Thursday, July 23, 2015

Greek economy: How terrible was it?

It has become conventional wisdom that the Greek economy desperately needs massive structural reforms, lest it be doomed to eternal Third World status.  Or something.  And among the Wise Old Heads of Europe, it is agreed that the current crisis offers an opportunity too good to miss: a chance to force structural reforms on Greece, undoubtedly for its own good.

But, prior to the crisis itself, exactly how terrible was the Greek economy?

One indicator we might want to look at is Greece's per capita output compared with that of the EU as a whole, on a price-harmonized (i.e. purchasing power parity) basis.  Conveniently, Eurostat publishes exactly that, expressed as an index for each country with the annual EU average pegged at 100.  Here's what it looks like, with Germany included for comparison.

From 2003 to 2009, Greece averaged 93 (i.e. its per capita output was around 93% of the EU average), with no particular trend evident.  That is, a slightly below-average performer, but basically keeping up with growth in the EU as a whole.  Note in particular that the 2008-9 recession didn't hit Greece any harder than the average EU country.

The train wreck, of course, occurred in 2010 and beyond -- that is, the "bailout years."  By 2014, "reforms" had reduced Greek output per capita from 94% of the EU average (in 2009) to 72%.  (Aside 1, Aside 2)

So let's get back to the original question:  How terrible was the Greek economy?  Not terrible at all, it turns out.  Certainly mediocre: it's not hard to find richer or more dynamic countries.  But hardly the crony-socialist nightmare economy you might expect based recent public discussion.

Why, then, all the high dudgeon about the urgent need for radical reform of the ostensibly corrupt and hidebound Greek economy?  It's easy to say that it's self-serving rhetoric, but that begs the question:  why does this rhetoric actually serve anyone?  Why does it go over so well?

That question opens up the issue of the role of moral reasoning in economic policy, which deserves a post of its own.  (OK, probably more than one.)  Because the "rhetoric of reform" has less to do with pragmatic, technical policy-making than with the (moral) intuition that some things are just wrong and must be punished, no matter what the consequences or cost.

Aside 1:  I know, I know: "If only there had been more austerity, things would be different."  Undoubtedly.  Not better, perhaps, but surely different.

Aside 2:  Over the same period, German output per capita grew from 115% of the EU average to 124%.  Well played, Germany!

Sunday, July 19, 2015

Easier than you think: How to devalue the Greek Euro

It's more-or-less universally agreed that if Greece still had its own currency, devaluation could help the country recover from its current economic depression.  It's also agreed that, lamentably, this is not possible without Grexit.

But there may be a way.  Consider:  devaluation works by raising the prices of imports (in the local currency) while reducing the prices of exports (in foreign currency).  That is, a devaluation acts like a tariff -- a positive tax on imported goods and services and a negative tax (i.e. a subsidy) on exports.

Do you know what else acts like tariffs?  Tariffs.

So if we want to emulate a Greek currency devaluation, we could simply impose a tariff on Greek imports and dedicate the revenue thus collected to export subsides.  (And yes, it would probably be a good idea to have an outside entity involved in collecting and disbursing the money involved, rather than relying on local authorities.)

Now, like any option that might actually help the Greek economy (and, by the way, increase the probability that Greece's creditors will someday be repaid), this strategy will undoubtedly be ruled UNTHINKABLE by the Wise Old Heads of Europe.  (Aside 1, Aside 2).

Of course, the real fun to be had by tabling a proposal like this would be to watch German politicians complain that a tariff along these lines (especially if it might be generalized to other depressed debtors in the  Euro zone) would hurt German exports.  (For an explanation of why this is so funny -- and it is -- see Aside 3.)

(Aside 1)  The EU appears to have bred its own special variety of Very Serious People for which we need a name.  I'm proposing "Wise Old Heads of Europe," or WOHEs for short.

(Aside 2)  The correct response to anyone who tells you that something is "unthinkable" is, of course, "Think harder."

