GREEK ECONOMIC CRISIS
The Greek economic crisis is one of the biggest financial disasters in modern history. It is also a great example of how things can go wrong if you don’t manage your finances, be it an individual or a government. So, let’s take a look back at the history of the Greek economy and what led to this crisis.
POST WW2 ECONOMIC MIRACLE
Up until the 1980s, the Greek economy was a bustling economy- high growth rates, low borrowing, and government budgets ran at a surplus or a small deficit. But in the 1980s, the Greek government started pursuing financially irresponsible policies- higher pensions, higher salaries, early retirement, etc in order to appease the people of Greece. The government was also very lenient in terms of collecting taxes, as a result, many of the big corporations operating in Greece evaded taxes. Due to less income from taxes, the government started borrowing money, a hell lot of it. Investors lent to Greece at high-interest rates, seeing how much debt they already had. The economy was sluggish, there were high unemployment and inflation rates. Then, the Greek government saw a ray of hope….
THE QUEST FOR EURO
The Euro gave the promise of promoting free trade by cutting barriers of different currencies and would make the European Union stronger than ever. But, Greece wasn’t invited to the Euro party. You see, certain criteria had to be met for a country to adopt the Euro, called the Maastricht criteria which stipulated that the country should have low inflation rates, similar interest rates to the Euro countries, annual government deficit be below 3%, and a debt to GDP ratio of less than 60%. Greece was nowhere near these limits. So, the only option was to not join the Euro or reduce its spending and balance its budget by collecting more in taxes. But what if there was a third option?
To reduce its debts and abide by the Maastricht criteria, the Greek government resorted to misreporting of figures. It had entered into arrangements with financial institutions like Goldman Sachs to artificially reduce the foreign currency debt of Greece. One of these arrangements was currency swaps. In this arrangement, Greece would swap its foreign debt (which was in Dollars and yen) for Euros, but at a different exchange rate as compared to the market rate which would reduce the debt. Moreover, these transactions were kept off the books and were a secret.
Greece adopted the Euro on 1st January 2001, a year before its physical circulation began. Greece, which got loans at a very high rate of interest, now could get loans at a very low-interest rate since Greece shared the same currency as strong economies like Germany, it couldn’t default on its debt and investors considered it a very safe investment. So, the availability of cheap credit made the government go on a spending spree. More jobs, higher salaries, pensions, ambitious projects. Greece even brought the Olympics home in 2004!. But the Greek economy was suffering in silence.
MONETARY POLICY VS FISCAL POLICY
Each country has two kinds of policies to control the economy- Monetary policy, which controls the amount of money in circulation and fiscal policy, which decides how much the government spends and collects its taxes. The countries which adopted the Euro had given up their monetary policy in favour of the European Central Bank, which would take decisions for the EU as a whole.
As Greece adopted the Euro, imports from other European countries became cheaper due to the common currency which made Greek manufactured goods less competitive to the foreign products and reduced its economic output, which made Greece import more. If Greece wouldn’t have given up the Drachma (Greece’s own currency), it would have devalued and hence made imports expensive. Inflation would also rise which would make prices rise. But, a big advantage of this is that exports become cheaper as someone from any other country could buy more by spending the same amount. This creates some sort of a balancing factor for an economy, which the Euro didn’t have as Greece’s major trade partners were other EU countries.
Without the Euro, investors wouldn’t have lent to the Greek government at low-interest rates, saving it from the reckless borrowing and the subsequent debt trap. Moreover, if the government borrowed too much and spent too much, it would also result in inflation, which is opposed by the people. This would have prompted the government to pursue a financially sound policy which would be better in the long term. A country with an independent economic policy can make decisions better suited for it, and this helps it in bad times when the government can cut interest rates and help boost spending by pumping money into the market and bring the economy back on track faster.
By the closing down of Greek factories and offices, less revenue came from taxes, which made the government borrow, even more, getting stuck into a debt trap. But, investors were still lending to Greece, irrespective of these problems and the government was happy until credit was available, until …. 2008.
