Greece: Economic and Public Financial Situation

Greece: The Economic and Public Financial Situation

S. Henry – J. Girigori – L. Davelaar

ICUC MBA XI

SUMMARY

Greece is going through a very tense season related to their economy for a while now. They are facing ultimatums to correct their financial situation, taking measurements if they want to continue being part of the European Union.

Greece’s economy rely majorly on service delivery areas, under which Tourism is one of the biggest income generating post (about 73% of the GDP). In 1980, Greece joined the European Union and in 2002 they officially adopted the Euro as a generic monetary agreement between the EuroZone. Greece, had different benefits since there merging with the EU. Their input per year account for about 2.35% of the GDP of Greece. Additionally, Greece received on a structural basis an EU funding of 20 billion from 1994 to 1999 and of 24 billion from 2000 to 2013. These funds has been used to lower the country’s deficit and to further development the country.

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Greece is currently progressing slowly in defeating the huge problems they were confronting with this torturous recession. Even though this recession was and still is a difficult period for Greece, we must accredit for the fact that they managed to achieve some quantifiable results with the challenges they confronted with the adjustments. As Greece and the other debtor countries such as Spain, Italy, Ireland and Portugal are heading towards default, the whole continent of Europe is in danger.

Even though the economy of these countries are relatively small in comparison with several other members of the euro zone, they form a huge threat due to the huge interconnection of the European financial system because of the euro.

As mentioned before, Euro is the common currency for the entire European Union, and this group known as the Eurozone is affected due to wide range of currency fluctuations and the Drastic fall in the value of Euro.

The countries, forming part of the Eurozone, who agree to support Greece of preventing them from getting to default, were directly and immediate impacted by the financial crisis in Greece. As per most articles describe that the most viable option right now is to not exit the Eurozone and come to a deal in order to come out of the budget deficit they are in.

Without a centralized fiscal union countries will continue to run deficits, accumulate depths, degrade the value of euro and threaten stability of Europe.

Table of Contents (Jump to)

SUMMARY

INTRODUCTION

CHAPTER 1 Greece and Economy Before Crisis

1.1 Public Finances & the Crisis

1.1.1 European Union privileges

CHAPTER 2 Greece & Their Current Situation

2.1 Private consumption and unemployment

2.2 Investments

2.3 Uncertainty an liquidity

2.4 Current Public finance vs the international economy

CHAPTER 3 Impact Greece on EURONET and Rest of The World

3.1 What is Grexit and the Impact

CONCLUSION

References

Figures

INTRODUCTION

Greece is part of the European Union which consist of some countries united by the euro in the euro zone. And this group is about to financially collapse, due to financial problems from Greece and fellow countries as Spain, Portugal, Ireland and Italy. This situation is threatening to bring down the complete European continent and the rest of the World.

In this paper, we will elaborate on the Economic developments around Greece prior becoming part of the European Union and when they adopted the Euro as their monetary identity. We will give an inside on Greece’s economic status before 2000 – 2002, during the adoption of the Euro (after 2002) and all the related consequences for themselves as well as the whole European Union and EuroZone countries.

We will discuss, their Public Finances, International Economic aspects, some Domestic Economical aspects and their relationship and limitations with the other countries around the world.

CHAPTER 1: Greece and Economy Before Crisis

This adoption of the Euro, gave the country an increase in consumer’s spending which on its turn gave the country a boost in the economic growth.

During this period Greece experienced great rates of growth. Figure 1, gives an overview of the GDP rate from 1996 until a dip (+ -0.2) in 2001 and a much greater dip (+ -0.7) in 2005.

However, due to international financial crisis in 2008, also Greece started experiencing deficits within their economical budget, which had as a consequence the start of an economic crisis.

1.1 Public Finances & the Crisis

Public finances started going drastically in the negative direction, and same was the case for misreported statistics, which consequently had an effect on credit rating agencies, who limited the possibility of Greece to request additional credits. This limitation pushed Greece in more financial instability with a debt crisis as a result.

1.1.1 European Union privileges

Greece, had different benefits since there merging with the EU. Their input per year account for about 2.35% of the GDP of Greece. Additionally, Greece received on a structural basis an EU funding of 20 billion from 1994 to 1999 and of 24 billion from 2000 to 2013. These funds has been used to lower the country’s deficit and to further development the country.

