22/03/2010 - The Bank of Greece Report on Monetary Policy 2009-2010

Today, in accordance with its Statute, the Bank of Greece submitted its Report o
n Monetary Policy 2009-2010 to the Greek Parliament and the Cabinet. The Bank’s
Governor, Mr. George Provopoulos, delivered the report to the Speaker of Parliam
ent, Mr. Filippos Petsalnikos. The key message of the Report can be summarised a
s follows:
The report is submitted at a particularly difficult time. The Greek economy is i
n the midst of a deep crisis, characterised mainly by a large fiscal deficit, hu
ge debt and the continued erosion of its competitive position. These problems ar
ose before the international crisis of 2008 and it was inevitable that, in the a
bsence of bold and decisive actions, they would lead to an impasse. There were n
o such actions, the situation deteriorated markedly, culminating in the derailme
nt of public finances in 2008 and 2009. The international crisis amplified the c
umulated negative effects of those chronic weaknesses and accelerated the downtu
rn of the economy.
The Bank of Greece had issued timely warnings concerning the gravity of the situ
ation:
• In October 2008, i.e. about a year and a half ago, the Bank of Greece stressed
in its Monetary Policy Interim Report that the Greek economy was at a crucial j
uncture and that, as the global economic situation worsened, the macroeconomic i
mbalances and structural weaknesses of the domestic economy would become more se
vere and more difficult to address.
• In the Monetary Policy Report that followed in February 2009, the Bank of Gree
ce warned about everything that is happening today – stressing, in particular, t
he possibility of a rise in the cost of borrowing. As that Report stated, “a wid
ening of the yield spread would increase the future burden on taxpayers”.
• Lastly, in October 2009, the Monetary Policy Interim Report underlined the nee
d to send a clear message to the markets that Greece is determined to implement
a multi-year plan of fiscal consolidation and structural reforms.
Unfortunately, the developments during the past few months have confirmed the Ba
nk’s warnings and undermined confidence in the future of the Greek economy: Sinc
e April 2009, Greece has been subject to the Excessive Deficit Procedure, as the
deficits of both 2007 and 2008 exceeded the reference value set by the Treaty.
In 2009, as the Bank of Greece had warned, the general government deficit reache
d 12.9% of GDP and public debt stood at 115% of GDP. These developments triggere
d a series of downgradings of Greece’s credit ratings and led to a large widenin
g in the yield spread between Greek and German government bonds – resulting in i
ncreased borrowing and debt-servicing costs for the Greek government. The increa
se in debt-service expenditures, in turn, increased the country’s budget deficit
, made fiscal consolidation more difficult to achieve, and had serious repercuss
ions for the real economy and the banking system. The Greek economy is caught in
a vicious circle, with only one way out: the drastic reduction of the fiscal de
ficit and debt so that there is an immediate reversal of the current trend.
Large fiscal deficits and debts can, of course, also be found in other countries
. Unlike Greece, however, these countries are able to finance their deficit main
ly from domestic savings. Because of the low level of private savings in Greece,
the public debt cannot be financed from domestic sources, resulting in a wideni
ng current account deficit and a rising external debt. Thus, the problem of the
fiscal deficit becomes intertwined with the problem of the external deficit and
debt and the twin deficits emerge as the main factor fuelling a dangerous viciou
s circle.
The main manifestation of this situation is growing budgetary imbalances, rising
public debt and a loss of competitiveness, which is clearly reflected in the cu
rrent account deficit. But the crisis is also taking its toll on the entire econ
omy, hampering the functioning of the banking sector, undermining confidence, cr
eating unprecedented uncertainties, and challenging social and economic attitude
s and patterns of behaviour that have prevailed in the country for decades. The
ramifications of the economic crisis are spreading across all of society, which
must now recognise the problem and change attitudes and practices in order to co
me to terms with it.
The data presented in the Report shed light on the multi-faceted crisis that the
Greek economy is currently experiencing.
