What recent history can teach the new socialist government

The new socialist government has given the right signals about tackling Greece’s fiscal and other long-standing economic problems but its success will be determined by its readiness to learn from past policy mistakes, particularly those made since 2002. History may be helpful but it is definitely not on their side. If one looks back at the Greek economy since the fall of the military junta in 1974, one can break it down into four main cycles. The first, from 1974 to 1981, was characterized by stronger government intervention with a conservative government in power. The local economy grew faster than most of the other European Community countries at the time but also experienced high inflation. The next cycle, from 1981 to 1989-1990, was dominated by the socialist party in power and left a legacy of huge budget deficits and public debt as a percentage of GDP along with a misallocation of funds. The period from 1989 through 1995 was characterized by uncertainty and incomplete efforts to attain fiscal consolidation and modernize segments of the economy with governments of various political stripes in power. To be fair, the first steps on the long road toward smaller budget deficits were taken during the 1994-1995 period, under a socialist administration. The next major cycle started in 1996, with then Prime Minister Costas Simitis at the helm of the socialist PASOK government, and ended in 2008. During the 1996-2008 period, Greece outpaced its eurozone peers in economic growth with GDP per capita, an imperfect measure of a country’s living standards, approaching those of large industrialized countries. At the end of 2008, Greek per capita GDP stood at about $32,000, compared to the US’s $47,400, France’s $46,000 and Germany’s $44,700. Assuming that the Greek underground economy is bigger relative to the US, German or French black economies, the per capita income gap should actually be smaller than the above official statistics show. Greece’s economic outperformance was definitely aided by the lowest interest rates in generations and the low single-digit inflation that brought accession to the eurozone. Still, economic progress was also due to various economic structural reforms that were taken along the way such as the liberalization of the banking and telecommunication markets and others. It is certainly not the intention here to provide a brief description of Greek economic history lessons with which someone may or may not agree. However, there do seem to be some conclusions to be drawn from a particular year during this «golden» economic era of 1996-2008, which may be useful to the country’s new economic policymakers, especially Finance Minister Giorgos Papaconstantinou and Deputy Finance Minister Filippos Sahinidis. That year is 2002, when Greece officially became a member of the eurozone. Prior to 2002, the country managed to reduce its budget deficit and current account deficit as a percentage of GDP while drastically reducing inflation, despite the fact that it was preparing for the 2004 Olympics and was incurring increased government spending. It is true the country enacted some structural reforms from 2002 onward but they were fewer and much more limited in scope. The derailment of public finances also appears to have begun in 2002 and got worse as the years passed. To be exact, tax revenues have grown at a lower rate than nominal GDP since 2002, even though the state raised value added tax rates and imposed special levies on fuel, tobacco and alcohol. This points to an exacerbation of tax evasion and the failure of the tax collection mechanism to do its job. In addition, the primary expenditures of the budget have been rising faster than the nominal GDP growth rate since 2002, indicating a certain laxity. What happened since 2002 is also known. Greek politicians stopped focusing on correcting the country’s longstanding macroeconomic imbalances and concentrated instead on more noble issues, such as making citizens’ everyday life better through spending, providing relief to the poor and others. The result was a slight improvement in citizens’ quality of life but a larger budget gap that threatens to cancel years of economic progress. As Finance Minister Papacontantinou heads to Brussels to convince his peers and the European Commission about the need to give Greece a three- or four-year extension to bring its budget deficit below the threshold of 3 percent of GDP, he may have to look back and see what went wrong from 2002 onward. This may provide useful lessons in his effort to jump start the Greek economy and put it back on a growth path.