The rebalancing of the Greek economy has relied on recessionary policies bearing fruit but these cannot continue on social and political grounds. Government officials and others have justly argued that the economy should rely on exports of goods and services and investment spending to recover from its six-year slump and achieve high growth rates in the future. However, investments continue to disappoint, fanning concerns about the sustainability of GDP growth rates in the medium-to-long term.
The relatively recent downward revision of the recession in the first quarter of 2014 by the Hellenic Statistical Authority (ELSTAT) was welcomed by state officials and market participants because it was in line with official projections of 0.6 percent in real GDP growth rate. Some analysts argue the provisional 0.9 percent year-on-year decline in the first quarter points to a higher-than-anticipated 1 percent GDP growth rate for the whole year. However, the performance of the individual components of GDP is cause for concern in our view.
According to the provisional GDP figures released by ELSTAT, exports of goods and services rose 5.4 percent in the January-March period compared to the same period a year ago, imports increased by 2.2 percent and consumption spending by 0.8 percent. On the other hand, the big laggard was gross fixed capital formation which shrank by 7.9 percent year-on-year to 5.1 billion euros. The World Bank defines gross fixed capital formation as outlays on additions to the fixed assets of the economy plus net changes in the level of inventories. Fixed assets include land improvements (fences, ditches, drains, etc), plant machinery and equipment purchases and the constructions of roads, railways etc. Inventories are stocks of goods companies hold to meet temporary or unexpected fluctuations in production or sales and “work in progress.”
A closer look points to a consistent drop in domestic investment spending, which stood at 5.6 billion in the first quarter last year from 6.4 billion in the same quarter in 2012 and 10.5 billion in the first three months of 2010. The European Commission projects gross fixed capital formation reaching 23.1 billion euros this year from an estimated 22.1 billion in 2013 and 45.9 billion in 2009, the year before Greece’s formal bailout request to the EU and the IMF. The record year for gross investment spending in absolute terms was 2007 with 59.4 billion euros.
Given the importance of investment spending in stimulating output and incomes on one hand, and boosting the competitiveness and the potential growth rate of the Greek economy on the other, its continuing contraction should be cause for alarm. It is fine for private consumption spending to stabilize and even grow slowly but it would be alarming if gross fixed capital formation keeps shrinking. Companies will have to replace old machinery or buy new equipment to produce new products and stay competitive and grow, meaning that deficient investment spending over a long period of time is bound to eventually catch up with them.
The deficiency reflects to a lesser extent the slow progress in the privatization program in the last few years due to very weak demand from abroad and domestic institutional hurdles. The privatization plan is important both for raising money for the state to repay debt and making the economy more efficient through new investments and reducing the role of the state in the economy. It is reminded that the relevant authorities revised downwards this year’s target for privatization proceeds to 1.5 billion euros last April from more than 3 billion sought earlier.
The recorded improvement in economic sentiment should help if it has duration and is backed by good raw data such as a positive GDP change in the second quarter and beyond. A better economic outlook and greater visibility about sales are key to an investment decision, but adaptive expectations giving more weight to the last painful years and concerns about political uncertainty may cause delays. In some cases, it may also be about bad old habits since many Greek businessmen are accustomed to investing without risking their own money but rely instead on state subsidies and bank loans to do the job. It is no secret that a number of companies sought to put investment projects under the national investment law, got the state subsidies and never completed the projects prior to the crisis.
A chorus of businessmen and others argue that the biggest obstacle to new investments is the lack of funding although bankers point to light demand for borrowing from creditworthy corporations. Local companies have relied excessively on bank loans to fund investment projects and shunned other forms of long-term financing in the past. It is therefore not surprising that they find themselves in a difficult situation since their sales have taken a hit due to recession and banks are not willing to fund them as they are preoccupied with deleveraging and bad loans. It is noted that bank credit to private companies and individuals reached 214.7 billion last April from 217.5 billion at the end of 2013 and 249.3 billion in 2009, the year before the bailout. An immediate solution does not seem to be on the horizon and firms will have to either wait or try to find other ways to deal with financing.
The increasing signs of stabilization may give way to economic recovery but the sources of growth are equally important. If investment spending continues to disappoint, the sustainability of future economic growth will come into doubt sooner or later. This should be avoided by taking more steps to reverse the declining pace of investments.