilitated access
to easily borrowed money at low interest rates, despite its budgetary deficits and rapidly
accumulating debts. This seemed great for the country during its period of growth from
5
2000-2009, however in 2010, the economy began to collapse like a house of cards.7
The EU institutions, when attempting to come to the rescue, proved inadequate to
handle the Greek crisis and those of the other PIIG countries, except by the imposition of
strict austerity measures. The Eurozone by treaty, provides for common currency and
economic union, however, it was not built as a political union of its members.8 There are
no federal structures in the EU and the Eurozone to share the burden and absorb the shocks
of its member states in economic trouble. In fact the inadequacy of the EU institutions
became glaringly apparent during the still evolving immigration crisis which is currently
ongoing in Europe. Unfortunately, for Greece, it finds itself at the frontline of this
immigration crisis as well.
Outline. This research paper is organized as follows. In Section 2, as necessary
background, we analyze the origins and causes of the Greek crisis. We cover the main
issues and peculiarities of the Greek economics, politics and culture which predated the
country's accession to the EU. We discuss how the Greek debt grew to reach unsustainable
heights.
In Section 3, we discuss the three EU and IMF successive bailouts of Greece under
conditions of increasingly stricter reforms and austerity rules. We describe why the EU
imposed austerity has not worked in Greece while plunging the country into severe
recession with high financial and human cost. The objective of this section is to analyze
the reasons of this failure, which are both internal to Greece and external, beyond the
country's control.
6
In Section 4, we describe the case of other Eurozone countries in crisis that
required bailouts. Specifically, we compare Greece to Ireland and Portugal discussing the
similarities and differences and why these Eurozone countries managed to recover and
avoid – so far at least – the acute situation of Greece. The objective of this section is to
provide a general perspective of the bailout processes pursued on other distressed
Eurozone states in comparison to Greece, and through comparative methods to highlight
what made Greek programs and circumstances different.
In Section 5, we describe a number of alternative scenarios that Greece could have
taken in lieu of the austerity imposed measures. The reason is there has been much
criticism from serious observers concerning the inflexibility of the Eurozone austerity
approach.9 We mention proposals on growth strategies with targeted reforms Greece could
have taken instead of the austerity. We also discuss the issue of drastic debt reduction that
could have improved Greece's international credit ratings. Admittedly, some of these
proposals would require at least consent from Eurozone authorities and the IMF, which has
not been clearly articulated so far. We also discuss the extreme choice of outright Greek
default on its loans followed most likely by a Grexit, that is, exit from the Eurozone and
possibly from the EU itself.
In Section 6, we summarize our work and provide concluding remarks.
7
2. Origins and Causes of the Greek Crisis
In this section we analyze various internal features and peculiarities of modern
Greek politics and economics and how they interacted one on another. We will then discuss
the economic issues affecting the rise and rise of the Greek debt.
2.1 Issues Related to Greek Politics and Economics
There are several factors that have largely contributed to the crisis that emerged in
Greece since 2010. Many of these factors are internal and can be primarily attributed to
misguided policies and actions prior to and during the crisis.10 However, there are many
other external factors which were beyond Greek control – caused first by inaction and then
exacerbated by the harsh responses of the international institutions that came to rescue
Greece, most notably the EU/Eurozone, the European Central Bank (ECB) and the IMF as
well as other financial creditors.11
The internal causes and origins of the Greek crisis go back two centuries after the
Greece gained independence from the Ottoman Empire. Early Greek communities had a
long history of running their own affairs using local organizations and this self-government
system worked well for a long time until at least the early parts of the 20th century. From
there, Greece went through long periods of political turmoil, from right wing dictatorships,
to World War II and then leftist insurgencies, and even a civil war. Finally after a military
coup which ended in 1974, Greece finally settled on a stable democratic state.12
8
During this long period of political instability, the various Greek regimes displaced
the local elites, undercutting old traditions of community administration. The new groups
of administrators were beholden to the regime in power by rent-seeking relationships to
their mutual benefit. The democratic state which finally emerged in 1974 maintained and
further politicized these arrangements by promoting their own party members to fill local
positions.13 The country ended up being ruled by a “paternalistic illiberal" democracy.14
An important element for consolidating the new regime in power was state
expansionism and nationalization of selected industries. This was accompanied through
political patronage which was disbursed through increases in public sector employment,
government spending, regulations that limit competition and the imposition of levies on
transactions that benefit third parties. Nonetheless, Greece easily gained accession to the
EU in 1981 despite these shortcomings.15
Two political parties, center-left and center-right, controlled the government and
dominated Greek politics and Greece’s electoral laws, creating a polarized two party
system. The parties have been ruling Greece alternately over the last decades (this pattern
was broken by the recent hard-left win). When in power, the parties promoted a patronage
system based on favoritism to their own members offering large number of political
appointments in the government and state sectors. Both political parties acted according to
their political interests and competed for populist policies.
Although the two parties originally had ideological differences, over time they
converged on major policies. Both parties, broadly speaking, agreed on the goals of
9
economic policies and policy instruments to achieve those goals. They reached agreement
on the country’s entrance to the Eurozone, becoming pro-EU, pro-free trade and open
markets, pro-public health and public education, pro-higher pensions, yet maintaining low
taxes.16 Despite rhetoric and rivalry, the parties were very close in terms of political
context, but were fiercely competing for populism and political gains.
Populism, which contributed to the mismanagement of public finances and the
economy, has become one important characteristic of the Greek political system.17 Populist
policies were promoted by both political parties. Public spending is popular for politicians
because "it buys votes in the short-term." It is also popular with the voters because they
tend to see "government benefits as a windfall." They do not see the money as coming
from their own pockets, but from “the government,” or at least from someone else’s
pockets.
The resulting system has encouraged corruption, discouraged wealth creation and
affected popular ideological narratives. The view that "the state is good and that markets
are bad" is widely held across the political spectrum and is understandable in a rentseeking society where all activities, including market transactions, are seen as
redistribution.18 But the realization of “putting people above markets,” although
seemingly noble, has deepened clientelism and produced the current national crisis. The
state became the instrument for creating and distributing rents or benefits among various
client groups. In this situation, rent seeking, that is, the attempts by groups and individuals
to influence the political allocation of benefits, becomes paramount.19
10
A major driver of corruption came from the parties and their constituencies. Each of
the major parties tried to return favors to its respective clientele after gaining or regaining
power. They designed and implemented policies according to electoral and narrow party
interests, rather than adopting policies that would best serve the country.20
Both parties built patronage networks through the use and abuse of their mass party
organizations which were exploited in order to penetrate the state machine as well as
interest groups and parts of civil society. Thus, political parties penetrated all areas of
public life, including NGOs, universities, civil service, and local and regional authorities.21
The local leaders built up party machines by distributing state funds. The interaction
between local and national elites produced a highly dysfunctional system. Appointments
to key institutions – hospitals, museums, universities and even port authorities – were
political, not meritocratic.22
Greek politicians saw the provision of public sector jobs and benefits as an
important way to grant favors and thereby secure electoral support. Thus, they filled public
institutions such as state universities, hospitals, public utility organizations and
administrative services with their supporters which caused a massive growth of the public
sector. As of 2009, Greek government expenditures accounted for 50% of GDP, with 75%
of (non-interest) public spending going to public sector wages and social benefits.23 Just
prior to the crisis, the state sector in the Greek economy was among the largest in the
Eurozone with state employees having relatively modest salaries but enjoying benefits and
job security. Of course the bloated government size contributed to budgetary shortages
11
which needed to be filled by perpetual loaning.24
According to the Organization for Economic Co-operation and Development
(OECD), while the Greek spending on public administration as a percentage of total public
expenditure has been the highest in the OECD, there has been “no evidence that the
quantity or quality of the services are superior.” 25
Greece joined the Eurozone in 2002. The adoption of the Euro currency made easy
for Greece to get cheap and plentiful credit. This enabled Greek politicians to finance
deficit spending along with current account deficits.26 Being part of the Euro, they did not
have to worry about inflation or a devaluation of the currency. Much of the borrowed
money was used to pay back interests from previous loans and, unwisely, to finance
consumption instead of investment, infrastructure and institutional development. There
were questions about how effectively the government funds acquired from abroad were
used in the Greek economy. There have been serious allegations that large sums of money
were either wasted or disappeared (stolen) to offshore tax havens.
As government expenditures were increasing, tax revenues were not increasing at
the same rate. Tax evasion has been a chronic problem in Greece. Part of the problem is
that Greece’s complex tax code grants exemptions to numerous professions and income
brackets. However, clientelism could also have been an important factor behind pervasive
tax evasion. Before the crisis, the Greek state taxed only one third of officially declared
incomes, at an average tax rate of 30%.27 Low tax revenues were offset by access to cheap
credit by the Greek governments resulting to huge budget deficits. Instead of addressing
12
tax evasion and other structural deficiencies, the governments kept on borrowing money
much of which went to fund current consumption and not to undertake productive
investments that would generate growth. 28
There has been a notorious tax evasion pattern going on in Greece for decades prior
to the EU. This is almost a cultural and habitual trait as many Greeks go to considerable
lengths to conceive schemes avoiding taxes.29 Tax evasion crosses all economic strata
from the rich, to the middle and lower classes. Of course massive tax evasion, has been
widely practiced by the rich who manipulate the system using connections, money, gifts or
even bribes made to the ruling parties.30
To compound tax evasion, Greece has a huge unrecorded or shadow economy – at
least 25% of the official GDP according to some estimates – that is not taxed.31 Although
shadow and barter economy was widespread earlier in Greece, it still exists even today.
