What are the Economic Benefits and Drawbacks of National Level Bailouts by International Organizations?
Identification of Problem
The Greek Debt Crisis has recurrently been on the headlines of news reports for the past decade. In 2010, it can be remembered that the first set of austerity measures were introduced and implemented by the Greek Parliament in order for it to receive yet another bailout after the recent Great Financial Crisis of 2008 hammered the already recovering Greek economy down. Before the first set of austerity measures was implemented and the second bailout package was delivered, Eurozone and Euro Group officials were facing the risks of shouldering the potential losses of allowing an exit by Greece from the Eurozone from happening. Today, specifically in the past weeks, people witnessed an essentially the same set of events that unfolded in 2010.
Context Paragraphs and History
Greece was on the brink of bankruptcy as it has ran out of Euro currencies to pay for its debt bills, mainly as a result of its rejection of the austerity measures (which is a concomitant component of the another set of bailout package that they need to keep the national economy running). In this paper, the author addresses the benefits (if any) and the drawbacks of a national level bailout by International Organizations, focusing on the events that unfolded on the recent and past Greek Debt Crises.
In order to understand what the Greek Crisis is all about, it would be beneficial for the readers to have a brief but solid background of the mother of all debt crises in the region and not just in Greece. A few years prior to the Great Recession of 2008, everyone, even the professional market analysts and economists thought that Greece and other modernized economies in the Eurozone (see Italy, France, and Spain) and other regions such as South America (see Argentina) were doing well financial stability-wise.
However, what they failed to find out was that those countries were only looking good in that aspect in paper; and that the only reason what that was so was because they were given the privilege of borrowing money at low interest rates. This privilege (borrowing money to fund huge government deficits at low interest rates) was applicable to the member countries of the Eurozone (see Italy, Spain, and France).
It is important to note that Greece is also a member of the Eurozone and it was essentially some of the member countries’ underserving access to this privilege that led to the European debt crisis contagion (which put Greece) and other fragile economies on the toughest spot because their economies do not have the resilience required to withstand the different liquidity shocks, such as the ones that occurred during the recent global recession in 2008. When the global financial crisis hit in 2008, some of the fragile economies in the Eurozone that had high debt to GDP ratios (Greece in this case, and Italy, Spain, and France) had to be bailed out at some point.
Solutions
In order to combat a continuous increasing pile of debt, Greece has to make lasting economic structural reforms aimed at stimulating economic growth
In order to combat a continuous increasing pile of debt, Greece has to make lasting economic structural reforms aimed at avoiding reliance on debt by structuring a balanced fiscal policy
Three Strongest Points
Among the countries mentioned, Greece, Spain, and Italy were the countries that needed varying levels of national level bailouts from other member countries and other international financial and creditor organizations. Germany was the Eurozone’s richest country. It was one of the few countries that had the financial and economic firepower to bailout other European countries who were facing the risk of defaulting on their debts after the global financial crisis shook their economies. With help from private and institutional investors (i.e. bond buyers) international creditor organizations such as the European Central Bank (ECB), International Monetary Fund (IMF), the European Commission (Euro Group), and at some point, the World Bank, Greece and other countries that have been mentioned in the example, were able to be saved from bankruptcy.
Now, as mentioned earlier, this paper aims to point out the benefits (if any) and drawbacks of a national level bailout by international organizations. In order to accomplish that, certain macroeconomic indicators must be used. One reliable indicator to use would be the changes in the debt to GDP ratio (of the country that received the bailout package, in this case, Greece). Basically, an increase in debt to GDP ratio after an international bailout would mean that it is not really helping the country’s economy recover from its woes; and a decrease in the same figure would only mean that it has a net positive effect on the economy.
In Greece’s case, its debt to GDP ratio in 2010 (the first wave of the European Debt Crisis) was standing at 129.7%. In the recent Greek Debt Crisis, its debt to GDP ratio was already standing at 180% . The chart below shows the historical debt to GDP ratio of Greece. Using a year on year comparison of the debt to GDP ratio would enable the readers to view the effect of the international bailouts it received in 2010 on the economic indicator selected.
The chart posted above shows that since the introduction of an international bailout for the Greek Government in 2010, its debt just grew even larger as a percentage of its GDP. It is important to note that government debt unlike personal or corporate debt is not measured in nominal terms. It is often measured as a percentage of its GDP in order to account for the economic growth that happens while the country pays for the principal and interest rates it has owed to its creditors.
This means that the objective for a country that wants to pay its debt (eventually) would be to decrease if not totally avoid further borrowings and stimulate a higher level of economic growth. However, in Greece’s case, it has achieved the opposite of what it needs to sustainably pay down its debt. Specifically, it managed to sustain a continuously growing government budget deficit and its economic (in terms of GDP) contracted. The table below shows the economic growth trend of Greece in terms of GDP in the past decade .
The income that the government receives from taxes and other revenue generating mechanisms is essentially not enough to cover its expenses (e.g. pensions, wages of government employees, defense spending, social and public works, and etc.), so it is forced to borrow money through the issuance of bonds to investors, which it later on has to pay with interests. Eventually, the newly created debt would be sustainable and the Greek Government would have to need another set of bailout from its partner countries in the Eurozone and international creditors in order for it to service the debt it accrued from its continuous issuance of government bonds and debt instruments.
This is exactly what happened in the past weeks. In fact, the Greek government was already in a state of technical default after it missed a scheduled payment of 1.7 billion USD to the International Monetary Fund last month . In general, based on the two economic indicators that have been presented, focusing on Greek’s own progress, it is clear and evident that national level bailouts by international groups and organizations do not have any real benefit and that their major drawback is that they give fuel to zombie economies or those national economies that only exist to pay a continuously increasing pile of debt .
Risks and Potential Problems
The austerity measures that the international creditors have been continuously imposing on the Greek Government as a condition for their continuous support to the Greek Economy (through its international bailout packages) can be seen as source of risk and other potential problems for the Greek economy. With the austerity measures in place, the Greek government becomes forced to cut down spending; and since in almost all cases, the government is the largest spender in the economy , a significant cut on government spending would translate to a slower or in Greece’s case, an economic growth in the negative territory. The effects of this are in fact clear already as seen on the charts provided above.
In that case, a potential alternative plan would be the removal of the austerity measures in the international bailout plans for Greece . That way, the economy can still have room to grow and be able to pay down larger chunks of its debt in the future.
Conclusions
In summary, it is evident that the national level bailouts by international organizations offered to Greece had a net negative effect on the Greek economy. The data on the charts and economic indicators presented all point to this fact. There are only two possible solutions in order to prevent a similar Greek Debt Crisis kind of scenario in the future and that would be to ensure that Greece’s economy grows substantially over the next decades and that the government successfully avoids incurring more debts. In the long run, if Greece could consistently adhere to these solutions, it would see its debt to GDP ratio go down and eventually, it would be able to repay its debts.
References
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Mayeda, A. (2015). Why it won't be a Default if Greece Misses IMF Payment Next Weeks. Bloomberg Business.
Tombazos, S., Varoufakis, Y., Wade, R., & Sigurgeisdorttir, S. (2010). Zombie Economics: How Dead Ideas Still Walk Among Us. Princeton University Press.
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