This guest post is by Carlo Bastasin, a visiting fellow at the Peterson Institute for International Economics. An economist and a journalist, Carlo is a leading commentator for the Italian daily Il Sole-24 Ore and for German newspapers. He reacts here to recent proposals that Greece should bring in the IMF.
The Greek crisis has at least two different dimensions. One is a fiscal deficit, aggravated by Athens’ mismanagement and deception; the other is the protracted loss of competitiveness, especially within the Eurozone, leading to a large current account deficit.
The IMF can be very effective in tackling the problems of solvency and liquidity arising from the fiscal emergency – and it has probably more expertise than the European Union (EU) or the European Central Bank (ECB) in this regard. But the Fund is much less able to address the problem of restoring equilibrium in current account balances within the Eurozone.
Unfortunately these two problems must be solved together. The Greek fiscal deficit and the loss of competitiveness are connected, because a current account deficit (i.e., imports above exports, implying a deficit in net total domestic savings, otherwise known as importing capital) will make it much more difficult for the Greek government to raise taxes to cover its public deficit. The financial equilibrium of the country is exposed to a sudden increase in risk aversion by foreign investors – this is when they would run for the doors, e.g., if taxes increase.
Classic answers to the loss of competitiveness are also problematic. Lowering wages can be useful to restore an efficient cost structure but may also be destabilizing in the short term, because this would reduce tax revenues and thereby affect severely the public fiscal deficit.
Healing the current account problem by reducing Greek domestic demand relative to the demand of the trade partners (mainly countries of the Eurozone) can transform the trade problem (and the debt refinancing problem) into a structural debt sustainability trap – if Greece’s growth prospects are more limited, its existing debt burden is more onerous. This can only be avoided if domestic demand in Greece’s trade partners increases sufficiently.
In other words, the Greek problem is a mirror image of the “hidden” German problem — too low domestic demand and trade competition based on lowering labor costs in Germany. You cannot imagine really solving the Greek imbalance without – at least somewhat – correcting the German imbalance.
This is not a problem that the IMF can address. It is not conceivable that in any intervention on Greece, the IMF would turn its “conditionality” to Germany, i.e., asking it to change its trade practices and its social model.
We face a problem of policy coordination within the Eurozone. And this must be resolved collectively – through shared governance mechanisms.
It will need to be an extremely delicate set of policy changes. Correcting the German imbalances cannot be allowed to damage the successful – but socially very painful – recovery in productivity that Berlin was able to stage in the last seven years.
Probably there is no other way than accepting the political task that the Eurogroup will have to face. Policy coordination needs to reach down to the root of the social model – the relation between Capital and Labor, the holy grail of national political consensus – and move it to the level of governments sharing the euro (i.e., the Eurogroup level).