Friday, August 7, 2015

Greek economy: How terrible? (Part 3)

The story so far:

In Part One, I posted data from Eurostat showing that prior to the present crisis, Greek GDP per capita, on a purchasing power basis, was about 93% the 28 country EU average.  Not great, but good enough to suggest the horror stories about the terrible state of the pre-crisis Greek economy are somewhat overblown.

In comments and on his own blog, Nick Rowe asked whether the Greek government budget deficit might have raised this figure, and, consequently, whether balancing the Greek government budget could have an impact on Greece's (PPP-basis) real GDP, quite apart from the demand-side macroeconomic effects.

In Part Two, I agreed with Nick that this is at least a theoretical possibility.  (I say "theoretical" simply because, in my toy model, I find effects in running in both directions, and it's an empirical question which one dominates.  I don't mean to imply that it is implausible or some kind of weird edge case.)

In this part, I want to look at the potential magnitude of the issue -- that is, how much should this possibility lead us to modify the picture of Greek economic performance painted in Part One?

According to Eurostat, Greek exports in 2008 totaled €21.3 billion, and Greece's nominal GDP was €242.1 billion, so exports accounted for a little less than 9% of the total Greek economy.  In 2007, exports accounted for about 8.3% of Greek nominal GDP, and they 2006 accounted for just under 8%.  So, roughly, let's say that exports amounted to something like 8.5% of Greece's pre-crisis output.

The next question is how "overpriced" those exports were, due to the Greek government budget deficit.

This involves us in the tricky business of trying to say just how large the pre-crisis Greek budget deficits were.  Eurostat declines to publish figures for years prior to 2011, citing the dubious state of Greek statistical reporting.  So, like everyone else, we're going to have to make an educated guess.  One thing Eurostat can tell us is that the Greek government's outstanding debt totaled €356 billion at the end of 2011.  That debt was years in the making, and how much each year contributed is hard to say.  I'm going guess that from 2006-8, the Greek deficit averaged €45 billion (a bit more than double the 2011 level), effectively attributing just over one third of the Greek national debt to those three years.

Now the really hard question:  how much could €45 billion in spending, largely on things like transfer payments (i.e. pensions), government salaries, and so forth, move the global prices of products Greece exports?  The total EU market for tradeable goods is €2.5 - €2.7 trillion (gross annual intra-EU exports for 2006-8) divided by the fraction of tradeable goods that are actually exported.  If we assume, more or less at random, that only half of tradeables produced are consumed domestically, that gives us a total EU market for tradeables of around €5.2 trillion.  Let's also assume that only half of the Greek government deficit is absorbed by spending on non-tradeables, so that the Greek deficit increases total spending on tradeables in the EU by about 0.4%.  (Except, of course, for the fact that the deficit is actually financed by other people -- say, French and German bank depositors -- not spending; the Greek deficit is not simply an addition to EU-wide demand.  But let's assume that the forgone spending would have consisted entirely of spending on non-tradeables.)

Assuming a zero elasticity of real supply, so increased spending on tradeables is completely reflected in price increases, we're looking at a price impact of less than one-half of one percent.

Now, that's an enormous heap of assumptions.  And it's not necessarily fair to look at the entire range of tradeable products; Greek-produced tradeables are not distributed across sectors in the same way as the EU as a whole.  (But they may be less different than you guess; in 2007, about 25% of Greek exports were machinery or chemicals, and the value of its food exports was matched by that of its oil exports.  It's not just about olives!)  The real point of the exercise is to provide some sense of the relative scale of the Greek government deficit compared with the EU economy as a whole.  And the upshot is that it's hard to imagine a very small player like Greece having much of an impact on EU-wide market prices for...well, anything really.

But let's go wild and assume that the prices of Greek exports were increased by ten times as much as our wild guess -- that is, by 4%.  That would mean that 4% of 8.5% of the Greek economy might have been "fake," to borrow Nick's term.  That's about 0.34%.

Or, in other words, if not for the Greek budget deficit, the measured GDP per capita of Greece might have been, not 93% of the EU average, but a mere 92.66% (or, in round numbers, 93%).

To get a material effect via this channel, you need to argue that the Greek budget deficit...I don't know...doubled the global price of oil, for example.  I'm just not seeing it.

The bottom line seems to be that the original impression was correct:  that, pre-crisis, Greece had a slightly below-average economy, certainly well below German standards of efficiency (the latter had a GDP per capita about 16% above the EU average), but hardly the Third World backwater of popular imagination.


  1. Loanable funds theory, again? That is your belief wventough in parenthasis and not included in calculation but you state it that Greek borrowing is financed by not spending somewhere else as a fact.
    Greek borrowing is an adition to demand but since globalization provides almost perfect elasticity of supply it can be discounted as upward price preassure.

    There are negligable effects of consistent high levels of borrowing on demand long term and huge efects from sudden change in borrowing levels in short term
    Rate of change of debt is what matters not levels. The world is a dynamic place not static.
    And all this doesnt change your conclusion that greek economy was a decent one.

    The growth of debt was mainly due to dependent monetary policy where greek central bank kept increased interest rates on private borrowing comparing it to german interest rates to stifle the availability of credit from foreign banks in order to curb inflation. When crisis hit they increased intereat rate for state and private borrowing which is opposite of what independent CB does in recession. Independent of fixed exchange rate and a single currency.(not as in independent of a government which is not important at all to economy. A CB has to be independent of fixed exchange rate so that does not have to raise rates in recession which is procyclical. But only 5 CBs are realy independent, all are former empires that keep colonizing by forcing fixed exchange rate i.e. by trading with other countries only in empires currency)

  2. I think that if you have a model where the deficit cannot create a large increase in output relative to "potential", then it probably cannot be the cause of a large downward deviation.

    My own guess is that the economy was working well above potential--real estate overvaluations and greek spending on health and education increased production in these areas over the 2000-2000 period, that were unsustainable once you moved the deficit down from 7 percent of "inflated " GDP to a sustainable level.

    1. I'll confess: I have a hard time wrapping my head around the concept of an economy producing real output above its "potential." I can see how public spending can move demand between sectors, with productive capacity following obediently behind it. I can see how "excessive" demand can cause price inflation. But I'm at a loss to understand how a government deficit could summon "unreal" real productive capacity from the vasty deep, to which it must return upon a change in fiscal policy.

      Now, I get that this puts me in the minority; even Olivier Blanchard has alluded to "[o]utput above potential" in Greece. So, (a) I may be misunderstanding what people use those words to mean or (b) I may simply be wrong. I'm open to being educated on this point.

      But at the moment, I'm just not seeing it.

  3. Good post. Doing a back of the envelope to see how big the effect is seems the right thing to do.

    I will give it some thought (it's too early here yet).

  4. Is this Varoufakis? There is too much insight to be almost anyone else, and the timing of the blog's startup seems too coincidental. Perhaps this is obvious to everyone.. Anyway, really interesting stuff, but I guess I wonder: Why limit your influence by being anonymous?

    1. Well that's...unexpected! Thank you for your kind words, but no, I'm not him (or anyone else very interesting). For what it's worth, Yanis Varoufakis does have a blog at