(Aside 3)  For any particular country, net lending equals net exports.  Borrowers run trade deficits, lenders run trade surpluses.  (This is neither theory nor observation; it is an accounting identity, true by definition.)  Therefore, for Germany to "collect on its debts," its trade surplus must suffer.  So the ostensible goal of German policy towards Greece an other Euro debtors has always been to hurt German exports.  The difference is that the direct application of tariffs might work.

Thursday, July 16, 2015

Greece: Growth or Recovery?

It's no secret (not anymore!) that macroeconomics, as a social science discipline, has problems.  Best known, of course, is the fact that research into macro stabilization policy has made no substantive progress -- and arguably has regressed -- over the last forty years or so.   But there's a second problem, which runs deeper and which may have helped cause the first.

I call this "Barro's Disease," based on the observation by economist Robert Barro that once you begin to study the determinants of long-run growth, it becomes hard to pay much attention to anything else.

Here's a slightly more elaborated version of that statement, excerpted from Barro & Sala-i-Martin's leading textbook, Economic Growth:
Even small differences in these growth rates, when cumulated over 40 years or more, have much greater consequences for standards of living than the kinds of short-term business fluctuations that have typically occupied most of the attention of macroeconomists. To put it another way, if we can learn about government policy options that have even small effects on long-term growth rates, we can contribute much more to improvements in standards of living than has been provided by the entire history of macroeconomic analysis of countercyclical policy and fine-tuning. Economic growth—the subject matter of this book—is the part of macroeconomics that really matters.  (Barro &  Sala-i-Martin, Economic Growth, 2nd Edition, p. 6).
While there is something to be said for this point of view (although see Aside 1), the consequence is a sort of blindness to anything that happens on a one-to-three decade time scale.  It is this blindess that I call "Barro's Disease."  (Aside 2).

What has all of this to do with Greece?  Simply this: the assertion that structural reform should be the highest priority for the Greek economy is nothing more than a symptom of Barro's Disease.  It rests not on an analysis of alternative policies and paths for the Greek economy, but on an unexamined assumption that "growth is what really matters."

But is it?  My view is that this is primarily an empirical question:  magnitudes matter.  But before we get to the arithmetic, we do need to deal with the question of how to weight costs and benefits in different time frames.  On this subject, I propose a pragmatic punt:  let us recognize that we are not discussing permanent policies to determine the growth path of the Greek economy into the infinite future.  Instead let us assume that, whatever we do now, twenty years from now, Greece will adopt optimal growth policies, the effect of which will, naturally, dwarf anything that happens in the next twenty years (at least within the inter-temporal discounting framework implied by growth theory).  (Aside 3.)

Alright -- let's talk numbers.  First, let's stipulate that the Greek economy in the late 2000's was sclerotic, corrupt, and very, very inefficient.  Under these conditions, Greece was able to produce an aggregate annual output of roughly EUR 240 billion (Greece's GDP in 2008).  Today, its annual output has fallen to about EUR 180 billion (Greece's GDP in 2014) .

Now, let's consider two policy scenarios.  In "growth scenario," structural reforms are imposed, boosting Greek output by 3% every year for the next twenty years.  In the alternative "recovery scenario," Keynesian stimulus pushes Greek GDP back to its 2008 level, but reforms stall and, as a consequence, Greek GDP stagnates -- zero growth for the ensuing eighteen years.  (The latter is basically the nightmare scenario invoked by reform enthusiasts warning of the dire consequences of "taking the easy way out.")

These assumptions, plus a few minutes with a spreadsheet, yield two hypothetical twenty-year paths for Greek GDP.

Under the "growth" scenario, Greek GDP in year 20 is 35% higher than under the "recovery" scenario.  However, it takes ten years for "growth" GDP to even catch up with the "recovery" GDP level.  It takes seventeen years for the cumulative "growth" GDP to match the corresponding number for the "recovery" scenario.  And over the entire 20 year time frame, cumulative "growth" GDP outstrips cumulative "recovery" GDP by only 4%.

Which path is better?

