Mismanagement of Fiscal

Policy: Greece’s
Achilles’Heel

Abinash Mishra
B23005

11/4/2023
1. Case Background
The Greek debt crisis is one of the most formidable and persistent economic challenges ever
confronted by a European Union member state. Since 2010, Greece has relied on three successive
bailout programs extended by its international creditors, collectively known as the troika, comprising
the International Monetary Fund (IMF), the European Central Bank (ECB), and the European
Commission. These bailouts, though indispensable, imposed stringent conditions that mandated
Greece to implement onerous austerity measures. These measures included severe spending cuts, tax
hikes, and structural reforms, all aimed at mitigating the nation's fiscal deficit and its burdensome debt
load.
Regrettably, the implementation of these austerity measures came at a substantial cost, as they exerted
a detrimental impact on the Greek economy. Between 2008 and 2016, Greece experienced a profound
economic contraction exceeding 25%, leading to soaring unemployment rates, increasing poverty, and
widespread social unrest. Furthermore, the bailouts ultimately proved inadequate in restoring Greece's
debt sustainability. Instead, the nation's debt-to-gross-domestic-product (GDP) ratio swelled from
127% in 2009 to an alarming 181% in 2016, rendering it the highest percentage in the Eurozone.
The divergence of viewpoints between the troika and the Greek government, notably exacerbated
following the election of the anti-austerity Syriza party in 2015, engendered recurrent tensions and
delays in the disbursement of bailout funds. This friction escalated the spectre of a Greek default and
raised concerns about the potential for Greece to exit the Eurozone.
In light of these pressing issues, the primary objective of this report is to comprehensively examine
the underlying causes and repercussions of the Greek debt crisis. It will critically evaluate the
effectiveness and constraints of the bailout programs that have shaped the nation's economic
landscape.

2. Three critical Issues and challenges discussed:

The three most critical issues observed during Greece’s mismanagement of fiscal policy
and overall burgeoning debt crisis are:

1. The high and unsustainable level of public debt exceeds 180 per cent of GDP and requires
large interest payments that consume a significant portion of the government’s revenues. This
debt burden limits the fiscal space for public investment and social spending and exposes
Greece to the risk of default and exit from the Eurozone.
2. The need for more competitiveness and productivity in the Greek economy, which suffers
from structural rigidities, inefficiencies, and corruption in the public and private sectors.
Greece has a narrow industrial base, a large and unproductive agricultural sector, and a
dominant service sector that relies on tourism and shipping. Greece also has a low level of
innovation, research and development, and human capital. These factors hamper Greece’s
ability to generate growth and exports and to attract foreign investment.
3. The social and political costs of implementing the austerity measures and reforms that the
international creditors require as a condition for the bailout loans. These measures include
cuts in public spending, increases in taxes, privatisation of state assets, and labour law
reforms. These measures have led to a deep recession, high unemployment, poverty, and
inequality, as well as widespread public discontent and resistance. These measures have also
 eroded the trust and legitimacy of the Greek government and the European institutions and
have fuelled the rise of populist and anti-establishment parties.

3. Case Analysis and Interpretation

Mismanagement of Fiscal Policy: Greece’s Achilles heel

Several factors contributed to the rise of Greece's debt-to-GDP ratio and its economic woes. The
leading causes can be summarised as follows:

1. Fiscal Profligacy: Greece's debt crisis can be attributed to a history of running substantial
budget deficits and accumulating public debt, particularly since the 1980s. Successive
governments pursued populist spending policies and failed to collect sufficient tax revenues.
Additionally, Greece misrepresented its fiscal data to enter the Eurozone and access cheap
credit from international markets. The 2008-2009 global financial crisis exposed the extent of
Greece's fiscal imbalances, leading to a loss of investor confidence and a sovereign debt
crisis.

2. Structural Rigidities: Greece's economy needs a more robust and narrower productive
base, with dominance by the public sector and low-value-added services. It needs more
competitiveness, innovation, investment, and productivity. The country faces corruption, tax
evasion, clientelism, and an inefficient bureaucracy. These structural problems hinder
Greece's ability to generate growth, create jobs, and implement reforms to improve its fiscal
and economic performance.