Greek people still engage in small transactions with each other exchanging or bartering
their services to avoid taxes. The size of the shadow economy and the levels of corruption
in Greece have been and still are particularly high with respect to other developed EU
countries. The politics of the Greek crisis, reflected by clientelism and rent-seeking
dependencies, had an impact on the size of the shadow economy and corruption levels.
Experts have suggested that policies targeting the shadow economy may lead to alternate
sources of government revenues that would lessen the requirement of fiscal austerity and
provide relief from the current economic depression.32
Most analysts see political and bureaucratic clientelism “as emblematic of a
13
broader distrust of state institutions” and as the root cause of widespread tax evasion.
“Bureaucratic clientelism" are used to describe the functioning of the Greek political
system. That is, creating patronage networks, inefficient public sectors and a weak civil
society. The image of the country started to be associated with graft, bribery, corruption
and scandals. Greece’s clientelist system with socialist elements in it, significantly
contributed to the extension of the welfare state and inefficient industrial policies.33
A side effect of a clientelist system is that the party in power avoids any politically
risky policy or reforms. They prefer to kick “the can down the road” to the next
government. Each party used their government powers and control of the public funds to
stay in power as long as they could; not for reforms and fixing the public finance
imbalances. The lack of party political consensus for reform and strong opposition of
powerful interest groups also contributed to the failures of reform attempts. Many reforms
that were actually attempted failed when they became unpopular and the party leaders
noticed that their re-election was at stake.34
An example of failed reforms, the governments were under pressure from the EU to
reform their pension and welfare system which was responsible for half the cost of public
deficit and absorbed 15% of the country’s GDP. The Greek pension system has a low
retirement age with unequal coverage and benefits making it unsustainable, "a ticking
bomb," according to the bank of Greece. However, both parties failed to address the
structural deficiencies of the pension system due to strong opposition from various interest
groups including public sector trade unions and the party traditionalists.35
14
About unions, well organized labor and trade unions in Greece prevent reforms,
keeping real wages high, thus hurting the country’s international competitiveness. The
unions care only about protecting their members, rejecting even sensible policy solutions.
The relations between them and the political class had been a patron-client relationship. In
addition to the unions, there are many other powerful interest groups that influence
political and economic stability and development negatively. These rent-seeking groups
curtail competition in the product and services markets, increase red tape and
administrative burdens, and seek to establish opacity in the legal processes to defend their
accumulated privileges.36
2.2 Economics of the Greek Debt
The main reason for the Greek crisis as cited by many observers is the rise of the
Greek debt both public and private accumulated over the years since Greece’s joining the
EU, and especially the Eurozone in 2002. The party in power could not satisfy the
demands of its clientele – jobs, salaries, social benefits – from the budget and so would
need to cover the deficits by perpetually borrowing from financial institutions. This was
feasible during the easy-money period 2000-2009, as Greece would use the EU/Eurozone
membership for loan guarantees. Of course, the Greek debt kept on growing as well during
this period but the country was still considered to be low risk.
Shown in Figure 1 is the evolution of the debt and the debt/GDP ratio from the
15
Figure 1: Evolution of Greek Debt and Debt/GDP ratio: Source: AMECO 2014
beginning of the modern two party system period of Greek politics to the present time. We
can observe that the Greek debt kept on growing and growing until the 2010 crisis – the
small dip of debt around 2012 is attributed to the first two bailouts which occurred at that
time. However, the debt to GDP ratio was rather stable until well into late 2000's (2008).
The reason is because the Greek economy was growing during the time, after its accession
to the Eurozone, despite all budgetary deficits.
This growth was fueled by consumption as a result of government policies to
increase spending for salaries, social benefits, and public projects. The declared objective
was to raise the living standards of the Greek households. This process was also fueled by
the incoming capital flows from the EU in the form of agricultural subsidies, and also from
the financing of infrastructure. However, it was crucial to aggressively obtain loans at low
interest rates from financial institutions in order to cover the annual budget deficits –
16
expenses including debt payments –and pay the interest for all previous loans that kept
accumulating.
The Greek GDP growth rate during this period is illustrated in Figure 2. As shown,
the GDP rate was increasing till 2006, then started declining but was still positive until the
crisis in 2009 and beyond. Shown also in Figure 2 is the IMF projected Greek GDP growth
Figure 2: Growth Rates of the Greek GDP projected beyond 2015.
Source: EL STAT and Commission Services
rate which is still in the negative ranges till at least 2016 and beyond.
One of the reasons that the crisis was so severe is related to basic features of the
Greek economics. The fundamental units of the Greek production system consists of many
small and some medium size businesses that are not scalable with limited competitiveness.
The average small business size is 4 to 5 employees, while in the EU countries is over 15
17
employees per firm.37 This business fragmentation is inward-looking exhibiting
Figure 3: Greek Trade Deficit. Source: STATISTA
protectionist attitudes.38
An important aspect of this environment is that most businesses deal with nontradable sectors of the economy, such as the public sector, retail, construction and
consumer services. The manufacturing sector has decreased significantly during the last 2
decades from about 25% to 8% of GDP in 2012, mainly serving the domestic market. The
trade sector of the economy is limited and includes mainly tourism and a small part of the
manufacturing and agricultural products.39
The lack of export orientation in the economy has resulted in perennial trade
deficits as shown in Figure 3 which illustrates the Greek trade balance over the last decade
and so the low competitiveness of the Greek economy. Undoubtedly, the intensification of
18
competition in the EU market, especially after the accession to the Eurozone, generated a
spiral of defensive adjustments and the concentration of economic activity in the non
tradable sectors.40
Figure 4. Labor productivity, compensation and labor cost in Greece. Source:
Macroeconomic Database
As shown in Figure 4, the labor productivity and labor compensation in Greece,
although rising in the years prior to 2009, suffered substantially with the beginning of the
crisis. Emerging economies under weak productive structures and strong pressure from
international markets need to adopt a proactive development model using a growth strategy
based on attracting investment and exploiting their local competitive advantages. This
mode of development is not consumer oriented and may be unpopular in the short term but
has been proven to work in some success cases of emerging economies (South Korea,
19
Taiwan, even Poland in Europe).41 This model was never seriously adopted by Greece
during its entire membership period in the EU.42
The Greek authorities took the easy way out and pursued a development model
based on consumption and imports instead of investment, production and exports. The
existence of low interest rates in the post Euro period, facilitated the public and private
borrowing, increasing employment in the public sector, while the tradable sector was
shrinking. Most new jobs in the private sector were in retail, consumer services and
construction which depended on domestic demand and banking loans.43 Emphasis was
mainly on infrastructure projects while development of human capital, entrepreneurship
and R&D were under funded.
The Greek development model was based on a political strategy to create
dependencies of a large segment of the population on the state and public sector. This
included significant rent seeking activities from numerous interest groups.44 The model
underestimated the tradable sector of the economy which is the basis of international
competitiveness. The weakness of this model was revealed during the ongoing Greek
crisis.
20
3. EU – ECB – IMF Bailouts of Greece
In this section we discuss the three Greek bailouts between 2010 to 2015 which
were made by the Troika – the Eurozone, the ECB (European Central Bank) and the IMF.
Each bailout consisted of a package of financial loans together with increasingly strict
austerity measures imposed on Greece.
3.1 Bailouts and Austerity Measures
With its accession into the Eurozone, Greece experienced stable growth in the 2000's
which was primarily fueled by deficit spending. The government engaged in wild public
sector spending instead of sensible investment while simultaneously covering budget
deficits with easily obtained credit and financial loans.45 As shown earlier, Figure 1, the
debt to GDP ratio was about steady prior to 2009, however, the Greek debt was going up
during the same period. Throughout the 2000’s, Greece was able to roll over its budget
deficits easily, however after the 2008 global economic crisis, financial institutions began
to cut credits and sharply increase interest rates, which made borrowing much more
costly.46 By the end of 2009, Greece and some other Eurozone economies had much more
difficulty financing their budget deficits.
Despite its growth during the 2000's, Greece’s external debt also kept on growing
reaching aproximately115% of GDP by 2009.47 Also, the budget deficit reached about
13% of GDP while government spending was rising and revenues falling due to the global
21
recession and a decline in the tourist market and shipping sectors. In 2010 Greece entered
recession with deficit rising to over 12% and debt estimated at 125% of its GDP. The
government was no longer able to roll over its debt without outside help.48
Things started getting out of control as the rating agencies lowered Greek debt
scores and the market’s trust in the Greek government’s ability to pay plummeted. By mid
2010, the Standard & Poor's downgraded Greek debt to BB+, and later to junk bond status,
crashing the Greek stock market.