Well, if you have access to time travel or a cryogenic stasis chamber with which to "skip over" the next decade or two, the "growth" scenario has a certain appeal.  If, on the other hand, you actually have to live through those years, there's a pretty strong case for "recovery," even followed by a couple of decades of stagnation.

What if you're a creditor?  Assuming (I know, this is a hard one to swallow) that Greek debt service payments will be constrained by Greece's ability to pay (proxied by cumulative GDP), and if you care at all about the timing of the payments you receive, the "recovery" scenario is clearly preferable.

Now, does all of this mean that structural reforms, economic efficiency, and growth are unimportant?  Not at all.  In fact, the balance of trade-offs depends crucially on the depth of the recession, which determines the size of the boost received from simply recovering to the current-efficiency-full-employment level of GDP.  If "recovery" only meant, say, a 10% increase in GDP from the depressed level, all other assumptions being the same, the outcome would be quite different.

And that, I think, is why "Barro's Disease" merits being called a disease.  By inculcating the notion that long-run growth is always and everywhere more important than counter-cyclical policy, it tends to insulate economists' policy advice from the concrete facts of the problem at hand.

(Aside 1)  I've always thought that there was a fundamental problem with the evidence used to denigrate the importance of the cyclical stabilization in modern economies: the scale of cyclical fluctuations tends to be inferred from periods in which governments were actively stabilizing the economy (or in which the "fortuitous" advent of a global war forced governments' hands).  That counter-cyclical policy has had some success in recent decades does not seem valid evidence that counter-cyclical policy does not matter.

(Aside 2)  As an exercise for the reader, try to write down an inter-temporal utility discount function that corresponds with this weighting of near- and far-future events.  For extra credit, describe the effect of applying this function to the evaluation of global climate policy.

(Aside 3) If the optimism of this assumption seems troubling, the reader should feel free to adopt the alternative assumption that, twenty years from now, Greece will adopt disastrous economic policies, and remain stuck for all eternity at the level of prosperity characteristic of, say, Sub-Saharan Africa today.  The implications for current policy are the same.

Wednesday, July 15, 2015

Spokesman: Greece to Go the Extra Mile to Appease Creditors

Athens, Greece --  A government spokesman today revealed that the Greek government would honor the Troika's demand that it transfer ownership of specified airports, ports, and other public assets to an independent privatization fund.  Moreover, as a gesture of good faith, the government plans to transfer certain additional assets not specifically identified in the Troika's proposal, notably a two-year old Palomino mare which had previously been the property of the daughter of an unidentified government minister.

"We offer this as a first step toward repairing relations between the government and our partners in the EU," the spokesman explained.  "Greece is committed to delivering on all of its commitments to the international community.  And a pony."

Monday, July 13, 2015

Euro Summit Statement: A Glimmer of Sanity?

It's very odd.  The statement of the Euro Summit, issued in Brussels yesterday, could reasonably bear the title, "More of the Same -- Only More So!" (or, perhaps, "Take That, You Socialists!").  However, tucked away, in what is literally the last paragraph of the document, is this:
To help support growth and job creation in Greece (in the next 3-5 years) the Commission will work closely with the Greek authorities to mobilise up to EUR 35bn (under various EU programmes) to fund investment and economic activity, including in SMEs. As an exceptional measure and given the unique situation of Greece the Commission will propose to increase the level of pre-financing by EUR 1bn to give an immediate boost to investment to be dealt with by the EU co-legislators. The Investment Plan for Europe will also provide funding opportunities for Greece.
Stimulus spending?  To support growth and job creation?  It is almost as if someone, somewhere, has come to the realization that austerity is contractionary.   (Aside: spell-check wants to replace "contractionary" with "contradictory."  It has a point.)

Of course, there are still some important questions.  Is EUR 35 billion enough?  It's around 20% of Greece's 2014 GDP.  If it's heavily front-loaded and concentrated in the first three years, then maybe. Spread over five, it starts to look less effective.