WHEN HARD TIMES HIT
The effects of the collapse of the US housing bubble were felt around the Globe. It made lending come to almost a halt. The stack of cards came tumbling down when in October 2009, the Greek government announced that it had been understating its deficits for years, which made investors stop lending to Greece and the credit ratings were also downgraded. Greece came on the verge of bankruptcy in spring of 2010.
The international community was worried that a Greek default will send the world again into a financial crisis, which the world was still reeling from. Moreover, Greece was so economically tied to the rest of Europe that it was speculated that a Greek default will have a ‘Domino effect’, sending the other European governments into default.
So, to bail Greece out, The European Commission, the European Central Bank and the International Monetary Fund, collectively called the ‘Troika’ launched a €110 billion bailout loan in May 2010. This was followed by a second bailout worth €130 billion in 2011, which also included negotiations with private investors to cut Greece’s debt. But, these bailouts were not unconditional, they came with Austerity measures.
AUSTERITY MEASURES
The EU countries, especially Germany, wanted Greece to adopt austerity measures in order to balance its budget. These measures included increasing VAT and corporate tax rate. Also, the loopholes due to which companies paid fewer taxes had to be plugged. Reduction of pensions and an increase in the retirement age were deemed necessary. There would be a privatisation drive of state-owned enterprises. The government would spend less on Healthcare and Defence. These slew of measures hit Greece hard. The government is the biggest spender in any economy and gives out the most jobs. Now, All of a sudden, people lost their jobs, their pensions were cut and they had to pay more taxes. Pensions were a huge issue, half of the Greek households relied on it and it constituted about 17.5% of its GDP. So, the people were devastated, unemployment ballooned to 25%, while youth unemployment reached almost 50%. Riots and protest broke out in the streets, but alas, the hands of the government were tied.
With the economy in shambles, educated and skilled people saw their salaries decline. They believed that their work was underpaid in Greece. So they started migrating to other countries. This problem was aggravated with the EU Schengen area’s open borders, which didn’t need any immigration controls. As a result, skilled and educated individuals, which are a backbone of any economy migrated in huge numbers and the government couldn’t do anything about it. Wealth creation in Greece reduced further due to this ‘brain drain’. There was a lack of innovation, the Greek economy shrank every year and the government was trapped in a vicious circle where it spent less money, the people earned less and paid back even lesser taxes.
In 2015, the Greeks elected SYRIZA to power which promised to boost spending, give back jobs, and reduce the austerity measures imposed on Greece. In the same year, the Troika and the Greek government were in negotiation for a third bailout package for Greece, where the government presented two proposals, both of which were rejected. The last financial transfer of the second bailout was to be held on 30th June. On 27 June 2015, The Prime Minister Alexis Tsipras announced that a referendum will be held to decide whether to accept the terms of the third bailout presented by the Troika on 25 June. The result was a decisive ‘no’ by the Greek people with 61% rejecting the proposal. As the bailout expired on 30th of June, Greece missed its 1.5 billion euro payment to the IMF, the first developed nation ever to do so. Seeing the economy in shambles, the Prime Minister took a U-turn on his policy and accepted the terms of the bailout, which was even worse than the previous bailouts with even harsher terms and more austerity measures.
ROAD TO RECOVERY
In 2017, the Greek government announced that the yield on its bonds had reached pre-2010 levels, signalling that the economy is out of trouble. The GDP grew by 1.5% in 2017. Although the Greek people were still suffering as unemployment continued to be very high, wages were low, and taxes crushingly high. The government couldn’t spend much in the economy due to austerity and already a huge amount of debt, around 176% of its GDP. But, slowly and steadily, the economy was coming back on track. In March 2019, Greece sold 10 year bonds for the first time since the bailout.
But, with a new crisis due to the coronavirus has hit the Greek economy hard. Its two biggest industries, tourism and shipping are the worst affected around the world. The Greek economy is expected to contract by as much as 9.7% in 2020, the highest in the EU. The country has already been through a lot of problems lately but now faces another major hurdle, reviving the economy amidst the pandemic. But, for the revival, the government has to spend more to pump money in the economy. This spending can only be financed by borrowing more. So what will the Greeks do, spend to revive the economy by taking on more debt or taking the hard way out of the crisis by spending less?
