The publication of the European Commission’s autumn economic forecasts for the 2003-2005 period highlighted Greece’s «increasing fiscal imbalances despite strong growth.» Although most commentators and others focused on the 2.4 percent of GDP budget deficit forecast for next year, the implicit message in the report was that instead of taking advantage of high economic growth rates to pursue fiscal consolidation in a more aggressive fashion, the Greek government is distributing the dividend of growth in a way that threatens to undermine the medium-to-long term health of the economy. If one has any doubts about the correctness of this message, then he or she ought to take a look at Portugal. Pointing to significant overruns in primary budget spending this year, the EU report pointed out that «the risks of a substantial deterioration in Greek public finances are high.» It said that although the 2002 updated stability program targeted a deficit of 0.9 percent of GDP in 2003, it is estimated by the Greek government to stand at 1.4 percent this year. The Commission was even bleaker in its forecast since it put the deficit at 1.7 percent of GDP in 2003 and 2.4 percent next year versus an official projection of 1.2 percent. Although most private sector economists and others alike admit that the Commission’s forecasts seem to be closer to reality, they also say the general government budget figures can be easily «massaged» so as to make them look better than they are. They warn against paying too much attention to figures; instead, the focus should be on the underlying trend. It is this trend that has made them voice their concern about the impact on the country’s indebtedness and economic growth rate. This does not mean the importance of fiscal stimuli undertaken for political ends in a pre-election period is not taken into account. What is worrisome, however, is that this deterioration did not start this year but a couple of years ago. It has been masked by the fact that other EU countries have been in the limelight because their general government budget deficit exceeded the threshold of 3.0 percent of GDP on the back of sluggish economic growth. However, if one takes away the impact of economic growth on budget spending and revenues for each EU country, the Greek general government budget deficit is not in a much better shape than the others. Just a look at Greece’s cyclically adjusted balance of the general government as a percentage of GDP tells the whole story. The cyclically adjusted general government budget deficit stood at 1.4 percent in 1999, 1.9 percent in 2000, 2.2 percent in 2001, 1.5 percent in 2002 and is estimated to have reached 2.2 percent of GDP in 2003. It will grow even larger, to 3.1 percent of GDP in 2004 and 3.2 percent in 2005. On the other hand, the unadjusted general government budget deficit was at 1.9 percent of GDP in 2000, 1.5 percent in 2001 and 1.2 percent in 2002. It is projected by the EU at 1.7 percent this year, 2.4 percent next year and 2.3 percent in 2005. Taking also into account the fact that Greek public debt is estimated at 100.6 percent of GDP this year and 104.7 percent in 2002, far above the eurozone’s average of 70.4 percent and 69.0 percent of GDP in 2003 and 2002 respectively, one may argue things may be even worse in reality than they look. Things may get more complicated if the new government to be elected next year faces the prospect of another general election in 2005, assuming Parliament fails to elect a new president for the Republic. This may force the new government to take a more accommodative fiscal stance than it wishes in order to marshal public support just in case a new election is called. This will be much more so if there are signs of an economic slowdown after the 2004 Olympics. All in all, the political trap should not be ignored. It may lead to further deviations from official projections, raising the specter of Greece becoming another Portugal. Although it has not been mentioned in the debate on the course of Greek public finances, the country runs the risk of being forced to take restrictive fiscal measures to bring its house in order somewhere along the line. This will have a detrimental effect on economic growth and in turn weigh on public finances, creating the conditions for the start of a vicious circle. Facing the negative impact of the economic downturn in the EU in the last couple of years and the need to bring its public finances under control, Portugal has been forced to take measures that contributed to the economic slowdown since 2001. Its economy is expected to contract by about 0.8 percent this year – the EU Commission’s estimate – after growing by an anemic 0.4 percent in 2002 and 1.6 percent in 2001. Note that the Portuguese economy grew at satisfactory growth rates in the 1981-1999 period, averaging 3.0 percent, and expanded by 3.7 percent in 2000. Crossing the 3.0 percent of GDP budget deficit threshold in 2001, with the general government budget deficit reaching 4.2 percent of GDP, was key to the deceleration of GDP growth in the next couple of years, say economists familiar with the situation. The budget deficit fell to 2.7 percent of GDP in 2002 and is projected at 2.9 percent this year. It would have been higher than 3.0 percent were it not for two one-off measures overlooked by Eurostat. Greece may be luckier than Portugal, assuming economic growth in the EU picks up from next year on, the Olympics turn out to be a success and Greece manages permanently large gains in productivity in the next few years while still collecting from EU structural funds. Unlike Portugal’s relatively low public debt, amounting to 57.3 percent of GDP, Greece faces the tough task of bringing it down from over 100 percent while seeing its ailing social insurance system deteriorate. This alone demands more fiscal discipline and reliance on higher GDP growth rates to tackle the problems in public finances, instead of the other way around, in order for Greece to avoid turning into another Portugal.