The bigger question is how the problem of "leakage" will be handled.  That is, how can we ensure that the EUR 35 billion in spending creates jobs in Greece rather than exports in Germany?  This is one of those things that would normally be accomplished via exchange rates.  (Oh, those again.)

Still, this paragraph is about as close as we can expect to a Eurozone confession that, "Yes, our entire approach to the macroeconomics of Greece has been completely wrong-headed from the start."

We celebrate the small victories, because they may be the only kind we get.  

Saturday, July 11, 2015

IMF: Most misleading sentence ever?

On June 26th -- the day before Greek Prime Minister Alexis Tsipras announced his intention to call a referendum on the Troika's proposed aid-and-conditions package -- the IMF caused a stir with the release of a preliminary draft of its Debt Sustainability Analysis (DSA) for Greece.  Press coverage focused, correctly, on two points.  First, the IMF found that, under then-prevailing conditions, the burden of Greece's debt was unsustainable.  Second, and arguably more important, was this:
If the program had been implemented as assumed, no further debt relief would have been needed under the agreed November 2012 framework.  (p. 1, boldface type in the original)
The press and others quite naturally interpreted this sentence to mean that the Greek government had failed to take certain specific, agreed-upon actions, and that, had Greece taken those actions, the results would clearly have made Greece's debt load sustainable.  I call this a natural interpretation because...well, because that is what it says.

But it turns out that this isn't what the IMF means at all.

The first clue that there is "creative wording" in play -- where "creative wording" is to "wording" as "creative accounting" is to "accounting" -- is in the first clause of the sentence.  Why, we might ask, does the IMF refer to the program not being "implemented as assumed," rather than "implemented as agreed?"  Is this just an awkwardly indirect way of saying the same thing, since the IMF assumed that Greece would implement the program as agreed?

Actually, no:  the use of the word "assumed" turns out to be crucial to real meaning of the sentence. Specifically, the assumptions in question go well beyond expectations of the Greek government's actions to include a series of jaw-droppingly unrealistic assumptions about what the results of those actions would be.  (Aside 1)

The next clue appears two pages later, where we find a subtly different version of the conclusion:
Taking into account all these background factors, if the key program targets had remained achievable, Greece’s medium-term debt profile would have improved by up to 13 percent of GDP. [...] No further relief would, therefore, have been needed under the November 2012 framework.  (p.3 emphasis added)
Leaving aside for the moment whether the program targets were ever "achievable," we still might wish the IMF would get its story straight.  Was the program not implemented, or did the program targets become unachievable?    (I suppose that one might argue that not achieving the impossible is a failure of implementation, if "achieve the impossible" is itself the extent of the plan. But the fault nevertheless seems to lie less with the execution and more with the plan -- and the plan's authors.)  

But enough of generalities and conclusions.  What can the IMF analysis tell us about the specific failures of reality to conform to plan?  For illustration, let's look at my favorite example -- an extreme case, perhaps, but characteristic of the sort of thinking underlying the IMF's program targets.

Perhaps the single greatest disappointment of the IMF's expectations has been the failure of billions of Euros to materialize from the sale of the Greek government's stake in various enterprises.
Over the course of the SBA and the EFF arrangement, receipts have consistently fallen short of program projections by huge margins. The fourth SBA review in July 2011 projected €50 billion to materialize through end–2015. Actual receipts through the first quarter of 2015 were €3.2 billion, about 94 percent below the target.  (p.8, Box 1)
Now, if the Greek government actually had something it could sell to private investors for €50 billion, its debts would certainly look a lot more sustainable.  But what could it be?  And how exactly did the IMF reach this valuation?  The June 26 analysis is actually rather revealing on this point, for we learn the following:
The projected privatization proceeds under the program were €23 billion over the 2014–22 period. Half of these proceeds were to come from privatizing state holdings of the banking sector.  (p. 4)
Let's spell that out:  the IMF expected the Greek government to realize €11.5 billion by selling its stake in Greek banks.  (Question for the reader:  what would you pay for an equity stake in the Greek banking system?  If your answer is €11.5 billion, please send me your contact information - or, to save time, just send your ATM card.)

