The world is watching the political and economic situation of Greece with uncomfortable fascination. There is a widespread fear that, if Greece is unable to pay its debts, there will be a chain reaction.
The first part of the chain reaction could affect the solvency of some European and American banks who lent to Greece, and who would not be getting all their money back. Those who sold credit default swaps with those banks could also be caught.
The second part of the chain reaction would affect other Governments, who may not have quite as difficult a situation as Greece, but who, like Greece, have to borrow to cover day to day expenses because their tax revenue is insufficient to cover their outgoings. Ireland is in this category. Lenders who lose money they had lent to the Greek Government, would be even less willing, than they are now, to lend to other Governments. A 21st century precedent of an advanced European country defaulting on its debts would have unknowable consequences in a fragile and volatile world.
I have read a recent publication by a German economic think tank, the Ifo Institute, about Greece.
The conclusion I drew from it was that the problems, now coming to a head in Greece, have been obvious and knowable for at least twenty years, long before Greece joined the euro.
If mechanisms were not insisted upon to remedy those problems, before Greece joined the euro, then responsibility must be shared for that by all the member Governments of the euro, who admitted Greece into the euro. The European institutions, that were supposed to be examining the accounts of the Greek
Government to ensure that those accounts presented an accurate picture of Greece’s real liabilities, have to answer for their omissions too.
Greece was one of the fastest growing economies in Europe from 1950 to 1973, but thereafter it stagnated. But public spending went on growing, from 23% of GDP in 1970, to 30% in 1980, and to 49% in 1990. By 2009, it was 52% of GDP. A lot of the money went to pensions and extra public sectors jobs. Whenever a Greek politician arrived at an international meeting, he was accompanied by an entourage that was four times as big as any other.
But tax revenue was not keeping pace. The Government debt level grew especially quickly in the 1990s when guaranteed debt of state companies were taken onto the Governments own balance sheet, and money the Government borrowed from its own Central Bank had to be properly accounted for. This was known before Greece was admitted to the euro.
Greece does have a tax collection problem.
This is because it has such an exceptionally high proportion of its workforce who are self employed, or who are in the non traded sector of the economy ( ie. sectors who cannot export their services, like doctors, shopkeepers etc.). The extent to which people pay due taxes is lower than elsewhere in these two sectors………almost everywhere in the world. Seemingly tax evasion by the Greek self employed in not much worse than by the self employed in the US, the Greek problem is that self employed people make up a much bigger share of the Greek economy, than they do of the US economy. Greece’s tax collection problem thus has more to do with the structure of its economy, than with any uniquely Greek aversion to paying tax.
All these facts must have been known to the European Central Bank, the Banque de France, Bafin (the German regulator), and all the other supervisory authorities, when the banks they were supervising lent vast sums to the Greek Government, during period since Greece joined the euro. While its exact scale may have been concealed by accounting tricks by the last Greek Government , the fact that there was a huge problem was knowable.
I believe that it is time to face up to the full extent of the sovereign debt and banking problem in Europe.
We need now is a ten year plan for the euro zone, not just a ten month plan!
Europe must align its income expectations to its productivity. At the moment, the first is running well ahead of the second. Productivity must catch up, or income expectations must fall back. In some cases, the gap will take years to close. These social choices are unavoidable, but have to be made in a democratic way.
Voters are able to face reality, so long as everything is laid out before them.
In the countries who lent foolishly, as much as in those who borrowed foolishly, the authorities should own up to their share in the mistakes. That has not happened yet in every case.
Once that is done, Europe can move on more convincingly
1.)to devise a political structure to prevent irresponsible borrowing by Governments, ( One suggestion is an EU veto on national budgets)
2.)to increase productivity and allocate scarce resources more wisely, (This is more difficult because it requires action by the private sector, which has misallocated time and money in the past)
3.) to slim down the financial sector, (This is not happening, layoffs are taking place everywhere except where the problem started!)
4.) to make banks safe to fail, rather than too big to fail, (This requires a much higher capital ratio) and
5.) to build a large contingency fund, by contributions from all members, that will stand behind Governments who have kept the rules, but who face temporary difficulties beyond their control. Until a fund is built up, standing behind weaker countries involves a risk for countries who have good credit ratings and who have to pledge that credit to help out the weaker countries.
The International Monetary Fund (IMF) is a body that has more experience than any other, in dealing with countries in financial difficulty. Commentators at home and abroad will have been paying close attention to what it said last week about Ireland’s management of its problems.
Last week Mr Chopra of the IMF endorsed unequivocally the actions of the new Government here in its implementation of the IMF/EU financial programme.
