Review of the Greek Economy

12th March 1997

THE GREEK ECONOMY IS ON A COME BACK TRAIL!

The Greek economy has started to post a variety of impressive results in the last year.

The recent change in attitude towards the Greek economy is best reflected in the 40 per cent appreciation in the Greek Stock Exchange's Composite Index in the three months since mid November 1996 and a continued fall in both short term and long term interest rates. Not surprisingly Greece's Long term foreign Currency Debt Rating has been re-rated upwards from Baa3 to Baa1 by Moodys Credit Ratings and Research. In the not too distant future Greece could be re-rated just one more level to "A" Grade by Moodys.

It seems that after a protracted period in the economic wilderness, Greece could be returning to the kind of economic results which were achieved in the 1960's and early 1970's. During this period Greece had one of the highest average annual rates of growth in the Organisation for Economic Cooperation and Development (OECD) along with an impressive inflation performance.

The most notable improvement has been in inflation. Annual inflation has fallen in Greece from 15.6 per cent for January 1990 to 6.6% for February 1997. The current inflation rate is the lowest the country has experienced since February 1972. Some of the factors contributing to the vast improvement in inflation include austerity measures which have reduced wage growth, a determination to keep the exchange rate stable against major European currencies, the sale of inefficient state run enterprises and a willingness amongst policy makers to avoid inflationary policy measures. An annual inflation rate around 5 1/2% by the end of 1997 is a possibility.

International investors as well as Greeks abroad should not view the fall in inflation as extra-ordinary. Greece has proven itself a low inflation country in the past and an inflation performance below 3% in line with Greece's Mastricht commitments by the end of 1999 is a distinct possibility. Between 1961 and 1972 Greek annual inflation averaged less than 2 1/2%. Sharp oil price increases in 1973 drove Greek as well as global inflation rates up. The election of the Papandreou Government in 1980 resulted in an unsustainable rise in wages and large budget deficits which were funded in an inflationary manner resulted in extraordinarily high inflation. After almost a decade of Papandreou policies inflation in Greece became entrenched. Economic policies since the late 1980's have recognised the shortcomings of Greece's inflation performance and partly as a result of pressure from the European Union (EU) has led to policy measures aimed at bridging the gap in inflation between the EU and Greece.

The task ahead for Greece should not be underestimated. All of Greece's EU partners have an inflation rate below 3%. The Simitis Government is highly unlikely to buckle under demands for wage rises from teachers or reverse policies designed to increase revenue through the eliminating tax exemptions and subsidies. Further improvements in inflation are likely to result from the sale of Government Business Enterprises (GBEs). This is a continuation of past Government policies and is aimed at reducing government debts which are associated with these problematic GBEs. The debts in turn were financed in an inflationary manner. In addition, it is hoped that efficiency benefits from the sale of these problematic enterprise will lead to lower costs and lower prices for the services offered by these GBEs.

The benefits of a lower inflation rate will manifest themselves in the form of lower interest rates which will encourage more private investment, more employment and an improvement in Greece's credibility as a stable and productive nation. The issue of credibility is an important one for investors, particularly international investors. Attracting foreign investors is intensely competitive particularly since the end of the Cold War. Greek Government policy makers can no longer be seen as weakening on policy objectives such as reducing inflation or the budget deficit or giving confusing signals or changing policies on investments made in Greece. To do so would result in a loss of confidence and Greece would be not be viewed as a favourable destination for investments. Greece is not likely to change her position on reducing inflation and the budget deficit, especially since both the Conservative Opposition and the ruling Socialist Party have similar objectives.

The excesses of the Papandreou government will take many years to correct. Papandreou's excessive expenditure programme of the 1980's was not met with revenue increases and led to an explosion of the budget deficit and an escalation in the level of public debt. The budget deficit and the size of the public debt remain serious constraints on Greece meeting the Convergence Criteria for European Monetary Union. The budget deficit as a proportion of Gross Domestic Product (GDP) for 1997 is expected to be 6 1/2%, which is well over the 3% target under the Maastricht Treaty. Greece's determination to reduce this imbalance is apparent given that this is the first time ever that the Government has reduced government expenditure. Furthermore the Government has made serious efforts to raise revenue. The expected deficit of 6 1/2% of GDP for 1997 compares with an outcome of around 8% in 1996 and is vastly better than deficits of over 15% at the late 1980s and early 1990. The outlook is for further reductions in

Not surprisingly, if you exclude interest payments on Government debts the budget has been in surplus by as much as a massive 4% of GDP in 1996. Past economic mismanagement has led to a public debt to GDP ratio of over 110% which is one of the highest in the EU. Along with many other EU members Greece is not likely to achieve a public debt to GDP ratio of under 60% in the near future.

The improvement in inflation, lower interest rates and the need to meet EU criteria are likely to provide the justification for further reductions in government expenditure and a more committed effort to increase taxation revenue in coming years.

Any discussion on the Greek economy is inadequate without some mention of the "black market". The "black market " being those activities which remain untaxed and are mostly in the small business sector and especially in tourism. Some estimates place the size of "black market" as high as 25% of the total economy. The revenue the Greek Government is deprived is immense and would significantly assist in correcting the budget deficit. Needless to say, those who avoid tax also place the same demands on the government for roads, hospitals, defence and schools.

The outlook is for further improvements in the economy on inflation and the budget deficit. In the coming years it is likely that the Greek economy will surprise Greeks and foreign investors and perform better than most would expect. As Greece's economic prowess improves so will Greece's ability to influence foreign policy in the EU and avoid further humiliating foreign policy setbacks which have jeopardised Greece's national interests for over two decades.