In summary, when the IMF writes about the the failure to implement the program as assumed, this is the sort of thing is has in mind: the "failure" of the Greek government to find anyone willing to pay €11.5 billion for a stake in banks that require daily injections of liquidity from the ECB simply to keep the cash machines full.

Which brings us to the question in the title of this post.  When you, objective and informed as you undoubtedly are, read the page-one sentence cited at the beginning of this post (the one set in bold type, both here and in the IMF report itself) is this the sort of "implementation failure" that leaps to mind?  Or is the report's most widely cited single sentence also the most misleading sentence ever?

(Aside 1)  For those who have been following the IMF's work on this subject, this will undoubtedly feel quite familiar.  The obstinate refusal of the IMF's economic dreams to come true has been a recurring theme in every IMF analysis of Greece since the agency's original work of imaginative fiscal fiction in 2010.  Apparently, reality owes the IMF a very big apology.      

Thursday, July 9, 2015

Greece and the ECB: A Dialogue

Dramatis personae:

  • Alexis - a keen eyed observer of European stuff
  • Hans - a staunch defender of rectitude in all things
  • Porthos - an ordinary Greek fellow
  • Viktor - the worst central banker in the world

Alexis:  Has anyone noticed that the European Central Bank appears to be in the grip of fanaticism?  

Hans:  Strong words, but what could you possibly mean?  Surely the fanatics are the Greek -- or possibly German -- politicians.  You might disagree with the ECB's decisions, but that hardly justifies a charge of fanaticism.

Alexis:  Well, let's define our terms.  By fanaticism, I don't mean simply having strong views, strongly stated.   "Fanaticism," George Santayana wrote, "consists of redoubling your efforts when you have forgotten your aim."     By this definition, the European Central Bank (ECB) has lately been acting like a fanatic, and quite a dangerous one.

Hans:  Assuming I accept your definition, I still don't see your point.  The aim of the ECB is price stability.  I don't see hyperinflation anywhere in the Euro area.  

Alexis:  You may not be looking very hard; but let's set that to one side for the moment.  Your articulation of the ECB's aim is out of date.  

Hans:  Price stability is never out of date!

Alexis:  That's not what I mean.  In 2013, the ECB was given responsibilities beyond monetary policy and aims beyond price stability.

Hans:  Well, technically, I suppose.  The ECB is now the Euro area's official bank regulator.  But what's that got to do with anything?

Alexis:  And as the regulator of the Euro area banks, the ECB is charged with ensuring the stability of the financial system within each Member State.  (Note 1).

Hans:  I don't like where this is going.

Alexis:  Nor do I!  But I can't see any way to reconcile the legitimate aims and duties of the ECB with its decision to deliberately incite a banking panic in Greece.  

Hans:  Panic may be a bit of an overstatement.

Porthos:  Are you joking?  Do you know what we're doing to empty our bank accounts?  We're paying taxes!  Early!  (NY Times)

Hans:  OK, that sounds a little like panic.

Porthos:  We're dumping Euros as fast as we can in exchange for real goods -- refrigerators, washing machines, whatever we can get our hands on.

Alexis:  Sounds a little like hyperinflation, doesn't it?

Hans:  Ummm...

Alexis:  This may be the first time in history that a central bank has deliberately caused a panic in its own banking system.   And it's threatening to make things worse.  

Viktor:  Yes!  Does this mean I'm not the worst central banker in the world anymore?

Alexis:  Well...there's no evidence that you destroyed your own financial system on you've probably got a case.  

Hans:  But look -- none of this is the ECB's fault.  It's the Greek government's: its unwillingness (or perhaps inability) to pay its debts on time, its recklessness, its fecklessness, its...grrrr.  It makes me angry just thinking about it.

Alexis:  That may be part of the problem.

Hans:  There's no way to have a sound banking system without sound public finances.  The two go hand in hand.

Alexis:  Actually, that's one of the problems that the European banking union was created to solve. (Note 2, Note 3). The ECB is supposed to be breaking the links between the solvency of particular Member States and the banks operating within them, not strengthening them.  

