The Positive Side of Greece's Economic Troubles
PARIS - On October 4, 2009, the Greek Socialist Party Pasok scored a large victory in early national elections. With a clear majority (160 out of 300 seats) in the Greek legislature, Pasok's top candidate George Papandreou became prime minister. A few days later, the new government announced that the budget deficit would be at least 12.5 percent of GDP, double what the previous conservative government had predicted. Things quickly went downhill from there. The markets, the rating agencies, and finally the European Commission all condemned Greece for tampering with public finance data. Even the government's declaration that it intends to clean up its fiscal stables had a perverse effect: markets ignored a three-year plan introduced in January to reduce the deficit, including the launch of a new government bond with an attractive interest rate at 6.41 percent (10 years).
Papandreou has a chance here to demonstrate that he is a statesman; but the job is a challenge too - not least because the exact amount of the country's deficit remains unclear, and a sizable chunk of the Greek GDP is produced out of sight of the authorities (estimates of the illegal economy range between 10-20 percent of GDP). Greece's economy only constitutes a tiny fraction (2.5 percent) of the 16-member-Eurozone. But the Greek case raises important issues of responsibility and solidarity within the Eurozone. Moreover, other European countries are grappling with deficits as well as with the problem of pervasive tax evasion or do not respect the four Maastricht treaty criteria. If Greece were to default on its debt after all, that might spread panic to other European economies and continue to shake up the markets. So, calibrating the right response to the Greek crisis is crucial-- not just for Greece, but for the European Union. In mid-February, the European Union responded by giving Greece a one-month reprieve. The European Council and then the Eurozone finance ministers sternly told the Greek government to cut its budget deficit by four percentage points in 2010, and to stick to its austerity program.
Additional steps demanded by the EU included a VAT increase, chopping bureaucracy, and reforms in the pension system. The EU's counter-pledge of support remained vague in substance. But the 27 member states promised "determined and coordinated action, if needed, to safeguard financial stability in the euro area as a whole" - the first time such a strong political message was sent to global markets. For the next month, Greece is obliged to give up part of its economic sovereignty. The Commission, the European Central Bank, and the other European member states will monitor Greece's development carefully; if by mid-March the situation has not improved, the Eurozone partners can ask for more cuts. It is no secret that the German Chancellor Angela Merkel resisted the deal fiercely. If Article 125 of the Lisbon Treaty forbids bailing out a country, article 122 allows the European Council "in a spirit of solidarity" to "take measures" to help a member state with severe economic difficulties. But Merkel and her advisors worry about running afoul of a recent constitutional court ruling that emphasized national sovereignty over economic policymaking, sharp criticism of Greece in public opinion polls, and - most of all - about setting a precedent for other countries.
All this has forced European leaders for the first time to think seriously about greater economic coordination. Might it be desirable, even necessary, to institute some form of European economic governance - despite the hope that the Lisbon Treaty would put an end to EU architectural reform for a while? This would imply - at the very least - better coordination of national budget drafting processes, so as to avoid Greek-style surprises in the future. That would already go some way to limit free-riding by individual member states. But some European economic experts think much more is needed. For example, greater coordination of member states' fiscal policy and stronger banking regulations.
The EU's large countries (Germany, France and Italy) will need to play more strictly by the existing common rules if they want all the Eurozone members to respect the Treaty, and accept greater control over their economies to bring them back into line. The European institutions (the Commission, the European Parliament and the ECB) will also need to upgrade their role in supervision and monitoring, but also in initiating proposals. But that would really be a new path for all the European economies, and not only the weakest ones.
Francois Lafond is the director of the German Marshall Fund's office in Paris.
The views expressed in GMF publications and commentary are the views of the author alone.