By Desmond Lachman, The Hill
Albert Einstein famously observed that a sure sign of insanity was to keep repeating exactly the same experiment and yet to expect a different result. One has to wonder whether the same might not be said of Greece and its European partners as they have agreed to extend Greece’s borrowing arrangement for another four months. They have done so in order to negotiate a new economic program with very much the same macroeconomic policy recipe as before. This has to beg the question: Why, if such policies failed so miserably before, should a different result now be expected?
At the heart of Greece’s dismal economic performance since 2010 has been the Troika’s (the European Commission, European Central Bank and International Monetary Fund) insistence that Greece engage in massive budget belt-tightening within a euro straitjacket. Lacking an independent monetary or exchange rate policy to offset the contractionary impact of fiscal tightening, which belonging to the euro necessarily involves, it should have come as no surprise that the Greek economy would have plunged.
Sadly, that is precisely what happened to the Greek economy. Today, the Greek economy is around 22 percent below its 2008 level, while unemployment exceeds 25 percent or the highest in the eurozone. Also troubling is the fact that Greece is now experiencing outright price deflation at an annual rate of 2.5 percent. Such deflation could constitute a major headwind to any future economic recovery and it could make reducing Greece’s public debt to gross domestic product (GDP) ratio well-nigh impossible.
As the new Greek government starts negotiating a new economic support program with its official creditors, it does so under inauspicious circumstances. As a result of renewed domestic political uncertainty, the Greek economy again appears to have succumbed to recession, as underlined by a marked drop in industrial production over the past two months. Meanwhile, there has also been a sharp decline in tax collections. More troubling yet, political uncertainty has occasioned a large outflow of bank deposits. Since December, bank deposits have declined by around 25 billion euros, which is bound to result in the continued reluctance of the Greek banks to extend credit.
The normal policy response to a weakening economy and a domestic credit crunch is a relaxation in the budget policy stance. However, this is something that Greece’s official creditors are almost certainly not going to countenance. Indeed, while in the context of the recent four-month extension of its economic program, Greece’s official creditors agreed to be more lenient on the country in 2015, they are still more than likely to insist that Greece aims at a primary budget surplus of at least 2 percent of GDP in 2015. Since it appears that Greece’s primary budget surplus has now all but evaporated, aiming at a 2 percent of GDP primary surplus in 2015 will entail a significant amount of budget belt-tightening. As before, this belt-tightening will take place in the context of a euro straitjacket that precludes currency depreciation.
Greece’s official creditors still cherish the hope that far–reaching economic structural reform can galvanize the Greek economy and overcome any headwind from budget belt-tightening. If recent eurozone experience should have made one skeptical about such a world view, there is all the more reason to be skeptical in the current Greek context. The Syriza government does not have its heart in the structural reforms again being imposed on Greece from abroad. That will hardly inspire investor confidence. In addition, many of the reforms in which the Syriza government does have its heart are directed at the rich. As such, they too will be hardly conducive to a pick-up in investment.
The last thing that Greece needs right now is a renewed economic downturn. Not only would such a downtown further radicalize the county’s politics; it would also increase the country’s financing needs by adversely impacting its tax revenue collections. Yet, if past is prologue to the future, this is exactly what must be expected from renewed budget austerity within a euro straitjacket.
Now that the Syriza government has effectively signed up to the failed policy prescriptions of its predecessor, one has to wonder what it will take for Greek policymakers to recognize that continued euro membership is a sure recipe for many more years of economic and social misery. One also has to wonder at what stage it might dawn on Greek policymakers that Greece’s longer term interests might be better served by going through the short-term trauma of a euro exit that will at least offer the prospect of a return to longer-term economic growth and prosperity. As the Germans expression goes, it is high time for Greece to recognize that an end with horror is preferable to a horror without an end.
Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.
