Several years ago, in the midst of the Grexit crisis, I asked a friend how to say “virtuous circle” in Greek. He said the expression didn’t exist; there was only a term for “vicious circle.” My friend was wrong. There is a Greek expression for virtuous circle – and the country may finally be about to enter one with this Sunday’s general election.
Investors are already excited that Kyriakos Mitsotakis, a liberal conservative, seems set to take power from Alex Tsipras, the radical leftist who drove the country to the brink of bankruptcy in 2015. Since May’s European parliament elections, in which Mitsotakis’ New Democracy party trounced SYRIZA, which is led by Tspiras, the Athens stock market index is up 19 percent. Meanwhile the yield on 10-year government bonds has dropped from 3.4 percent to 2.2 percent – meaning investors now think Greek sovereign debt is almost as attractive as Italy’s.
But there is no guarantee that Greece will enjoy a virtuous circle. Mitsotakis will have to be brave and lucky. To create and sustain a desperately needed investment-led recovery, he will need to root out bad practices that have bedevilled the country for decades. It would, after all, be an error to think that Tsipras is responsible for all Greece’s problems.
That said, Tspiras and his erstwhile Finance Minister Yanis Varoufakis have a lot to answer for. Their brinkmanship massively damaged confidence. It was only after the prime minister cut spending and increased taxes in return for cash infusions from the euro zone that the Greek economy started to perk up.
Even then the recovery has been insipid. Gross investment is only 11 percent of GDP. When depreciation is taken into account, the country’s capital stock is at best static and maybe shrinking. Some economists think investment needs to rise to around 20 percent of GDP to put Greece on a good growth trajectory.
The optimistic scenario goes as follows: New Democracy emerges from the election with an overall majority, so Mitsotakis doesn’t need to water down his program by doing deals with other parties. He then creates a cabinet with talented people from across the political spectrum who are good at delivering policies.
The new prime minister then unblocks privatization and investment projects that have been stuck under Tsipras. He scraps capital controls. He issues a 10-year bond, double the maturity that the current government has managed, demonstrating that investors buy into his vision.
After this positive shock, Mitsotakis approaches the eurozone and asks it to loosen the fiscal straitjacket which requires Greece to deliver a primary budget surplus (before interest payments) of 3.5 percent of GDP every year.
Germany and other countries insisted on tight budget controls because they thought it was the only way for Greece to get its debt under control. But Mitsotakis convinces them economic growth will pick up so the country can service its debt – which stood at 340 billion euros or 183 percent of GDP at the end of 2018 – with a smaller surplus. Loosening the purse-strings helps Greece to grow.
What could spoil this fairy tale? Unfortunately, quite a lot. For a start, Mitsotakis may fail to get an overall majority. Or he could lose his nerve and appoint too many old-style hacks to his government in an attempt to appease various factions of his own party.
There are also short-term fiscal dangers. Tsipras recently boosted pensions, a move his main rival backed for political reasons. The budget target for this year may now be off track by about one percentage point of GDP. Mitsotakis wants to cut taxes, including slashing corporation tax to boost investment. But how is he going to afford that?
Further risks come from abroad. The global economic upswing is long in the tooth. What’s more, Greece’s huge tourism industry has been booming – with annual arrivals up from 22 million to 30 million a year over the past four years – in part because of the political turmoil in nearby Turkey and Egypt. The external environment is unlikely to be so helpful in future.
If Mitsotakis can navigate those shoals, there’s still a huge mid-term debt problem. Greece can service its humongous borrowings because the euro zone has given it a holiday on most interest and capital repayments. But this comes to an end in 2032.
Finally, the population is shrinking – partly because of a brain drain, and partly because people aren’t having so many babies. Lack of confidence is the root cause.
If Greece is going to enjoy a sustained virtuous circle, Mitsotakis will have to be bold and really modernise the country. He will need to clean up the corrupt political system, put the judiciary above politics, create a professional civil service, stop special deals for well-connected oligarchs and get citizens to pay their taxes.
Even with the best will in the world, this is the work of at least two terms in office, which in Greece each last four years. But Mitsotakis can make a start next week.
A fish rots from the head down. So the new prime minister’s top priority has to be zero tolerance for bad practices among his ministers. Then Greece will have a real chance to reverse the cycle of decline.
Hugo Dixon is chairman of InFacts, a journalistic enterprise arguing for the United Kingdom to stay in the European Union. [Reuters Breakingviews]