After a decade of positive performance, GDP contracted by 2% in 2009, mainly bec
ause of the sharp drop in investment, but also due to weakening private consumpt
ion and exports. GDP is projected to fall in 2010 as well, although the size of
the fall will be decisively affected by the effectiveness and the pace of implem
entation of the economic policy measures recently announced by the government. A
t the present time, the decline in GDP is projected this year to be around 2%. I
t is also important to note that the Greek economy remains in recession while th
e economies of many other industrialised countries are recovering, albeit at an
uneven pace. In the euro area, in particular, the recovery has been under way si
nce the third quarter of 2009. The euro area recovery remains fragile, however,
because it has been largely driven by expansionary fiscal policies. These polici
es will gradually have to be phased out, given that most advanced economies have
accumulated large fiscal deficits and debts.
The recession in the Greek economy has spread to all sectors of production, nega
tively impacted on employment, and raised the rate of unemployment. According to
provisional data, total employment declined by 1.1% in 2009, while the number o
f employees is estimated to have fallen by about 1.5%.
The adverse developments in the economy and, above all, in Greece’s fiscal balan
ces, together with impaired confidence, have also taken their toll on the bankin
g system. Unlike what happened in many other countries, where the crisis first b
roke out in the banking system and spread from there to the real economy, Greece
’s banking system, which is fundamentally sound, has faced liquidity constraint
s since the severe fiscal imbalances have led to a downgrading of the country’s
credit ratings, thereby restricting bank access to finance, and raising funding
costs. Meanwhile, the recession led to a slowing in the growth of deposits, affe
cting the supply of credit. In spite of these problems, the year-on-year rate of
credit expansion to the private sector remained positive throughout 2009, contr
ary to the situation in the euro area as a whole, where negative growth rates ha
ve at times been recorded. As the Bank of Greece has repeatedly stressed, the Gr
eek banking system showed remarkable resilience during the international crisis.
In order for it to retain this resilience, it will be necessary to remove the e
xogenous factors that affect its functioning and to restore confidence in the fu
ture of the Greek economy.
In response to the serious challenges brought about by the crisis, policy makers
have recently shown a strong resolve to reverse the negative trends of previous
years. Thus, the Budget for 2010 and the Stability and Growth Programme (that s
ets out the general medium-term policy orientation) were supplemented by measure
s that strengthen the probability of achieving the fiscal targets.
The overall policy formulated seeks to reverse a trend that led to accumulated p
roblems and a dangerous impasse. Changing that course will not be easy. It will
require an equally prolonged effort to break the vicious circle that was pushing
the economy into a state of decline, threatening to undermine standards of livi
ng. The recently announced policy measures mark the beginning of a large-scale e
ffort. If implemented effectively, these measures will lead to a durable virtuou
s circle that will restore the Greek economy to a path of sustainable growth, en
abling Greece to achieve economic and social progress.
For this to happen, the policy measures announced must be implemented in their e
ntirety and without delay. This would make a crucial contribution to the restora
tion of confidence, which would have a favourable impact on the cost of governme
nt borrowing, with positive repercussions on bank funding costs and, further dow
n the line, borrowing costs for businesses and households. In the present circum
stances, fiscal consolidation is a sine qua non for restarting the economy.
The next step will be to support the recovery process with structural reforms ai
med at substantially bolstering competitiveness, steadily improving productive c
onditions and modernising the growth model. Such reforms must also aim at greate
r transparency and, most importantly, at improving the operation and increasing
the efficiency of the wider public administration.
The crisis that the Greek economy is facing today is all-encompassing and multi-
faceted. It therefore calls for a bold response of the same kind: immediate, sus
tainable, ongoing and convincing fiscal consolidation, coupled with structural r
eforms aimed at facilitating the operation of markets and improving competitiven
ess. Most important, Greece must eradicate the patterns of behaviour, attitudes
and policies that have brought us to the present crisis situation.