A fiscal surplus too far for the Greek economy

Posted on November 23, 2016

More than six long years have elapsed since Greece, staggering under a heavy weight of sovereign debt, was forced to turn to its fellow eurozone governments and the International Monetary Fund for a bailout.

By the end of this year, if those lenders cannot agree a deal, the IMF may decide finally to detach itself from the rescue programme and leave Europe to sort out its own mess. The point of contention is whether Greece, which has already effected a huge fiscal tightening since the rescue began, should be expected to hit and maintain another very ambitious surplus target from 2018 onwards.

The IMF is, quite rightly, against the proposal. Such a policy would risk choking off a nascent recovery in the Greek economy and setting back the cause of reducing its debt burden. The fund is also right that Greece very likely needs some further reduction of its debt stock, whether by face-value writedowns or reductions in net present value through maturity and interest rate changes, if it is to grow out of its current predicament.

On balance, the fund has played a positive role as one of the lenders in the Greece bailout. It would be a shame to see it pull out. But if the eurozone governments insist on following counterproductive policies that will worsen Greece’s debt sustainability problems and which run counter to their approach to fiscal policy elsewhere in the EU, the IMF will be right to leave.

The eurogroup envisages Greece hitting a primary surplus of 3.5 per cent of gross domestic product in 2018. Such a target might be achievable in one year, assuming there is enough underlying momentum in the economy. But to continue to achieve it “for the medium term”, as the plan envisages, is surely quixotic for an economy with a low trend growth rate and fragile business and consumer confidence. A careful, calibrated fiscal adjustment to return a government to sustainability is one thing. A brutish insistence on running surpluses well into the future is quite another. The Greek economy has grown for two successive quarters: that is nothing like enough thrust to be confident it can endure indefinite fiscal constriction.

The situation is particularly awkward for the eurozone for two reasons. One, the European Commission has been edging round to the view that fiscal policy should be used to support growth, especially for those countries with firepower to spare. Even for deficit nations like Spain and Portugal, the commission has wisely recognised that it makes little economic or indeed political sense to try to force them into a counterproductive fiscal tightening. Continuing to insist on austerity in Greece thus appears increasingly arbitrary and unfair.

Second, despite their own allergy to fiscal laxity, several eurozone governments, particularly Germany, are very keen the IMF stays involved in the bailout because of the credibility its presence brings. If the fund stands its ground, as it should, Berlin will have to choose between having the IMF present and keeping Greece’s planned surplus at 3.5 per cent.

Germany, whose own commitment to using fiscal policy to support growth could do with some bolstering, should pick carefully. Pushing the IMF out of the Greece rescue, given that official lenders will have to be involved in the country for decades, would be a backwards step, both in terms of the immediate policy choices and the longer-term quality of decision-making.

The EU has taken a commendably more balanced attitude to its member governments’ fiscal deficits of late. It should extend that change to Greece.

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