The EU leaders were late to respond but finally realized that they needed to act
soon. A Greek default could have led to a banking crisis in the EU since many banks,
especially those in France and Germany, had a high exposure to Greek debt. The danger of
contagion to other highly indebted countries in the Eurozone was becoming real.
First Bailout: After lengthy negotiations, the Eurozone countries agreed to provide
€80 billion and the IMF agreed to give €30 billion under a stand-by agreement. The total
bailout package of some €110 billion was supposed to be disbursed over three years.
However, the loans were conditional on implementation of several austerity measures with
the intent to restore the fiscal balance, and the privatization of government assets worth
€50 billion by 2015, as well as following structural programs to increase competitiveness
and economic growth prospects. The EU demands for austerity increased in 2011 with
further budget cuts and more privatization, through which the government was expected to
raise €50bn by 2015.49 The government did make an effort to apply some of these austerity
measures without much success because the political cost was high with intensified street
22
protests, which were often turning violent.
Second Bailout: The EU finance ministers and political leaders continued with
their discussion of restructuring the Greek debt while realizing that a second bailout under
more austerity measures would be needed as early as 2012. In February 2012, the
Eurozone finance ministers approved the second bailout package of €130 billion, prepared
by the Troika.50 It included a 53.5% write down or “haircut” for investors in Greek bonds
and the program became active a month later. The writing down involved exchanging
existing holdings for new, more liquid and secure bonds. As a result, Greece’s debt-toGDP ratio also declined, then from a forecast of 198% in 2012 to about 160%. This
bailout package was also conditional on the implementation of an additional austerity
package as well as the continuation of structural reforms, labor market reforms, and
privatization as outlined in the first bailout program.
Despite the bailout program the recession deepened causing a continuing political
instability in Greece. Due to the adverse public reaction to the austerity measures, the
government offered to resolve the bailout agreement in a referendum, but later backed off
under pressure from the Eurozone and especially Germany. Subsequently, Greece faced a
severe political crisis, which led to the resignation of the government in November 2011. A
technocratic government of national unity under the premiership of a central banker was
formed to pave the way for the implementation of the new bailout under the supervision of
the Troika.
The technocratic administration lasted only four months failing to implement the
23
new bailout while the economic and political crisis worsened. Greece had a parliamentary
election in May 2012 which produced a weak centrist coalition government against a
strengthened hard left opposition advocating an anti-bailout and anti-austerity platform.
The struggle between the Troika and the new Greek government continued as the
bailout disbursements were held on delays of implementation of the austerity measures. A
more realistic new plan was negotiated late 2012 which actually imposed new bailout
demands. It required Greece to bring its debt-to-GDP ratio to 124% by 2020, and
“substantially below” 110% by 2022. 51 Furthermore, Greece was supposed to achieve a
124% of debt-to-GDP ratio by “cutting the interest rate on existing rescue loans,” returning
profits earned by the European Central Bank on Greek debts it owns and helping Greece
buy back its private-sector debts at their currently depressed market prices. Unfortunately,
the plan did not involve any write-off of the bailout loans owed by Greece which would
help with the burden of the Greek debt.
As the country’s economic and fiscal challenges continued to deteriorate, Greece
had another parliamentary election in January 2015, and this time the hard left party won
the majority and formed the government.
The second bailout package was supplemented with some additional financial relief
measures from the Eurozone, in early 2013, while the IMF extended its support with an
extra €8.2 billion of loans till March 2015 maturity. All together the packages seem to
alleviate the economic crisis in Greece during 2013. Actually, a review of the bailout
program revealed some encouraging developments such as a modest economic growth and
24
some decline in unemployment rate. It was anticipated that the country would regain
access to the private lending markets for the first time since eruption of its debt crisis.
Unfortunately, the infusion of capital produced only temporary relief as recession returned
strongly in later 2014. The bailout terms did not provide for medium or long term
investments which would have driven growth. The spending cuts retarded the economy
increasing drastically unemployment. Political uncertainty, continuing strikes and labor
turmoil led to government deadlocks and a snap election that was won by the hard left, for
the first time in recent Greek history.
Third Bailout: The new leftist government refused to respect the austerity
measures asking for a substantial review of its terms. This caused the Troika to suspend all
scheduled long term aid to Greece granting only a four-month technical extension of the
bailout program. The Troika demanded that either the Greek government would accept the
previously negotiated terms, or alternately could reach a new agreement on some updated
terms with its public creditors.52 This rift caused an increasingly growing liquidity crisis
(both for the Greek government and Greek banks), resulting in plummeting stock prices
while interest rates for Greece at the financial markets spiked.
Negotiations between the Greeks and Troika were dragging for five months in
2015. Faced by the threat of sovereign default, the Greeks made a final attempt to reach an
agreement with Troika on revised terms than the previous strict austerity measures.
Default would inevitably entail enforcement of recessionary capital controls to avoid a
collapse of the banking sector – and potentially could lead to exit from the Eurozone, due
25
to growing liquidity constraints making continued payment of public pension and salaries
impossible in Euro. However, the Troika offered a bailout with conditions and terms
basically similar to the ones in the previous packages. 53 The Greeks rejected this offer
because they took it as a take-it-or-leave-it ultimatum. In desperation from the looming
default, the Greek government called a referendum for public approval or disapproval of
the new agreement.
The Greek people voted by 61% against the bailout agreement in the July 5, 2015
referendum. Immediately after, the Greek government was put under extreme pressure by
the Eurozone, meaning basically Germany, to either accept the agreement or exit from the
Eurozone, by initiating the so called Grexit process.54 There was a last attempt to find a
solution in a long, overnight negotiation session involving all Eurozone heads of state.
Under severe German pressure, Greece capitulated accepting almost all the terms of the
new bailout, which turned out to be worse than the ones offered a month earlier. In
summary, the deal means new loans of up to € 86 billion will be made available over the
next three years paid in tranches first to recapitalize the banks and for Greece to repay their
debts to the ECB. Note this program is not burdening the Eurozone countries as it is
supposed to be funded by the European Stability Mechanism (ESM).55 – ESM is an
institution established in 2012 and operates as a permanent bailout fund for Eurozone
countries with economic difficulties. ESM raises funds by limited loans and debt bonds
backed by an €80 billion capital, provided by the Eurozone governments, in accordance
with the contribution key annexed to the ESM Treaty.56
26
3.2 Cost of Austerity
The key austerity measures imposed by the Troika were:57 Increased taxation,
including VAT (sales tax) up to 23%, elimination of tourist discounts; an increased pension
age of 67 years as well as reform of labor laws concerning collective bargaining, layoffs
and other benefits; deregulate the health system and pricing for medicines; reduce social
benefits to save 0.5% of GDP and privatization of state assets, including seaports, airports,
power companies. Proceeds from these sales would be concentrated in a special fund
controlled by the ECB. The details of these measures together with performance metrics
and deadlines were to be negotiated soon after the Greek parliament had approved these
austerity principles in advance. The Greek parliament did vote for approval despite the
humiliating experience of loss of sovereignty.
The immediate impact of these measures was severe on the society. Millions of
Greeks have already been affected by tough budget cuts by the previous bailout deals.58
The government imposed new drastic spending cuts across the board. There were salary
reductions on state and civil employees badly hitting the lower incomes. The salary cuts
were extended to the private sector as well. Pensions were also significantly reduced
incurring many humanitarian problems. Taxation including VAT was increased with more
effort to fight perennial tax evasion. Greece was already suffering from a badly designed
debt haircut provided by the second bailout terms. This undermined the banking sector
with large loss of liquidity which was exacerbated by the time of the third rescue plan.
Capital controls were introduced restricting withdrawals from bank accounts to € 420 per
27
week.59 This was very inconvenient to the Greeks, who still deal with cash on a daily basis
and they now have to wait on long lines out of the banks and the ATMs.60
Of course, Greece badly needed economic reforms, however, the imposition of all
these drastic measures, at a fast pace, was very painful and devastating to the Greek
society. The objective of this fiscal consolidation and austerity was to reduce the
government budget deficits which eventually would improve the economy. However, the
short term economic effect has been negative, at least thus far. Salary and pension cuts
reduced tax revenues. There was much less money in circulation because of capital
controls. Many small businesses were closed and larger businesses shrank by layoffs or
even failed. Unemployment went up to 25% and youth unemployment over 40-45%.61
Strict adherence to austerity in Greece produced economic decline and severe
recession with loss of GDP amounting to about 25% during the period of the three bailout
plans. There was no investment to create jobs and stimulate growth. Because of the junk
level rating of the Greek bonds, investors have been reluctant to do business in Greece.
The bailout money was just enough to recapitalize the banks and keep them working on
life support every month. There was no provision in the rescue package for job creation
and investments in Greece. A major part of the loaned money was allocated under
restrictions to ensure that Greece will keep its obligations by making scheduled interest
payments to its creditors.