3. External Dependence: Greece heavily relies on external financing to fund its public debt
and current account deficits. This reliance makes it vulnerable to sudden changes in market
sentiment, interest rates, and the conditions imposed by international creditors. Greece's
membership in the Eurozone prevents it from devaluing its currency to boost exports or using
monetary policy to stimulate its economy. Instead, it must adhere to fiscal rules and targets set
by the European Union (EU) and the International Monetary Fund (IMF), often involving
harsh austerity measures with negative social and political consequences.

Regarding why investors were unwilling to bet on Greek bonds:

Investors hesitated to invest in Greek bonds due to perceived high risks of default or restructuring.
Although Greek bonds offered high yields, they also came with significant uncertainty and volatility.
The concerns included:
 1. Unsustainable Debt Level: Greece's debt-to-GDP ratio reached 181 per cent in 2016, one
of the highest in the world and the Eurozone. This raised doubts about Greece's ability to
service its debt obligations, especially given its low growth prospects and high-interest rates.

2. Lack of Credibility: Greece lost credibility in the eyes of investors and creditors when it
was revealed that it had falsified its fiscal data to gain entry into the Eurozone and access
bailout funds. The country also faced multiple credit rating downgrades, increasing borrowing
costs and reducing access to international markets. Greece's failure to fully comply with the
required fiscal and structural reforms in its bailout programs led to disputes and delays with
its lenders.

4. Political Instability: Greece experienced frequent changes in government and political

turmoil throughout the debt crisis. The rise of anti-austerity and anti-EU parties, such as
Syriza, heightened political uncertainty. Greece held several elections and referendums that
threatened its Eurozone membership and adherence to bailout terms, increasing the risk of a
disorderly default or a "Grexit" (Greece's exit from the Eurozone).

Critical evaluation of the effectiveness and constraints of the bailout

programs that have shaped the nation’s economic landscape
The bailout programs that Greece received from the Troika were intended to help the country avoid a
default and a possible exit from the euro while also restoring its fiscal sustainability and economic
competitiveness. However, the effectiveness of these programs has been widely debated and
criticised, both by the Greek government and the public, as well as by some international observers
and institutions.
One of the main criticisms of the bailout programs is that they imposed harsh and unrealistic austerity
measures on Greece, which had adverse effects on its economic and social conditions. The austerity
measures included spending cuts, tax increases, pension reforms, wage reductions, and privatisations,
which aimed to reduce the fiscal deficit and the debt-to-GDP ratio. However, these measures also
reduced the aggregate demand and income in the economy, leading to a deep and prolonged recession,
high unemployment, poverty, and social unrest. As reported by the International Monetary Fund
(IMF, Greece experienced the most significant cumulative output loss among advanced economies in
recent history, with a staggering 26% decline from 2009 to 2016. 1. The peak unemployment rate was
28% in 2013, which stayed above 20% until 2018. 2. The poverty rate rose from 20% in 2009 to 35%
in 20153. The public health system deteriorated, and the suicide rate increased by 35 per cent from
2010 to 2012.
Another criticism of the bailout programs is that they failed to address the structural problems and
imbalances that underlay the Greek debt crisis, such as the lack of competitiveness, productivity, and
innovation in the economy, the inefficiency and corruption in the public sector, the widespread tax
evasion and informality, and the rigidities and distortions in the labour and product markets. The
bailout programs required Greece to implement structural reforms in these areas. Still, the progress
could have been faster and more balanced, partly due to the political and social resistance and partly
due to the lack of technical and institutional capacity. According to the OECD, Greece still ranked
among the lowest performers in the EU in terms of the quality of its public administration, the ease of
doing business, the regulatory environment, and innovation performance in 2018. The World Bank
also noted that Greece had a significant gap in competitiveness and productivity compared to its peers
and that its export performance needed to be stronger and dependent on low-value-added sectors.
A third criticism of the bailout programs is that they did not provide sufficient debt relief and
financing for Greece, which hampered its recovery and market access. The bailout programs were
based on optimistic assumptions about the fiscal multipliers, the growth prospects, and the debt
sustainability of Greece, which proved to be wrong. The IMF admitted in 2013 that it had
underestimated the impact of austerity on the Greek economy and that the debt restructuring in 2012
should have been done earlier and more comprehensively. The Eurozone creditors, especially
Germany, were reluctant to grant more debt relief to Greece, fearing moral hazard and political
backlash. As a result, Greece remained highly indebted and dependent on official loans, which limited
its fiscal space and its ability to pursue growth-enhancing policies. The debt-to-GDP ratio of Greece
increased from 127 per cent in 2009 to 181 per cent in 2018. The high borrowing costs also
constrained the market access of Greece, the low credit ratings, and the uncertainty about its future in
the euro.

