Most people believe that the significant deterioration in the Greek balance of payments after the introduction of the Euro is a clear sign of the fall in Greek competitiveness and of unsustainable private debt expansion dynamics. It is assumed that the Greek economy was not able to provide the global market with goods and services of a sufficient quality and competitive price while the large expansion of domestic demand (due to significant private credit flows) expanded imports with a rate that led to a large increase in the goods deficit.
Although there is some truth in the above statement, a closer look at the detailed balance of payments data (from BoG) reveals some very interesting facts. The actual balance of payments figure deteriorated significantly from a deficit of €11bn in 2002 to €36.5bn in 2008 all while nominal GDP expanded by 50% in the corresponding time period.
Yet imports and exports of goods excluding oil & ships expanded with the same rate (although at a rate higher than nominal GDP which suggests that private credit flows did play a role). What made the corresponding deficit increase by around €10bn was the fact that exports are only 34-36% of imports although that ratio remained relatively steady throughout that period:
The actual increase in the balance of payments deficit can be attributed to 3 factors:
- An increase in the oil balance deficit which more than doubled by 2008.
- The ship balance moving from a surplus of €400mn to a deficit of more than €4.6bn in 2008 and
- A significant increase in the balance of investment income (mostly interest payments) from €2.3bn in 2002 to €10.6bn during 2008
The first factor can mostly by attributed to a large increase in global oil prices during that period, especially denominated in Euros. By 2008, global Euro oil price had increased 150% compared to 2002 while the Greek oil balance deficit had expanded by a comparable 170%.
The swing of the ship balance to a large deficit is most probably accounted by a corresponding increase in ship building/purchases investment by Greek ship companies. This was a period of large global trade growth with the Baltic Dry Index reaching new highs. The reasonable assumption was that these large investments would quickly translate into increased shipping payments that would be used to finance the initial outflows and (also) lower the current account deficit through a higher services surplus.
As for the investment income deficit this is mostly the outcome of stock-flow adjustment and monetary policy. Each year’s current account deficit added to an increase of Greek foreign net liabilities and to larger net interest payments in a semi-automatic way. Moreover, the increase in short-term interest rates by the ECB after 2005 made servicing the same amount of net liabilities even more expensive which is one of the reasons why the investment income deficit expanded more rapidly during 2006 – 2008.
If we assume that the sum of the Balance of Goods excluding oil & ships and the balance of services can be regarded as the most representative metric for the Greek external sector and competitiveness we observe that this deficit expanded by only €4.5bn during 2002 – 2008. The bulk of the balance of payments deficit expansion can be accounted by oil, ships and investment income. In other words, global factors (oil prices, expansion of trade and the shipping industry, ECB monetary policy) as well as the automatic effect of flows on stocks were the main drivers of the Greek external deficit.
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18 Σεπτεμβρίου, 2017 στις 07:48
Klaus Kastner
A key observation in this (good) article is the export/import coverage of less than 40%. That has got to be among the world’s worst export/import coverage ratios and it points to the real (and ‘eternal’) problem of the Greek economy: Greece simply does not produce enough of the products which it consumes. Income from services (i. e. tourism) covers up for that shortfall but that is no long-term solution. Stable and sustained employment is more in manufacturing than in tourism.
One can analyze the situation at least in two different ways: (a) what has been and/or (b) what could have been?
Prior to 1981, Greece always had a ‘natural good-conduct-compass’: the availability of foreign funding. First the Marshall Plan funding, then the guest workers’ remittances and, finally, the EU subsidies and debt. By joining the EU, that natural compass went out the door: the subsidies began flowing and Greece’s perceived creditworthiness increased so that more debt flowed into the country. The economic water level rose and all economic variables with it. Greek living standards began outpacing Greek economic value creation. Most of today’s industrial cemeteries had been industrial parks until the 1980s and 1990s. Still, the local currency and its devaluation risk continued to be a form of a ‘natural brake’ which went out the door with the Euro. The bad developments began after 1981 and the Euro was only a turbo.
The origin of today’s Greek misery is the accelerated foreign funding starting after 981 and exploding after the Euro. Without that, the BoP imbalances could not have occurred (no surplus in finance account, no deficit in current account). But even excess in foreign funding does not have to be a problem per se. The question is always: to what use is the funding put? If it is used wisely, economic sustained economic growth will occur. If not, you get today’s Greek misery.
18 Σεπτεμβρίου, 2017 στις 09:55
kkalev
Very nice comment. One major advantage of relying on tourism for employment/service exports is the fact that capital requirements are minimum while employment is regional. As a result, a country can participate in the tourism market (and maintain its share) much easier than participating in the global product market/value chains. Moreover, market power is much easier to acquire and maintain in the tourism sector, as long as a minimum of private and public investment (in basic infrastructures) is performed on an annual basis. On the other hand, only manufacturing allows for quick gains in productivity and scale effects.
A comment about external financing: Eurozone provides for automatic financing of external deficits through the use of Target2. The actual mix of liabilities in the NIIP will mainly be the result of portfolio choices by the RoW. As a result, the casual chain of events starts from internal bank loan financing, not capital inflows.
19 Σεπτεμβρίου, 2017 στις 20:24
Klaus Kastner
Good for you that you mentioned the last point!!! I had forgotten to point to it. Target2 is a feature which every emerging country is envying members of the Eurozone for. When an emerging country hits a cross-border payments crisis, the first thing that needs to be run down is imports. Thanks to Target2, Greek consumers – long after the sudden stop had occurred – could continue to buy imported goods like there was no tomorrow (and Greek depositors could transfer money abroad without limitation). When Greeks ask me what benefits they had from belonging to the Eurozone, I answer: Target2 and ELA. Without these two, Greece would be in shambles today.
Still, Target2 only becomes an issue when the crisis is already in the making and when foreign lenders run down their voluntary funding of Greek banks. That’s why Target2 was really not an issue for Greece until 2008 or so. So until foreign lenders began running down their Greek exposures in mid/late 2008, the traditional chain of events also applied to Greece: voluntary foreign lending was the driver of everything and, regrettably, foreign lenders made poor lending decisions and Greece as a borrower made poor spending decisions.
20 Σεπτεμβρίου, 2017 στις 10:55
kkalev
My point is that the source of financing of Greek domestic private credit flows was quite different from the RoW portfolio choices that ultimately show up in the financial account.
Greek households/firms financed their credit expansion through Greek bank loans with a large part «leaking» in the trade deficit. Initially these (international) transactions were financed through Target2. Yet the RoW had a large appetite for Greek government bonds which led to substantial capital inflows to acquire them.
As a result, Greek RoW liabilities were mainly in the form of government securities although external deficits were mainly financed through internal private credit flows.
See here for an older post on the subject.