There are also elements in the new program that are a clear outcome of bad
planning. To meet its 2015 liquidity needs Greece has already received at least €21 billion
28
bridge loan from ESM. Greece also received another bridge loan of about €15 billion to
pay back a maturing bond to the ECB and to recapitalize the country’s banking sector.62
According to rough EU estimations, banks would need an injection of more than €25
billion in 2015-16 to remain functioning. The essence of the new rescue plan is that these
sums will come from privatizations of state assets. On the basis of past experience, this
target is unrealistic. Under the terms of the first two bailouts, privatization receipts for
2011-2014 were only €5.4 billion. Although now Greece has been forced to release many
more state assets, it will take years to collect the recapitalization funds, which are urgently
needed now.63
Moreover, the plan will also meet increasing resistance from Greeks – the majority
of whom will not benefit from the fire-selling of public property, because the proceeds of
all state assets sold will be transferred to a new fund controlled by the ECB and the
Eurozone. The requirement for asset privatizations and parliamentary pre-approval were
two major aspects of the new agreement that lacked democratic legitimacy and degraded
Greek sovereignty.
Humanitarian Cost: The household disposable income has been decreasing in
Greece from 2010 to 2015 primarily due to unemployment as opposed to falling salaries.
Unemployment has continued to rise steadily throughout 2015. Eurostat indicates that the
greatest rise in unemployment in the EU, between January 2012 and January 2013, was in
Greece, from 21.5% to 27.2%.64 This is clearly illustrated in Figure 5.
Poverty and inequality has also been increasing during the same period. Figure 6
29
shows how the parallel progression of Greece’s per capita gross national income (GNI)
diverged from that of the OECD65 average around the time the first rescue deal was
approved in 2010. Since 2011, Greece had the highest rate of those at risk of poverty or
social exclusion in the Eurozone (31% compared to an average of 24.2% across the EU as
a whole). In 2011 alone, this increased by 3.3%, meaning that 372,000 more people were
at risk of poverty or social exclusion.
Figure 5: Unemployment in Greece and the EU, 2000-2012
Source: EUROSTAT
More than one in three Greeks fell below the poverty line in 2012.66 The middle
class has shrunk and is closer to the poverty line, while the poor are getting poorer and
inequality is increasing. Moreover, the suicide rate in Greece has increased by 26.5% from
377 in 2010 to 477 in 2011, and has increased by 104.4% for women.67
The number of people aged between 18 and 60 living in households with no
30
income since the beginning of the crisis, and particularly since the introduction of the
rescue measures, has risen to over one million in 2012, equal to 17.5% of the population.
The public health system is increasingly less accessible, especially for poor and
marginalized groups. Close to one in three Greeks have no public medical insurance, most
often due to long-term unemployment.68
Figure 6: GNI per capita in Greece and OECD average. Source: OECD
Political Cost: The austerity process has contributed to the collapse of the twoparty system, center-right and center-left, which had long dominated the politics in Greece.
At the same time, the crisis has triggered the rise of extremism from the fringes of the hard
left and far right. Their successes can be attributed to the country’s grave economic
situation and a drop in confidence in traditional parties. In the 2015 elections the far left
31
got the majority to form a government. This produced a deadlock for several months with
the Eurozone as the leftist were refusing the bailout terms due to pre-election promises.
However, after the referendum, the leftist government compromised with the Eurozone
which led to the split of the party in pro and anti-bailout factions. A second election took
place later in 2015 which was still won by the pro-bailout faction of the left. However,
political instability has now returned to Greece which will certainly increase as the third
bailout impacts deeper the society.69
A more worrisome political aspect is the rise of the far right Golden Dawn party.
Although it achieved about 7% in the 2015 elections, it is the third political party in
Greece. The main strength of Golden Dawn is the role it plays standing against illegal
immigration, blaming the crisis on government policies that have allowed of hundreds of
thousands of immigrants to flood into Greece. The party has formed militant groups to
patrol some Athens neighborhoods with a particularly high percentage of immigrants. It
has provided personal safety services and food distribution for hungry pensioners who feel
neglected and too frightened to go outside.
However, Golden Dawn has been involved in many incidents of violence against
immigrants and political refugees in Athens and across the country. Many consider Golden
Dawn to be a xenophobic and violent organization with some borderline fascist tendencies.
Table 1 provides a compact review of the main aspects of the three Greek bailout
packages, including time-frames, austerity measures, implementation deadlines, impact
and the austerity cost.
32
Package 1
Time
Frame &
Extensions
Austerity
Measures
&
Conditions
Package 3
May 2010 – June 2013
Feb 2012 – Dec 2014
August 2015 – August 2018
Overlapped Package 1;
Extended to June 2015
€ 110 billion loan
€ 130 billion loan
€ 86 billion new loans:
(additional to 1st
package,
including € 48 billion
bank capitalization)
1st tranche of € 26 billion,
remaining tranches in
installments after reviews
Financial
Terms
&
Creditors
Package 2
Troika:
ECB - European Central
Bank
EC – European Commission
IMF – International
Monetary Fund
Reduce gov spending;
Structural reforms;
Privatization of some
state assets
Troika
Private creditors agreed
to extend bond
maturities, and
possibly a 50% haircut
Continuation of 1st
package conditions:
spending cuts, structural
reforms, privatizations.
Additionally, it
imposed labor reforms,
eliminating collective
bargaining to facilitate
layoffs and plant
closing
ESM: European Stability
Mechanism
Prior bailout conditions plus:
- Reduced social benefits and
pensions;
- Reformed health care;
- Increased VAT (sales) taxes;
- Tough laws on insolvency;
- Eliminating price controls for
drugs and hospital supplies;
- Relaunch privatization of state
assets through an a fund
controlled by the Troika;
The Greek government
was very slow to
Implementa implement most of the
tion and
measures as there was
Performstrong resistance from its
ance
own clientele and the
public.
Strong pressure from
the Troika was all together
too much for the weak
government to bear, so it
collapsed.
The new government
was partially
successful in
implementing several
bailout conditions.
Some macroeconomic
indicators, deficits and
even growth, improved
temporarily. Because of
political pressure from
fringe forces, the
government fell.
The leftist government
wanted to radically change
the bailout terms but the
Troika resisted. The
economy was fast
deteriorating bringing Greece
to the edge of default.
Impact and Deterioration of
Austerity
economy, recession,
Cost
rising unemployment,
Persisting crisis, with
temporary improvement
not leading to recovery.
Debt/GDP highest in
EU.
Political turmoil with
rising fringe forces.
Serious deterioration of
multiple sectors of society,
economic, social and
political. Capital controls
imposed. Day to day life and
stability disrupted.
and labor unrest.
After the 3rd bailout agreement,
the Government has
implemented many measures
within the deadlines, stabilizing
the economy by late 2016.
Table 1: The Three Greek Bailouts: Summary of Details
33
3.3 Why Austerity Failed
There is little doubt that the austerity measures imposed by the Eurozone over the
last 5 years have failed to improve the Greek economy. In fact, each bailout package
compounded the failure level of the previous bailout. By indicators such as high
unemployment, GDP loss, high trade deficits and so on, the economic crisis went from bad
to worse with an unsustainable debt and high human cost.70 The hope of the Eurozone
technocrats, backed by Germany, that austerity would eventually work in Greece has not
been fulfilled with little prospect of improvement in the foreseeable future. But what went
wrong? What are the reasons of failure?
In Sections 1 and 2, we mentioned that there have been several causes which led to
the Greek crisis, both internal and external. Here, we will explore the reasons that led the
austerity measures to fail in Greece. In the next Section 4, we will discuss the cases of
other bailout countries where austerity has been more successful that in Greece. Here we
explore if there are any Greece specific conditions that contributed to the exacerbation of
this crisis.
According to experts,71 there are two reasons that are peculiar to Greece which
contributed to the failure of austerity in this country. Additionally, there are other reasons,
which are not dependent on Greece, but are due to the way the Eurozone project has been
designed, meaning its structure, policies, and institutions. In what follows, we discuss all
these reasons in some detail.
34
Greek Extended Families: One major difference between Greece and other
Eurozone economies is the extended families rather than individuals constitute the
fundamental core of the Greek society. Every extended family was touched by the severe
recession measures be it salary reductions, pension cuts, layoffs, or taxes. Greek extended
families respond to crisis collectively in ways that individuals cannot. The families defend
themselves against the austerity by division of labor among themselves, meaning spreading
economic activities, sharing expenses and resources, which may include living space. They
may often perform some transactions within a core of trusted families avoiding taxes.
Although not legally, but still traditionally, the role of the extended Greek family
supersedes the role of the individual towards the state. Of course the austerity measures hit
all family members but the pain is shared by supporting each other, and may feel more
tolerable than individual pain.72
Although Greek extended family-based businesses provide a buffer in times of
austerity, yet in some way they contribute to sustaining the shadow economy in Greece.
Thus as shadow economy is difficult to measure, the extended family business style does
not seem to improve Greece's macroeconomic indicators such as government revenue, tax
evasion, and the GDP.
Unfortunately, the Eurozone technocrats and policymakers have not understood the
role of the extended families in Greece, their influence in the society and their reaction and
resistance against the austerity measures.
