TheeconomiccrisisinGreece: Atimeofreformandopportunity CostasMeghir

YaleUniversity,University CollegeLondonandIFS

Dimitri Vayanos
LondonSchoolofEconomics, CEPRandNBER

NikosVettas1
AthensUniversityof EconomicsandBusinessand CEPR

5August2010 Abstract
ThisarticleexplainsthecausesoftheGreekcrisis,aswellasthekeyreformsthat areneededtogetGreeceoutofthecrisisandmakeitprosperous.Reformsare ontwomainfronts:thosedesignedtoimprovethegovernmentsfinancesand thosedesignedtoimprovecompetitiveness.Someofthereformsthatweoutline inthisarticlearepartoftheagreementbetweenGreeceanditslenders(EU/IMF); atthesametime,weseektodescribeamorecomprehensiveandlongrun reformagenda.WepresentmanynumbersandfactsabouttheGreekeconomy, andusesimpleandselfcontainedargumentsaccessibletononeconomists.

1 CostasAzariadis(WashingtonUniversityatSt.Louis),HarrisDellas(BernUniversityandCEPR), YannisIoannides(TuftsUniversity)andChrisPissarides(LondonSchoolofEconomicsandCEPR) havealsocontributedtothisarticleandagreewithitscontent.Anumberofothercolleagueshave providedadditionalvaluablecommentsandsuggestions. 1

TableofContents Introduction Section1:ThePublicDebt

Whenwasthepublicdebtaccumulated? Howdidthepublicdebtaffecttheeconomy? WhyisGreeceheavilyindebtedtoforeigners? HowcanGreecerepayitsdebt?

Section2:TheGovernmentsFinances
WhatisthemainsourceofGreecesdeficits? Taxevasion:whatareitscostsandhowtofightit? Shouldthepublicsectorbemadesmaller? Howtofightcorruptioninthepublicsector? Whyisreformofthepensionsystemessential?

Section3:Competitiveness
Whyiscompetitivenessimportant? HowcantheGreekeconomybemademorecompetitive? Whatkeyreformsareneededintheproductmarket? Whatkeyreformsareneededinthelabourmarket?

Conclusion References

Introduction
Greeceisatacriticaljunctureofitsrecenthistory:theeconomicpoliciesofthelastthree decadeshavebroughtitclosetobankruptcy,butbankruptcycanbeavoidedandgrowthcan resumeifimportanteconomicreformsaremadeandrigorouslyimplemented.Forthe reformstosucceed,asocialconsensusisimportant.Inparticular,theremustbegeneral agreementonwhyreformsareneededandwhatreformsshouldbemade.Yet,consensusis missing.SomeopposethereformsthatGreecehasagreedonwithitslendersonthe groundsthattheyaremisguidedorthattheyimplyalossofnationalsovereignty.Others defendthereforms,butonthegroundsthatthesearethepricetopayforavoiding bankruptcythussuggestingthatifGreeceslendershadaskedfordifferentreformsthey wouldhavedefendedthoseinstead.Andalargefractionofthegeneralpublicisleftunsure aboutwhetherGreecewillmanagetoexitthecrisis,andhowthereformswillhelpachieve thatgoal. Inthisarticlewewouldliketohelpbuildasocialconsensusaroundthereformprocessby explainingwhatkeyreformsareneededtogetGreeceoutofthecrisis,andwhythese reformscanmakeGreeceprosperous.Understandingwhatthenecessaryreformsare requiresunderstandingthecausesofthecrisis,andweexplaintheseaswell.Weseekto explaintheissuesinamannerthatissimpleandintuitive,yetscientificallyprecise. MuchofthedebateaboutGreecescurrentproblemshasfocusedontheshortrun managementofthecrisis.WillGreecebeabletorepayitsdebt,orwillithaveto restructure?WillGreeceexittheeuro,andshoulditdoso?WilltheEuropeanUnionandthe EuropeanCentralBankdecidetoofferfurtherassistancetoGreece?Discussionofthese issuesispointlessunlessGreeceundertakesthetypeofreformsthatweoutlineinthis article.Ifreformsarenotundertaken,Greeceisboundtodefaultandthecrisistodeepen.If insteadreformsareundertaken,themanagementofthedebtwillbecomemucheasier: Greecewillbeabletoborrowatmuchlowerinterestratesasitslenderswillbecomemore assuredaboutitsabilitytorepay.2Moreover,reformsarenecessarynotonlyforrepaying thedebt,butalsoforGreeceslongrungrowthandprosperity.EvenifGreecesdebtwere tomagicallydisappearovernight,thesamereformswouldbeneeded;orelseGreecewould finditselfwithanewdebtproblemagainsoon. Someofthereformsthatweoutlineinthisarticlehavebeendiscussedbefore,but successiveGreekgovernmentshavechosentoignorethedebateuntil,ofcourse,they wereforcedintoitbythecrisis.Thisiseitherbecauseoflackofvisionandcourage,or becauseofvestedinterestinthestatusquo,orbecauseoflackofunderstandingofthe economicrealities.Itistimethatsuchpopulismandlackofleadershipofthepastis

Moreover,thedecreaseininterestrateswillbeimmediateeventhoughreformscantaketimetobefully implementedbecausetheratesatwhichGreececanborrowtodaydependonlendersbeliefsaboutitsability torepayinthefuture.

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replacedbypoliticalcourageguidedbytheprinciplesofmoderneconomics,sothatGreece canresumegrowthandunleashthegenuineproductivecreativityofwhichthereismuch amongGreeks. Section1ofthisarticleexplainswhenGreecesvastpublicdebtwasaccumulatedandhowit affectedtheeconomy.Sections2and3outlinethekeyreforms,whichareontwofronts: reformstoimprovethegovernmentsfinances,outlinedinSection2,andreformsto improvecompetitiveness,outlinedinSection3.Eachsectionstartswithquestionsand answersthatsummarizethemainpoints.Someofthesepointsstandinsharpcontrastto commonlyheldviewsabouttheGreekeconomyandthereformprocess;wehighlightthese viewsandexplainwhytheyareincorrectinboxesspreadthroughoutthisarticle.

1.ThePublicDebt
Whenwasthepublicdebtaccumulated?Debtincreasedsharplyduringthe1980s, andfurtherincreased,atalowerpace,duringthe1990sand2000s. Howdidthepublicdebtaffecttheeconomy?Debttriggeredadecreasein productiveinvestmentandanincreaseinconsumption. WhyisGreeceheavilyindebtedtoforeigners?BecauseGreekcitizenswere consumingbeyondtheirmeanswithmoneythattheirgovernmentwasborrowing fromforeigners.

Whenwasthepublicdebtaccumulated?Letsfirstexplainthedifferencebetweendebtand deficit.Inanygivenyear,thegovernmenthassomerevenue,e.g.,arisingfromtaxes,and someexpenditure,e.g.,topaypublicservants.Iftheexpenditureishigherthanthe revenue,thenthegovernmenthasadeficitandneedstoborrow.Thisgeneratesdebt. Moreover,ifthegovernmenthasaccumulateddebtoverpreviousyears,becauseitwas runningdeficitsduringthoseyears,adeficitinthecurrentyearfurtherraisesthedebt.Note thattherelationshipbetweendebtanddeficitgoesinbothdirections:notonlyadeficitina givenyearraisesdebtaccumulatedoverpreviousyears,butalsodebtaccumulatedover previousyearsraisesthedeficitinthecurrentyear.Thisisbecauseinterestpaymentson debtthathasaccumulatedoverpreviousyearsareanexpenditureduringthecurrentyear, andaddtothatyearsdeficit. Table1describesthehistoricalevolutionofthedeficit.Foreachdecadewereportthe deficit,expressedasapercentageofthesizeoftheGreekeconomyandaveragedoverthe

tenyears.SizeismeasuredbyGDP,thetotalvalueofgoodsandservicesproducedin Greece.3 Table1:Governmentdeficit(Source:OECD) Decade Govt.deficit as%ofGDP 19601969 0.6 19701979 1.2 19801989 8.1 19901999 8.4 20002009 5.9

Duringthe1960sand1970sthegovernmentwasessentiallybreakingeven.Thedeficit increaseddramaticallyduringthe1980s:ineachyearduringthatdecade,government expenditureexceededrevenuebyanaverage8.1%ofGDP.Thedeficitremainedhighduring thenexttwodecades. Theevolutionofthedeficitisreflectedintothatofthepublicdebt.Table2reportsthe publicdebtattheendofeachdecade,expressedasapercentageofGDP. Table2:Governmentdebt(Source:OECD) Year Govt.debtas% ofGDP 1980 26 1990 71 2000 101.5 2009 115.1

Thehighdeficitsinthe1980sledtoadramaticincreaseindebt:from26%ofGDPin1980, debtroseto71%ofGDPin1990.Debtfurtherincreasedduringthenexttwodecadesin responsetothehighdeficitswhichwerehighpartlybecauseoftheinterestpaymentson theaccumulateddebt. Howdidthepublicdebtaffecttheeconomy?Table3reportsconsumptionandinvestment, expressedasapercentageofGDPandaveragedovereachdecade. Table3:Consumptionandinvestment(Source:OECD) Decade 19701979 Consumptionas 77.2 %ofGDP Investmentas% 30.7 ofGDP 19801989 85.1 23 19901999 90.1 20.6 20002009 88.8 22.6

Comparedtothe1970s,consumptionwentupsignificantlyduringthe1980s,and investmentwentdownbyaroughlyequalamount(8%ofGDP).ThismeansthatGreek