To be able to continue receiving support and assistance of other EU countries and international lenders, the Government of Greece started a 3-year program, in the attempt to start pushing back on the debts. This program consisted of:

Limiting government spending
Resizing the public sector
Reforming health care
Revising tax regime

The idea was for this new approach to help Greece to reduce the deficit by 4% of the GDP as per 2010 and by 3% of the GDP by 2012.

The major deficit generating posts resulted to be the tourism & the shipping industry. Another aspect that contributed to the crisis of Greece is a trade deficit in which in 2009, the import was about 64 billion whilst the export reached merely 21 billion.

CHAPTER 2: Greece & Their Current Situation

This statement was set after the completion of the review mission for Greece which was conducted by the staff team of the European Commission (EC), European Central Bank (ECB) and International Monetary Fund (IMF). This review was based on policies that they managed to create with the staff level authority in order to monitor compliancy with the terms and conditions that were set for the Program.

The staff team and the authorities are well aware and also agree that Greece is at a beginning of an economic stability and a balance for a gradual restart or reboot of growth which is almost in line with their previous projections. Prices are adjusting and inflation is below the euro area average.

The conditions to sustain this growth are available but the risks, uncertainty and restrained financing conditions are delaying the process of recovering and measuring the public finance.

The real GDP increased with 0.8% in 2014 for the first time since 2007. The private consumption and the net exports caused economic activities that resulted in a 0.8% growth of the real GDP.

2.1 Private consumption and unemployment

Due to reduction on the the prices and adjustment on the labor market, private consumption experienced an increase for the first time after 5 years of an ongoing contraction. The drop in oil prices and return of “under-the-mattress” deposits can benefit the Private consumption.

Increase of net export was the result of improvement of service export caused by tourism, shipping sectors and goods export. The devalution of the euro can lead to more export growth in 2015 for tourism and shipping. At the same time the strong domestic demand is increasing import.

In 2014, 100.000 new jobs were created which reduced the unemployment rate 26.5% . For this year the rate is projected to drop slightly to 25.6%. Once the expected growth in 2016 picks up the unemployment rate is expected to reduce further to 23.2%.

2.2 Investments

Same as the real GDP and net export the investments experienced a minor increase for the first time since 2008 and is mainly caused by equipment investment. The uncertainty of investors not investing in Greece is still limiting the credit supply from the financial sector.The real GDP is projected to increase to 2.9% this year, as investment recuparate with the help of structutal reforms.

2.3 Uncertainty an liquidity

Uncertainty and lack of clear vision on the policy stance of the new government that was elected last December 2014, is damaging the postive momentum for Greece. The economic sentiment indicator (ESI) worsen last March because of the diminishing confidence in the business sectors.

This significant political uncertainty is a result of having recent election for a new government in January when the country has a scheduled expiry date of the Programme set for February 28^th.

The newly-elected government negotiated an extension of 4 months of the Programme.

The extension allows Greek authorities to design and implement in coordination with EC/ ECB and IMF, reforms of the review and design follow up procedures to reach a succcessful conclusion of the Programme. The following agreements were agred upon with the new goverernment:

1 May: Loan interest payment of €200m to the International Monetary Fund (IMF), with a few days’ grace due to the long bank holiday weekend
8 May: Payment of €1.4bn maturing 6 months Treasury bills
12 May: Loan payment €760m of IMF loan
15 May: Payment of €1.4bn maturing 3 months Treasury bills
End of May: €2.5bn to pay salaries and pensions
30 June: Expire day of the €240bn bailout agreement between the euro zone and Greece
June and July: €6.7bn due to be repaid to the European Central Bank

The current account balance is projected to improve the forecast due to weakning euro as well as the ongoing structural and institutional reforms. The current CA deficit is estimated to decrease to 1.6 5 of GDP this year to 1.4% in 2016. The forecast for the headline balance must be lowered for this year and 2016 to -2.1% and -2.2% of GDP. This is a reflection of the weaker than expeted revenue, as a result of lower growth hampering the rebound in collection after the first three months of the year. Assuming that the profits from the Eurosystem securities transactions, SMP and ANFA programmes, are transferred will most probably lead to new fiscal measurements. Limitations on expenses were obligatory in 2014 and will remain the same in the future.

This year the governmment’s debt-to-GDP ratio is due to reach it’s peak and start declining in 2016. Having back-loaded payment arrangements for the European Financial Stability Facility (EFSF) loans together with favourable intrest rates and better cash management will add to the process of keeping interest expenditure low for a longe period , eventhough the stock of debt is high.

2.4 Current Public finance vs the international economy

As Greece and the other debtor countries such as Spain, Italy, Ireland and Portugal are heading towards default, the whole continent of Europe is in danger.