Greek Defense Expenditures: Greece's defense spending (by GDP) is very high
35
and is probably the highest in the EU. Before the austerity process, Greek defense
amounted to about 4% of its GDP, annually (now it has been cut to about 2.6%). In
comparison, Germany's defense cost is only 1.2-1.3% of its GDP.73 For decades, prior to
the crisis, Greece's defense budget has been even higher. Surprisingly, the relation of the
high defense spending to the Greek deficits, and the Greek debt, has been little discussed.
However, there is little doubt that the high defense cost over a period of many decades has
contributed significantly to the Greek debt.74
Greece has been facing many disputes with neighboring Turkey over Cyprus, and
more recently the Greek islands in the Aegean. Greek sovereignty of the continental shelf
and the airspace of the Greek islands in the Aegean is internationally recognized. However,
Turkey questions the status quo in the Aegean, frequently violating the Greek airspace with
military over flights. Tensions have been high between the two countries with several near
misses from confrontation. Ironically, both Greece and Turkey are members of the NATO
alliance which is supposed to protect member states, especially the weaker ones, from such
pressures. However, neither the EU nor NATO, nor the US for that matter, have provided
guarantees of Greece’s territorial sovereignty. The reason is attributed to the geopolitics of
the general area, that is, the Southeast of Europe and the Middle East, which is beyond the
scope of this work.
Membership in the EU should carry with it a peace dividend. To date, Greece has
not seen it. Although the EU bureaucrats will not admit it, Greek tensions with Turkey
benefit the armaments industries in France and Germany. It is no accident that the Troika
36
has rejected suggestions that Greece cuts back on weapons purchases and defense
spending.
Eurozone Policies and Issues: It is arguable that the Eurozone project was not well
designed at its inception. The idea was to allow free cross border commerce by avoiding
currency exchanges and speculation. In addition to economic benefits, breaking currency
barriers would contribute to the ultimate EU goal of “ever closer union” of its members.75
The Eurozone monetary union treaty was based on a common currency, the Euro, for all its
members. However, to control the debt, the member states were obligated to limit their
annual spending to a deficit level about 3% of their GDP. Although this rule was violated
repeatedly, it did not matter so much during the growth years of the Eurozone, from 2000
to 2009.
Figure 7: Relative Unit Labor Cost in Eurozone. Note year 2000 is
assumed the base with no differences then.
Source: European Commission.
37
In the first decade of the Eurozone, there was increased divergence in the
competitive positions among its members, with Germany clearly standing out. Due to its
export oriented economy, Germany has enjoyed a strong competitive edge over the rest of
the Eurozone. In fact, the majority of the German exports are imported by the other
Eurozone states.76 Figure 7 clearly shows the competitive advantage of Germany, in terms
of relative labor cost, over several other Eurozone states, especially those in the South.77
Normally, countries that control their currency, when faced with loss of
competitiveness, they can devalue to make imports more expensive and curtail inflation.
However, because of the common currency, the Eurozone states do not have any other
means to control their lower competitiveness except by letting inflation rise. That, in turn,
requires a period of low growth and sustained unemployment which makes budget deficits
under control much more difficult.
This is what actually happened to Greece and some other Eurozone countries such
as, Ireland, Portugal, Spain. Greece was loosing more and more competitiveness in
comparison to Germany and other Northern Eurozone states while importing more goods
from theses states. This may have not mattered when credit was plentiful, but after the
credit lines dried up budget deficits led to recession with high unemployment.
Another factor that makes the debt problem in the Eurozone much more acute is
that individual governments cannot resort to the printing press if they run out of money.
When a non-Eurozone country has budget shortfalls, its central bank can be a “lender of
last resort”78 to cover the deficit, at least for a short time. The Euro is controlled by ECB
38
which, by treaty, does not act like a central bank lender for each Euro state. So Greece in
2010 and later could not do what Argentina has done repeatedly – that is, devalue and
borrow money from its central bank.
It has been pointed out by experts79 that Eurozone governments can be subject to
the equivalent of a bank run. If no one buys their debt, they will be forced to default.
Lenders may decline to buy their debt because they believe that ultimately those
governments do not have the political will to raise the taxes to cover their spending in a
sustainable way: this is the equivalent of an insolvent bank. This is exactly what has been
happening to Greece all these years.
However, lenders may also forsake a country’s debt if they believe no one else will
buy that debt, even though that debt may be sustainable in the long run. A government may
be subject to a self-fulfilling belief in the market that no one will lend to them. This
situation is close to Spain's bailout where the Spanish debt was not really unmanageable,
actually in better shape than the UK's debt. Nonetheless, Spain faced significant financial
difficulties as there were no lenders for the Spanish debt at reasonable interest rates.
By contrast, a country that can print its own currency is not so vulnerable because it
can fund any shortfall. Its own central bank can be the lender of last resort and existing
lenders will get their money back. The European Central Bank (ECB) could be a lender of
last resort for a Eurozone country, but ECB was not designed for this purpose and is very
reluctant lending money to governments in crisis
39
The designers of the Eurozone did worry about the debt problem but for different
reasons. Their concern was that the market would not discipline individual profligate
governments, who would free-ride on low Eurozone interest rates. They set up mechanisms
to control deficits which ultimately failed.80 In practice, the critical problem has turned out
to be almost the reverse – without a central bank that is prepared to be the lender of last
resort, governments are too vulnerable to market discipline. This has certainly been the
case of Greece and the other so called PIIGS Eurozone states.
So the Eurozone has design problems that could emerge even if all its governments
were solvent in a long-run sense. Yet most EU bureaucrats are in denial of this fact
insisting that the problem lies with excessive debt levels in individual countries. This view
relies more on Eurozone politics rather than economics.
The political argument is both simple and powerful. Government promises of
austerity in the longer run will not be trusted and will not be credible, unless they are
accompanied by austerity taking place shortly. Governments that ignore the debt problem
today will, it is argued, forget their promises on long-term austerity once the recovery has
happened and they will go back to spending too much and taxing too little. The
presumption is that governments are subject to a deficit spending addiction thus increasing
their debt relative to their GDP over time.81
Based on this argument, Eurozone policymakers have formulated strict austerity
measures to address recessions in Eurozone states. The basic rule is "austerity today"82
meaning the process of reducing debt has to be unconditional and rapid. In the Greek case,
40
"austerity today" has been particularly harsh, a kind of shock therapy, but has not
succeeded so far. In the case of the other PIIGS, "austerity today" has been softer with
some success to allow exiting their bailout stage, but they are still vulnerable.
Many experts have advocated an entirely opposite approach: fiscal stimulus today
followed by austerity when the recovery is assured.83 They argue that debt should be
allowed to respond to macroeconomic shocks and debt correction should be gradual and
context sensitive (depending on the conditions of a particular country). The problem of
deficit bias is that governments spend too much, or tax too little, in the good times. When
economies grow rapidly, government deficits fall and may even become surpluses, so it
appears as if government debt is not a problem. But this is an illusion, as becomes apparent
when the boom comes to an end.
To summarize, countries in the Eurozone have lost control of their own currency
and cannot issue debt or devalue to improve their competitiveness. They are vulnerable to
financial shocks and dependent on investors. Lack of market confidence may exacerbate
their interest rates without a lender of last resort.84
On the contrary, countries that are not in monetary union can issue debt and
devalue their own currency to mitigate their competitiveness. These countries are less
vulnerable to a crisis as their central bank can always provide the liquidity needed to avoid
a default forced by the market.
These features of a monetary union have not sufficiently been taken into account in
41
the design of the economic governance of the Eurozone. The basic rule is that when a
country experiences budget deficits and increasing debts, it should be punished by high
interest rates and tough austerity programs. These austerity programs and bailouts have
failed in Greece. Although there has been limited success of austerity with some other
Eurozone states in trouble, still these countries remain vulnerable.
A monetary union can only function if there is a collective mechanism of mutual
support and control. Such a collective mechanism exists in a political union. Since the EU
is not a political union, the Eurozone bureaucrats have responded not in collective unison
but by imposing harsh austerity measures on the debt stricken member states. However,
these measures do not address the imbalances and vulnerabilities of members to market
shocks and are far from sufficient to guarantee the long term survival of the Eurozone.
42
4. Bailouts of Other EU Countries: Ireland, Portugal, Spain
Since 2009, several Eurozone states particularly Portugal, Ireland, Italy, Greece and
Spain (the so called PIIGS countries) have experienced severe economic difficulties in
their budget deficits and problems securing loans from financial markets. All these
countries applied austerity measures on their own to reduce expenses contracting the
economy. However, since these measures were not enough they had to seek support (with
the exception being Italy thus far) from the EU Troika through bailout packages.
The Troika rescue packages and terms were different because the crisis
environment in each country had different characteristics. The Greek crisis was caused by
a seemingly unsustainable public debt. In Ireland the private debt was very high which led
to its banking insolvency. This insolvency would in turn lead to its own sovereign debt
crisis. The Portuguese crisis came from a combination of external debt and balance of
payments issues rather than by the sovereign debt. The Spanish has more similarities to the
Irish crisis as it was also fueled by property expansion during the early Euro years while
the labor cost was also rising. The bubble burst caused a fiscal and banking crisis in Spain
with very high unemployment rates (approximately 25-27% in 2013). Finally, in Italy, all
the ingredients of a fiscal debt crisis had been there for nearly a decade. Yet the country has
managed to muddle through with half baked reform measures without a bailout so far.
