Readers Question: Greece has a current account deficit of almost 14% (!) of GDP and Greece is a member of the EU. How can it resolve the problem if it cannot devalue the currency ( the quick way out, which was used in the past when the greek drachma was around) and when productivity is so low and consumer spending is holding up due to EU money/subsidies and “black” money? Are we in for a crisis and if so what does it mean for the EU?
It is a good question.(see also: Irish economy facing recession)
Source: OECD Statistics (2010)
The other big problem facing Greece is a large public sector deficit. In 2007, it stood at 94% of GDP. (twice the size of the UK’s national debt) The size of the national debt is now starting to put off international investors. The bond yield on Greek debt is increasing. This means investors demand a higher interest rate to compensate for the decreased credit worthiness of the Greek economy. This is important because if Greece credit worthiness decreases, then it will be more difficult to attract capital flows to buy Greek government debt.
How To Reduce Current Account Deficit?
As you mention usually, a large deficit like the Greek current account deficit, would typically cause a devaluation in the exchange rate. However, that cannot occur because Greece is in the Euro which has retained its strength. It means that Greek goods are relatively more expensive (Greece used to be an attractive option for British tourists, but, now Greece is becoming quite expensive)
1. Lower Consumer spending. The main factor which will reduce the current account deficit in the forthcoming years is lower consumer spending. This will mean demand for imports will have to fall as their is insufficient income to buy it. This is likely to lead to economic stagnation.
2. Improved Competitiveness. The decline in demand for exports may force Greek firms to become more efficient. But, this is uncertain and it may take quite a while.
What does it mean for the EU?
The ECB is likely to perserve with monetary policy which is right for the core of the Eurozone – Germany, France, Netherlands. However, the fringe Eurozone members like Greece, Spain and Ireland may struggle with strong euro and relatively high interest rates. The spread in bond yields already highlights the difficulties the eurozone may face.
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Thank you very for your prompt answer. Brilliant blog by the way.
The problem with the Greek economy is deeper that economics. Greece as a country may be poor but your average Greek has a standard of living much higher than your average european. How can this be possible? The reason behind it is because several previous generation of politicians and citizens have failed to plan for the future of country although they have been very diligent in planing for their own future and their own financial security. Now those that will pay for their idiocy are their children. But then this may be the best thing to happen for the good of the country.
there is a similar explanation here: http://visnumerorum.wordpress.com/
Since its entry into the Eurozone in 2001 Greece has been drifting into the strong currents of river euro to its downfall. The river cannot be turned back. Here and now, Greece must exit this river and return to the calm waters of its own drachma that has carried Greece gloriously over the centuries. After all the drachma was invented by the ancient greeks and the modern greeks will be better off to listen to their ancestors and not to the German sirens that have become now the skylla and xarubdis of the IMF and the Eurofin.
In my opinion this isn’t going to work out for the Euro-Zone. The countries have made a huge mistake when choosing for one currency.
You can not have one currency, If all countries in the Euro-Zone keep there own governments.
Now every government/country has to be successfull to push the Euro up. Which is impossible, so the weaker countries will always pull the strong countries down.
If you have 1 currency you need ONE central government and one monetary pollicy. You would have to have a set up like the USA. 1 president leading all the separate states.
THe issue that countries can not print more of their currency to solve or help with their deficit problem is showing now that it is a economical fatality.