Greece borrowed money from banks, investors and other governments throughout Europe.

As they are reaching closer to default everyone that lent them money is vulnerable and becomes financially weaker including the ones that lent to the lenders of Greece.

The problem of Greece is affecting the whole European continent and is triggering a chain reaction of defaults. If Greece defaults, so will Spain, Italy, Ireland, Portugal and so one until it reaches the complete European continent with consequences for the whole World.

Even if the other Nations adapt the austerity measurements on Greece and Germany and the other countries bail them out so they can pay their depths, there is no guarantee or system in place to avoid this from reoccurring.

CHAPTER 3: Impact Greece on EURONET and Rest of The World

The countries, forming part of the Eurozone, who agree to support Greece of preventing them from getting to default, were directly and immediate impacted by the financial crisis in Greece. There is fright of a possible domino effect on the economy of Portugal, Ierland, Italy and Spain, well known as PIIGS, as result of the problems associated with the Greece economy.

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This fright has the consequences that the interest rates will be increased, which will reflect in a higher outflow for the countries when borrowing in the open market. The Global banking system will be affected also by the Greece crisis and also some other Global major banks who have invested in Greece when they issues their bonds or requested to invest in Greece. This means that the Grexit will have a direct impact on these investors, which will have difficulties getting their investment back. At the same time you will have the ordinary people who has their money in the pension funds. Grexit will have direct affect on the current funds. The unemployment percentage in Greece, which has been growing because of the economy crisis, will also have direct impact. Because of the relation with other market in the open market, these other markets will also be affected one way or the other, which might have an affect in their on their currency.

The European Union, shorted as EU, has been formed with the countries that are members nowadays. They give the monetary the value that it has, which means that if one left, the value of the currency will also tend to drop, which has as consequences increasing its competiveness.

3.1 What is Grexit and the Impact?

In February this year, the Eurozone gave the government of Greece an extension of 4-month period in order to come back with a plan on how they will proceed. Grexit, which stand for ‘Greece Exit’. It is important to differentiate the short and the long run when exiting the Eurozone. In the short run the economy of Greece might suffer a severe GDP contraction. In short run, currency devaluation, credit crash and a tighter fiscal stand will be the consequences.

So far it seems that there is general consensus that if Grexit come true, there will be a severe direct impact on Greece. There are some who think that Greece should leave the euronet under the argument that on the long run, Greece will have a boost with a looser monetary policy and a cheaper currency.

Segura-Cayuela, argue that having a weaker currency will be positive for the economy only if Greece implements the reform that the country has failed to implement to avoid Grexit.

According to BAML’s Athanasios Vamvakidis, the new Greek currency could devalued by 50% after the Grexit.

In summary exiting the Eurozone, Grexit, will:

Reintroduce the drachma, which means that the euro will stop its existence in the country of Greece. Drachma was the currency Greece has. There exist the possibility to change the name. What will be the value of the currency is a question mark and a big issue is how much is the government allowed to print for the country.
People might start pulling their money from their banks accounts.
Being part of Eurozone, Greece has the access to emergency liquidity from the ECB, Euro Central Bank, means this option will not be possible anymore.
Immediate spike inflation will be effective, which will do more damage to the economy of the country.

Unemployment will peak higher then it is right now, which will have direct impact on the economy and social economy.

CONCLUSION

As per most articles describe that the most viable option right now is to not exit the Eurozone and come to a deal in order to come out of the budget deficit they are in. It would be to risky to get out of the Eurozone and still survive in this economy of today. The direct impact will be to big for the country and the recovery period might be to long.

Grexit will also have an impact on the other countries in the Eurozone, there public finance will also be impacted. It might also impact the entire world in the financial aspect.

Maintaining the Eurozone and implement a general fiscal policy, should be able to control the trading of the Eurozone members and mitigate a country getting into huge budget deficit.

As the Euro area (euro zone) countries are using a fundamental division of a monetary policy and a fiscal policy, the euro requires a fiscal union and a monetary union to have some kind of “control” in the monetary system. By replacing this with one political organization with the authority to set fiscal policy within every euro area country with the power to cut spending, raise taxes, and set laws. A fiscal union like this can prevent excessive borrowing and spending like the case of Greece.

The challenges to accomplish this central fiscal union are enormous but not impossible to realize. A Unites State of Europe.

Without a centralized fiscal union countries will continue to run deficits, accumulate depths, degrade the value of euro and threaten stability of Europe.