By Rishi Goyal, Advisor in the IMF's European Department
Athens, July 9, 2014
Athens, July 9, 2014
Thank you for the opportunity to be with you today. Poul Thomsen
sends his deep regrets. He is unable to join, owing to urgent work that
came up in Washington, D.C.
I will organize my remarks as follows: I will first take stock of how
far Greece has come; and then highlight three key policy priorities or
challenges: in the fiscal, structural reform, and financial areas.
Starting with the stocktaking—Greece has come a long way since the crisis started.
As you recall, the fiscal deficit was in the double digits at the
time. Market access was lost. In mid-2012, when the current coalition
government took office, there were widespread doubts about Greece’s
future in the euro zone. Deposits were leaving the banking system in
droves. The economy was collapsing.
But the government’s determined policy actions since then have taken
“Grexit” off the table. And we are now seeing initial signs of economic
stabilization, with the potential start of a virtuous cycle. The economy
contracted by its smallest amount in six years in the first quarter of
2014. Unemployment has declined slightly in recent months, though
remains very high at around 27 percent. The government re-accessed
markets for the first time since the crisis, and yields are down from
their stratospheric levels to pre-crisis levels. With rising investor
interest, market access for Greek banks and corporates has improved
faster than anticipated. Deposits in the banking system have broadly
stabilized, and banks have dramatically reduced their reliance on the
Eurosystem for funding.
These developments suggest grounds for cautious optimism. We expect
annual growth to turn positive in 2014, for the first time since 2007.
Also, for the first time since the crisis, there are even signs of
upside risk in the near term to the growth forecast, especially as
external liquidity conditions ease and tourism rebounds.
Turning to fiscal policy, which is the first of three policy priorities that I will highlight:
The lynchpin of the authorities’ program thus far has been their
fiscal adjustment. Greece has emerged from having the weakest to the
strongest cyclically-adjusted fiscal balance in the euro zone in just
four years, and with a primary fiscal surplus ahead of schedule. This is
extraordinary by any international comparison, and speaks above all to
the government’s determination to pull Greece out of the crisis.
As the government fully recognizes, the process of adjustment is not over. There is still some way to go to achieve the rising primary surplus path, reaching 4½ percent of GDP by 2016, and then to sustain primary surpluses above 4 percent of GDP for many years that will be key to bring down the very high level of public debt over the medium and long term.
Sustaining primary surpluses above 4 percent of GDP may seem
daunting. In fact, there are 16 episodes among euro zone countries since
1980 of sustained primary surpluses of this level. On average, these
episodes lasted for seven years. The maximum period was around
20 years—by Belgium and Ireland. Greece in the late 1990s also sustained
such primary surpluses for four years. The challenge this time around
is not only to reach the program target by 2016 but also to sustain it
over the full political cycle for many years to come.
We agree that it is best to avoid painful across-the-board cuts in
wages and pensions. But this is also why it is imperative to undertake
ambitious fiscal structural reforms to build modern fiscal institutions
and to overhaul the inefficient public sector. This includes enhancing
the effectiveness of tax administration, where progress has lagged, so
that everyone pays their fair share of taxes.
The second policy priority is on structural reforms of product and
labor markets, where progress has been comparatively less. Accelerating
structural reforms would boost productivity and competitiveness, lay the
ground for the ongoing incipient recovery to turn to sustained and
robust growth, and move Greece away from adjustment through recessionary
channels.
The landmark labor market reforms of 2012 helped to bring wages
closer in line with productivity. But product prices have not declined
commensurately. Thus, competitiveness gains have been small if one looks
at product prices as opposed to unit labor costs. The recovery of Greek
exports has been notably weak relative to other “peripheral” euro area
economies such as Portugal or Spain. Exports from Greece have grown by
only about 1/3rd the growth rates of Portugal and Spain since the trough
of 2009-10. Excluding tourism and oil, the recovery of exports has been
even less over the same period....
The government is cognizant of this and is redoubling efforts to
liberalize product and service markets—e.g., to lower barriers to entry
for establishing new businesses, transform investment licensing to make
the framework more business friendly, and open regulated professions to
lower the cost of services. Moreover, the government’s commitment to
address remaining excessive restrictions in the labor markets, by
bringing Greece’s framework on collective dismissals and the rules on
strikes (that have been extreme outliers in the EU) in line with the
best practice in the EU, should lower the cost of doing business and
thus contribute to more investment, growth, and jobs. The structural
reform agenda is quite comprehensive. Timely implementation will be key.
The third area that I would highlight is the financial sector. In
transitioning to a new, dynamic growth model, the financial sector can
play a critical role—reallocating needed liquidity to growing and
efficient firms and sectors. Here, the challenge is to ensure banks are
adequately capitalized so that they are in a position to extend credit
to dynamic firms and sectors, and not to be stuck in a prolonged slow
“Japan-style” deleveraging.
After six years of recession, ongoing deflation, rising tax burdens
and shrinking credit, private sector balance sheets are severely
strained. The payment culture has been weakened. And the insolvency
framework has been unable to deal with either the rehabilitation of
viable entities or the liquidation of non-viable entities. The strains
are evident in the very high nonperforming loans—over 40 percent of
loans, including restructured loans that have been shown to have a very
high rate of becoming nonperforming again.
To be clear, this is not an acute stability problem. Banks currently
exceed prudential solvency requirements, having successfully raised
around €8½ billion in capital recently.
However, we are concerned that, unless resolved upfront, resources
will remain trapped in unproductive or inefficient activities and thus
dampen growth. Given the constraints of currency union and the
structural impediments to growth, it would be optimistic to assume that
banks would simply grow their way out of the NPL problem as the economy
recovers. In this regard, we see upside risk to the Bank of Greece’s
capital needs estimates and think that the banking sector will likely
require additional capital, if it is to deal robustly with high NPLs and
pave the way for economic recovery.
Developments in this area need to kept under close review. Unless
there is an early and substantial improvement, action should be taken to
ensure losses are recognized on the basis of realistic assumptions of
loan recovery, and banks have enough capital upfront to do so. Together
with planned reforms of the framework of private debt resolution, this
effort would ensure that the debt burden of households and businesses
are brought in line with their repayment capacity. It would also reduce
incentives, in view of the limited competition, for banks to seek to
repair their balance sheets by imposing excessive spreads and fees, and
thereby extracting rents from the real economy.
In conclusion, Greece has come a long way since the start of the
crisis. The fiscal adjustment has been particularly impressive. The key
challenge going forward is in the structural area—not least reforms of
product and service markets to boost competitiveness and fiscal
structural reforms. The government is fully cognizant of these
challenges, and remains strongly committed to delivering on their
program.
Thank you.