GDPincludessomeofthegoodsandservicesproducedinGreecesinformaleconomy.Theinformaleconomy accountsfor2530%ofGDP(Katsios2006).
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citizenswereconsumingmore,whilelesswasspentonproductiveinvestment,suchas factoriesandhighways.Botheffectswerecausedtoalargeextentbythedrasticincreasein publicdebtduringthe1980s,andbythewaythegovernmentspentthemoneythatit borrowed.Indeed,lessthan25%ofthemoneywasspentonproductiveinvestment,i.e., publicinfrastructures.Thebulkwasspentinsteadtoincreasethewagebillinthepublic sector,i.e.,morepublicservantsandhighersalaries,andtoincreasethepensionbill,i.e., morepensionersandhigherpensions(Rapanos2009).Therecipientsofthegovernment moneyincreasedtheirconsumptioninresponsetotheirhigherincomes,andthisexplains theincreasedconsumptioninTable3.Investmentdecreasedbecausefewerprivatesavings wereavailabletofinanceit.Indeed,thegovernmentwasborrowingbysellingbondsto Greekcitizens,whowereineffectdividingtheirsavingsbetweenbondsissuedbythe governmentandbondsissuedbyprivatefirms.Asaconsequence,fewersavingswere availabletofinanceproductiveinvestmentbyprivatefirms.Andsincemostofthemoney thatthegovernmentwasraisingbyissuingbondswasnotspentonpublicinfrastructures, theaggregateproductiveinvestmentbythepublicandtheprivatesectordecreased. WhyisGreeceheavilyindebtedtoforeigners?Greecesexternaldebt,definedasdebtowed toforeigners,was82.5%ofGDPin2009(Cabral2010).Thisisalargenumber:forexample, itisabouttwentytimesGreecesannualspendingoneducation. Howwasthelargeexternaldebtaccumulated,andhowdidpublicdebtcontributetothis? Acountryaccumulatesexternaldebtwhenitsgovernmentorprivatesector(i.e.,firmsand citizens)borrowfromforeigners.InthecaseofSpain,whoseexternaldebtisalmostashigh asGreeces,muchoftheexternalborrowingwasdonebytheprivatesector:Spanishbanks wereborrowingfromforeignbankstogiveloanstoSpanishcitizens,whowouldthenbuy (whatturnedouttobe)overpricedhouses.InthecaseofGreece,theprivatesectordidnot, inthenet,borrowfromforeigners:thesavingsofGreekcitizenswereenoughtocoverloans totheprivatesector.Externalborrowingwasinsteaddonebythegovernment.Indeed, Greecesexternalpublicdebt,definedasthepartofexternaldebtaccumulatedbythe government,was89%ofGDPin2009(or79%oftotalpublicdebtinTable2).Thus,Greeces externaldebtessentiallycoincideswithitsexternalpublicdebt. Whenacountryborrowsfromforeigners,itconsumesmorethanitproduces.Theextra consumptionisderivedfromimports,whichthecountrycanbuyfromforeignerswiththe moneythatitborrowsfromthem.InthecaseofGreece,thismeansthatGreekcitizens wereconsumingimportedgoodswithmoneythattheirgovernmentwasborrowingfrom foreigners.Theborrowedmoneywasflowingfromthegovernmenttothecitizensthrough variouschannels,e.g.,wagespaidtopublicservants,paymentstogovernmentsuppliers, pensionspaidtopensioners.Inresponsetotheirhigherincomes,citizenswereconsuming moreandintheaggregateGreecewasconsumingmorethanitwasproducing.

TounderstandmorepreciselytheevolutionofGreecesexternaldebtduringthepasttwo decades,weuseTable4.Wealsobringintothediscussioninvestmentandexports,from whichweabstractedawayinthepreviousparagraph. Table4:Tradebalanceandexternalborrowing(Source:OECD) Decade Tradebalance(exports minusimports)as%ofGDP Netborrowingas%ofGDP Nettransfersreceivedfrom foreignersas%ofGDP 19901999 10.7 4.1 5.9 20002009 11.4 10.2 2

ThefirstrowinTable4isthetradebalance,definedasexportsminusimports.Duringthe pasttwodecades(andeveninthemoredistantpast,buttoalesserextent),thetrade balancewasnegative,meaningthatGreecewasimportingmorethanitwasexporting.The negativetradebalancealsomeansthatGreecewasconsumingandinvestingmorethanit wasproducing.Indeed,theextraconsumptionandinvestmentwerederivedfromimports thatwerehigherthanexports.(Moregenerally,thesumofconsumptionandinvestment, minusGDP,isthenegativeofthetradebalance,asTables3and4confirm.) Greececouldimportmorethanitwasexportingbecauseitwasborrowingfromforeigners. Duringthe1990s,itwasborrowinganaverageof4.1%ofitsGDPperyear.Whilethis borrowingrateishigh,itincreaseddramaticallyto10.2%duringthe2000s.Andnot surprisingly,externaldebtincreaseddramaticallyaswell:from42.7%ofGDPin2000to 82.5%in2009. Table4showsthatexternalborrowingincreasedbecauseGreecewasimportingevenmore relativetoitsexports,andbecausetransfersreceivedfromforeignersdecreased.Twomain effectsdrovethedecreaseintransfers.First,transfersfromtheEuropeanUniondecreased ascountriespoorerthanGreecejoinedandfundsearmarkedforcohesionpurposeswere reallocatedaccordingly.Second,Greecehadtomakehigherinterestpaymentsonitslarger externaldebt. Insummary,Greecebecamemoreindebtedtoforeignersduringthe2000sbecauseitwas importingevenmorerelativetoitsexports,despitereceivingfewertransfersfromthe EuropeanUnion,anddespitebeingalreadyindebt.Whysuchprofligacy?Partofthereason wasthatinvestmentincreasedduringthe2000swiththeOlympicGamesbeingan example.ButthemainreasonwasthatGreekcitizensbecamelesswillingtosaveduringthe 2000s,becauseinterestrateswerelowerandconsumerloansfrombanksbetteravailable. Howdidthedecreaseinsavingsinteractwiththepublicdebt?Despitetheirlowersavings, Greekcitizenswerestillsavingenoughduringthe2000stofinanceloanstotheirfellow citizensandtoprivatefirms.Theproblemisthatsavingshadbecomeinsufficienttobuythe
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bondsissuedbythegovernment.Asaconsequence,thegovernmenthadtoturnto foreignerstomeetitsfinancingneeds.Inthissense,theincreaseinGreecesexternaldebt duringthe2000swascausedbythecombinationofthegovernmentslargeborrowing needs,anditscitizensinsufficientsavings. HowcanGreecerepayitsdebt?SomecommentatorshavearguedthatGreececannotrepay itsdebt,andthatitshouldrestructureitordefaultaltogether.Letusputthisdiscussion aside,andassumeinsteadthatGreecewillaimtofullyrepayitsdebt.Howcanitaccomplish thatobjective? Repayingthedebtrequires,firstofall,toreducethedeficit.Recallthatthedeficitisthe governmentsexpenditureminusitsrevenue,andonesourceofexpenditureistheinterest paidondebt.Thecomponentofdeficitthatdoesnotincludeinterestpaymentsondebtis knownastheprimarydeficit.Azeroprimarydeficitmeansthatthegovernmentbreakseven intheabsenceofthedebtburdenbequeathedtoitbypreviousgovernments.Apositive primarydeficitmeansthatthegovernmentcreatesanewdebtburden. In2009,Greecesprimarydeficitwas8.5%.Clearly,withaprimarydeficit,andofsuchlarge magnitude,itwillbeimpossibletoeverpaybackthedebt.Thedebtcanbepaidbackonlyif thegovernmentstopsrunningaprimarydeficit,i.e.,doesnotcreateanewdebtburden eachyear.Thegovernmentmustrunaprimarysurplus. Howmuchofaprimarysurplusisneeded?Iftheprimarysurplusexceedstheinterest paymentsondebt,the(total)deficitwillbenegative,andthedebtwilldecrease.Ifthe primarysurplusisequaltotheinterestpaymentsondebt,thedeficitwillbezero,andthe debtwillremainconstantovertime. Whileanegativedeficitiseffectiveinreducingthedebt,evenazeroorslightlypositive deficitcansuffice.Thisisbecausetherelevantquantityisnotdebt,butdebtrelativetoGDP. IfGreecesGDPdoubledovernight,withoutanychangeinthepublicdebt,Greecewould haveamuchsmallerdebtproblem.Indeed,payingforthedebtby,e.g.,raisingtaxeswould becomemucheasier.Therefore,azeroorslightlypositivedeficitcansufficeinreducingthe debtifGreececangrowitsGDPquicklyoverthenextdecade. GreececanachieveandsustainhighGDPgrowthifitmakesitseconomymorecompetitive. GainsincompetitivenessareallthemoreimportantbecauseofGreeceslargeexternal debt.Indeed,acountrycanrepayitsexternaldebtbyexportingmorethanitimports.Since Greeceiscurrentlyimportingmorethanitexports(Table4),largegainsincompetitiveness arenecessarysothatexportsovertakeimports. Greecescurrentproblemisthecombinationofhighdebt,highdeficitandlow competitiveness.ItisbecauseofthiscombinationthatGreececouldonlyborrowatvery highinterestratesinfinancialmarkets.MarketswerenotconspiringagainstGreece;they

weremerelyreflectingeconomicrealityaswellasprotectingtheinterestsofthosewho hadlenttheirsavingstoGreece. Torepayitsdebt,Greecemustsucceedontwofronts.First,thegovernmentmustimprove itsfinancesandturnasignificantprimarysurplus.Second,theeconomymustbecomemore competitive.SuccessoneachfrontrequiresimportantreformsthatweoutlineinSections2 and3,respectively.Reformstargetedtowardsthegovernmentsfinancesincludeausterity measures,suchastaxincreasesandcutsinpensionsandpublicservantswages.The hardshipcausedbyausteritymeasureswillbearfruitonlyifthesemeasuresare accompaniedbymoreradicalreformsdesignedtomakethepublicsectormoreefficientand theeconomymorecompetitive. ThereformsthatGreecehasagreedonwithitslenders(EU/IMF)aimatenablingittorepay itsdebt.Somereformscontributetothatgoalbyimprovingthegovernmentsfinances, whileotherreformsaimatraisingcompetitivenessandgrowth.Manyofthereformsare necessaryandoverdue,asweexplaininSections2and3,andshouldbesupported.Atthe sametime,itisimportanttogoevenbeyondthesereformsandthinkmoregenerallyhow toraisethegrowthofGreeceandtheincomesofitscitizensinthelongrun.Thereforms thatGreecehasagreedonwithitslendersdonotfocusonthelongrun,e.g.,noneconcerns educationorbasicresearch,bothofwhichhaveasignificanteffectonacountryslongrun growth.Thisisnatural:acomprehensivelongrunreformoftheGreekeconomyisnotthe joboftheEU/IMFbutofGreeksthemselves.Someofthereformsthatweoutlineinthis articleconcernthelongrun,andmoreattentionshouldbegiventoreformsofthattype.