Macro-economic Theory/Tools used in case analysis

Some of the critical macroeconomic tools and concepts that were discussed or could be relevant for
case analysis include:
 Fiscal Policy: This refers to government spending and taxation influencing aggregate
demand, output, and economic employment. Fiscal policy can be expansionary (increasing
spending or reducing taxes) or contractionary (decreasing spending or raising taxes). The
passage shows how Greece’s fiscal policy was often expansionary and populist, leading to
significant and persistent budget deficits and public debt. The course also discusses the fiscal
consolidation and austerity measures that Greece had to implement as a condition for
receiving bailouts from the troika and the impact of these measures on the Greek economy
and society.
 Debt Sustainability: This refers to the ability of a country to service its debt obligations
without resorting to exceptional financing or debt relief. Debt sustainability depends on the
level and composition of debt, the growth rate of the economy, the interest rate on debt, the
primary balance (the difference between government revenues and non-interest expenditures),
and the exchange rate regime. The passage shows how Greece’s debt-to-GDP ratio rose to
unsustainable levels, exceeding 180 per cent, and how the troika and the IMF disagreed on the
appropriate debt relief and restructuring measures to restore Greece’s debt sustainability.
 Monetary Policy and Exchange rate regime: This refers to the use of money supply and
interest rates to influence the level of inflation, output, and employment in the economy.
Monetary policy can be expansionary (increasing money supply or reducing interest rates) or
contractionary (decreasing or raising interest rates). The exchange rate regime determines
how other currencies define the value of a country’s currency. The exchange rate regime can
be fixed (pegging the money to another currency or a basket of cash), flexible (allowing the
currency to fluctuate according to market forces), or intermediate (combining elements of
both fixed and flexible regimes). The passage shows how Greece’s monetary policy was often
accommodative and inflationary, leading to high and volatile inflation and interest rates. The
course also discusses how Greece’s adoption of the euro as its currency deprived it of the
ability to use monetary policy and exchange rate adjustments to cope with external shocks
and restore its competitiveness.
 Balance of Payment and Current Account: This refers to the record of a country’s
transactions with the rest of the world, including trade in goods and services, income flows,
and financial flows. The balance of payments consists of two main components: the current
account and the capital and financial account. The existing account measures the net flow of
 goods, services, and income, while the capital and financial account measures the net flow of
financial assets and liabilities. The current account balance can be positive (surplus) or
negative (deficit), indicating whether a country is a net lender or a net borrower from the rest
of the world. The passage shows how Greece’s current account balance was persistently
negative, reflecting its low export competitiveness, high import dependence, and low
domestic savings. The course also discusses how Greece’s current account deficit was
financed by large capital inflows, mainly external debt.
 Debt-to-GDP Ratio: The debt-to-GDP ratio is a critical macroeconomic indicator that
measures the level of a country's debt to its economic output. Greece's rising debt-to-GDP
ratio is a central concern in the passage.
 Structural Reforms: The International Monetary Fund (IMF) recommended structural
reforms to increase the competitiveness of the Greek economy, which is a macroeconomic
tool for long-term economic growth.
 External Borrowing: The reliance on external borrowing, including sovereign bonds, is a
significant macroeconomic aspect of Greece's financial troubles.
 Capital Controls: The passage discusses the implementation of capital controls as a
macroeconomic policy tool to manage capital outflows during a financial crisis.
 Public Debt: The passage highlights the role of public debt and the need for debt
restructuring or relief as a macroeconomic strategy.
 Eurozone Membership: The impact of Greece's membership in the Eurozone on its
macroeconomic policy options is mentioned, including its inability to devalue its currency.
 Growth Rates: The passage discusses economic growth rates and how they relate to the debt
crisis and fiscal challenges in Greece.
 Taxation and Tax Evasion: The passage mentions the role of taxation, tax evasion, and tax
policy in addressing Greece's fiscal problems.
 Inflation and Deflation: Inflation and deflation are briefly discussed in the context of
macroeconomic challenges.
These macroeconomic concepts and tools are central to the understanding of the Greek debt crisis and
the policy measures taken to address it.