Italy is too large for its European partners to save, but also too big to fail.85
In what follows we compare the Greek crisis to the crisis in two other Eurozone
43
states, Ireland and Portugal. These countries were chosen because of the size of their
economies and other indicators which are somewhat comparable. It is worth noting that
these countries are not completely analogous to each other as they have significant
differences in multiple ways.
4.1 Ireland and Greece
The Irish financial and sovereign debt crisis is directly related to the government’s
decision in September 2008 to guarantee all private liabilities of its principal national
banks. This decision was made without a full array of information and under severe
pressure from domestic banking interests. These liabilities were caused from questionable
bank loans in the housing market during the growth years of 2000-2008.86 In the aftermath
of this government decision, the public debt-to-GDP ratio increased from less than 40% to
about 100%. (The ratio ultimately capped out at 120% in 2014 and currently sits at the sub
100% mark.) Ireland asked for EU support in 2009 and accepted the austerity terms of the
Troika bailout in 2010 which was set on reducing the fiscal deficit to 3% of GDP by 2015,
with major implications for economic performance. Under the bailout terms, the Irish
economy has experienced a severe downturn since 2008 and by 2013 was flat-lining; living
standards have fallen, unemployment rose to about 15% and since 2008 net emigration has
increased rapidly (82,000 in 2012). The political and social costs of managing austerity
have been rising.87
Nonetheless, projections were that the situation will improve after 2014 with
growth actually expected in the 2015 time frame. Actually the economic indicators have
44
turned, becoming much better for Ireland, to the extent that Eurozone austerity proponents
claim that Ireland validates how austerity is supposed to work: "A permanent reduction in
government spending or higher taxes will increase unemployment, which will reduce
wages and prices. This will improve competitiveness, leading to higher external demand
for Ireland’s products (and less imports) which will eventually replace the lost demand due
to austerity. However, because wages and prices are ‘sticky’, this adjustment will not
happen quickly." 88
The fact is that Ireland is now experiencing growth and that unemployment is
falling. According to OECD estimates the growth in 2015 was nearly 5%, and this was
greatly helped by a 12% increase in exports. The question is why Greece has been so
different. Figure 8 shows the growth rates of the two economies. Due to the 2009
recession, Ireland did poorly, but Greece performed much more poorly.
Figure 8: GDP growth of Ireland and Greece: Source OECD
The most important reason for the economic difference is that Greece experienced a
much harsher austerity than Ireland did. In fact, the fiscal contraction between 2009 and
45
2013 in Greece has been 2.7 times greater than in Ireland. Figure 9 shows the fall of wages
in both countries. Clearly, the fall in wages in Ireland produced a significant improvement
in competitiveness of Ireland.
Figure 9: Competitive Wages of Ireland and Greece. Source: OECD
Figure 10 shows the much higher volume exports of Ireland in comparison to Greece. One
would expect that Greece, which sustained a much larger unemployment and a more
persistent fall in wages would show some improvement in competitiveness and exports.
The question is why this has not happened.
Figure 10: Export Volumes of Ireland and Greece. Source: OECD
46
To begin with, there are special aspects pertaining to the Greek extended families
and Greek defense spending which do not exist in Ireland. Irish society is based more on
individual values akin to the UK and the US.89 Ireland is also not a member of NATO and
its defense spending has been far less than Greece’s. Moreover, Ireland is far away from
the migration flows from the Middle East and North Africa that have more recently
overwhelmed Greece and Italy.
There are other reasons more systemic to the Irish and Greek political economy.
The Greek and the Irish political systems and ideologies diverge considerably, explaining
why Greek and Irish responses to the austerity measures have been so different.90 Actually,
the Irish economy is far more open than the Greek economy.91 Over the last twenty years or
so the Irish political economy has been restructured on neoliberal models and practices
similar to the ones in the US and the UK.92 The Irish political system has relied on the
social partnership approach which brought about a relatively peaceful coexistence and
agreement between Irish trade unions and employers organizations.93
However, the Greek political economy has evolved as mixed economy similar to
the one in Italy with strong socialist tendencies. Some might even argue that Greece
practices a state capitalist model of development. The Greek political system has not ever
encompassed the principles of the social partnership. Since the times of the civil war in the
1940's, the Greek trade unions have been formed much along class lines in perennial
confrontation with their more neoliberal oriented employers. Of course many such labor
meetings end up without any agreement or resolution of the conflicts despite the gravity of
47
the situation.
Another reason is the export oriented Irish economy. It has been built over the last
thirty years by huge multi-billion dollar investments from major multi-national
corporations, mostly from the US.94 Recently companies like IBM, Microsoft, Google,
Facebook, Apple, all have moved into Ireland. These companies invest in high tech areas
such as software, data bases and web applications. Such investments are based on
intellectual property value, not on heavy industry and expensive infrastructures, which
makes it easy for them to take hold in a new location. The various Irish governments have
consistently supported these investments with legislation and tax friendly regimes to attract
and maintain investors.95 Of course these Irish policies have paid off over the years with
healthy trade surpluses, with the exception of a few of the years during the recession.
In contrast, Greece has not had any significant investments in high tech areas.
Although Greece has a highly educated population, Greek government policies have not
been attractive for high tech investments. Most investments in Greece come from
Germany, France and recently from China. With the exception of tourism, the investments
are in energy intensive industries such as textiles, coal mining, ship building.96
To summarize, the Irish social actors have incorporated neoliberal policies similar
to the ones in the US and the UK, in a course of twenty years of neoliberal restructuring.
However, in Greece, with more ideologically divided politics and the legacy of a mixed
market economy, the shock therapy nature of the reforms have produced a much more
contested and politicized reaction to the austerity.
48
4.2 Portugal and Greece
The Portuguese economic crisis is primarily a crisis of external debt and a balance
of payments rather than a sovereign debt crisis. Portugal experienced a marked
deterioration in its financial investment position after joining Euro – a result of the current
import/export deficits. A straightforward explanation is that with the Euro, Portugal lost
“competitiveness”, shown in Figure 11. Portugal over the last 235 years has almost always
reported trade deficits. Nonetheless the recurring devaluation of the Portuguese escudo
kept the country's income accounts in balance and the net worth of its import/export
volumes under control. With the adoption of Euro, Portugal can no longer rely on currency
devaluation to cover its deficits and liabilities. This point was covered in some detail
previously. Thus a deeper reason Portugal presently faces this crisis is that the common
Euro currency removed the automatic stabilizers that helped with the balancing of external
debt and income deficits.97
Figure 11: Portugal’s Competitiveness in terms of Labor Cost. Source: OECD
49
Portugal requested financial assistance from the Eurozone and in 2011 negotiated
for a €78 billion bailout program with Troika. This bailout program came with strict
conditions that required severe retractions in the public and private sectors as well as statefunded bank recapitalization. After two years of austerity, the unemployment rate jumped
to approximately 15% and the well being of Portuguese families, businesses and
government had regressed by further than the gains made in the previous 13 years, and by
2015 Portugal will have already lost two decades of gains before it even starts paying
down its debt.
The Eurozone endorsed Portugal's progress in 2015 in implementing bailout terms
at the time Greece needed a third bailout program. In Portugal the recession was less acute
than in Greece since the fall in domestic demand was offset by an increase in net exports
from 31% to 41% by 2015. Moreover, there was a noticeable a shift of resources from the
non-tradable to the tradable sector. The worse-than expected recession in Greece can be
attributed, to some extent, to the lack of a speedy recovery in the export sector. Exports in
Greece have not shown a consistent positive trend since the beginning of the sovereign
debt crisis. In Greece, during the pre-crisis period, 2000-2010, the resources allocated to
the non-tradable sector had increased from 38% to 44% and this trend has not yet reversed.
Greece and Portugal were the two countries hit the hardest by the crisis, yet the
internal political reactions within each nation was notably different. While in Greece there
were difficulties among political actors agreeing to austerity policies, the Portuguese
parties negotiated a broad political consensus over reforms. Moreover, the Greek party
50
system underwent substantial change, with the hard left and far right gaining against the
center while in Portugal the mainstream parties largely retained their support base.98
A key reason relates to the different level of clientelism in each country, where
political ‘patrons’ provide goods or services to their backers in return for political support.
There is a greater prevalence of clientelistic linkages in Greece than in Portugal, as
measured by a number of indicators: the extent of political party patronage, the
organizational form of parties and their relationships with influential organized interests,
especially public sector unions. In Portugal, the looser connections with unions, a smaller
reliance on clientelistic linkages and the smaller party memberships have created fewer
obstacles to implementing austerity reforms, allowing for extensive pro-retrenchment
compromises.99
Portuguese parties have agreed on a number of fiscal retrenchment measures at the
onset of the crisis, reforms have been mostly negotiated, and existing patterns of party
competition have persisted throughout the crisis. By contrast Greece has the need to satisfy
tightly connected clienteles exchanging their electoral support for public spending –
something that has ruled out open support for austerity from the main parties and therefore
delayed cross-party agreements. Hence, adversarial politics has been the leading feature of
fiscal retrenchment reforms. There were other alternatives for Greece to pursue, however
they would not be in cooperation with the Eurozone. These include the feared Grexit and
or a default on its international debt.
