Euphoria and Bust

This chapter reviews briefly Greek economic performance in the first few years of the twenty-first century which was characterized by rapid growth stimulated by both public and private spending. The resulting balance of payments deficit was financed by large borrowing in the private capital markets at spreads that were only slightly higher than the German benchmark, which encouraged the Greek government to over-borrow. Then came a period of massive current account deficits in 2005–2008, further borrowing, until the roof caved in during 2009. This review is followed by a discussion of the reasons why the crisis was so deep and protracted. It is argued that all three main actors in the crisis, the EU countries, the IMF and the Greek government committed serious policy errors by ignoring the lessons of past history of how to deal effectively with debt crises. A key mistake was not forcing a private debt reduction early on in order to protect the commercial banks in France, Germany and elsewhere from serious losses. The IMF also erred by not properly estimating the deep recession that the recommended fiscal adjustment would cause to the Greek economy. And the Greek government failed to implement effectively policy reforms in the labor market, privatization and tax collection. The result was that the initial EU and IMF support programs failed and there were serious concerns that Greece may need to be forced out of the Euro.