2.TheGovernmentsFinances
WhatisthemainsourceofGreecesdeficits?Governmentexpenditureis comparabletotheEuropeanUnion(EU)average,butrevenueiswellbelow becauseoftaxevasion.Inthissense,taxevasionisthemainsourceofGreeces deficits. Taxevasion:whatareitscostsandhowtofightit?Taxevasionpreventsthe governmentfromprovidingahighqualityofpublicservices,introducesunfairness intothetaxsystem,andsubsidizeslowgrowthactivitiesattheexpenseofhigh growthones.TaxevasioniscommoninGreecenotbecauseitisinthegenesof Greekcitizensbutbecausenotenoughincentivesareinplacetodiscourageit. Shouldthepublicsectorbemadesmaller?Greecesmainproblemisnotthatthe publicsectoristoolarge,butthatthemoneyisspentinefficiently.Thatis,the qualityofpublicservicescanbeimprovedandmoneycanbeeconomizedatthe sametime.Thismoneycanbeusedtopayforotherpublicservices,whichare currentlyunderprovidedbutareimportantforcompetitiveness,e.g.,investmentin
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infrastructureandhumancapital.Productivityinthepublicsectorshouldbe measured,asisdoneinanyprivatefirm,andpublicagenciesshouldbeevaluated basedonhowtheymeetexplicitproductivitytargets. Howtofightcorruptioninthepublicsector?Aswithtaxevasion,corruptionis commoninGreecebecausenotenoughincentivesareinplacetodiscourageit.In particular,penaltiesforcorruptionshouldbecomemuchtougher,accounting practicesshouldbemodernized,theinstitutionalframeworkthatgovernsthe interactionsbetweengovernmentandcitizensshouldbesimplified,andthese interactionsshouldbecomemoreanonymous. Whyisreformofthepensionsystemessential?Untiltherecentreform,Greeces pensionsystemhadsomeofthemostgenerousprovisionsintheEU,andwasill suitedtocopewithpopulationageing.Haditbeenleftunreformed,itwouldhave createdanadditionaldeficitof12%ofGDPby2050.Payingforthatdeficitwould haverequired,forexample,cuttingcompletelyspendingoneducationandhealth combined.Whilethecurrentreformisanimprovement,thereisscopeforamore radicalredesignthatcanrenderGreecespensionsystembothmoreefficientand fairer.

WhatisthemainsourceofGreecesdeficits?Tables5and6reporttherevenueand expenditure,respectively,ofGreecerelativetotheEUaverage,in2007.4Forbrevity,we reportonlythemainitems. Table5:Governmentrevenue(Source:Eurostat) Totalrevenueas Indirecttaxes %ofGDP (VAT)as%of GDP 39.7 12.5 44.9 13.5 Directtaxesas %ofGDP 7.9 13.4 Social contributionsas %ofGDP 13.4 13.5

Greece EU27average

Table6:Governmentexpenditure(Source:Eurostat) Total expenditure as%ofGDP 45 45.7 Intermediate consumption as%ofGDP 5.7 6.4 Compensation ofemployees as%ofGDP 11.2 10.4 Interestas% Social ofGDP benefitsas% ofGDP 4.4 17.6 2.7 19.1

Greece EU27 average

4

Unlessweexplicitlystateotherwise,EUreferstotheEU27.Thenumbersaresimilarifwelimitourselvesto theEurozone.

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Tables5and6indicatethatthekeydifferencebetweenGreeceanditsEUpartnersliesin therevenueratherthanintheexpenditure.WhileexpenditureiscomparabletotheEU average,revenueiswellbelow.Moreover,thediscrepancyinrevenueliesmainlyinthe governmentsabilitytocollectdirecttaxes,i.e.,taxesonincome.Indeed,intheaverageEU country,thegovernmentcollects13.4%ofGDPfromdirecttaxes,whileinGreeceitonly collects7.9%.Thisdiscrepancydoesnotarisebecausetaxratesonincomearelowin GreecetheyarecomparabletootherEUcountries.Thediscrepancyarisesinsteadbecause oftaxevasion:ifthegovernmenthadbeenabletocollectdirecttaxesinlinewiththeEU average,itwouldhavehadnodeficitin2007.Thesamestatementcannotbemadefor 2010,partlybecausetheglobalfinancialcrisishashadanegativeeffectongovernment financesaroundtheworld.Yet,eliminatingtaxevasionwouldrestoreaprimarysurplusin 2010. Taxevasion:whatareitscostsandhowtofightit?Fightingtaxevasionshouldbeatop priorityforthegovernment.Indeed,ifthegovernmenthadbeenabletocollecttaxesfrom allcitizensaccordingtotheiractualincomes,deficitswouldhavebeenmuchsmaller,and Greecewouldnotbehavingadebtproblemtoday.Ofcourse,deficitswouldhavebeen smallereveninthepresenceoftaxevasion,ifthegovernmenthadcutdownonits expenditure.Yet,theexpenditureoftheGreekgovernmentisnothighbyEUstandards,and keyareassuchaseducationandhealthareunderfunded.Insummary,thefirstandbigcost oftaxevasionisthatitworsensthegovernmentsfinances,andpreventsthegovernment fromprovidingahighqualityofpublicservices. Asecond,andequallyimportant,costoftaxevasionistheunfairnessthatitintroducesinto thetaxsystem.Akeyobjectiveofthetaxsystemistoredistributeincomefromtherichand morefortunatetothepoorandlessfortunate.Thisisdonebycollectinghighertaxesfrom therichandusingtheproceedstoprovidepublicservicesthatbenefitrichandpooralike. Taxevasionunderminesthisobjectivebecauseitisdonemainlybytherich:thetaxes evadedbyGreeceshighincomehouseholdsaregreaterthanforlowincomehouseholds notonlyinabsolutetermsbutalsoasaproportionofincome(FlevotomouandMatsanganis 2010).Theunfairnessthattaxevasionintroducesintothetaxsystemhasanimportant politicalconsequence:itunderminessocialconsensusandinhibitstheabilityofthe governmenttoundertakepainfulreforms.Indeed,reformsareperceivedasharmingthe lowincomehouseholds,whoalsofeelthattheyarecarryingadisproportionateshareofthe taxburden. Taxevasionhasanadditionalcostthatislittlenoticedbutasimportantastheothertwo:it subsidizeslowtechnologyandlowgrowthactivitiesattheexpenseofhightechnologyand highgrowthones.Indeed,theformertypicallyrequirelowinvestmentandareperformedat asmallscale,e.g.,bytheselfemployedorverysmallfirms,wheretaxevasionishardto detect.Conversely,thelattertypicallyrequirehighinvestmentandareperformedbylarger firms,wheretaxevasioncanbedetectedmoreeasily.Taxevasionbytheselfemployedand
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verysmallfirmsforcesthegovernmenttomaintainahightaxrate,sotocollectthetaxes fromlargerfirms,whichcannotevadethemaseasily.Thisdiscouragesthecreationoflarge firms,aswellasthehighgrowthactivitiesandwellpayingjobsthatmanyofthesefirmsare associatedwith. Fallacyno1:Taxevasionstimulatesgrowthbecausefirmspaylowtaxesandhence havehigherincentivestoinvest.Firmsthatmanagetoevadetaxesaretypicallysmall andinlowtechnologyandlowvalueaddedsectors(e.g.,restaurantsandnightclubs).To makeupforthelostrevenuefromthesefirms,thegovernmenthastocollectmoretaxes fromthefirmsthatcannotevadethem,whicharetypicallylargeandinhightechnology andhighvalueaddedsectors.Thisdiscouragesthecreationofsuchfirms,andhasa negativeeffectoneconomywidegrowth. TaxevasionisdeeplyengrainedintheGreekeconomyandcannotbeeradicatedeasily.At thesametime,oneofthemainreasonswhytaxevasionisdeeplyengrainedisthatnot enoughincentivesareinplaceforcitizenstopaytheirtaxes.Strengtheningtheseincentives canreducesignificantlytaxevasion.Werecommendthefollowingmeasures: Auditsofindividualsandfirmsshouldbecomeregularandbebasedonprofilingof evadersandrandomselection.Profilingwillfocusattentionontypesofindividuals andfirmsmostlikelytoevade.Randomnesswillimplyachancetobeauditedeven forthosenothavingtheprofileoftaxevaders.Thekeydifficultyistoorganiseaudits thatarebeyondcorruption.Onewayofachievingthisistopursuetheentireprocess bycorrespondence,whereauditedindividualsandfirmshavetoprovidethe requiredevidencewithoutmeetingthetaxofficials.Thetaxofficialshandlingthe caseshouldremainanonymousandallcorrespondencesignedbysomeonewith overallresponsibilitybutwithoutdirectinvolvement.Penaltiesshouldbe proportionatetotheoffenceandseriousoffendersshouldbeprosecutedinthe criminalcourts.Lessseriousoffendersshouldbefinedinproportiontothetax evaded. Crossreferencingbetweenexpenseclaimsandtaxdeclarationsshouldbecome automatic.Forexample,allexpenseclaimsthatindividualsdeclarerelatingtoa specificdoctorshouldbeautomaticallyaddedupandcheckedtoseeiftheymatch thedoctorstaxreturn.Evenbetter:whenadoctorpresentsareceipt,thisshouldbe automaticallyregisteredtohistaxaccount,verymuchlikeindividualsalaries. Moreover,toreinforcetheroleofreceiptsinimprovingtaxrevenueitisworth consideringincreasingthetaxdeductibilityofcertainexpensesevenatthecostof sometaxrevenuesoastochangetheculturetoonewhereitisnaturaltoprovide receiptsforservicesanddeclarationoftaxes.

