Early measures would send right signal to international investors
The Greek economy may be in better shape than most of its eurozone peers but it faces deteriorating dynamics that make 2009 a challenging year. To ensure that the new year does not turn into a disastrous one, the government will have to take some painful economic measures relatively early on in order to send the right signals to the country’s international borrowers. Greece’s general government budget deficit is likely to end up above 3 percent of GDP in 2008 for the second consecutive year, as the European Commission’s latest macroeconomic estimates to be released on January 19 will point out. Under normal circumstances, the country would have been subject to the excessive deficit procedure in March-April and its economy would have been put under the surveillance of the European Commission. It would have been a repetition of 2005, when the fiscal audit ordered by the conservative government produced much larger budget deficits than most analysts expected. This time around there is no fiscal audit but the deterioration of international and local economic conditions, along with insufficient progress in structural economic reforms during the good years, threaten to place Greece under a new and stricter EC surveillance program. However, these are not normal circumstances globally and the European Commission’s primary goal is to ensure that the 10-trillion-euro-plus economy gets out of the doldrums as soon as possible rather than making fiscal consolidation the top priority. Because of this, Greece may be lucky to escape with a stern warning and more time to bring its public finances under control in 2009. If the European Union authorities are willing to give Greece more time to heal its fiscal wounds because other large EU countries’ public finances are not in good shape either and boosting growth is a priority, this does not mean that capital markets are of the same opinion. With the pool of the so-called «spread investors» who used to buy the government bonds of Greece, Italy and other high public debt nations being smaller due to the global financial crisis and the supply of government debt paper increasing sharply, Greek government borrowing has not been more difficult than in 1992. During that year, the European Union provided a lifeline to the Greek economy by providing a loan with certain conditions attached. The country was able to make it, but did not satisfy the conditions attached and the EU never penalized it. But 1992 was not the only year Greece had asked and received a loan from the European Union. The same had happened in 1985-1986 when the country faced a drachma crisis because of the huge current account and budget deficits. The European Union, known as the European Community at the time, came to its rescue and provided it with a loan with a number of strings attached. One of them was to hire one person in the public sector for every five people retiring. This condition was never satisfied either. This latter condition, though, which linked hirings to retirements in the public sector, should be the first in the conservative government’s package of measures to convince the international investment community of its true intentions to slash the budget deficit as a percentage of GDP. However, this condition has to be binding and credible. The European Commission can effectively help the country’s public finances in the long-run by becoming the watchdog for its enforcement after the public sector entities to which it applies have been clearly specified. With some 80 percent plus of total Greek budget outlays made up of spending on salaries, pensions and interest on the public debt, limiting the workforce in the broader public sector and introducing objective processes for new hirings, irrespective of the government in power, will be a big step forward in controlling budget expenditure growth in the medium-term. Also, to send a powerful message to the would-be buyers of Greek government bonds about the short-term sustainability of public finances, the government should go ahead and boost tax revenues. One way to do this quickly is to close some loopholes in the tax system and tax professionals and others, such as shopkeepers, more heavily, as they are known to tax evade. Increasing the main VAT (value added tax) rate to 20 percent from 19 percent should also be considered, despite the fact it may increase inflation temporarily and hit low- and middle-income earners harder. Of course, any effort to boost tax revenues should be accompanied by measures to reform the country’s taxation mechanism. This includes doing away with the current system in which tax officials get a base salary plus the additional perk of a small percentage of the country’s annual tax revenues.