To summarize, this significant divergence between two similar countries can be
51
explained by the extent of clientelistic links, which tend to be both tighter and more
volatile than ideological links. Portugal's lower levels of clientelism before the crisis
ensured that Portuguese parties were more capable of backing austerity policies without
alienating their supporters. Mass clientelism led Greek parties to systematically overpromise and voters to over-expect, which led to brutal sanctions and anger when these
promises had to be betrayed. In contrast, Portuguese parties did not promise as much and
voters did not expect much from them either.
52
5. Alternative Scenarios
There were several alternative actions that the Greek government could have taken
during the highlights of the crisis instead of the Troika austerity program. However, many
of the alternative actions required policy changes and help from the Troika itself.
Nonetheless, there were options, even if they would have created conflict with the
Eurozone authorities.
5.1 Growth with Debt Reduction
Growth and Targeted Reforms. Many observers have argued that fiscal
contraction under austerity measures is counter productive.100 This has been proven in
Greece where austerity resulted in a 30% loss of GDP, a 25% unemployment rate and a
debt to GDP ratio of 180%. Even other crisis stricken states which were able to more
successfully implement their bailout programs remain vulnerable to market shocks and
suffer from high debts. There is some speculation that Portugal may ultimately need a
second bailout.
As mentioned in Section 3, the origins of the "hard and fast" austerity programs
were political. The EU elite believes that if austerity is slow then profligate governments
will forget about reforms and go back to their usual spending habits. Although it is correct
that governments have a propensity to deficit spending, the theory of a “shock therapy”
style of austerity has yet to be substantiated in practice. On the contrary, it has been
seriously argued that debt should be allowed to respond to macroeconomic shocks and that
53
debt correction should be gradual and cognizant of a country’s circumstances.101
The Eurozone situation is not bright in 2016 after the political shock of the recent
Brexit, the UK exit from the EU.102 The Brexit undermined the confidence of the entirety
of the European Union. European leaders have realized that this is the time to rethink the
whole EU project and now they have to decide which way to go. Prior to Brexit, there was
a tendency to push for "more Europe". However, now with the political rise of Euroskeptic
parties, there are voices for "less Europe" or Europe of the nations.103 Maybe this is a good
time for the EU to change course and introduce different policies towards its debt crippled
states.
So what if the Eurozone allowed a policy supporting more growth coupled with
targeted reforms. How this would affect a country like Greece? Assuming that this Greek
growth could only come from external investments, the obvious question is where this
funding would come from. Let us defer this point for the next subsection and consider
where these investments could be made in Greece. There are many potential growth areas
in Greece where carefully controlled investment could pay off:104
– Mineral resources: Although Greece is small in area, it boasts significant deposits in
coal, gold, aluminum and even hydrocarbons under the sea. Modern mineral extraction
methods and technology would go a long way to improve efficiency and output.
– Agriculture. The Greek climate and soil is ideal for many plants such as vegetables,
grapes, grains, citrus, nuts, even bananas. More efficient cultivation methods and tools
54
would help, but even more help would come from improved planning. Greek agriculture
has been set back by misguided allocation policies and micromanagement by the EU,
despite the funds they disbursed.
– Shipbuilding industry. Greece has a long tradition of being a marine nation with a large
commercial and merchant fleet. Greek shipyards were doing well but after the adoption of
the Euro their output has been falling noticeably. Lack of investment and unsound policies
are destroying a bright spot of the Greek economy.
– Textiles. This was another productive part of the Greek economy which unfortunately
declined in recent years. Investment to renovate the textile industry could help its recovery.
- Tourism. This is still doing well in Greece, but it can be expanded to all year round as the
climate of Greek islands is mild even during the winter. Tourism expansion would need
investments in hotels and transportation infrastructure as well as sufficient marketing and
advertising.
– Small business. Last but not least, investments should be made to support small
businesses which are still the backbone of the Greek economy.
All the above investment areas would help exports in particular the tradeable Greek
exports and improve the imbalances in the current account deficits. Of course more
investments in human resources, health and training should be made as Greece has a highly
educated population. Again, investments should be carefully chosen for the long time but
made under supervision and auditing.105
55
Greece of course needs reforms which should be targeted and synchronized with
the investments. Reforms have already been made but more are needed to modernize labor,
unions, pension funds and healthcare. Privatizations should be made at a slow pace to
avoid fire sale auctions. Reforms to reduce tax evasion, clientelism and corruption should
also be made with the understanding that these types of reforms will take much longer time
to implement.
Debt Reduction. The Greek debt, in 2016 sits at about 170% of the GDP which is
unsustainable under any austerity or bailout scheme. This was reported by the IMF in the
summer of 2015. Simply put Greece can not pay this kind of money. The debt burden is
painful as it reduces the Greek credit worthiness and the ability of the Greek banks to
borrow money from financial institutions at reasonable interest rates. Because of its high
debt, Greece has been cut off from international financing.
The IMF has suggested a drastic Greek debt reduction: the so called debt haircut.106
Any substantial forgiveness of the Greek debt will have a significant beneficial effect on
the economy. It will make the Greek credit worthy again, substantially reducing interest
rates so that the country could go back to the markets and borrow again without need for
bailouts. It is likely that debt reduction together with investments will lead the country to
recovery and growth with positive influence on most economic indicators.
The Paris Club is a voluntary, informal group of creditor nations who meet several
times per year, to provide debt relief to developing countries, in collaboration with the
IMF. The Paris Club has a model for rescheduling of sovereign debts over a defined period
56
or fixed period, depending on financing.107 Usually, the Club’s operations have been geared
to low-income countries, and thus would seem ill-designed for the larger complex
industrial economies of Europe. However, the Paris club framework and rules may apply
to the case of Greece. Fortunately, there is some new thinking which has appeared
recently. According to a press release, the representatives of the Paris Club have decided
in principle to abolish the debt of its biggest debtor: Greece. Although this is very
encouraging, it is too soon to evaluate any followup implementation procedures and plans
for the Greek debt relief effort.108
Unfortunately, there are several concerns. The Eurozone leadership adamantly has
resisted any suggestions even talk about a Greek debt haircut. Their fear is that a debt
haircut benefiting Greece would be unfair to other bailout stricken countries. Despite
differences in each country's case to Greece as discussed earlier, the perception of
unfairness is apparent.
There is also concern that a debt haircut would reward Greece’s bad behavior
taking the country off the hook without reforms. Moreover, there is concern that Greece,
after a debt relief and some initial growth, may again revert to its old habits borrowing
heavily as did previously before 2010, creating a new debt crisis.109
Another approach would be not to forgive a large part of the Greek debt, just to
extend it with very long time payment terms, essentially over a "century" long. Although
this idea may not be that much different from a debt haircut, still it may calm the markets
to ease lending terms for Greece.110
57
There is still a question about who is going to finance the Greek investments for
growth. Under the present austerity terms, much of the bailout funds should be used by
Greece to pay back interests to its lenders, every year or so. However, if there is a debt
haircuts, then maybe the country's credit will improve to stand on its own for borrowing.
Then some of these bailout funds could be well used for investments in growth areas of
Greece. Of course this requires new thinking and farsighted policy changes in the
Eurozone but may be worth of consideration since the current austerity has not really
worked.
5.2 Default and Grexit.
Of other alternatives, some of them are not in the spirit of being European but
might be viable if Greece was willing to go it alone or at least be a bit of a pariah. These
alternatives come down to a Greek default on its international debt with a very possible
exit from the Eurozone.
Negotiating Tactics. Greece actually had significant bargaining power to negotiate
for better terms in paying back its loans and to moderate the Troika’s austerity demands.
The mere fact that Greece owed so much money actually gave the debtor country
bargaining clout through the threat of debt default. There was a fear back 2010-12 that
such a default would have exposed French and German bank loans to big losses. Moreover,
there was the threat of contagion to the bonds of other sovereigns as well as the uncertainty
that would have emerged after a Greek default.111
58
However, no such threat was invoked or even remotely implied by the Greek
governments that were involved in the 2010 and 2012 agreement. Successful negotiators,
first need to believe that their interests differ from those of the other side, making sure that
the other side knows this fact. Second, negotiators need to prepare their own side for the
ultimate threat so that the other side has the reasonable fear that the threat is real.
But the Greek governments apparently did not fulfill either of the two important
conditions for successful negotiations. Naively, they got carried away by the rhetoric about
“European solidarity” and “we are all in this together.” This rhetoric is not useful to
seriously prepare and create a strong Greek bargaining position. Instead of being an
independent actor one becomes cognitively captured by the other side.
About the default: The question is, wouldn't default bring bankruptcy to the Greek
state? There are differences between default and bankruptcy concerning public and private
loans. Sovereign states do not literally go bankrupt. This means there are no supranational
ultimate authority that will decide and enforce how the country’s assets will be allocated
between the different creditors and what will remain with the country’s state. Instead,
bonds and loans are issued according to the laws of specific jurisdictions, but the ultimate
enforcement can be difficult since states are sovereign.112
Legally, the majority of Greek debt issued before 2010 was governed by Greek law.