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Paymentsformanymedicalservicesshouldtakeplacenotbetweenadoctoranda patient,butdirectlythroughthepatientshealthinsurancefundorcompany. Evadingtaxesonpaymentsmadethroughthelatterchannelismuchmoredifficult. Shouldthepublicsectorbemadesmaller?ItisoftenclaimedthattheGreekpublicsectoris verylargeandconsumesavastamountofresources.ThetotalwagebillintheGreekpublic sectorisindeedhigherthantheEUaverage:forexample,in2007Greecespent11.2%ofits GDPtopaypublicservants,whiletheEUspent10.4%.Butthisdifferenceissmallwhenput inbroadercontext.Forexample,Swedenspent15%ofitsGDPtopaypublicservants. TherelevantquestionisnotwhetherthetotalwagebillintheGreekpublicsectorisslightly aboveorslightlybelowtheEUaverage,butwhetherthepublicsectorsproductivityishigh orlow.Thatis,aretheresourcesthatthegovernmentputsintothepublicsectorspent efficiently?Ifresourcesarespentinefficiently,thequalityofpublicservicescanbe improvedandmoneycanbeeconomizedatthesametime.5 Productivityismeasuredineveryprivatefirmandshouldbemeasuredinthepublicsector aswell.Ofcourse,thepublicsectordiffersfromaprivatefirmbecauseitsobjectiveisnotto achieveahighprofit,buttoprovideservicesthatbenefitsociety,e.g.,education,protection oftheenvironment,securityagainstcrime,protectionagainstexternalthreats.Moreover, measuringthequalityofpublicservicesisharderthanmeasuringprofits.Yet,measuresof qualitycanbecomputed,andpublicagenciesshouldbeevaluatedintermsofthequalityof servicestheyprovidegiventheresourcestheyareallocated.Moregenerally,thenotion thatthepublicsectoristheretoservesociety,anddosoinacostefficientmanner,should enterthecultureoftheGreekpublicsector.Thepublicsectorshouldbeviewedasan efficientproviderofservicesandnotasameanstoprovideemploymenttopolitical favourites. MeasuringproductivityintheGreekpublicsectorischallengingbecausedataonresources spentandonqualityofservicesprovidedaregenerallynotavailable,unlikeinmanyother EUcountries.Forexample,itishardtofinddataevenonthetotalnumberofpublic servants. Oneareainwhichdataareavailableiseducation.Wefocusonthatareasolelybecauseof theavailabilityofdata,andnotbecauseweintendtosuggestthatproductivityineducation islowerthaninotherareasofthepublicsector.6Weshouldaddthatourproductivity measuresareimperfectandcancertainlybeimproved.Ourmaingoalincomputingthese

Theproductivityquestionisrelevantnotonlyforthecentralgovernment,butforalsomunicipalitiesandlocal governments,whereinefficienciesappeartobeevenlarger. Indeed,productivityappearstobeespeciallylowinareassuchashealthcare,publictransportationand defence.

6 5

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measuresistoemphasizethatmeasurementofpublicsectorproductivityispossibleand shouldbecarriedoutmoresystematically. TheOECDmeasuresthequalityofprimaryandsecondaryeducationthroughstandardized testsinreading,mathematicsandscience(knownasPISAtests),offeredtochildrenaged 15.Table7reportstheperformanceofGreecerelativetotheOECDaverageinthemore recenttests,performedin2005.Fortertiaryeducation,weconsidertwomeasuresof quality,oneemphasizingresearchandoneteaching.ThefirstmeasureistheShanghaiJiao Tong(SJT)annualworldranking,whereuniversitiesarerankedbasedonthequalityofthe researchtheyproduce.Table7reportsthenumberofGreekuniversitiesinthetop500,and compareswiththetotalnumberofEUuniversitiesinthetop500,adjustingfortherelative GDPofGreecewithintheEU(i.e.,multiplyingbythefractionofGreekGDPrelativetototal EUGDP).Thesecondmeasureisgraduationrates,definedasthepercentageof18yearolds whoentertertiaryeducationinagivenyearandeventuallygraduate,relativetothetotal numberof18yearoldsinthatyear.Table7reportsgraduationratesinGreecerelativeto theOECDaveragein2007(OECD2009a). Table7:Measuresofoutputsineducation(Source:OECD,SJTannualworldranking) PISAscore, reading PISAscore, PISAscore, mathematics science Numberof universities inSJTtop 500 2 4 Graduation rates

Greece EU27or OECD average

460 492

459 498

473 500

29.8 48.1

QualitymeasuresatalllevelsofeducationaresignificantlylowerforGreece.TheGreek averagescoreinthePISAtestsisworsethanthatofall30OECDcountries,exceptfor MexicoandTurkey.AndwhileGreecehastwouniversitiesinthetop500,itshouldhave fouraccordingtoitsGDPwithintheEU.Moreover,noneofthetwouniversitiesisinthetop 100,whilecountrieswithcomparableGDPand/orpopulationasGreece(Finland,Sweden, Denmark,Netherlands)haveoneormoreuniversitiesinthetop100.Finally,graduation ratesinGreecearesignificantlylowerthantheOECDaverage. TheunderperformanceoftheGreekeducationalsystemisamatterofseriousconcern. Providingqualityeducationtothenextgenerationisnotonlyamoralimperative,butalso bringsanimportanteconomicbenefit:ahighlyeducatedworkforcecontributestoan economyscompetitiveness.WereturntocompetitivenessinSection3,butfornowwe focusonproductivity:aretheresourcesthatthegovernmentputsintoeducationspent efficientlytoprovidetheoutputsinTable7?

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Table8comparesGreecetotheEUaverageintermsofexpenditureindifferentlevelsof education,andratioofstudentstoteachersinprimaryandsecondaryeducation.The expendituredataarefrom2005andthestudent/teacherratiodatafrom2006(OECD 2009a). Table8:Measuresofinputsineducation(Source:OECD) Expenditurein primaryand secondary educationas% ofGDP 2.7 3.6 Expenditurein tertiary educationas% ofGDP 1.5 1.3 Ratioof studentsto teachersin primary education 10.6 14.5 Ratioof studentsto teachersin secondary education 8.2 11.9

Greece EU19average

Tables7and8suggestthatexpenditureintertiaryeducationisinefficient:Greeces expenditureiscomparabletotheEUaverage,buttheoutputs(topuniversitiesand graduationrates)aresignificantlylower.Thepictureforprimaryandsecondaryeducationis lessclearcut.GreeceunderspendssignificantlyrelativetotheEUaverage,sothelower outputs(PISAscores)couldbereflectingthelowerexpenditure.Atthesametime,thereis aninefficiencybecauseGreeceisachievingtheloweroutputsbyemployingmoreteachers perstudentrelativetotheEUaverage.WeshouldnotethatGreeceslowerexpenditurein primaryandsecondaryeducationdespitethehighernumberofteachersisnotbecause teachersareseverelyunderpaid;itismainlybecauseGreecespendslittleoneducation infrastructure(e.g.,buildingsandteachingequipment)andonpreschooleducation. Insummary,thedatasuggestthatthereisampleroomforincreasingproductivityin education:itshouldbepossibletoimprovethequalityoftertiaryeducationwhilealso economizingonexpenditure,andtoimprovethequalityofprimaryandsecondary educationwhilealsoemployingfewerteachers.Weshouldemphasizethatthelow productivityisnotareflectiononlyontheteachers;itconcernstheentireeducational systemofwhichtheteachersareonlyonepart. Howtoraiseproductivityinthepublicsector?Allemployees,whetherinthepublicorinthe privatesector,aremoreproductivewhentheyaregivenincentivesbasedontheir performance,i.e.,goodperformersarerewardedwithhighersalariesandbetterpromotion opportunitiesthanbadperformers.Suchincentives,however,arelargelyabsentinthe Greekpublicsector.Infact,apreconditionforsuchincentivesisthatindividual performanceismeasured(fairlyandaccurately),butsuchevaluationsarenotcommon. Returningtotheareaofprimaryandsecondaryeducation,promotionislargelybasedona teacherslengthofservice,andnotontheteachersperformanceintheclassroom,oron whethertheteacherhasattendedonthejobtraining(OECD2009b).Measuringand rewardingindividualperformancewouldleadtosignificantproductivitygains.
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Performancebasedincentivesshouldbegivennotonlyatthelevelofindividuals,butalso atthatoforganizationalunits.Forexample,theperformanceofeachschoolanduniversity shouldbemeasured,andmoreresourcesshouldbeallocatedtotopperformers.Together withthisgreateraccountability,organizationalunitsshouldbegivengreaterautonomy.For example,schoolsanduniversitiesshouldbegivenmorefreedomonwhichteachersand professorstohire,andhowtoallocatetheirbudgets. Theproductivitygainsachievedthroughperformancebasedincentivesshouldbe complementedbyrationalizingtheresourcesallocatedtospecificactivities.Forexample, employmentlevelsseemtobeexcessiveinsomeactivities,suchasprimaryandsecondary education,andshouldbereduced.Suchareductioncouldpartlybeachievedthrough redeploymenttootheractivitiesofthepublicsector.Byrationalizingresources,itwouldbe possibletofreeupresourcesfromactivitieswherespendingisinefficient,andredeploy themtoactivitieswherespendingiscurrentlyminimal,butwhichareimportantfor competitiveness.Examplesincludeeducationinfrastructureandpreschooleducation,basic research,labourmarketprogrammesandassistancetotheunemployed,transportation infrastructure,etc. Howtofightcorruptioninthepublicsector?Theissueofpublicsectorproductivityis relatedtothatofcorruption.Indeed,onereasonwhyproductivityislowisthatsomeofthe moneyallocatedforpublicserviceprovisionendsupinthepocketsofcorruptpublic servants.CorruptionisamajorprobleminGreece:in2009,TransparencyInternational rankedGreeceasthemostcorruptofthe27countriesoftheEuropeanUnion,togetherwith BulgariaandRomania. Corruptionhasseverecosts.Itpreventsthegovernmentfromprovidingahighqualityof publicservicesbecausesomeofthemoneyallocatedforpublicserviceprovisionisdiverted away.Itforcesthegovernmenttoimposehighertaxestomakeupforthelostmoneyand thesetaxesdiscourageproductiveactivities.Corruptionalsotaxescitizensandfirmsmore directlysincetheymustbribecorruptpublicservantstobeservedefficientlybythem.Last butnotleast,corruptioncausescitizenstostoptrustingtheirgovernmentandrespecting thelaw.Thecostsofcorruptionare,inmanyways,similartothoseoftaxevasion:inboth cases,moneythatshouldbecollectedbythegovernmentandspentforpublicservicesends upinsteadinthepocketsofprivatecitizens. CorruptionisdeeplyengrainedintheGreekeconomyandcannotbeeradicatedeasily.But aswithtaxevasion,oneofthemainreasonswhycorruptionisdeeplyengrainedisthatnot enoughincentivesareinplacetodiscourageit.Werecommendthefollowingmeasuresto fightcorruption:

