The global markets were in turmoil again on Tuesday after investors had time to digest Greek Prime Minister George Papandreou’s sudden decision on Monday to hold a referendum vote in Greece over the EU’s recent bailout agreement last week which helped to calm the markets.
U.S. markets were down over 2% in trading on Tuesday.
Daily news headlines about Greece’s debt problems seem to be endless and appear to be worsening by the minute. The real fear about Greece relates to the likelihood of a Greek default and exit from the European Union, which would result in global panic and concerns about the sustainability of the European Union.
The latest news released out today about Greece concerns new statements from Dutch Finance Minister Jan Kees de Jager who commented that the IMF and EU have still not approved the 6th tranche of Greek bailout money for November. Growing instability as a result of Greece’s latest referendum plans has complicated matters and cast new doubts about Greece’s financial sustainability.
A closer look at Greece
The majority of the reporting about Greece in the media thus far has focused on the European Union’s latest response to Greece’s sovereign debt and Greece’s ability to enact austerity and tax measures to reduce their looming debts.
However, a closer look at Greece is needed to help understand how Greece ended up with their large sovereign debts.
Unless Greece is truly capable of creating aggregate demand and spurring economic activity in the months ahead, it is unlikely that Greece will manage to become a healthy economy within the European Union.
According to 2010 data compiled by World Bank, Greece has the 32nd largest economy by nominal Gross Domestic Product (GDP). Greece’s service sector, which includes tourism, accounts for an astonishing 78.8 % of Greece’s GDP followed by industry at 17.9% and agriculture at 3.3%. The Greek public sector accounted for 40 % of total economic output in 2010.
Besides tourism which accounted for 18.2 % of Greece’s GDP in 2008, according to an OECP report, some of the other major industries in Greece includes shipping (ancient Greek industry), food and tobacco processing, metal products, mining, and petroleum.
Greece has earned a reputation in Europe over the years as a haven for tax evasion, corruption, bureaucracy, and low global competitiveness. Greece’s government leaders have also enacted irresponsible fiscal policies that made it difficult for tax collection throughout Greece and spent excessive amounts of money on Greece’s generous pension system instead of paying down their debts.
Ben May, a Greek economist at think tank Capital Economics made the following comments about Greece’s past mistakes:
“Their mistake was to go out, borrow money and use it to fund huge wage growth, rather than pay down its already substantial debts. Greece went on a spending spree, allowing public sector workers’ wages to nearly double over the last decade, while it continued to fund one of the most generous pension systems in the world. Workers when they come to retire usually receive a pension equating to 92 per cent of their pre-retirement salary.” May noted.
“As Greece has one of the fastest ageing populations in Europe, the bill to fund these pensions kept on mounting. Tax evasion, endemic among Greece’s wealthy middle classes, meant that the Government’s tax revenues were not coming in fast enough to fund its outgoings.”
Overspending during the Olympics
May commented further about Greece’s hosting of the 2004 Olympics and Greece’s large debts relative to their GDP.
“Hosting the Olympics in 2004, which cost double the original estimate of €4.5 billion, only made matters worse. By the start of this year Greece’s debt had hit €300 billion, more than the entire value of its annual GDP. This is unlikely to fall quickly, as its current budget deficit – how much its borrowing exceeds tax receipts – is running at 13.6 per cent of its gross domestic product, twice the Eurozone average. Things have come to a head because the international rating agencies have cut Greece’s credit rating, concerned that it will default on its debts. This has the immediate effect – just as when a credit agency cuts a consumer’s rating – of pushing up the cost of its borrowing, setting off a vicious spiral.”