Typical street scene in Santa Ana, El Salvador. (Photo: iStock)

Typical street scene in Santa Ana, El Salvador. (Photo: iStock)

IMF Survey : Greece: Grounds for Cautious Optimism

June 10, 2014

  • Substantial progress on restoring fiscal and external sustainability
  • Economy set for positive growth in 2014, for the first time since 2007
  • Robust growth requires boosting structural reform efforts

Greece has made substantial progress on fiscal and external adjustment, and the economy is set to grow in 2014 after six years of recession, says Poul Thomsen, head of the IMF’s Greece team.

Greece has returned to international bond markets for the first time since the crisis amid growing signs of confidence in the country (photo: Thanassis Stavrakis/AP/Corbis)

Greece has returned to international bond markets for the first time since the crisis amid growing signs of confidence in the country (photo: Thanassis Stavrakis/AP/Corbis)


Speaking to IMF Survey, Thomsen cautioned, however, that achieving robust growth will require substantial progress on structural reforms.

The IMF support for Greece moves ahead with €3.41 billion disbursement, having completed the fifth review of Greece’s performance under an IMF-supported economic program.

IMF Survey: How do you see economic prospects and what are the key challenges ahead?

Thomsen: First, let’s remember where we were not long ago. Back in mid-2012, when the current government coalition took office, there were widespread doubts about Greece’s future in the euro zone. The government’s determined policy actions since then have taken “Grexit” off the table, and we are now seeing signs of economic stabilization. The contraction of the economy slowed further in the first quarter of 2014 to -0.9 percent year-on-year, and the unemployment rate has declined slightly in recent months. The government re-accessed markets for the first time since the crisis, and with rising investor interest, market access for Greek banks and corporates is also improving faster than anticipated. Overall, these developments suggest grounds for cautious optimism, and we expect growth to turn positive in 2014, for the first time since 2007.

It is too early to declare victory though, as policies need to build on what has been achieved, to improve confidence further and lay the ground for the recovery to turn into sustained and robust growth. In this context, it is imperative to address Greece’s competitiveness problem by accelerating structural reforms, resolve the overhang of private sector debt through adequate capitalization of banks and reform of the insolvency framework, and complete the needed fiscal adjustment to reach agreed medium-term fiscal targets and help bring down the high levels of public debt. Adjustment fatigue and resistance from vested interests against essential reforms are the key policy challenges ahead.

IMF Survey: Unemployment remains very high. What should be done to facilitate job growth?

Thomsen: Greece implemented path-breaking labor market reforms in 2012, which have helped wages to adjust in line with productivity. However, product prices have not declined commensurately with wages, and therefore Greece remains relatively uncompetitive. This is revealed for instance in the generally weak export performance when compared with other euro area “periphery” countries, and is hindering a faster recovery of output and jobs. The lack of adequate price adjustment reflects primarily structural rigidities in product and labor markets.

Against this background, the government’s efforts to liberalize product and service markets is welcome. This includes lowering barriers to entry for establishing new businesses, transforming investment licensing to make the framework more business friendly, and opening regulated professions to lower the costs of services. Moreover, the government’s commitment to address remaining excessive restrictions in the labor markets by bringing Greece’s framework on collective dismissals and the rules on strikes in line with the best practice in the EU should lower the cost of doing business and thus contribute to more investment, growth, and jobs. The government’s structural reform agenda is quite comprehensive, and it is understandable that it would take time to fully implement it.

IMF Survey: Banks have successfully raised capital from the private sector, but non-performing loans are at a very high level. What should Greece do to address this issue?

Thomsen: Let’s start with the good news. Banks have recently raised around €8½ billion, slightly more than what was required by the Bank of Greece under its recent stress test exercise.

However, a major concern is the very high level of loans that are not performing—over 40 percent, including restructured loans that are considered to have a very high risk of becoming non performing again. To be sure, there is no acute stability risk in the banking sector. But unless banks can provision for or write-down these bad loans quickly, they are unlikely to be able to extend new credit to efficient and growing firms and sectors, and thus facilitate a robust recovery in output and jobs.

The government must proactively force banks to recognize losses on the basis of realistic assumptions about loan recovery and banks need to have enough capital upfront to do so. The authorities should also reform the framework of private debt resolution. Together, these efforts should ensure that the debt burden of households and businesses are brought in line with their repayment capacity. This would arrest the continuing contraction of bank credit, which is weighing on the economic recovery. It would also reduce incentives, in view of the limited competition, for banks to seek to repair their balance sheets by imposing excessive spreads and fees, and thereby extracting rents from the real economy.

IMF Survey: Greece has made very good progress on the fiscal side and recently re-accessed international bond markets. Are more fiscal efforts needed going forward?

Thomsen: First, let me be clear that Greece has made enormous progress in restoring fiscal sustainability. The fiscal adjustment in Greece has been extraordinary by any international comparison. Having entered the crisis with a deficit in double digits, Greece has not only achieved a primary surplus in just four years and ahead of schedule, but also now has the highest “cyclically-adjusted primary balance” in the euro area, that is, the highest underlying primary balance after accounting for the effect of the business cycle on revenues. The recent return of the government to the bond market is also a major milestone in the ongoing effort to normalize economic and financial conditions.

However, as the primary surplus targets are rising to 3 percent of GDP in 2015 and to 4.5 percent of GDP in 2016 and beyond in order to bring down the very high levels of public debt, additional efforts are needed. Simply relying on the projected economic recovery would not by itself be sufficient to achieve these targets.

We support the authorities’ desire to avoid across-the-board cuts in wages and pensions. But this is also why it is important to press ahead with fiscal structural reforms to modernize Greece’s fiscal institutions, such as strengthening tax administration where progress continues to lag, so that everyone pays their fair share of taxes.

IMF Survey: What is your view on the need for further debt relief?

Thomsen: There is an agreed framework in place for ensuring debt sustainability, with Greece’s European partners agreeing to provide any additional debt relief as needed to help bring Greece’s debt down to 124 percent of GDP by 2020 and to substantially below 110 percent of GDP by 2022, as long as Greece continues to deliver on its program commitments. With Greece now having achieved a fiscal primary surplus, these issues are likely to be discussed with the European partners in the context of the forthcoming program review.