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Penaltiesforcorruptionshouldbemademuchtougher.Forone,thereshouldbeno statuteoflimitations.Moreover,corruptpublicservantsshouldbepunishedbythe withholdingoftheirpensionaswellasbyimprisonment. Accountingpracticesshouldbebroughtinlinewithmoderninternationalstandards. Expensesofpublicagenciesshouldberecordedinrealtimeinacentralized computersystemhousedattheMinistryofFinance.Overrunsfromagenciesannual budgetsshouldbefollowedupwithpromptaudits.Underthecurrentsystem, overrunscantakeyearstodiscover. Performancebasedincentivesshouldbeintroduced.Indeed,onesourceof corruptionisthatpublicservantsholdupnormalworkuntiltheyarebribed.Well designedperformancebasedincentiveswillinducepublicservantstoworkharder, andthiswillreducetheneedforbribes. Theinstitutionalframeworkthatgovernstherelationshipbetweenindividualsand firmsononehand,andthestateontheothershouldbesimplifiedandmademore transparent.Complicatedbureaucratichurdlesprovidefertilegroundforcorruption asindividualsandfirmshaveanincentivetobribetogetaroundthehurdles. Theinteractionbetweenindividualsandfirmsononehand,andthestateonthe othershouldbecomeanonymoustoamoresignificantextent,aswealready emphasizedinthecaseoftaxaudits.Simplifyingproceduresandmovingtoonline andpostaltransactionsisanimportantstepinthatdirection.

Fallacyno2:Corruptionandtaxevasioncannotbeeradicatedbecausetheyarean integralpartofGreekculture.CorruptionandtaxevasionhavebecomepartofGreek culturebecausenotenoughincentivesareinplacetodiscouragethem.Inparticular, accountabilityinthepublicsectorislowandpenaltiestooffendersarelenient.No cultureincludingGreecesisimmunetocorruption,whichcanonlybeeliminatedby healthyandaccountableinstitutions. Oneareawherecorruptionandwastearerifeishealthcare.Thenotoriousbrownenvelopes areafactoflifeandtaxthemostvulnerable.Moreover,thequalityofhealthcareprovided inthepublicsectorisgenerallylow,withmanyofthosewhocanafforditswitchingto privatecare.Hereweneedradicalrethinking.Weneedasystemthatwillextendthesame qualityofhealthcaretoallincomegroups,willrecognisetheneedtosubsidisetheless wealthy,andatthesametimewillbemanagedefficiently.Thesystemthatweadvocate consistsof(i)sellingthepublichospitalstotheprivatesector,(ii)settingupa comprehensiveandmandatoryhealthinsurancesystem,whereallindividualsarerequired tohaveinsurance,andinsurancecompaniesarenotbeallowedtoexcludeanyone,and(iii) usingpublicmoney,subsidizetheinsurancepremiaforlowincomeindividuals.Thissystem canbringlargegainsovertheexistingone,aswewillexplaininmoredetailinafollowup article.
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Whyisreformofthepensionsystemessential?AdrasticreformofGreecespensionsystem hasrecentlybeenvotedthroughParliament.Suchareformwasessential:accordingto estimatesfromtheEuropeanCommissionin2009,ifGreecespensionsystemhadbeenleft unreformed,itwouldhavecreatedanadditionaldeficitof12.5%ofGDPby2050(OECD 2009b).Thisishigherthanwhattheentiredeficit(includingpensions)hasbeenonaverage overeachofthepastthreedecades.Itisalsohigherthanspendingoneducationandhealth combined. Greecespensionsystemwasindireneedofreformbecauseofitsmanygenerousfeatures. Table9reportstwokeyfeatures:theofficialageofretirementandtheaveragepension (wheretheaverageisacrossallemployees)(OECD2006,2009c). Table9:Retirementageandlevelofpensions(Prereform.Source:OECD) Officialretirementage Averagepensionas%of averagelifetimeearnings (replacementrate) 95.7 60.8

Greece OECD

58 63.2

EmployeesinGreececouldretireat58yearswithfullpension,providedthattheyhad completed37yearsofwork.Theretirementageof58wassignificantlylowerthantheOECD averageof63.2years.Moreover,theaveragepensionwassignificantlyhigherthanthe OECDaverage:itwas95.7%ofanemployeesaveragelifetimeearnings(evaluatedatthe timeofretirementbyadjustingforeconomywideearningsgrowth),againstanOECD averageof60.8%.78 Thatthepensionsystemwasunsustainablecanbeseenbythefollowingbackofthe envelopecalculation.Thesocialcontributionthatthegovernmentreceivesfromthe averageemployeeis44%oftheemployeesgrossearnings,with28%paidbytheemployer and16%bytheemployee(OECD2009d).About60%ofthisgoestopensions,andthe remaindergoestoothersocialbenefitssuchashealthinsurance.9Supposethatindividuals

Pensionsareoftenexpressedasapercentageofearningsduringthelastyearofonesworkratherthanasa percentageofaveragelifetimeearnings.ThisyieldssmallernumbersthaninTable9becauseearnings increasewithage.ThenumberforGreeceis7080%(OECD2009b). Inadditiontoitsgenerousprovisions,Greecespensionsystemhasmanyadverseincentiveeffectsbuiltin. Forexample,itmakesearlyretirementattractivebecausethisyieldsapensionthatisnotmuchlowerthanthe incomeearnedwhileworking.Moreover,theprovisionthatpensionsdependononeswageduringthelast fiveyearsofworkratherthanovertheentirelifetimeencouragestaxevasion:neitheryoungworkersnor theiremployershaveanyincentivetodeclarethefullwage. Thiscanbeseenfromthefactthatpensioncontributionrevenuesare7.5%ofGDP(OECD2009c),while socialcontributionsare13.4%ofGDP(Table5).
9 8 7

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liveexactlyuptotheirlifeexpectancy,whichis80yearsforGreece,andsupposethatthere isnopopulationgrowth.Ifindividualsworkfor37yearsandretireat58,thisleaves 37/22=1.68employeestopayforeachpensioner.Therefore,apensionercanreceive 1.68*44%*60%=44.5%ofhisgrossearningsatretirement.Thisislessthanhalfofthe95.7% figureinTable9.Thus,ifareformdesignedtorenderthesystemsustainableweretoleave theretirementageunchanged,itwouldhavetoreducepensionsbymorethan50%.The recentreformreducespensionsbyabout30%,butalsoraisestheretirementage. Notethatasmallerreductioninpensionscouldbeachievedbyraisingsocialcontributions beyond44%.Socialcontributions,however,arealreadythesecondhighestintheOECD. Raisingthemfurtherwillmakefirmsevenlesswillingtohire,andraiseGreecesalreadyhigh unemploymentrate.Thus,socialcontributionsshouldnotberaised. Thesustainabilityproblemofthepensionsystemhadbecomemoreacuteinrecentyears becauseofthecombinationoftwodemographicforces:lifeexpectancyhasbeenincreasing, whilepopulationgrowthhasbeendecreasing,almosttozero.Lowpopulationgrowth impairssustainabilitybecausefeweremployeesareavailabletopayforeachpensioner. Areformreducingpensionsshouldaccountforpovertyinoldage,whichishigherinGreece thantheEUaverage.Thisshouldbedonebycuttingmainlythelargerpensions.More generally,reformshouldaddresstheunfairnessofthepensionsystem,wherebysome individualsreceivepensionsthatarelargerelativetotheirlifetimecontributions,atthe expenseofotherindividualswhoreceivemuchsmallerpensions.Wenextsketchamore radicalredesignofGreecespensionsystemthatcanrenderitbothmoreefficientand fairer. Greecescurrentpensionsystem(preandpostreform)ispayasyougo,wherethose currentlyemployedpaythepensionsofthosecurrentlyretired.Analternativeisafunded system,wherethosecurrentlyemployedsavefortheirownpensionsinsteadofpayingthe pensionsofthosecurrentlyretired.Afundedsystemhasmanyadvantagesoverpayasyou go.First,itistransparentandeasytoadminister.Indeed,individualsareallocatedpersonal retirementaccounts,whosebalancetheycanobserveatanymoment.Moreover, contributionandinvestmentdecisionsaremadebytheindividualsthemselvesratherthan byatimeconsumingandexpensivebureaucraticprocess.Asecondandrelatedadvantage ofafundedsystemisthatindividualsareinbettercontroloftheirretirement:theycan decidehowlongtoworkandhowmuchtosavetoachievetheirdesiredpension.Inthis sense,thesystemisfair:individualspensionsdependonhowthriftytheywerewhen young.Athirdadvantageofafundedsystemisthatitisimmunetotheriskthatpopulation growthslowsdown,whilepayasyougoimposesalargeburdenonpublicfinances.Finally, underafundedsystem,individualssavemore(sincethisishowtheycanaccumulatetheir pensions),andthesesavingshelpfinanceproductiveinvestment.

