Every day we read about the Greek debt crisis, a country unable to find her way out of financial hole it doesn’t understand how it fell into. Despite European rescue package after rescue package the Greek government is unable to generate sufficient revenue to cover its considerable expenditure and is now insolvent in not being able to finance its short and long term borrowings.
The current rescue package, designed to bring Greek public sector debt “down to” 120% of GDP, will in effect assign Greece to financial struggle for many years to come. To manage a debt burden of this size with the governance and political structure in place in Athens, Greece will eventually have to remove itself from the Eurozone and be forced to fix it’s broken governance framework. Greece will have to grow up!
And this is why the Greek problem is not around its level of debt, although this is certainly a consequence, but rather it is a matter of governance for Greece. Like some many countries around the world with abundant natural resources and many advantages more successful countries do not possess, the heart of the Greek crisis is the manner it has chosen to govern itself – and the populous has chosen to be governed.
For many years Greece’s public finances have been in deficit position, ie each year the government would spend more than it received and so would have to borrow the difference in order to pay it’s bills. And each year the Greek people benefited from this unaffordable spending through generous public sector wages, pension plans, staffing levels and general inefficiencies that kept many people employed. But of course this greatly distorted the Greek labour market in making a public sector job often much more attractive than a private sector one. An example often cited is the Greek public rail network, that on any given day would have more people working for it than paying customers travelling on it.
So naturally the public sector became the largest part of the economy, ie there were more people earning a living from taxes than those generating taxes. That’s right, only private sector activity generates a net tax gain for a government (and so providing it with money to spend). For example, a private sector person is employed and earns a wage. That wage is paid by the income the firm makes from selling to its customers. The government then takes part of that wage (thereby increasing the net tax take) and uses it to provide a range of public services. The government provides these services largely through paying wages from the tax revenue it has received; these wages of course do have tax deducted, however, all that is happening is part of those wages are being paid back to government and so just making the wage a little cheaper. That “tax” has not increased the net tax take for the government and so not increased the government’s ability to spend (or repay existing debt).
If this cycle continues with more and more public sector workers being employed an equilibrium is reached, and then passed, where the sector generating real net taxation for a government does not generate enough to pay the wages of those consuming a net tax position.
I am sure that Athens on a number of occasions knew it’s long-term, let alone its short-term, solvency problem was not sustainable. However, it also knew that its re-election would be but a pipe dream if they started to reverse this process, in any meaningful way, and put Greece back on to a mature public financial footing. The only way that Athens therefore knew it had to continue this path was that each election it had to give away more of what it did not have. People would ask the politician “What is my vote worth? What can I demand to get the most for me?” And when enough people do this, they all as individuals gain in the short-term, but all as a collective lose in the long-term. Unfortunately for Greece, the long-term has now arrived.
So when you read about the problems on the streets of Athens and the “austere” measures being imposed; do think that all that money that was spent came from somewhere and was consumed by somebody: early pensions, high wages, low working hours and a very big generous employer. All that has happened now is the people lending the money don’t trust the governance model in place in Athens and would rather place their money elsewhere, perhaps where it will be better treated, ie the person borrowing the money has a good chance of paying it back.