“Greece is on the right track” … Federal Finance Minister Schäuble denies reality

This is the (updated) translation of an article that was issued February 18, 2015 on flassbeck-economics. We intend to publish one article in English every week to allow more readers to follow closely our analysis of global and European events.

Last Monday, shortly before the start of the negotiations between the European finance ministers and the Greek delegation, German Finance Minister Wolfgang Schäuble gave his view of the situation in an interview with Deutschlandfunk (the German radio). Remarkably, this interview shows that Wolfgang Schäuble’s perception of the Greek reality is fundamentally distorted: “Greece … (has to continue) upon the path that will gradually restore a competitive economy…. Greece has been on the right track and must continue along the policies that it has followed during these last years, unemployment has to decrease, the Greek economy has to rebound and work well again. If they follow this track, they will succeed …“ After the Monday evening negotiations failed, Schäuble noted another problem (in Spiegel-Online): “None of my colleagues understands what the Greeks really want… The crucial issue is, and remains, that Greece has to decide whether it really wants this program or not.“

If it were true that the Greek economy was recovering, that Greece was on its way up again, that unemployment was really going down (and not only in the statistics) and that living conditions of people in Greece were indeed finally improving, then Schäuble may have had a valid point. His insistence that Greece has to fulfil its obligations and continue to abide to the austerity program set out in the memoranda would make perfect sense. But Schäuble is wrong from the outset. The consequences of the austerity measures that have been in force for the last four and a half years are almost the complete opposite of what the German Finance Minister believes, or wishes us to believe, they are. His appraisal of Greek reality could hardly be further from the truth.

The picture is not difficult to comprehend. Between 2005 and early 2008, the Greek economy performed remarkably well, as the growth of real gross domestic product (GDP) shows (see figure 1). Indeed, between 2005 and early 2008, Greek GDP followed the evolution of German GDP. The problems started with the global slump in the wake of the financial crisis of 2008. It was only then that the Greek economy really ran into trouble. It went downhill much faster than the German economy and never recovered. Germany managed to turn around quickly (in early 2009), because total demand was supported by a deficit-financed governmental stimulus program. Greece, on the other hand, at the time was already struggling with a very high government deficit and with high public debt and large current account deficits. Therefore, it sank deeper into crisis. Unlike Germany, the Greek government simply did not have the means to implement measures to stimulate the economy, so Greek economic output continued to fall. By the spring of 2010, Greece had lost 10 per cent of its aggregate income compared to pre-crisis level, and it was cut off from capital markets because of prohibitively high interest rates on Greek debt. Greece’s lack of international competitiveness and its high foreign debt lowered the creditworthiness of private and public debtors.

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Figure 1: Economic Development in Greece and in Germany since 2005.

It is in this context that the “rescue“ of Greece by the Troika took place. The administered medicine was to a large degree of German origin. In May 2010, Greece signed the first Memorandum of Understanding and acquired funds necessary to maintain its solvency. However, the medicine proved to be a toxic mix. Between May 2010 and December 2013, total economic output and real average incomes fell by nearly 20 per cent. As the latest indicators show, the situation did not improve up to the end of 2014 either.

Comparing these economic data from Germany and from Greece since the start of the European Monetary Union (EMU), an even bleaker picture emerges of what the “rescue“ accomplished (see figure 2). Figure 2 shows that Greece had been very successful in terms of growth until 2008. It also shows how great the devastation became in following years and, equally crucial, when exactly the tragic downfall occurred. Since the beginning of the „assistance” from the Troika, Greek GDP fell by about 30 per cent. As we have repeatedly pointed out, this decline is equal to the one in the United States during the Great Depression of the thirties of the last century. No European country ever went through such an ordeal in peacetime.

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Figure 2: Economic Development in Greece and in Germany since 1999.

Figure 3 shows that, even compared to the other crisis countries of Southern Europe, the Greek decline was spectacular. Spain, which was at a similar level as Greece before the crisis, lost 10 per cent of GDP – also creating a real avalanche of human tragedies. However almost beyond belief, Greece lost a full 30 % of its GDP. Italy and Portugal also regressed, but from a very low level to start with, and they also lost much less of their GDP than Greece.

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Figure 3: Economic Development of Several EMU Countries.

