The Greek Debt Crisis: A Primer for GCC Observers
The Greek debt crisis has been a staple of world news since 2009; everywhere you look is another headline shedding light on the crisis or announcing another twist in the seemingly never ending saga. It is apparent the complications of the Greek debt crisis have been affecting the European Union (EU), Eurozone and Greece itself since 2009. However for observers following from afar from the Arabian Gulf, it is still quite hard to piece together a clear picture of what exactly went wrong.

The origins of the crisis can be traced back to October 1981 when the Panhellenic Socialist Movement (PASOK) took power in Greece and, for the next three decades, alternated in power with the New Democratic Party. Debt in Greece was at a level of around 25% of GDP, and by 2009, this figure had risen over 120% due to persistent mismanagement of public finances, including populist employment policies in the public sector. For example, people were able to retire at 45 with a full state pension in certain circumstances, and public sector workers enjoyed annual salary increases regardless of performance. With almost 30% of the Greek labor force employed in the public sector, a debt explosion was inevitable.

Profligate government spending was not the only reason for Greece’s huge budget deficits as it also had a large trade deficit. Greece’s labor productivity has always been low, and the welfare policies further exacerbated the problem making its exports even less competitive in the international market. These problems came to a head in 2009 when Greece could no longer service its debts and it formally requested a bailout from the International Monetary Fund (IMF).

According to the logic behind the 2010 bailout, the Greek government would have to address the fundamental cause of the crisis by implementing austerity measures, and by privatizing. The goal was for it to transform its budget deficit into a 3% surplus. Combined with sustained growth the debt would become manageable.

Unfortunately for Greece, the expected growth did not materialize, requiring a second bailout in 2012. The ineffectiveness of the first bailout was partially the result of it being based on an IMF report that subsequently turned out to be flawed. Also, in many cases, Greece failed to implement the reforms that creditors were demanding for it to restore its long-term credibility. Thus, the 2012 bailout was forced to repeat almost all of the main austerity measures that the 2010 bailout had stipulated, but bizarrely, it also perpetuated the errors in the initial IMF report, almost certainly sealing its eventual failure.

A closer look at the figures suggest that ulterior motives—rather than policy errors—can potentially explain policymakers’ enthusiasm for changing so little by the time of the second bailout. In 2009 around 85% of Greek debt was held by private European banks, with the majority held by French and German banks. A Greek default at that point may have sparked another banking crisis in Europe by causing the banks that owned the debt to collapse. Thus, while the bailouts were ineffective in terms of Greece’s plight, they were highly effective as a bailout for the aforementioned banks, with their debt being stealthily transferred to the books of the European Central Bank (ECB), the IMF and the Eurozone governments. Today, the private banks have less than 1% of their core capital tied up in Greek Debt. The situation in Greece, on the other hand, is dire: its GDP has shrunk by 26% since 2009, its unemployment rate is 27%, and 44% of Greeks live below the poverty line.

Greece’s reckless and wasteful spending, along with multiple bad decisions by external policymakers, resulted in its debt spiraling out of control, and a full recovery will take years. This sorry episode offers the Gulf Cooperation Council (GCC) countries important lessons as they integrate their own economies and look to avoid similar crises.

The key lesson is that GCC countries should never let their budget deficits get out of control. The original criteria upon which the Eurozone was founded are a useful benchmark for the GCC countries to consider: a deficit of around 3% of GDP per year and a public debt no higher than 60% of GDP to ensure that debts can be serviced in a sustainable manner. GCC countries should be very wary of lavish welfare policies, such as low retirement ages and generous pensions, as these are expensive and also damage productivity. A fall in productivity would result in GCC countries’ exports becoming more expensive and, in turn, less competitive in the international market. This could lead to a trade deficit, which would further put pressure on the budget, as the trade deficit would have to be covered by a capital inflow.
August 2017
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