Warren Weertman
Warren Weertman

We need to talk about Greece and other spendthrifts

Neoliberals and fiscal conservatives, look away now …

In response to my last blog posting a few people raised the following argument in relation to state spending: if you spend more than you consume, at some point you have to cut back and live within your means. After all, as an individual or company, if you don’t pay your debts at some point your creditors will take legal action against you and seize your property.

The same logic, according to these people, applies to states.

States, however, are different. When faced with economic problems, like having to repay excessive debt, states have choices available to them that individuals and companies don’t. A state’s choice is not binary (i.e. either cut or spend).

Typically, states have four policy choices:

  1. Induce inflation by printing money;
  2. Deflate the economy through austerity measures;
  3. Devalue their currency; or
  4. Default.

The classic example of inducing inflation to repay debt is that of the German Weimar Republic in the 1920s. In order to repay their war debts, which were denominated in Marks, the Weimar government decided to allow inflation to get out of control.

To try circumvent the “inflation solution” available to states, creditors typically now require that loan agreements be denominated in US Dollars. Debtor states can’t devalue the US Dollar. Only the Federal Reserve can do that.

Politicians have, of course, found one way to circumvent the problem of having their debts denominated in US Dollars. The solution is for a state to devalue its currency. This has the effect of making exports cheaper and imports more expensive. Technically speaking, this should make it easier for a state to repay its creditors as they build up excess foreign reserves.

The success of devaluation as solution to paying off state debt hinges on a few critical factors:

Is there a demand for a state’s exports? Many coffee producers ran into this problem in the 1980s when the price of coffee collapsed. Several African states devalued their currencies in response to the collapse in the coffee price (at the behest of the IMF). But the policy failed, as the success of this policy choice depends on a state being the only one to devalue its currency. If several other states are simultaneously devaluing their currencies, a state has little “comparative advantage”.

So that leaves the last two options – deflation (i.e. austerity) and default.

None of these four options are problem-free. Each, if not handled properly, can prove to be very messy (to put it nicely). The best option remains for states to proactively manage their finances.

So what options are available to Greece?

Because Greek monetary policy is handled by the European Central Bank (i.e. the ECB controls the printing presses and sets the interest rates) it can neither induce inflation, nor devalue its currency. That leaves two options open to Greece (and other Eurozone member states):

  1. Default; or
  2. Deflate the economy.

Clearly Greece’s creditors, the European Commission and the European Central Bank would never allow it to default. There may be some talk of allowing Greece to default, but the ramifications for German, British and French banks would be too horrendous to realistically contemplate. This leaves Greece with only one option: it has to cut its way out of the slump.

This is not to say that there weren’t structural problems in the Greek economy that could justify some cuts and readjustments. Two often-cited examples are the bloated Greek civil service and the lack of income tax recoveries. Interestingly, in terms of the Greek constitution, Greek shipping companies exempt from paying tax.

For me, an easy win (never discussed) would be to cut Greek military spending. Greece is one of the few EU countries that spends in excess of 2.5% of GDP on its military. Indeed, in 2012 alone, Greece spent over €5-billion on its military. In 2011 Greece spent over €6-billion on its military. That kind of spending in the middle of an economic crisis is foolish.

But who are the primary sources of Greek armaments? Germany and France. Why has no one suggested cutting Greek military spending? Well, why upset your creditors even more by threatening not only their banking but also their military industries?

So if you were looking for some “easy wins” to reform the Greek economy, there are some options right there. These “easy wins” could all be implemented (if sequenced correctly) with minimal impact on social spending (such as health and welfare spending).

So why not just continue cutting, cutting and cutting again? You know, live within your means?

As the example of Greece (the rest of the PIIGS, the UK and the SAP countries) has shown, simply cutting welfare spending, or any spending for that matter, without giving due consideration to getting the economy going again (and getting people back to work) is going to have consequences – including more welfare spending to try help people who are out of work because you, um, cut spending.

The problem is compounded when (as what is currently happening in the EU) the private sector and the state are both cutting spending at the same time. Where is growth supposed to come from if no one is prepared to spend? Governments deficits should, in a recession, allow corporate profits to keep growing. When the economy is back to growth, then the government can start cutting back its spending.

Unfortunately any solution of this nature is, for Greece, too little too late. So Germans now own a second property. It’s called Greece.

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    • Joe Thorpe

      They have a large predator looking over their shoulder, defense is one of the few things they really cant cut back unless someone is going to step in & provide security for them for free.

    • Bob

      The following should be mentioned:

      The reason for above average military spending in Greece: Turkey.

      The fact that Greece has already defaulted, albeit in a controlled and selective manner.

      And lastly, Germans have no interest in ‘owning’ Greece.

    • http://www.thoughtleader.co.za/traps/2013/09/02/an-educated-population-is-not-a-panacea-but-its-the-only-way-forward/ proactive

      Well put and touching on an ever so popular but evil and moral dilemma the world over. Honesty, fairness, laws not equally applicable to all- the untouchables remain untouched- requiring similar strong & honest governments and an independent judiciary for enforcement.

      Greece today is a poor and bankrupted country. A comical tragedy with rich ancient mythologies, the roots of western civilization, an inefficient corrupt bureaucracy, with a shadow economy where the richer you are, the less tax is being paid.
      Doctors, lawyers, Engineers and the self employed are leading the way- followed by everyone cheating on their incomes to avoid tax.

      The Greek shipping moguls- married with american & global capital- managed even to enshrine tax evasion and inequality through select tax protection & exemptions in their constitution!