The clear and undeniable truth is that the „right track“ that the „saviours“ forced upon Greece led to an unprecedented disaster. This is, of course, the point that Wolfgang Schäuble, and with him many other politicians, refuse to admit or even contemplate. They are in complete denial. In their view, the Greek economy was already performing poorly before the outbreak of the crisis in 2008. To them, it is certainly not the “rescue package“ of the Troika that to caused the enormous downturn in Greece or even to exacerbate it. This point of view is found in almost every newspaper in the world these days, with three main arguments to support it. We comment on each of them below. It turns out that the first two are plain wrong. The third argument that deals with the Greek deficit is indeed valid, but it is wrong to blame Greece as it is not solely responsible for the deficit. What is more, it is not anything that the Greeks are able to solve on their own.

First argument: the Greek economy performed poorly because of widespread corruption.

Widespread corruption is indeed reprehensible, but it occurs in many countries that nonetheless seem to have no problems in obtaining adequate liquidity from the international capital markets. As long as a country achieves a trade surplus this is never a problem, corruption or not. China and Germany can be given as examples (please consider the Siemens bribery scandal in Germany before contemplating indignation). If countries can be economically successful despite relatively high levels of corruption, it is simply impossible that the mere existence of widespread corruption in Greece caused a crash in economic output by 20 per cent of GDP in three years. Corruption did not abruptly increase in Greece from 2010 onwards. It was already there. It was there when then the Greek economy was booming without constituting an obstacle to growth. Corruption is not responsible for the crash of the Greek economy. It has nothing to do with it.

Second argument: the Greek economy performed poorly because of widespread tax evasion.

Tax evasion is probably an even greater ill than corruption, but even widespread tax evasion does not sink the economy of a country in a mere few years. Tax evasion cannot be responsible for the extreme downturn of the Greek economy because there is no reason to believe, or supporting data, that the problem of tax evasion worsened terribly after 2010. Tax evasion existed in Greece long before the financial crisis of 2008 broke out, by decades if not generations. Weak fiscal morality was more or less rampant during the years immediately prior to the crash, when the Greek economy was performing quite well. The same reasoning applies for other additional phenomena that are sometimes cited as causing, or contributing to, the Greek downfall, such as inadequate public administration, lack of land registry and inefficient state-owned enterprises. All these factors are indeed dysfunctional to a modern economy, but they do not constitute a valid explanation for the sharp and tragic downfall of the Greek economy.

Third argument: the Greeks lived above their means and their economy was not competitive.

According to Wolfgang Schäuble, this is Greece’s core problem. The problem of Greek competitiveness has indeed played an important role in the crash of the Greek economy and it continues to play to this day. What exactly is the problem? Indeed, the growth of demand was largely the result of wage increases. These increases exceeded productivity growth, so inflation rose. The Greeks heavily purchased consumer and investment goods abroad because they were cheaper than Greek products. Greece started to accumulate a large trade deficit. The undeniable fact that Greeks products became expensive and that the Greek economy was not competitive leads many to deduce that the Greeks lived above their means. But this is only part of the truth: if the Greeks lived above their means, it is also true that the Germans lived below theirs’.

It is only possible to consume more than you produce if what you consume comes from somewhere else where people consume less than they produce. There are no deficits without surpluses; there are no debtors without creditors. Competitiveness is relative: your competitiveness will only be “too low“ if the competitiveness of your trading partners is “too high.“ This was not supposed to happen within the European Union. Differences in productivity levels and the pace of productivity growth between the countries as such are no problem as long as wage levels and wage growth stays in line with the level and growth of productivity and both do not violate the inflation norm set by the ECB. Greece did not abide to this rule: wages rose faster than productivity, although not by much.

The real problem of the Eurozone, given its importance and its size, is Germany. Germany undercut its trading partners by putting enormous pressure on German wages and German wages were lagging behind productivity by a wide margin. That is the flip side of the crisis and its real driver, and something that Minister of Finance Schäuble is not willing to consider. Perhaps he does not even recognise it as a problem because it seems that for him the competitiveness of a country is an absolute and not a relative concept. That is why for him and many of his colleagues, higher surpluses in Germany never pose a problem to others and if other countries and the Eurozone as a whole cannot escape the longest recession in history that is due to their unwillingness to do what Germany has done.

