While Greece certainly did spend its way into chaos, the current view of the Greek economy is incredibly misplaced. Greece has the potential for growth.
Greece by the Numbers
First, it’s important to note that Greece has cut its spending considerably. In 2010, Greece’s government spending was €117.7B while its revenue was only €92.74B [1]. With a GDP of €329.86B [2], that €24.96B shortfall was 7.57% of GDP. As of 2014 government spending dropped to €82.92B while revenue dropped to €78.08B [1]. Even with 25% unemployment and a GDP of only €241.72B [2], or 24.7% lower than what it was in 2010, the shortfall represents a mere 2% of GDP.
Update (7/7/2015): Correction made to GDP figure for 2010.
Full Production
What would happen if Greece was able to return to full production and did so without increasing spending? Greece’s productivity actually peaked in 2009, but for a buffer, let’s assume that 2010 was the peak. Likewise, spending is expected to drop further in 2015, but let’s assume that 2014 is the lowest rate of spending. With a return to full production, revenue to the Greek government would return to roughly €92.74B and yet spending would only be €82.92B That’s a €9.82B surplus! Of course, even without reaching full production, the deficit can be closed simply by obtaining a 2% growth in GDP.
Monetary Policy
But what caused the drop in GDP? Keynesian economics would argue that it was a reduction in government spending that led to a decrease in production. But let’s consider a factor that I excluded when discussing the numbers above: inflation. Currently Greece’s inflation rate has been dropping for years and the nation is currently experiencing negative inflation (deflation). Deflation and unemployment go hand in hand. So if the inflation rate was dropping into the negative range and such deflation results in an increase in unemployment, why didn’t Greece do something about it? It couldn’t. Greece has no control of its monetary policy, so it couldn’t expand the money supply in order to keep prices stable.
Solution: Grexit
The solution for Greece is going to be a painful one, but possibly one that they’re willing to accept given the results of the referendum today (July 5th, 2015). If Greece leaves the EU, it will gain full control over its monetary policy. Of course, this will mean essentially a complete default on debt, making it almost impossible for Greece to obtain debt for quite a few years. In addition, the new currency is going to be very weak. But without this solution, the problem will just get worse, and by the time there is absolutely no choice, the results will be far worse.
Two Currencies
There is an alternative that might work. That solution, suggested by a few different groups [3], would be to bring back the Greek drachma without getting rid of the euro. In other words, Greece would become a dual currency nation. This system could also be used as a way to transition from the euro to the drachma without as much pain.
Exports
A weak currency isn’t all bad. While imports are going to become increasingly expensive, a weak currency means that other nations are going to be more likely to purchase exports from Greece. This would lead to an increase in domestic production, which is exactly what Greece needs right now.
Austerity
I focused on monetary policy, but clearly fiscal policy didn’t help. Greece spent, and spent, and spent. And then when it couldn’t spend any more, it asked for more loans so that it could. It wasn’t sustainable. It won’t be sustainable, even if Greece has control of own monetary policy. This is the one concern that I have for Greece. If Greece goes back to its old ways and starts spending out of control again, that surplus, which could be given back to the people through tax cuts, will disappear, and Greece will once again be piling up debt. Only this time, it’s unlikely that anyone would be willing to involve themselves with Greece’s credit market.
Greeks are not Lazy
Rather than ending this discussion on an economic note, I want to end it by pointing out that there are certain people who simply do not know what they are talking about when they call Greeks lazy. And yes; this does happen. It comes from the idea that Greeks can retire earlier than Americans and their pension packages. However, the reality is that while the average age of retirement in Greece was 61.9 as opposed to 62.1 in Germany (as of 2012) [4], Greeks also work longer hours. In fact, the average number of hours worked a week, as of 2012, in Greece was 42 as opposed to just 35.3 in Germany [5].
Updates
Update (7/13/2015): Tsipras has agreed to further austerity measures rather than admit that it’s time for Greece to leave the union. Some of these measures would be beneficial to the Greek economy. These include further spending cuts and privatization of some of Greece’s industry.
However, it also calls for raising tax revenue, which the EU somehow thinks it can accomplish by raising the tax rate in Greece even higher. To make it clear why this is not the case, Greece’s tax rate is already so high that a large number of people evade taxes.
Based on this news, and assuming that Tsipras can manage to convince his government to agree to these measures, I expect Greece’s GDP to continue to fall and its unemployment rate to rise.