Viktor:  So Mario Draghi is now the worst central banker in the world?  That is so cool!

Alexis:  Maybe.  But there's still time for the ECB to recover its wits and remember its actual legal mandates.  

Hans:  OK, blah blah blah mandates, blah blah blah financial stability.  Let's get real.  

Alexis:  I'm generally in favor of real -- what do you have in mind?

Hans:  The bottom line is this.  The Greek government is a sovereign debtor.  

Alexis:  Yes.

Hans:  And it is running a primary surplus.

Alexis:  More so than ever, if Porthos is right about the tax thing.

Hans:  Which means that the Greek government can simply stop paying its debt service any time it wants.  It doesn't need more money from creditors, and its creditors can't seize its assets.

Alexis:  Yes.  So?

Hans:  So?  So?  So the only leverage we've got to force Greece to pay up is the threat that we'll destroy its banking system and cause its economy to collapse completely.  Food riots -- that's the only thing those people understand.

Alexis:  Did you just say, "food riots?"

Hans:  Did I say that out loud?  Sorry.  Forget about it.

Alexis:  Gladly.  So, we're agreed that the ECB is a central bank, not the leg-breaker for a handful of creditor governments that have gone all loan-sharky?  

Hans:  But..the Greeks!  They're GETTING AWAY WITH IT!  That's JUST WRONG!

Alexis: That's debatable, but it's also beside the point.  A central bank isn't a comic book superhero, dispensing two-fisted justice.  It's an institution with a specific role to play within a framework of other institutions.  It is settled EU policy that a feckless or insolvent government should not lead to a financial panic or an economic collapse.  And the ECB is responsible for carrying out that policy, not for reversing it.  

Viktor:  Worst central banker ever!

Alexis:  Time will tell

Note 1:
The ECB should carry out the tasks conferred on it with a view to ensuring the safety and soundness of credit institutions and the stability of the financial system of the Union as well as of individual participating Member States and the unity and integrity of the internal market, thereby ensuring also the protection of depositors and improving the functioning of the internal market, in accordance with the single rulebook for financial services in the Union. In particular the ECB should duly take into account the principles of equality and non-discrimination.  (EU 1024/2013 (30) emphasis added)

Note 2:
The stability of credit institutions is in many instances still closely linked to the Member State in which they are established. Doubts about the sustainability of public debt, economic growth prospects, and the viability of credit institutions have been creating negative, mutually reinforcing market trends. This may lead to risks to the viability of some credit institutions and to the stability of the financial system in the euro area and the Union as a whole, and may impose a heavy burden for already strained public finances of the Member States concerned.  (EU 1024/2013 (6) emphasis added)
Note 3:
 A single resolution fund (‘Fund’) is an essential element without which the SRM could not work properly. If the funding of resolution were to remain national in the longer term, the link between sovereigns and the banking sector would not be fully broken, and investors would continue to establish borrowing conditions according to the place of establishment of the banks rather than to their creditworthiness. The Fund should help to ensure a uniform administrative practice in the financing of resolution and to avoid the creation of obstacles for the exercise of fundamental freedoms or the distortion of competition in the internal market due to divergent national practices. The Fund should be financed by bank contributions raised at national level and should be pooled at Union level in accordance with an intergovernmental agreement on the transfer and progressive mutualisation of those contributions (the ‘Agreement’), thus increasing financial stability and limiting the link between the perceived fiscal position of individual Member States and the funding costs of banks and undertakings operating in those Member States. To further break that link, decisions taken within the SRM should not impinge on the fiscal responsibilities of the Member States. In that regard, only extraordinary public financial support should be considered to be an impingement on the budgetary sovereignty and fiscal responsibilities of the Member States. In particular, decisions that require the use of the Fund or of a deposit guarantee scheme should not be considered to impinge on the budgetary sovereignty or fiscal responsibilities of the Member States.  (EU 806/2014 (19) emphasis added)