Relying on Greek austerity is hopeless

New Democracy’s victory in the Greek general election may have averted a near term chaotic exit of Greece from the Euro project, but whilst 65% of the Greek electorate may still wish to stay in the single European currency, it is apparent that the medicine employed by Greece, under the instruction of the Troika (International Monetary Fund, the European Commission and the European Central Bank) is not curing the problems. Indeed the hard evidence is that Greece’s financial problems are becoming worse.

Fiscal austerity was deemed to have become essential after the Greek budget deficit reached 15% of GDP in 2009, but whereas the conventional approach to economic management would be to balance fiscal austerity with monetary easing and currency devaluation, of course these latter measures, required to offset the contraction caused by fiscal restraint, have not  been available to Greece, and to make matters even worse the level of economic demand amongst Greece’s main trade partners has been modest.

There are those that say that Greece hasn’t tried hard enough and hasn’t worn the hair shirt adequately, but IMF data reveal the enormity of the problem and the hopelessness of relying on austerity. Thus the IMF’s latest database prepared in April, records Greece’s gross domestic product as €230bn in 2010, but falling to about €205bn in 2012 and 2013. This scale of contraction – more than 10% – can only lead to a material step down in tax take and a shift up in social security claims, working therefore in the opposite way to austerity in affecting the fiscal balance.

Contrary to what might be expected, the IMF records the ‘net borrowing’ of the Greek general government as 15.6% of GDP in 2009, falling to 10.6% in 2010, 9.2% in 2011 and 7.2% in 2012. These numbers look dodgy and certainly are not consistent with the Greek government’s own data, which are published on its website. These data show that the government deficit was €23.3bn in 2010 and €27.3bn in 2011, which can be compared against the €30bn deficit that had been expected through much of the year.

Expenditure in 2011 was running at more than 50% above income. In 2012, the situation has deteriorated further. Provisional figures suggest a deficit of €10.9bn for the first five months of this year compared with €10.4bn in the same period in 2011. As to what lies behind these numbers, for the January/April period, the Greek government achieved a modest increase in income from a €700m reduction in tax refunds and a 135% jump in revenue from the public investment budget (i.e., asset sales). Actual revenue from the ordinary budget decreased in comparison with the same period in 2011. Personal income tax revenue increased, but corporation tax fell. VAT revenue, fuel levies and stamp duty have all been lower, although road duty has increased by over 100%, and property taxes also recorded a sharp increase. As an overall picture, tax revenue for the period was almost €500m below target. As for expenditure, the public sector wage bill declined by over 8%, but pensions costs have gone up. As to be expected social security costs have risen sharply, with the ‘Wage Earners’ Fund’ recording an increase of over 50% due to the recession and an even larger increase was made in the total allowances to families with many children, which rose by over 70% in the same period. By contrast, the public investment expenditure fell by over 25%. One particularly absurd additional cost was Greece’s direct payment to the EU, which rose by over 11%.

These cost hikes can be seen to have some sense and may in themselves fall back if the medicine works, but the data show that the most significant factor affecting public sector finances is the ever-increasing cost of servicing Greek government debt. The overall interest payments from January-April 2012 were over 94% higher than the figures for the corresponding figure for the same period last year. At €7.4bn, debt service costs accounted for about 30% of total government spending. If the IMF is right in projecting that Greek GDP will contract to €206bn in 2012, even if we assume no additional debt service costs, interest payments could well be about 10% of GDP this year.

Our conclusions? With the Greek deficit seemingly stuck at about 15% of GDP despite all the sacrifices made, and the data confirming that serious efforts at fiscal restraint have been made, it is clearer than ever that there needs to be a coherent shift towards political union, debt mutualisation and pan-Euroland bank regulation and control if the Euro project is to survive, far less flourish. Less discussed but no less true, there will also need to be further haircuts and write-offs so that the level of debt remaining can be serviced and redeemed.

James Bevan is chief investment officer of CCLA, specialist fund manager for charities and the public sector. CCLA launched The Public Sector Deposit Fund in 2011 to meet the needs of local authorities and other public sector organisations. You can follow James on twitter @jamesbevan_ccla

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The Local Authority Treasurers’ Investment Forum September 25th, 2012, London Stock Exchange
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