5. Learnings from the case as a manager

Following are some of the Key learning which I feel are relevant to the case

 Fiscal prudence is essential for long-term economic stability and growth. Managers should
avoid excessive spending and borrowing and ensure that their revenues match or exceed their
expenditures. They should also adhere to the “golden rule” of fiscal policy, which is to
finance current consumption from current payments and borrow only for productive
investment.
 Structural reforms are necessary to enhance the competitiveness and efficiency of the
economy. Managers should invest in innovation, technology, human capital, and
infrastructure and remove rigidities and distortions in the labour and product markets. They
should also diversify their production base and export portfolio and avoid dependence on a
single source of income or competitiveness.
 Transparency and credibility are vital for maintaining investor confidence and access to
capital markets. Managers should provide accurate and reliable information about their
financial situation and comply with the rules and regulations of the relevant authorities. They
 should also honour their commitments and obligations and avoid defaulting on their debts or
reneging on their agreements.
 Austerity measures are painful but sometimes unavoidable to restore fiscal balance and
debt sustainability. Managers should implement budgetary consolidation and adjustment
programs with care and sensitivity and balance the short-term costs and long-term benefits.
They should also seek to protect the most vulnerable segments of society and ensure social
justice and equity.
 Debt relief and restructuring can provide breathing space and comfort but cannot solve the
underlying problems. Managers should use the opportunity of debt relief and restructuring to
implement the necessary reforms and measures to improve their fiscal and economic
performance and avoid falling into a debt trap again. They should also seek to cooperate and
negotiate with their creditors and partners and respect their interests and concerns.

6. Conclusion
In conclusion, the bailout programs that Greece received from the troika were not very effective in
resolving the country’s fiscal and economic crisis and had significant constraints and costs. The
programs imposed excessive austerity on Greece, which worsened its recession and social conditions,
without addressing its structural problems and imbalances. The programs also failed to provide
adequate debt relief and financing for Greece, which hindered its recovery and market access. The
programs did prevent a default and a euro exit and helped stabilise the financial situation and restore
some fiscal discipline and credibility, but at a high price for the Greek people and the European
solidarity.
To overcome its troubles and set its fiscal house in order, Greece needs to pursue a balanced and
comprehensive strategy that combines budgetary responsibility, structural reforms, debt relief, and
growth policies. On the fiscal front, Greece needs to maintain a prudent and realistic primary surplus
target while improving the quality and efficiency of its public spending and revenue collection. On the
structural front, Greece needs to implement reforms that enhance its competitiveness, productivity,
and innovation, such as improving the business environment, the public administration, the tax
system, the labour and product markets, and the education and research sectors. On the debt front,
Greece needs to negotiate with its creditors for more debt relief, such as extending the maturities,
lowering the interest rates, and linking the repayments to growth. On the growth front, Greece must
invest in human and physical capital, diversify and upgrade its export sectors, attract foreign and
domestic investment, and foster social cohesion and inclusion.

7. References
1
IMF (2017). Greece: 2017 Article IV Consultation
2
: World Bank (2020). World Development Indicators
3
: Eurostat (2020). People at risk of poverty or social exclusion. : WHO (2014). Review of social determinants and the health divide in the
WHO European Region. : OECD (2018). OECD Economic Surveys: Greece 2018. : World Bank (2017). Greece Systematic Country
Diagnostic. : IMF (2013). Greece: Ex Post Evaluation of Exceptional Access under the 2010 Stand-By Arrangement. : Eurostat (2020).
General government gross debt.