After the 2nd bailout 2012, Greek debt came under British law and defaulting on that debt
would be considerably more difficult than that issued under Greek law.113 Then it would
appear that Greek default prior to 2012 would not have been difficult. Why not? 114
59
Well, prior to 2012, Greece still had a chance to borrow, if not from the markets,
from other sovereign states such as China, the US, Russia and maybe Japan. If Greece had
defaulted in early 2010 its debt could have become sustainable in the long run with write
offs on bondholders considerably below 50% of total debt. The country would have had to
borrow internally, perhaps issue IOU's and impose a few modest cuts. The effect of such a
policy would have been mildly recessionary.
Instead, the Troika provided Greece with loans as to cover its budget deficit
without default in exchange for increasingly draconian austerity measures. The effect of
this policy was a fast downward economic spiral. Greece was getting poorer faster; debt
was becoming ever less sustainable.
Now, default has become considerably more difficult both because Greek public
debt is under English law and because 80% of it is official and owed to official sources –
the IMF, the ECB, and the Eurozone. Quite likely, the default will be followed by the
dreaded Grexit.
The Grexit Reality. Grexit means for Greece getting out of the Euro and reintroducing its old currency. First, there is little doubt among economists that the easiest
mechanism for a country to gain international competitiveness is to have its currency
depreciate. The main benefit comes from the flexibility the country has to adjust to market
shocks and international competitiveness. Moreover, using its own currency, Greece could
tailor monetary policy to its needs, instead of having it determined by the needs of
bureaucrats in Brussels or Berlin.
60
Most of those who object to exit from the Eurozone are mainly concerned with the
costs of transition. There are several important questions. Won’t the foreign debt burden
increase even more due to devaluation? How will the banks adjust to the change in
currencies? How will the country import essential items like petroleum and
pharmaceuticals? What will happen to bank deposits? Won’t all this create total chaos?
What is important is the competency of those who manage the transition: are they
honest, competent and ready to defend Greek interests? Will they be speedy and flexible in
adjusting when unforeseen problems pop up? How skilled at articulating their actions to
the Greek people will they be as to stymie negative reactions. A completely uncontrolled
and unplanned exit from the Eurozone will be chaotic and a lot more painful than a
controlled and well-planned one.
Capital Economics provided detailed guides for the process of exiting the Eurozone
and answers to the above questions.115 Because of its long recession, exit from the
Eurozone would have been much easier earlier. Now the main problem is political,
especially regarding protracted negations for restructuring or forgiving the debt.
In terms of short and medium term after Grexit, the adjustment of the banking
system will take some time. Naturally, capital controls will need to be imposed and other
measures will have to be taken to ration foreign exchange for the importation of essential
items.
Bank deposits will automatically be adjusted to the new currency as will be all
domestic debts. Inevitably, net creditors will lose some and net debtors will gain in the
61
short run. But even net creditors might gain in the long run since the economy can be
expected to grow faster.
The transition will be difficult and painful but, if managed properly the pain will be
short term. With its own currency the Bank of Greece and the government will be able to
inject much needed liquidity in a currently dying domestic market. Liquidity along with
depreciation, import substitution, reduced imports, and possibly increased exports will
bring the economy back to life and increase employment.
In contrast to Brexit, Grexit does not mean exit from the EU, but rather an exit
from the Eurozone. Actually, there is no legal way to expel Greece from either the
Eurozone or the EU, it can only occur by voluntary departure.116 This means Greece would
still have access to the large EU market under preferential tariffs, just as other EU
members that are not in the Eurozone. Further, a default and Grexit would not have to be
done in an overtly adversarial fashion with Germany and other Eurozone countries. There
are many economic and political constituencies within Germany that would find such a
possibility welcome and mutually advantageous for Greece, Germany and for the future of
a more cohesive and sustainable Eurozone. Of course, a counter argument to the above is
that a successful Grexit may be an attractive example to other debt stricken Eurozone
periphery countries.
To summarize, there are two key difficulties facing the Greek leadership if they
were to pursue the aforementioned Grexit: First they need to thoroughly prepare the
details of an implementation plan, and secondly they would need to convince and lead the
62
Greeks through difficulties such a transition would entail. None of the Greek
governments, including the hard leftist one, have seriously considered this task.
63
6. Summary
Many factors that have largely contributed to the Greek crisis have internal origins.
Some of them are historical – the long Ottoman occupation of Greece – and traditional –
the dominance of small (often family oriented) businesses in the economy. These factors
significantly delayed modernization of the Greek economy. Further, Greece expends a
large sum of money on defense expenditures; the cause of this is rooted in the geopolitics
of the Aegean and fear of military aggression from Turkey. The most important internal
cause is the political system in Greece which has evolved into a paternalistic and clientele
oriented system over the last 50 years. Both major parties practice populism promoting
favoritism, corruption and rent seeking actors. This resulted in a large state sector,
encouraging inefficiencies and increased government spending. A notorious tax evasion
exacerbated deficits which required perennial external borrowing while increasing the
debt. In retrospect it is clear that Greece did not qualify for membership in terms of
economic criteria.
There was a sluggish EU response during the early stages of the crisis when it was
still manageable. Moreover, there has been a failure of the part of Eurozone institutions in
dealing with a crisis of this magnitude. The European institutions proved inadequate to
handle the Greek crisis except by the imposition of strict austerity. The entirety of the EU
architecture was envisioned as an economic union, but despite the rhetoric, was not based
on federal political structures, in many ways treating its members like separate entities.
There have not been any effective mechanisms in the EU and the Eurozone to share the
64
burden and absorb the shocks of its member states in economic trouble. The ECB was not
really designed to bailout weak Eurozone states. The ESM was not established until 2012
and still is not fully developed. ESM may participate in later phases of the 3rd Greek
bailout, hopefully will not be too little too late.
After 2010, Greece was unable to borrow money at reasonable interest rates from
the markets. Things started getting out of control as the rating agencies lowered the Greek
debt scores and trust in the country's ability to pay withered. The Troika agreed to provide
Greece with a €110 billion bailout package which was hinged on strict austerity measures.
These measures concerned fiscal consolidation, privatizations and reforms. The
government made efforts to implement some of the measures, without much success
because there was public resistance and implementing the measures came at a high
political cost. Several more bailouts would be required.
The immediate impact of these measures was severe on the society. There were
drastic cuts, salary and pension reductions, both on state and private sectors and also a
reduction regarding social benefits. Taxation including VAT was increased as was the
campaign against tax evasion. There were anti-union reforms affecting collective
bargaining and layoffs. To avoid severe loss of liquidity, capital controls were introduced
restricting withdrawals from bank accounts. Many businesses were closed or suffered
severe layoffs, with unemployment topping the highest level in the Eurozone. Poverty and
inequality has also increased during the same period with healthcare becoming less
accessible, especially for marginalized groups.
65
The political cost of the bailout programs was also significant. It led to the collapse
of the two-party system, with the subsequent rise of the hard left and the far right parties.
In the 2015 elections the hard left was able to form a majority government. There was a
deadlock for several months with the Eurozone, with the eventual leftist split and
capitulation incurring political instability.
When examining the series of bailouts that Greece needed versus the needs of other
states, it becomes clear how the local intricacies (family businesses, pervasive shadow
economy, tax evasion culture) of the unprepared Greek economy, coupled with a clientele
oriented form of government that has a high defense spending ratio, could end up needing
several rounds of bailouts. Greece’s outmoded economy was pressed too hard and its
inability to address its debts via the traditional means of currency devaluation led to a bitter
cycle of borrowing with higher and higher interest rates. The €110 billion first loaned to
Greece by the Trokia showed a sluggish EU response that was more or less unprepared to
handle such a crisis.
When compared to other countries such as Ireland and Portugal, we see that
Ireland’s greatest difference was a strong export economy coupled with a more modernized
economy and disciplined workforce. Hence, when bailed out Ireland was able to recover
despite its high public debt. Portugal, which seems an even closer comparison to Greece in
economic size, yet differed in that its debt was external and that it lacked the level of
cronyism that Greece has. Moreover, the Portuguese unions are not as closely aligned with
the Government as the Greek unions, allowing austerity measures to go through quickly.
66
Ultimately, Greece ended up being a proverbial “perfect storm” of preconditions
when compared to other Eurozone countries that struggled with economic crises.
The choices for Greece are currently very limited. Exit from the Eurozone may be
too late now to plan after the third bailout. Remaining in the Eurozone under conditions of
strict austerity and limited investment may require additional bailouts with further
economic deterioration and rising political tensions bringing the country to the edge. I
hope, there will be changes in the EU policies to allow debt relief together with
investments to flow in the country for recovery and growth. How realistic is this hope?
Well, perhaps the recent political turmoil in Europe with the rise of Euro-skepticism may
finally awake the EU bureaucrats and especially the Eurozone leadership to change their
debt policies and plans for the benefit of the weaker states, and ultimately save the
European project.
67
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