The crux of the matter is that the only valid argument that Schäuble and others who think like him put forward, the problem of the Greek competitiveness, is a problem for which the Greeks are not solely responsible and that they cannot solve on their own. Greece has been trying very hard to close its competitiveness gap through a deflationary strategy. So far it has not succeeded and is still unable to compete with Germany. It is not possible for Greece to repay its debts as long as its economy cannot compete inside and outside the euro area with the German economy. Germany, on the other hand, has almost done nothing to curb its destructive path of “wage moderation” and violating the European inflation target. Without Germany correcting its track, no end to the crisis in Greece and the other countries, including France and Italy, is in sight.

The new Greek government was elected in order to end these disastrous economic policies. It was always clear that it was bound to happen. It is not possible to inflict such a burden of adjustment upon a people and expect that they will not react. The Greek people used the only democratic avenue available to them: they voted the old government out. In the meantime, it has become clear that politicians of the North will do everything it takes to sabotage SYRIZA. The finance ministers of the northern countries threw out the first compromise that had been worked out by the Commission during the negotiations in Brussels. The message to the new government was clear and straightforward: surrender! Even after the temporary compromise it is an open question whether they will seriously negotiate or compromise with a government from the left. SYRIZA failing would give a clear signal to the European electorate as a whole. This is a sad situation because the blindness towards the sufferings of the Greek people and the uncompromising political stand-off between the North and Greece threatens to implode the European Union.

„The Greek nyet must have consequences,“ CSU parliamentary deputy Hans Michelbach told the Handelsblatt. (It is a strange choice of words. Does he see the Greek government evolving in the direction of Moscow or does he suggest that Germany should improve its relationship with the Russians?) The European Central Bank (ECB) has to stick to its guns, he said. According to Michelbach, there is simply no other option than to cut off the money supply if Athens does not give in.

One really needs to wonder what this advice, if followed, would lead to. Is it Greece ending up under German financial and fiscal administration for the next hundred years? What will happen if the other crisis countries do not recover and their populations also revolt, as can only be expected? What will happen if democratic elections bring extreme right wing governments into power, governments that are much more radical and much less rational than SYRIZA? Will Europe then also cut off the money supply? Or imagine that developments in the capital markets after a forced exit of Greece (or any other country) from the monetary union run out of hand to such an extent that the European Central Bank is forced to massively intervene in order to prevent a breakup of the remaining monetary union and a subsequent devastating Europe-wide recession. What will shortsighted, politicians like Hans Michelbach then recommend?

Even more, one wonders about the position of the German Chancellor. During her mediation efforts in the Ukraine, did Angela Merkel consider that a much larger conflict with serious long-term consequences for Germany looms between the North and the South of Europe? When will Merkel take the side of reason and call to heel the cohorts of the right and the extreme right – people for whom democracy has little meaning beyond the opportunity to attain power? Once again, one has to ask, where are the Social Democrats? Is there really no one left in that party who has the courage to take a public stand against this madness? And indeed, where are the Greens, who emphasise repeatedly that they want to be good Europeans?

If things continue to evolve in this direction in the next couple of months, the Greek government may be confronted with the choice of taking the exit strategy and leaving the euro zone, which may mean potential shock and chaos for the whole of Europe or to bow to the dictates of Berlin and resign. Contrary to what many German politicians think, the second option would also create chaos and not only in Greece.

Why is it so hard to understand that the majority of the Greek people rightly refuse to abide to a “rescue program“ that has never worked and that never will, a series of policies that have caused enormous damage and will cause further damage? The continuation of this program is contrary to reason itself. This does not only concern Greece: the populations of several other countries also suffer from austerity and their economies are not recovering either. There is the real danger that, in countries like France and Italy, economic stagnation could give a tremendous boost to the radical anti-Europeans from the right of the political spectrum.

The bottom line is that the responsibility for the developments that we have reviewed lies mainly with Germany, which has refused, from the very beginning of the monetary union, to recognise and adhere to the basic rules of the European construction. Since then, Germany has been in collective denial that the main cause of the economic, political and social chaos that has been plaguing Europe for several years by now is its own unwillingness to comply with the rules. Getting Germany on the right track is long overdue.

Transl. W. Denayer

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