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Afundedsystemmustincludeanelementofsocialinsurancetoprotectthosewhohadbad luckinthelabourmarket,e.g.,wereunemployedforlongperiodsoftime.Unfortunately badluckishardtodistinguishfromachoicenottowork.However,thegovernmentshould guaranteeaminimumbasicpensionpayablestartingat6568toanyonewhohasworked foraminimumnumberofyears,e.g.,1015.Bycarefullycalculatingtheamountofthis pensionandtheageatwhichitwillbepayable,incentivestoworkcanbepreserved. Afundedsystemmustincludesomedegreeofprotectionnotonlyagainstadverse outcomesinthelabourmarket,butalsointhecapitalmarket.Thisisbecausethemoney heldinretirementaccountsisinvestedinfinancialassets,whosepricescandrop.Individuals canprotectthemselvesagainstsuchdropsbyholdingwelldiversifiedportfolios,andby investinginbonds,whicharesaferthanstocks.Atthesametime,thegovernmentcould reinforcethisbehaviourbyrestrictingindividualschoicestoasetofwelldiversified portfolios,andrequiringthattheallocationtobondsexceedsaminimumlevel,which increaseswithage.Thegovernmentcouldalsoimposeacaponallowablereturnssoasto fundaminimumreturn.Forexample,thecapcouldbe6%,andanyexcessreturnscouldbe savedinanindependenttrustfundtopayforthepensionsofthoseagecohortswho achievemuchlowerreturns. Fallacyno3:Thestatemustbethemainproviderofpensions. Basingpensionson individualsavingsallowsindividualstheflexibilityofwhentoretireandhowmuchto savetofundthisretirement.Italsoremovesapotentialburdenonthepublicfinances, aswellasaninstrumentthatpoliticianscanusetomanipulatetheelectorates affections.Byasuitabledesign,riskscanbeminimisedandtheunluckypoorcanalsobe supported. MostOECDcountriesaremovingtowardsfundedsystemswithcharacteristicssimilarto thosedescribedabove.Suchreformsinvolvedelicatetransitionissuesbecausetheyimpose largeburdensonthosecurrentlyemployed,whomustsavefortheirownpensionsin additiontopayingforthosecurrentlyretired.Despitetheseissues,webelievethatmoving towardsafundedsystemwithelementsofsocialinsuranceistherightdirectionforfuture pensionreforminGreece.

3.Competitiveness
Whyiscompetitivenessimportant?Competitivenessiswhatallowsacountryto enjoyprosperityonasustainablebasis.Duringthe2000s,theaverageincomeof Greekcitizensrosesignificantly.Thisrisewasunsustainable,however,becauseit wasfinancedbyexternalborrowing.NowthatGreececannolongerborrow,it facestheriskthattheprocesswillruninreverse,i.e.,incomeswillshrink.Theonly
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waytoavoidthis,andtoensurethatincomescanriseonasustainablebasis,isto raisethecompetitivenessoftheGreekeconomywhichcurrentlyisthesecond lowestamongthe27countriesoftheEuropeanUnion. HowcantheGreekeconomybemademorecompetitive?Thegovernmentshould provideastableinstitutionalframeworkthatpromotescompetition,investment andentrepreneurship.Thisinvolvesnotasmuchcreatingnewregulationsas abolishingmanyexistingones.Acomprehensiveregulatoryreformalonecanraise thecompetitivenessoftheGreekeconomyandultimatelytheincomesofGreek citizensbymorethan15%,thusreversingmostofthenegativeeffectsthatthe crisisishavingonincomes.Thegovernmentcanfurtherraisecompetitivenessby increasingitsinvestmentintheeducationandhumancapitalofGreekcitizens. Whatkeyreformsareneededintheproductmarket?Regulationsthatprevent entryintomanyindustriesandprofessionsshouldbeabolished.Abolishingsuch regulationswillpromoteinvestmentmuchmoreeffectivelythanthrough investmentsubsidies.Monopolypracticesshouldbeprosecutedmorevigorously andtheCompetitionCommissionshouldbestrengthened.

Whatkeyreformsareneededinthelabourmarket?Regulationsthatmakeit
difficultforfirmstofireworkersshouldbeloosened.Thiswillultimatelybenefit workersbecauseGreecewillattractmoreinvestmentandwellpayingjobs. Mobilityofworkersacrossfirmsandindustriesisasignofahealthyeconomy,but mobilityinGreeceisthelowestintheOECD. Whyiscompetitivenessimportant?ForGreekcitizenstohaveaccesstowellpayingjobsand highincomes,andthistohappenonasustainablebasis,itisnecessarythattheeconomyis competitive.Iftheeconomyisnotcompetitiveandyetincomesarehigh,thismustbe becausemoneyisflowinginfromabroadintheformoftransfers(e.g.,fromtheEU)or externalborrowing.Inbothcases,thehighincomesareunsustainable:EUtransfersdonot lastforever,andexternalborrowingcomesattheexpenseoflowincomesinthefuture. Greecesperformanceduringthelastdecadeillustratestheimportanceofcompetitiveness. Table10reportstheaveragegrowthofrealGDPduring20008,thechangein unemploymentduringthatperiod,andGreecescompetitivenessin2002and2008.Real GDPisGDPadjustedforinflation,i.e.,asifpricesin2008werethesameasin2000. CompetitivenessismeasuredbythenumberofEU27countrieswhoseWorldEconomic ForumindexofcompetitivenessisabovethatofGreece. Table10:Growthandcompetitivenessduringthe2000s(Source:Eurostat,OECD,WEF)

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Averagegrowth ofrealGDP, 20008 3.9% 2.0%

Greece EU27average

Changein Competitiveness Competitiveness unemployment, rankamong rankamong 20008 EU27countries EU27countries in2002 in2008 4.0 17 26 2.2 14 14

During20008,GreecegrewitsGDPtwiceasfastastheEU27average,andreducedits unemploymentratebytwiceasmuch.Thehighgrowthtranslatedintohighincomes: incomesgrewfasterinGreecethaninmostotherEUcountries.Yet,thisgrowthwas unsustainableasbecamepainfullyevidentduringthecurrentcrisisbecauseitwasnot drivenbyimprovementsincompetitiveness.Indeed,Greecescompetitiveness,whichwas alreadyamongthelowestintheEUatthebeginningofthelastdecade,decreasedeven furtherduringthatdecade.Forexample,in2002,therewereeightEU27countriesless competitivethanGreece,andin2008therewasonlyone(Bulgaria). Growthandjobcreationduring20008weremainlydrivenbythemoneythatthe governmentwasborrowingfromabroadandpumpingintotheeconomy.Forexample,the governmentspentsomeofthemoneyonpublicinfrastructure,causingactivitytoincrease andjobstobecreatedintheconstructionsector.Growthandjobcreationpropagated throughouttheeconomy,asthosewhoseincomesincreasedspentmoreonothergoods andservices.Forexample,thoseworkingintheconstructionsectorcouldspendmoreon holidays,causingactivitytoincreaseandjobstobecreatedinthetourismsector,andsoon. ExternalborrowingisnolongerpossibleforGreece;Greecemustinsteadpaybackitsdebt. Thisraisesthealarmingprospectthattheprocessdescribedinthepreviousparagraphwill runinreverse,i.e.,jobsandincomeswillshrinkovermanyyearstocome.Negativegrowth hasalreadybegun:forexample,realGDPshrunkin2009. TheonlywaytoavoidaprotractedcrisisinGreeceandtoensurethatincomescanriseona sustainablebasisistomaketheeconomymorecompetitive.ThebrightsideaboutGreeces abysmallylowcompetitivenessisthatthereismuchroomforimprovement,andsohigh potentialforgrowthandprosperity.Wenextexplainhowthispotentialcanberealized. HowcantheGreekeconomybemademorecompetitive?Aneconomyiscompetitiveifits firmsandworkerscanachieveahighlevelofproductivity.Whenproductivityishigh,jobs paywellandincomesarehigh.Moreover,theeconomycanattractinvestmentbyforeign firms,whichcreatesmorejobsandfurtherraisesincomes. Themaindeterminantofcompetitivenessisthesetofrulesthatgoverntheoperationof markets.Theserulesshouldpromotecompetition,investmentandentrepreneurship.Rules thatarewelldesignedandenforcedvigorouslycanmakeacountrycompetitiveand prosperous.
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Greeceslowcompetitivenessisnotduetoalackofrules.Indeed,theGreekeconomyis oneofthemostheavilyregulated(i.e.,tightlycontrolledbythestate)intheOECD:the product(i.e.,goodsandservices)marketisthemostheavilyregulatedofall30OECD countries,andthelabourmarketisthefifthmostregulated(OECDproductmarket regulationindicators2008,OECDemploymentprotectionindicators2008).Manyofthe regulationscreateseriousobstaclesforcompetition,investmentandentrepreneurship,and shouldbeabolished.Atthesametime,thefewregulationsthatpromotethegood operationofmarketsarenotenforcedvigorouslyenough.Thatshouldchangeaswell. BecausetheGreekeconomyisheavilyandinefficientlyregulated,therearelargebenefitsto reapfromregulatoryreform.AccordingtotheOECD(ScarpettaandTressel2002)a comprehensiveregulatoryreformalonecanraisethecompetitivenessoftheGreek economyandultimatelytheincomesofGreekcitizensbymorethan15%.Thiscan reversemostofthenegativeeffectsthatthecrisisishavingonincomes. Ifregulatoryreformcanyieldlargebenefits,whyhasntitmaterializedyettoasignificant extent?Onereasonisthepoliticalpressurebyminoritygroupswhowouldstandtolose fromspecificreforms.Forexample,regulationsthatprevententryintoanindustryor profession,andsoimpaircompetition,benefitthefirmsinthatindustryorthemembersof thatprofessionbecausetheyenablethemtochargehighprices.Therefore,theindustryor professionrepresentativeslobbypoliticianstomaintainsuchregulations. Anadditionalreasonwhyregulatoryreformhasnotbeenhighuponthepoliticalagendais thatthegeneralpublichasnotfullygraspeditsbenefits.Indeed,thereisawidelyheldbelief thatmarketsshouldbeheavilyregulatedbecausetheyproduceundesirableoutcomeswhen lefttooperatemorefreely.Thisbeliefispartlyjustifiedgiventhepublicsexperience: marketliberalizationinGreecehasoftenresultedinhigherprices.Atthesametime,the beliefiserroneousbecausemarketsweremadefreeonlynominallybutnotinsubstance: regulationspreventingentrybynewfirmswereleftinplaceand``freedompertainedonly totheabilityoftheexistingfirmstoraisetheirprices.Notsurprisingly,pricesincreased,and thisreinforcedthepublicssuspicionoffreemarkets.Hadinsteadentrybeenliberalizedat thesametimeasprices,priceswouldhavedecreased,andmarketliberalizationwouldhave benefitedthepublic. Fallacyno4:Pricesofmanygoodsareaffordableonlybecausethegovernmentis imposingpriceceilings;ifmarketsareliberalized,priceswillgoup.Marketsaretruly liberalizedwhenregulatoryobstaclestoentryareremoved.Suchobstaclesareimposed bythegovernment,oftenbecauseofpoliticalpressurebyincumbentfirmsandother vestedinterests.Removingtheminducesentry,andthisresultsinlowpriceswithoutthe needtoimposepriceceilings.Regulationsthatcontroldirectlythelevelofpricesshould beusedsparingly,whenthemarketistoosmalltosustainmanyfirms.

