Learning from the Greece crisis

Esther Ng'ethe.

Greece became the first developed country to default on an International Monetary Fund loan. Some of the factors that led to Greece having such a huge debt loan and its consequential default include:

  1. Trade and budget deficits

The 1999 introduction of the euro as a common currency reduced trade costs among the Eurozone countries, increasing overall trade volume. However, labour costs increased more in peripheral countries such as Greece relative to core countries such as Germany, making Greek exports less competitive. As a result, Greece saw its trade deficit rise significantly over the years. This meant that the country consumed more than its income resulting in borrowing from other countries.
Greece also suffered from a huge budget deficit. This meant that their expenses were more than the revenue raised. Huge fiscal imbalances developed during the six years from 2004 to 2009: "the output increased in nominal terms by 40%, while central government primary expenditures increased by 87% against an increase of only 31% in tax revenues. Years of accumulated debt led to Greek’s credit ratings being downgraded in December 2009. Consequently, higher interest rates were to be charged on the loans that Greece took.
Both the Greek trade deficit and budget deficit rose from below 5% of Gross Domestic Product in 1999 to peak around 15% of GDP in the 2008–2009 periods.

  1. The Great Recession

As the Great Recession that began in the U.S. in 2007–2009 spread to Europe, the flow of funds from the European core countries to the periphery began to dry up. This was a period in which general economic decline was observed in the world markets. There was a sudden stop in private investment. There was also a 15% fall in revenue obtained from tourism and shipping which are the largest revenue earners in Greece. The Great Recession had adverse effects on the Greek economy.

  1. Incorrect reports on government debt levels and deficits

 In 2009, revelations that the previous data on government debt levels and deficits had been misreported by the Greek government were made. The government would alter the debt levels in order to be in a position to borrow more than it was possibly able to repay back at the time to finance its huge budget deficit. The need for a major and sudden upward revision of both the deficit and debt level for 2009, which was realized at a very late point, arose due to Greek authorities previously having published flawed estimates and statistics in 2009. 
Greece was now facing financial crisis. To resolve the issues at hand, the Greek government accepted a multi-billion dollar bail-out deal from the International Monetary Fund, the European Central Bank and the European Commission in 2010 followed by another in 2012, in order to stave off bankruptcy.
The bail-out came with conditions which the Greek government was to implement in order to be able to get back on its feet and be able to pay the loan dues. The austerity policies to be implemented so as to reduce the government budget deficits included spending cuts and tax increase. As a result of reducing expenditure, unemployment levels rose consequently increasing the safety net spending. This was because the Greeks had less money to spend. This led to a decrease in the amount of tax revenue collected.
A country facing a “sudden stop” in private investment and a high debt load typically allows its currency to depreciate (i.e., inflation) to encourage investment and to pay back the debt in cheaper currency, but this is not an option while Greece remains on the Euro. Instead, to become more competitive, Greek wages fell nearly 20% from mid-2010 to 2014, a form of deflation. This resulted in a significant reduction in income or GDP, resulting in a severe recession and a significant rise in the debt to GDP ratio. Unemployment has risen to nearly 25%, from below 10% in 2003.
Another major problem faced by the Greek government is an ineffective tax collection system. This means that less tax revenue is obtained as compared to what the tax revenue expected to be collected. Insufficient revenue is obtained to service their loans.
Corruption is another vice affecting Greece. Altering the debt level is a form of corruption which greatly contributed to the current financial problem being experienced in Greece. This affected the interest rates charged on the loans given to the Greek government thus more interest is paid making the loans more expensive.

What we can learn;

Thought should be taken in preparation of the budget.

It’s important for the finance department in Kenya to put into consideration the amount of revenue raised countrywide while preparing the budget to avoid huge budget deficit that would force the country to borrow in order to finance the budget deficit.

  1. Eradicate unemployment and poverty.

Creating employment opportunities would mean that Kenyans have more money to spend and thus the government collects more value added tax revenue.
Promoting industrialisation would create employment opportunities. The country would also have a competitive advantage in the world market thus controlling the issue on trade deficit.

  1. Effective tax collection systems should be put in place

Most of the government revenue is raised through taxes. Having an effective tax collection system would therefore enable the government to maximise on tax collection.

  1. Eradicate corruption

If Kenyans pay a lot of tax which they do not see how it is utilized in the right ways, they would devise ways to evade paying taxes. This would therefore mean that the government would lose on revenue.
Corruption would also affect the risk free nature of government bonds resulting in high premium rates thus making the reimbursement quite expensive.
Corruption would also discourage private investment which would have negative effects on the Kenyan economy.

Esther Ng'ethe
The University of Nairobi.