ECONOMY

Commission frowns at Greece’s draft budget

The European Commission yesterday indicated the need for Greece to adopt additional measures to bring its public deficit below the 3 percent of gross domestic product (GDP) prescribed by the Union’s Growth and Stability Pact. «The budgetary plans of the government appear insufficient to bring the nominal deficit below the 3 percent threshold,» the Commission said in its Autumn Forecast for the economy of the Union and its member states. In its report on Greece, titled «Challenges of the Post-Olympic Period,» the Commission described the government’s macroeconomic scenario, which foresees a reduction of the deficit from an estimated 5.5 percent this year to 2.8 percent in 2005, as «rather optimistic» and considers a projection of 3.6 percent as «more realistic.» The Commission observes that the budget does, indeed, amount to the «mild adjustment» claimed by the government. «This improvement… does not imply a tightening in fiscal policy stance, as it stems mostly from the one-off expenditures related to the Olympic Games in 2004 and from the expected buoyant revenues, in particular from social (security) contributions,» said the forecast. The Commission also predicts that due to the end of Olympic projects, the growth of fixed capital formation will slow down but will still outpace the eurozone average. Real GDP growth is projected at 3.3 percent in both 2005 and 2006. Monetary Affairs Commissioner Joaquin Almunia told a press briefing in Strasbourg late yesterday that the Commission will only be able to form a comprehensive opinion on the Greek government’s deficit-cutting efforts after the country submits its detailed plan on November 5. Responding to the Commission’s forecasts, the government said it will stick to its draft budget. «The EU Commission’s forecast that Greece’s budget deficit, like that of other eurozone members, will surpass the 3.0 percent of GDP limit in 2005 does not lead to a revision of government targets based on the draft budget… or to a revision of policy,» the Finance Ministry said. An extensive excerpt of the Commission’s Autumn Forecast on Greece follows: «Although decelerating with respect to the previous years, economic activity remained buoyant in 2004, with real GDP growth estimated at 3.8 percent, well above the the euro area average. «Growth was driven by domestic demand, in particular government consumption, linked to the Olympic Games. However, investment growth slowed down significantly compared with 2003, since the bulk of construction investment related to the Olympic Games was fully realized by June 2004. Yet, for the year as a whole, gross fixed capital formation was a significant contributor to GDP growth. Despite supportive monetary conditions, private consumption is expected to decelerate somewhat relative to the previous year, as real disposable income growth in 2004 seems to slow down… «As the Olympic Games-related investments cease and the government implements significant, but likely insufficient budgetary adjustments, domestic demand is expected to decelerate. Nevertheless, the domestic sector will continue being the main driving force of GDP growth. Real GDP growth should resume to a slightly above-potential rate, reaching 3.3 percent in both 2005 and 2006. On the back of rising indebtedness and expectations for a deceleration of real disposable income, private consumption is expected to slow down… «Since the Olympic Games-related investments will not be recurring in 2005, growth of fixed capital formation is expected to slow down, albeit still outpacing the euro area average. The consumer price index (national definition) is expected to increase by 2.8 percent in 2005 and by 2.6 percent in 2006. According to the new two-year wage agreement concluded on May 13, 2004, employees will receive a nominal pay rise of 6.0 percent in 2004 and 5.5 percent in 2005. «This is well above average inflation. Unit labor costs for the whole economy are expected to decelerate during the forecast period. Still the growth of unit labor costs in Greece will remain well above the euro area average. This may adversely affect competitiveness, since real wage growth will outpace productivity growth, which is projected at 2.3 percent and 2.2 percent in 2005 and 2006 respectively. Public finances «In spite of strong growth, Greece has been in excessive deficit since 2000. After reaching 4.6 percent of GDP in 2003, the deficit is expected to further increase in 2004 to 5.5 percent of GDP. Although partly attributable to some non-recurrent factors (e.g. organization of the Olympic Games, electoral cycle), rising deficits clearly point to a lack of control over primary spending (wages, pensions and social transfers, operational spending), while budget revenues, including revenues from EU grants, seem to fall short of projections. «The debt ratio is expected to significantly increase in 2004 (112.1 percent of GDP), up from 109.9 percent in 2003. Based on a rather optimistic macroeconomic scenario, the 2005 draft state budget targets a significant reduction in the general government deficit, from 5.3 percent of GDP in 2004 to 2.8 percent, thus falling just below the 3 percent threshold. This improvement in the general government deficit by 2.5 pp [percentage point] (2.2 pp increase in primary surplus and 0.3 pp decline in interest payments) does not imply a tightening in fiscal policy stance, as it stems mostly from the one-off expenditures related to the Olympic Games in 2004 and from the expected buoyant revenues, in particular from social contributions. According to the Commission Autumn 2004 Forecasts, which are based on a more realistic scenario, the general government deficit is projected to fall by 1.9 pp and attain at 3.6 percent of GDP in 2005. This should be the result of a 1.6 pp increase in primary surplus and a 0.3 pp decline in the interest payments. Therefore, the budgetary plans of the government appear insufficient to bring the nominal deficit below the 3 percent threshold. «Under the assumption of unchanged policies a deficit of 3.0 percent is projected for 2006. The primary balance is set to improve by 0.5 pp in that year. «The government debt ratio is expected to still decline at a very slow pace during the forecasting period. In 2005, the debt ratio is projected to reach 111.9 percent of GDP and 110.2 percent in 2006.»