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Inadditiontosoundrulesgoverningtheoperationofmarkets,competitivenessrequiresa highlyeducatedworkforce:thismakesexistingfirmsmoreproductiveandhelpsattractnew firms,especiallythoseengagedinhightechnologyandhighgrowthactivities.Aswe showedinSection2,Greecemustperformbetterintheareaofeducation:bothby allocatingmoreresourcestoitandbyensuringthatresourcesareusedmoreproductively. Itshouldalsoinvestmoreinresearchanddevelopment(R&D),anareawhichcurrently receivesveryfewresources.Forexample,Greeceinvestedonly0.6%ofitsGDPinR&Din 2007.Theaverageacrossthe30OECDcountrieswas2%,withGreecescoringthethird lowest. Improvementsineducationwillnotbearmuchfruitunlesstheyarecombinedwith regulatoryreformthatmakesiteasierforfirmstooperateinGreece.Indeed,intheabsence ofregulatoryreform,hightechnologyandhighgrowthfirmswillnotcometoGreece,but insteadeducatedGreekswillmigrateabroad.Becauseregulatoryreformwillinducesuch firmstocome,itwillnotonlystemGreecesbraindrain,butwillalsoinduceeducated Greekswhomigratedabroadbecauseofbetterjobopportunitiestoreturnhome. Whatkeyreformsareneededintheproductmarket?Onekeyreformistoreduce drasticallytheregulatoryobstaclesthatprevententryintomanyindustriesandprofessions. Reducingthesesocalledbarrierstoentrymakesaneconomymorecompetitivefortwo reasons.First,thenewfirmsenteringanindustrymightbemoreproductivethanthe existingonesbecausetheyhavebettertechnologiesorideas.Thisraisesindustrywide productivity.Second,evenifthenewfirmsareequallyproductiveastheexistingones, competitionbecomesmoreintensebecausetherearemorefirms.Thislowersprices,and benefitsfirmsinotherindustriesthatuseasinputtheoutputofthatindustry.Thecostsof thesefirmsdecreaseandtheirproductivityincreases. Tomakethingsmoreconcrete,weuseanexamplethathasbeeninthenewsrecently:road transportation.Firmsthatwanttoenterthisindustryarecurrentlyrequiredtopayahigh licencefee,whichcanbeupto200000Eurospertruck.Reducingthisbarriertoentrywill enablemorefirmstoenterintotheindustryandwilllowerprices.Lowerpriceswill,inturn, raisetheproductivityoffirmsinotherindustriesthatdependonroadtransportation,e.g., agriculture,construction,etc.Forexample,iffarmerscantransporttheirproductsmore cheaplyandtomoredestinations,theywillhaveanincentivetoproducemoreandtoinvest inmoreefficientproductionmethods.Theproductivitygainsarelarge:accordingtoIOBE (2007),eliminatingthelicencefee,andsoliberalizingroadtransportation,willlower transportationpricesby20%andraiseGreecesGDPby0.5%. ThegainsinGDPachievedbyliberalizingroadtransportationwilltranslatetoahigherreal incomefortheaveragecitizen.Indeed,citizenswillpaylowerpricesiftheyneedtomove homesandtransporttheirbelongings.Theywillalsopaylowerpricesforgoodsthatdepend onroadtransportation,suchasagriculturalproducts.Finally,jobswillbecreatedand incomeswillriseinindustriesthatdependonroadtransportation.Ofcourse,noteverybody
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willbenefit:holdersoftransportationlicenceswilllose.Theselosses,however,willbemuch smallerthanthegainsforeveryoneelse,andcouldbecompensatedtosomeextentbya timelimitedtaxcredit.Losseswilladditionallybecompensatedbythefactthatholdersof transportationlicenceswillbenefit,asconsumers,fromthelowerpricesachievedby reducingentrybarriersintootherindustries. Regulatorybarrierstoentrycantakemanyforms.Someareduetoregulationsthatlimit entryexplicitly,asinthecaseofroadtransportation.Suchregulationshavebeenabolished insomeindustriesduringthelastdecade,partlybecauseofpressurebytheEuropean Union.Thosethatremainshouldalsobeabolished. Otherbarrierstoentryareduetobureaucratichurdlesthatthegovernmentimposesonall firmsandcitizens.Forexample,anewfirmthatwantstobuildafactorymustobtainan arrayofpermitsfrommultipleauthorities,whichrequireittomeetmanycomplicatedlegal requirements.Thisprovidesfertilegroundforcorruption.Indeed,afirmhasanincentiveto bribecorruptpublicservantssotogetaroundthebureaucratichurdlesandenteran industry.Andexistingfirmsintheindustryhaveanincentivetobribesothatentrycanbe prevented. Reducingthebureaucraticbarrierstoentryrequiressimplifyingandclarifyingthe institutionalframeworkwhichgovernstheestablishmentandoperationoffirms.For example,theabsenceofclearzoninglawscreatescomplexityandambiguityforobtaininga permitbytheurbanplanningoffice,andisasourceofcorruption;thisshouldchange.A simpleandtransparentinstitutionalframeworkwillnotonlyencourageentryand investment,butalsoreducecorruptioninthepublicsectorasweemphasizedinSection2. Moreover,thebeneficialeffectoninvestmentwillbemuchlargerthanthatofdirect investmentsubsidies,whicharealsosubjecttofavouritismandcorruption. Fallacyno5:Thebestrecipeforgrowthisforthegovernment toidentifypromising industrysectorsandsubsidizeinvestmentinthem.Moreoftenthannot,investment subsidiesendupinthepocketsofpoliticalfriendsandarewasted.Thosebestqualifiedto determinepromisingindustrysectorsarenotpublicservantsbutprivateentrepreneurs whoinvesttheirownmoney.Thebestthatthegovernmentcandoistoprovideasimple andstableinstitutionalframeworkinwhichfirmscanoperatewhichinthecaseof Greecemeansdismantlingmanyoftheexistingregulationsandensuringthatthefew whichareusefulareenforcedvigorously. Thebureaucraticbarrierstoentryareespeciallyimportantforforeignfirms,whicharenot familiarwithGreeklawsandculture.Andindeed,foreigndirectinvestmentinGreeceis extremelylow:between2003and2008itwasonly1%ofGDP.Theaverageacrossthe30 OECDcountrieswas4.1%,withGreecescoringthefourthlowest.