      These select “untouchables” continue to enforce their privilege with a threat of relocation to the next available ‘tax haven’, – urgently in need to be abolished- keeping all others under siege! As is the practice by global capital and their banks!

      Athens “extremity” the Acropolis, reduced to an ancient shadow and reminder of a once great civilization- is all what’s left to look over the shoulders of a decayed Greek morality.

      It is not the fear of a Turkish threat, but the perceived need of a handful corrupted Greeks- to continue to buy German weapons, bankrupting the country- similar to SA’s position. Greek and Turkey both belong…

    • george orwell

      ‘Greece’ is a side-show. The real story is the U.S.A, circa 2008-9.

      Socialism for the rich.
      Dog-eat-dog capitalism for the poor.

      Wall Street suits made lots of bad, dodgy, irresponsible loans.

      No democratic referendum was held.

      Instead, the Bush administration told Congress the nation risked “economic Armageddon” if it didn’t immediately authorize a giant bailout of the Street – with no strings attached. Of course Congress agreed.

      And Wall-St funded Obama bailed out his elite cronies – no man of the people he, but an elite figurehead with a nice line in rhetoric, serving the 1%.

      So instead of allowing the Street to live with the consequences of its negligence, President ‘Hope and Change’ bailed it out – and allowed the middle and lower classes to suffer the consequences.

      If Americans had been consulted about the bailout, would it have happened the way it did? At the very least, strict conditions would have been placed on banks. The banks would have had to eat the losses of the predatory mortgages, and help homeowners reduce those mortgages. They’d be required to improve the capitalization of small banks. They might have been forced to accept stringent new regulations, including resurrection of Glass-Steagall.

      But Americans weren’t consulted. True democracy is dead in western countries.

      Wall Street, arms and securities industries propser as Nobel Peace Prize Winner O’Bomber boosts drone wars in geo-political Middle East

    • Call for Honesty

      Printing far more money than is necessary or devaluing currency are both forms of legalized theft that hurts those who have been frugal and who have saved money to provide for their future needs.

      When governments pour huge sums into job creation this fails because there are no serious financial repercussion for those approving the spending when this fails. This also fails to recognize that new production or increased production is meaningless if there is no market for the products.

      What consumes the most is a government that employs too many people and pays them more than they would earn in the private sector. The work a person does has to bear a direct relation to his or her productivity. If one mechanic is able to repair a hundred cars in a year and another double that number than he deserves a much higher salary and he should not be taxed at a much higher rate simply because he works much harder. In Greece part of the problem is the huge amount of money wasted by having too many lazy unproductive civil servants and not enough people in the private sector.

    • http://Nicholasjakari.com Nicholas Jakari

      I think you left out option 5.
      This we may call “the Cypriot Option.
      Simply empty people’s accounts. The classic Jamesian Fork
      it’s been done for eons so why leave it out?

    • dan allen

      Talking about Greece without putting it into the context of a monetary union is useless. To put Greece in context, imagine it as Alabama, Mississippi and West Virginia, but without the fiscal transfers those states get through the federal budget. The USA has a massive surplus recycling mechanism that sends tax money from richer states to the poorer states. in this respect, the poorer states do not pull their weight or pay for their services either. Greece is in the same boat in the sense that it only spends 30% of GDP on government, whereas the European norm is around 50% of GDP. Yet Greece still can’t pay for itself. And neither could Alabama and Mississippi if they had their federal funding pulled. The EU redistributes less than 1% of taxes to nation states. The US federal government, by contrast, redistributes more than 33% of taxes to the states in the form of federal programs.

    • Warren Weertman

      For those mentioning Turkey as a military threat to Greece, just remember that both Greece and Turkey are members of NATO. This diminishes the possibility of a conflict between them quite significantly.

      @Dan Allen … you appear to be conflating a monetary and fiscal union. The EU cannot raise taxes on its own the way the US Federal government can as it is just a monetary, not a fiscal union. This means you cannot really make direct comparisons between the EU and the US.

    • Bob

      @Warren: I would hope that Turkey is no current military threat, but it is the traditional motivation for Greek defence spending. The Turkish threat is a big part of the Greek psyche. North of Greece lies further motivation. It is unfortunately in a troubled region.

      Further, your statement: “For me, an easy win (never discussed) would be to cut Greek military spending” makes it sound like all this hasn’t been raised before. But it’s been all over the press and even on Wikipedia. You can choose to believe the theory that Germany forced Greece to buy arms, but it doesn’t sound too plausible since Germany has spent more rescuing Greece than it got from arms sales.

    • The Creator

      It would be awfully jolly, in fact, if Greece joined with Russia and Iran in attacking Turkey to forestall the assault on Syria. On to Constantinople, brethren! Once we have the Hagia Sophia in Orthodox hands again we can all pray for money!

    • Momma Cyndi

      So your suggestion is to not cut spending by cutting spending?

      If you go down a dark ally, in a shady neigbourhood, at night and three people accost you, what do you do? The answer is not to go down dark ally’s in shady neigbourhoods at night!

      Economics are convoluted. Your country is worth what the desire for their production can create. Money is simply the counters we use to keep track of those values. If loans are needed to INCREASE the value of the country then it is acceptable. If loans are required to keep the vote, without increasing the value, then it is unacceptable.

      “A democracy cannot exist as a permanent form of government. It can only exist until the majority discovers it can vote itself largess out of the public treasury. After that, the majority always votes for the candidate promising the most benefits with the result the democracy collapses because of the loose fiscal policy ensuing, always to be followed by a dictatorship, then a monarchy.” – Alexis de Tocqueville.

      Seems not much has changed since around 1840