Five Reasons Why The Greeks Were Right

John T. Harvey

On Sunday, Greek citizens overwhelming rejected the bailout plan penned by its creditors. Subsequently, many observers have condemned the Greeks as lazy, ungrateful and unwilling to accept the consequences of their spendthrift ways.

But the Greeks were right to say no. What lenders were trying to force upon them is patently unfair and ultimately destructive to the entire EU. The real problems are inherent to the euro system itself and treating Greece like an irresponsible teenager who must be scolded by their parents is both a mis-diagnosis and a guarantee of continued problems.

Consider the following:

1. Austerity is not a solution for any economic problem: What creditors and EU bankers and policy makers want is a continuation of the austerity programs that have led to 25% unemployment. Greece said no, and quite right – what economic problem is solved by throwing people out of work? If you were heavily in debt and your bank called you in to discuss your options, can you imagine them recommending that you quit your job? But this is precisely what Greece’s creditors are saying: “You owe us a great deal of money and this can only be resolved if you increase the number of your citizens who contribute absolutely nothing to the production goods and services.” There’s no clever economic logic at the bottom of austerity, it’s every bit as insane as it sounds.

2. Greek social programs are less generous than those in France or Germany: A great deal has been made of the personal failings of the Greek people. They have been called lazy, corrupt and entitled. Central to this thesis is the contention that Greek social programs have been far too generous. Greeks, they argue, would much rather sit around and cash government checks than go out and get a job, as shown in this cartoon:

But here is the irony. From 2001 (the year of Greek entry into the Euro system) through 2007 (the beginning of the world financial crisis), Greece devoted an average of 20.6% of GDP to social programs, while Germany and France were at 26.7% and 28.7%. That’s a significant difference, and in a direction that does not support the lazy-Greek hypothesis.

3. Greek labor productivity has risen fasterthan German: In fact, not only does Greece spend comparatively less on social programs, but their workers’ productivity rose faster than that of Germans. However, while in Greece the increases in productivity were passed on to workers in the form of higher wages, that was not the case in Germany where new flexible labor-market policies were introduced in 2002 (Miller, John and Katherine Sciacchitano. “Why the United States is Not Greece.” Dollars and Sense: Real World Economics Issue 298, January/February 2012). What the wage repression in Germany meant was that the rising Greek standard of living – one of the goals of joining the euro in the first place – caused a modest Greek trade deficit to grow steadily up through the crisis as German labor costs were suppressed. Which leads to point no.4…

4. The Greek crisis is function of their trade deficit, not government social spending: In order to grasp the true nature of the crisis, it is extremely important to understand that what has happened is a function of Greek trade deficits, not Greek government budget deficits. If Greece buys more goods and services from Germany than Germans buy from Greece, they must finance this by selling financial assets and/or borrowing. This creates external debt. Conversely, if they sell more to the Germans than the Germans buy, then Germany must sell financial assets to or borrow from Greece. This is true regardless of the government’s budget balance. Consider the following table:

Trade Balance	Budget Balance	External Debt?
surplus	surplus	no
surplus	deficit	no
deficit	surplus	yes
deficit	deficit	yes

This leads directly to the last point.

5. The Greek crisis is a function of how the Eurozone is organized: The problem facing Europe is a systemic one. Those who try to understand it as being a reflection of individual national characteristics will completely miss the point and any policies that emerge from such an analysis will range from impotent to disastrous (with current recommendations leaning toward the latter). Simply put, the core issue is that the system punishes success. This is so because of three interrelated factors:

Imports are very responsive to changes in national income. When economies expand, their imports rise substantially; when they contract, imports fall rapidly. Take for example the impact of the financial crisis on US purchases of foreign goods and services. These fell from $838 billion in third quarter of 2008 to $579 billion in second quarter of 2009. This is a precipitous decline in a very short period of time and economies witness similar effects in the opposite direction (i.e., large increases in imports during expansions).

Trade deficits must be financed by selling financial assets and/or borrowing. This debt can only be retired via the opposite process, i.e., trade surpluses that generate credits.

The euro system lacks a mechanism to automatically reduce trade deficits. If each nation had its own currency, then a trade deficit would create pressures that would tend to cause their currency to depreciate, making their goods and services more attractive. So, in the case of Greece, had they been on the drachma and not the euro, the trade deficits with Germany would have led to a drachma depreciation, a fall in the trade deficit, and a deceleration in the accumulation of foreign-held debt. But, that’s not the way it works. Everyone has the same currency and so trade deficits can theoretically continue forever (certainly much longer than they would if everyone issued their own money).

All three of these together create a self-destructive trend:

Superior Economic Growth ==> Rising and Persistent Trade Deficits ==> Spiraling Debt

This is precisely what happened to Greece–they grew substantially faster than Germany and were punished for their success. From their entry into the euro through 2008, real GDP growth in Greece averaged 3.6%. Meanwhile, in Germany, it was an anemic 1.3% – nearly three times slower than Greece! Not surprisingly and consistent with the first factor listed above, Greek imports rose much faster than German. This meant that Greece found itself accumulating the debt that led to the eventual crisis. Why, because they were lazy and shiftless and living off lavish pensions and unemployment compensation? No, because since their entry into the euro zone, they have been more successful than Germany in expanding their economy and their productivity and income gains were, unlike in Germany, passed on to workers.

Conclusions

Ironically, in such a system, austerity does make sense as a “solution.” Austerity will impoverish Greeks to the point that they can no longer afford to purchase foreign goods and services. Once they are sufficiently poor, their imports will fall below their exports and they will start generating the trade surpluses necessary to retire the debt. But that’s why it’s a bad system! An impoverished Greece is good for neither Greece nor its trading partners and it shows how the system is broken. It biases nations towards adopting policies that lead to economic contraction. It’s hard enough to achieve low levels of unemployment without building in incentives to further lower demand. What Europe truly needs is not further belt-tightening by the Greeks, but a means of addressing trade imbalances that does not force the deficit nation to stop spending. Rather, they need the surplus nation to start spending, something that a drachma depreciation would have encouraged. This is hardly the only means by which that could be achieved and might not even be the best one, but it’s the logical starting point for any discussion (for a more comprehensive treatment, see Davidson, P. (1992). “Reforming the World’s Money.” Journal of Post Keynesian Economics 15 (2): 153–179).

Are there lazy and corrupt Greeks? I’m sure there are, just as there are lazy and corrupt Germans, Swiss, French, Italians and so on. But that’s not what’s really going on here. This isn’t about good people and bad people. It’s about a poorly designed system.

There is, however, one failing for which the Greeks should surely be held accountable: joining the euro in the first place. Their desire for the prestige bestowed by euro zone membership outweighed serious consideration of what was really best for Greece. It’s too late to change that, but it’s not too late to limit the damage done. Let’s hope that clearer heads prevail today.

Original