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Eveniftherewerenoregulatorybarrierstoentry,someindustriescouldsupportonlya smallnumberoffirmsbecausethesizeofthemarketissmallrelativetothesizeatwhich firmscanoperateprofitably.Forexample,therearefewerairlinesthanroadtransportation firmsbecausetheformercanoperateprofitablyonlyatalargesize.Anindustrythatcan supportonlyasmallnumberoffirmsispronetomonopolypractices,e.g.,firmsforma cartelandchargehighpricestoconsumers.Regulationinsuchindustriesshouldaimto monitorandprosecutemonopolypractices.InGreece,thisactivityisperformedbythe HellenicCompetitionCommission(HCC).WhiletheHCChasmadesomestepsforwardinthe lastdecade,itlagsinefficiencyrelativetoitscounterpartsinotherOECDcountries.Firms thatengageinmonopolypracticesareoftennotprosecuted,whilefirmsthatdonotengage insuchpracticesareoccasionallyprosecutedbecauseofpoliticalorotherconsiderations. TheHCCshouldstrivetoimplementthelawinatransparentandconsistentmannerthat adherestothebestpracticesintheEU.Thiswillyieldsignificantbenefits:priceswill decreaseinmanyindustries,andeconomywideemploymentandproductivitywillincrease. TheHCCshouldbestrengthenedintermsofhumanresources,independencefromthe governmentandaccountability. Whatkeyreformsareneededinthelabourmarket?Onekeyreformistoloosenthe regulationsthatmakeitdifficultforfirmstofireworkers.Themainsuchregulationsconcern severancepaymentsthatfirmsmustmaketoworkerswhotheyfire,andlimitsonthe numberofworkersthatfirmscanfireinanygivenmonth.Areformthatlowersseverance paymentsandraiseslimitsoncollectivedismissalshasrecentlybeenvotedthrough Parliament.Itgoesintherightdirection,althoughtheregulationsshouldbeloosenedeven further. Reducingfirmsfiringcostsisinthebestinterestnotonlyoffirmsbutalsoofworkers:this mayappearsurprising,butistrueasweexplainbelow.Butfirst,itisusefultoclarifyfor whichworkersfiringregulationsshouldbeloosened.Greecehasalargeinformaleconomy, whichaccountsfor2530%ofGDP(Katsios2006)andwhereemploymentprotectionis minimalinparticular,firingisunregulated.Theseworkersshouldbebroughtintothe formaleconomyandprovidedwithemploymentprotection.Additionally,firingregulations forbluecollarworkersaremuchlooserthanforwhitecollar.Firingregulationsshouldbe thesameforallworkers,andthisshouldbeaccomplishedbylooseningthoseforwhite collar. Howcanreducingfirmsfiringcostsbenefitworkers?First,firmswillbebetterableto surviveadownturnandmoreeagertohireagainwhenbusinesspicksup.Indeed,afirm thatisunabletoreducesharplyitsworkforceinadownturnfaceslargecostsandpossibly evenbankruptcy.Lowfiringcostscanpreventbankruptcy,andsoallowatleastsome workerstokeeptheirjobs.Moreover,lowfiringcostswillmakethefirmmoreeagertohire againwhenbusinesspicksupbecauseitknowsthatitcanreduceitsworkforcemoreeasily inthenextdownturn.
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Perhapsthemainbenefitoflowfiringcostsandofflexiblelabourmarketsingeneralis thattheyattractmoreinvestment,includingbyforeignfirms.Asalreadyemphasized, foreigndirectinvestmentinGreeceisverylowbecauseforeignfirmsarereluctanttoenter intoGreecesheavilyregulatedmarket.Makingthelabourmarketmoreflexible,together withtheadditionalreformsdiscussedearlier,willbringmoreinvestmentandwellpaying jobs. Finally,lowfiringcosts(andlighterregulationsingeneral)willbringmoreactivityfromthe informaltotheformaleconomy:onereasonwhyactivitybecomesinformalisthehigh regulatoryburden.Thebeneficialconsequenceswillbethatworkersintheinformal economywillreceiveemploymentprotection,andthegovernmentwillcollectmoremoney intaxesandsocialcontributions. Areformthatlowersfiringcostswillgeneratesomelosersintheshortrun:theworkerswho willlosetheirjobsasaconsequence.Butoncethereformprocessiswellunderwayandthe Greekeconomypicksup,everybodywillbenefitasmoreandbetterpaidjobswillbecome available.Thosecurrentlyunemployed,adisproportionatefractionofwhomareyoung,will particularlybenefitsincetheywillbeabletofindjobsmoreeasily.Opposinglabourmarket reformservesonlytoprotecttheshortruninterestsofonlyafractionofemployedworkers (whitecollar),withoutregardtotheremainingworkersandtheunemployedandwithout regardtothelongrunbenefitsthatthereformwillbringtoallworkers. Fallacyno6:Regulationsthatrestrictseverelyfirmsabilitytofireworkersaregood forworkers.Tightfiringregulationsdiscouragejobcreationbecauseofthepotential costsofadjustingtheworkforceinadownturn.Youth,whoareinexperiencedand untried,areparticularvictimsofsuchpoliciesasevidencedbythehugeyouth unemploymentratesinGreeceandothercountrieswithtightlabourmarketregulations, suchasFranceandSpain. Somehavearguedthatreducingfiringcostsisirrelevantbecausetheseaffectonlylarge firms,whicharenotprevalentinGreece.Forexample,firmswithfewerthantenemployees arenotsubjecttoanylimitsoncollectivedismissals,andtheyconstitute98%ofallGreek firms.Thisargument,however,servesonlytoreinforceourpoint:oneofthereasonswhy Greecedoesnothavelargeanddynamicfirmsisbecauseofitsstrictlabourmarket regulations,whichdiscourageforeigndirectinvestment.Looseningtheseregulationswill affectnotasmuchthefirmsthatGreececurrentlyhas,asthosethatitdoesnothaveand shouldaspiretohave.

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Fallacyno7:Tightlabourmarketregulationsdonotmatteriftheeconomyhasa vibrantinformalsector,wheretheseregulationscanbecircumvented.Firmsinthe informaleconomyaretypicallysmallandinlowvalueaddedsectors.Largefirms,which aretypicallyinhighvalueaddedsectors,cannotoperateintheinformaleconomy.Tight labourmarketregulations(andtightregulationsingeneral)discouragethecreationof largefirms,thussubsidizinglowvalueaddedsectorsandlowskilllabourattheexpense ofhighvalueaddedsectorsandhighskilllabour. Asecondkeyreformistodecentralizelabournegotiationstothelevelofindividualfirms. Wagesandworkingconditionsarecurrentlyagreedonatthenationalorindustrylevel,and firmsarerequiredtoconformtotheagreementswhetherornottheyarerepresentedin thenegotiations.Manyissues,however,shouldbeleftfornegotiationbetweenindividual firmsandtheirworkers.Thisisbecausedifferentfirmsfacedifferentmarketenvironments, andrequiringthattheyallofferthesamewagesorworkingconditionsdamagestheir productivity.Forexample,afirmforwhichovertimeworkisvaluablecouldnegotiatea lowercompensationforovertimewithitsworkersinexchangeforahigheroverallwage. Suchflexibilityisnotavailableinthecurrentsystem.Werecommendthatnegotiationsat thenationalorindustrylevelconcernonlyminimumlevelsofwagesandworking conditions,leavingsignificantroomfortopupstobenegotiatedatthefirmlevel. Aflexiblelabourmarketshouldbeaccompaniedbyawelldevelopedunemployment insurancesystem.Greecehasreliedonfirmstoinsureworkersagainstunemployment, throughseverancepaymentsandotherrestrictionsonfiring.Thisisinefficientforthe reasonsdiscussedearlier.Unemploymentinsuranceshouldinsteadbeprovidedbythe government,andinawaytoavoidmoralhazard,i.e.,makeunemploymenttooattractivean option.Werecommendamoderncontributoryunemploymentinsurancesystem.Insucha systemabasiccomponentcomesfromthegeneraltaxpayerandanadditionalcomponentis tiedtoindividualcontributions.Individualscanaccumulatecontributionsinan unemploymentfund,whichtheycanrundownduringspellsofunemployment.Thissolves theinsuranceproblemandatthesametimekeepsmoralhazardtoaminimumbylinking theamountofunemploymentbenefitstothelevelofcontributions;thissoundslike compulsorysavings,whichitis.Thepointispreciselymoralhazard,becauseifindividuals knowthatthegovernmentwillpickupthebillwhentheyareunemployedtheywillnotsave enough.

Conclusion
TheeconomicpoliciesofthelastthreedecadeshavebroughtGreececlosetobankruptcy. Reformsthatothercountriesundertookmanyyearsagowerepostponedoverandover again,leavingGreecewithanunproductivepublicsector,anunfairandinefficienttax
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collectionsystem,anunsustainablepensionsystem,andaheavilyregulatedeconomy whosecompetitivenessislowanddeclining. ThelackofreformshasbeenespeciallycostlyforGreecesyoung.Theeducationthatthe stateisprovidingthemwithlagsrelativetointernationalstandards.Oncetheyfinishtheir studies,theyfindithardtoenterthelabourmarketbecausestrictregulationsdiscourage firmsfrominvestingandcreatingjobs.Whentheyoungwilleventuallyfindjobs,theirtaxes willbehightorepaythedebtthatpreviousgovernmentshaveaccumulated,andsowill theirsocialcontributionstopayforGreecesgenerouspensions.UnlessGreecereformsits economyrapidly,itrunstheriskthatthatmanyofitsyoung(andespeciallythemost creativeandentrepreneurialones)willmigrateabroad. ThebrightsideaboutGreecescurrentsituationisthatmuchimprovementispossible. Indeed,thereexistsaclearpathofreformsthatcanhelpGreecerecovermuchofthelost ground.ThereformsagreedbetweenGreeceanditslendersgointherightdirection,and shouldbesupported:forexample,thereformsrecentlyvotedthroughParliament concerningthepensionsystemandthelabourmarketarenecessaryandoverdue.This articleexplainswhysuchreformsarenecessary,andoutlinesabroaderlongrunreform programmefortheGreekeconomy Thereformsoutlinedinthisarticlewillbenefittheeconomyandraisetheincomeofthe averagecitizen.Atthesametime,aminoritywilllosefromeachreform.Forexample, loweringregulatorybarrierstoentryintoanindustrywillbenefitconsumersandwill increaseemployment,butwillhurtexistingfirmsintheindustry.Thosewholosefromone reform,however,willbenefitfrommanyothers,andonceenoughreformsareimplemented almosteverybodywillhavegained.Reapingthesegainsrequiresthatreformsare implementedsuccessfullyandwithoutdelay.

References
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OECD(2009c),PensionsataGlance,Paris. OECD(2009d),TaxingWages,Paris. Rapanos,V.(2009),, FoundationforEconomic&IndustrialResearch()WorkingPaper. Scarpetta,S.andT.Tressel(2002),ProductivityandConvergenceinaPanelofOECD Industries:DoRegulationsandInstitutionsMatter?OECDEconomicsDepartmentWorking PaperNo342.

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