Monday, 30 May 2016

A deal that takes Greece further down the path of folly

The Eurogroup meeting on 24 May finalised the surrender of the erstwhile radicals of SYRIZA to the Commission and the IMF. The deal takes Greece further down the path of its own demise.

Briefly, the Eurogroup decided to release 10.3bn of bailout funds to Greece in two tranches, one in June, up to 7.5bn, and one after the summer, up to 2.8bn. The Greek state will have enough funds to cover its external debt obligations for 2016, and will be able to settle some of the backlog of its domestic obligations. The Eurogroup has also decided to offer Greece some minor “short-term” debt relief, such as smoothing the immediate repayment profile of EFSF debt, while postponing discussion of more substantial “medium-term” relief until 2018, that is, after the next German Bundestag elections.

To receive this largesse, Mr. Tsipras and his government have legislated the following:

i) Fiscal contraction of 5.4bn, amounting to 3% of GDP, for 2016-18. It includes reductions in pensions as well as increases in direct and indirect taxes.
ii) Sale of non-performing loans and non-performing equity by banks to private funds.
iii) Mass privatisation of public assets, managed partly by the lenders to Greece. The proceeds will effectively go toward paying public debt.
iv) An “automatic fiscal adjustment” mechanism that would cut public spending, if Greece risked missing its primary surplus targets.

The economics behind this package is plain nonsense. Currently Greece is again in a recession that began in the last quarter of 2015. The initial GDP estimate for the first quarter of 2016 showed a contraction of 1.3% quarter-on-quarter. Every single indicator for 2016 has reflected mounting recessionary pressures: industrial production in March contracted by an annual 4%, from a very low base, following loss of 35% of output since 2008; wholesale trade fell in the first quarter of 2016 by 8% quarter-on-quarter; retail sales in February contracted by a further 7.3% on an annual basis; unemployment in February stood at 24.2%, after reversing its slight downward drift in 2015; exports in March fell by 11.4% (including petroleum) or by 0.3% (excluding petroleum), and so on.

The downturn reflects extremely weak demand and collapse of credit, partly due to uncertainty caused by the aimless policies of SYRIZA in 2015 that eventually led to its abject surrender. The Eurogroup deal means that the government has agreed to apply further recessionary measures to this tottering economy. Thus, Greece will almost certainly have a significant recession in 2016. It might perhaps return to growth in 2017, but its long-term prospects are extremely poor.

The bailout policies applied since 2010 have aimed fundamentally at stabilising the primary balance and the current account of the country. In typical IMF fashion, the task has been pursued through a gigantic contraction of public spending, huge tax increases and a precipitous fall in wages. Disastrously for Greece, there could be no devaluation of the currency as the country’s leadership obstinately kept it in the Eurozone. The source of any growth was supposed to be “reforms”, that is, measures of liberalisation and privatisation. 

This “treatment” has achieved a measure of stabilisation through recession, destruction of productive capacity and poverty. As was expected, however, it has left the country with appalling growth prospects. The population is declining and highly skilled youth are leaving to work abroad; investment has completely collapsed, falling to just 12% of GDP – there is a contraction of roughly 30bn of annual investment since the peak of 2007-8; research and technology expenditure is negligible; the efficiency and capability of the public sector, which was never very high, is declining. Last but not least, Greek private banks have failed completely to support demand and continue to act as a brake on growth. Even according to the IMF the long-term growth potential of Greece is just over 1%. On this reckoning, it is unlikely that unemployment will fall below 20% for another 4-5 years. It is apparent that even the partial stabilisation of the primary balance and the current account are extremely flimsy and could be easily undone.

Not to put too fine a point on it, Greece is on the road to long-term irrelevance. Its economic decline has inevitably reduced its national sovereignty, while restricting democracy domestically. One does not need to go far to find evidence: the deal just agreed by the SYRIZA government is a flagrant instance of dependence, a form of neo-colonialism.

The country urgently needs a wholesale change of direction. It requires profound debt restructuring; even the IMF is now talking of radical measures to bring debt to manageable levels. It must abandon austerity and begin to deploy fiscal policy to tackle unemployment; targeting primary surpluses for the indefinite future is absurd for a country in Greece’s state. There must be revived public banking to support investment. There should also be a medium-term industrial strategy based on credit and tax incentives.

None of these changes is feasible within the Eurozone. All sensible observers are agreed that it is in the medium- and long-term interests of Greece to leave the EMU and regain monetary sovereignty. Exiting the straightjacket of the euro is the country’s only chance of rapidly altering the long-term factors of growth, thus giving itself an opportunity to avoid the slide into poverty and irrelevance.

The tragedy is that the Greek political system has proven utterly incapable of taking the country down the path of reason. SYRIZA growled like a lion in opposition but squealed like a mouse in government. There has not been worse political chicanery in European politics in decades. The country desperately needs a democratic upheaval, a shock from below, if it is to avoid historical decline.