Tax hikes are no reform

Greece finds itself in a difficult situation since it has to cope with the economic crisis, the refugee and migrant flows and is among the countries that stand to lose a lot from the recent terrorist attacks in Brussels. Although it is likely to win the “battle” of the first evaluation of the bailout program, it runs the risk of losing the war for sustainable economic growth in the medium-to-long-term.

Greece stands to lose a lot from the recent, tragic events in Brussels if the countries in northern Europe, which are the primary destination for refugees and economic migrants, become more introvert. This is more likely if the general public becomes more receptive to the messages of politicians and others, linking immigration to Islamic terrorism.

With some 50,000 immigrants and refugees stuck in the country and perhaps more to arrive in coming weeks and months, Greece will find it more difficult to relocate them to northern countries under these circumstances. Although financial assistance from the European Union is forthcoming, the logistics and management of the refugees will be a great challenge for the state apparatus which is widely regarded as inefficient.

If the terrorist attacks also have a negative impact on traveling and tourism in Europe, this could also weigh in Greece whose local economy depends considerably on the tourism industry. Even prior to the events in Brussels, tourism officials had warned repeatedly about the damage done to the country’s image abroad from the scenes in the refugee camp at Idomeni, northern Greece. However, they also cautiously projected a rise in international arrivals to a new record high in 2016.

All this comes at a time the creditors and the Greek authorities are trying to iron out their differences on the remaining issues to conclude the first review of the program agreed last August. In what many perceived as another encouraging sign, German finance minister Wolfgang Schaeuble told Reuters: “If, for reasons that we know about, there is not much room for maneuver in pension reforms, then the three institutions must, together with the Greek government, work on finding something else to do instead.”

Essentially, Schaeuble hinted that an increase in social security contributions demanded by the government but opposed by the IMF should be accepted to spare some pension cuts. According to a number of analysts, this statement shows the kind of political pressure the German authorities are under, following the events in Belgium and the domestic resistance to further refugee flows. But increasing the social security contributions will have a negative effect on employment, productivity and Greece’s potential gross domestic product (GDP) growth rate.

This is more so when the fiscal adjustment, barring pension reform, required to attain the primary surplus target of 3.5 percent of GDP in 2018 seems to come from the revenue side. Government officials admit in private that even the only real spending cuts in the 2016 budget are at risk since the leader of the right-wing, populist Independent Greeks (ANEL) and defense minister Panos Kammenos is against them: The budget projects savings of 500 million from the defense ministry.

Undoubtedly, the international lenders are primarily concerned about recouping a good deal of the money lent to Greece since 2010. Therefore, perhaps, the mix of spending cuts and taxes makes little difference to them as long as the primary budget targets are met. This is more so since the leftist-dominated government favors taxes and opposes cuts in state expenditures. But the history of the first Greek bailout 2010-2011 should have taught everybody a lesson about the dangers of a significant rise in tax and social security contributions. It is erroneous to present such a package of measures as a reform. At best, it only serves the short-term interests of the lenders, but not their medium-term ones because the measures will weaken the economy’s potential to grow.

Of course, the German finance minister also said that boosting competitiveness and implementing structural reforms are more urgent tasks than debt relief. It is true structural reforms, by definition, aim at improving the competitiveness of the Greek economy and lowering the long-term, structural rate of unemployment. However, ones gets to the long-term via several episodes of the short-term and increasing the tax burden is not the best way.

It is reminded the Greek economy contracted by about 25 percent from 2008 through 2015, with the sole exception of 2014, while the unemployment rate shot up to more than 27 percent before settling at around 24.4 percent at the end of last year. Although a good deal of the increase in the unemployment rate is due to the cyclical downturn, it is clear it has become structural to a large extent in its consequences.

The protracted period of negative growth rates has caused a decline in human and fixed physical capital, in turn undermining the economy’s growth potential in the medium-to-long term. It is called “hysteresis” in economics. This is bound to be aggravated by the new package of fiscal interventions, made up mostly of hikes in taxes and social security contributions, on which the two sides seem to converge and some, ironically, call reforms. In addition to its adverse impact on economic output, this kind of package will worsen the acute demographic problem, resulting in fewer births and providing more incentives to young and other talented people to leave the country.

There is no doubt, the European Union and Greece in particular are living in challenging times with immigration, terrorism and economic crisis at interplay.  However, this does not justify decisions in the Greek bailout program that all sides may come to regret later on.

[Kathimerini English Edition]