He praised the Governments sense of “ownership“of the programme, and its “decisive approach” on the banking situation. This approach had “doubled existing buffers against possible losses through 2013 and beyond”. I would add that Irish banks are now better capitalised than the banks of most other EU countries, including especially some of the bigger EU countries.
Mr Chopra said Ireland was doing all it could to “get ahead of problems”. Any adverse developments there had been had been due to external developments. The European Commission also noted last week that Ireland’s performance was “on track”.
Mr Chopra reminded his listeners that an increase in Ireland corporation tax rate was not part of the agreed EU/IMF programme because , as he put it, such an increase would not be “consistent with the overall goal of the programme in sustaining growth”.
I am confident his words will have caught the attention of the French Minister for Finance, Christine Lagarde who, as an EU Finance Minister, endorsed the EU/IMF programme in the first place. She will also have noted that Irish corporation tax receipts had “overperformed”, in the IMF’s words, and are thus contributing more, not less, than expected to Ireland’s loan repayment capacity.
On the question of interest rates on loans, he reminded his listeners that the IMF applies a uniform interest rate to states borrowing from it. It did NOT vary rates to borrowing states to suit the political demands of contributing states.
He also told all of us in the European Union that we need to reassure the markets by putting in place
“the right amount of finance, on the right terms, for the right duration”
to support states in the eurozone who may get into difficulty. That is the only way to convince markets that there will be no defaults. As far as Ireland is concerned, those who may have been alarmed by Professor Morgan Kelly’s article in the “Irish Times” should read the response in the same paper by Dr Anthony Leddin and Professor Brendan Walsh .
Those who talk lightly of default and restructuring by Greece should pay attention to what that would do to Greek banks. It would destroy the collateral that those Greek banks use to borrow from the ECB, and this would lead to an overnight loss of confidence in those banks, with disastrous and sudden consequences for Greek savers, and for its entire economy. Remember that Greek banks, businesses and Government would still need to borrow NEW money after any restructuring, “reprofiling”, default that might take place, and they would find it much more difficult than before to borrow that new money. If Greece was like Ireland, and was more dependent on foreign investment than it is, that problem would be even more severe.
The sort of changes Greece is going through are very painful indeed, but just as things can get better, they can also get much much worse, if the wrong decisions are made either by Greece itself, or by populist politicians in other European countries who somehow pretend that they can allow their neighbours to sink below the waves, with no consequences for themselves.
The truth of the modern European economy is that we are all tied together, and we can either keep one another afloat, or drag one another down.
In a recent article, the highly respected German magazine, Der Spiegel , said that “communal feeling in the EU is crumbling” and that the Government was “not even trying “ to put that right.
I note also that a far right party, opposed to more help for Greece, did well in a recent Austrian election. Austrian electors should remember that, even in the 1930s Europe was so tied together, that when an Austrian Bank, Credit Anstalt, collapsed in 1931, it led to a rash of bank collapses all over Europe. If that was possible in the much less interdependent Europe of the 1930s, it is even more likely today. EU help today to several central European EU members is critically important to the health of the Austrian banks.
European electorates everywhere need to recognise that time will be needed to rectify the deep and unstable imbalances that grew up in our economies since 2000, under the temporary anaesthetic of artificially cheap imports, and artificially low interest rates. That is why Me Chopra’s advice about the EU putting in place the “right amount of financing, on the right terms, for the right duration” is so wise.
The EU leadership needs to develop a convincing narrative that explains, in everyday language, why we are doing what we are doing, why it will take time, and how the actions we are taking now, will eventually lead to a European economy that is much more secure than the bloated and bogus prosperity that we experienced from 2000 to 2007. Telling a convincing story about the future is a vital part of political leadership, and we need such leadership in the European Union, now more than ever before.
I believe that the EU will have to move closer together politically, if we are to survive economically. The politics of this is just as important as the economics. People in all EU countries, rich and poor, need to feel a sense of ownership of the European Union.
The creation of the EU in the 1950s was a first in world history, a completely voluntary pooling of sovereignty by states that had recently been at war with one another. It was an outstanding example of political engineering, as well as of visionary imagination.
EU’s leaders today need to apply the same combination, of imagination and practical political engineering, to developing communal feeling among the member states of the euro, and to sustaining its democratic legitimacy of the euro, as they are giving to its economic underpinning.
This is only the first crisis we will have. There will be many more. We need political institutions in the EU that are strong enough, democratic enough, decisive enough, and inclusive enough, to face anything the future may throw at them. That is the enduring lesson we must take away from this crisis.
Keynote address by John Bruton, President of the IFSC, at the European Insurance Forum in the RDS Concert Hall at 8.30 am on Monday 23rd May .