• The Puzzle of European Integration: Will Greece Be the First Piece to Fall Through?

  • By Marica Frangakis | 15 Nov 12 | Posted under: Greece , European Union
  • A jigsaw puzzle is a picture made up of interlocking pieces. If we think of the EU as a gigantic puzzle, then it is clear that its interlocking pieces do not fit.

    This is because the twenty-seven member states that constitute it remain very heterogeneous, and the policies adopted leave a lot to be desired in terms of economic and social convergence within and across countries. The policy deficiencies and the divergences among member states have surfaced with a vengeance as a result of the crisis and its handling by the European elites, threatening the viability of the European project itself.

    Greece, a country which experienced no financial crisis, found itself up against the wall in 2010, under the pressure of financial markets and the ill-conceived Eurozone policies. It has been said that “Greece is a dying patient” (Polychroniou, 2012:5).1 Indeed, if it comes to that – and it is a fate Greece is fast approaching under the present policy regime – then we may reasonably assume that it will be the first piece of the puzzle to fall through. To the extent that Greece is followed by other countries finding themselves in the same predicament, such as Portugal, Ireland, as well as Spain and possibly Italy, then this may well be the beginning of the undoing of the European integration puzzle.

    From its inception, the EU prioritised the construction of an internal market based on market competition over all other policy goals. Thus social policy became subjugated to economic policy, while any concern for the environment was relegated to an even lower place in the list of priorities. In this sense, both the social and the environmental deficits are inherent in the very construction of the EU.

    These tendencies were intensified in the 1980s, with the passing of the Single Act (1986) and the liberalisation of member states’ markets, especially in the financial services sector. Indeed, the deregulation of finance went hand-in-hand with the increasing influence of neoliberalism, as a dogma and a policy prescription. The advent of the single currency, towards which EU member states had been working since the early 1990s, further deepened the financialisation of the European economies. The very architecture of the Euro project was a reflection of the neoliberal belief in the role of the “free” market as the arbiter of economic and social relations.

    In the decade that followed the introduction of the single currency (2000-2010), the seeds of the present crisis were sown, as asset bubbles grew, external imbalances accumulated and indebtedness increased, whether of the private or the public sector, or, sometimes of both. Such worrisome undercurrents, however, went unnoticed because the relevant indicators were outside the EU policy makers’ radar.

    Indeed, the Euro architecture focused on the concept of “fiscal discipline”, as expressed by the Stability and Growth Pact, which set upper limits on the public deficit (3% of GDP) and debt (60% of GDP). These indicators became policy objectives in their own right, in this way denying any role for macroeconomic policy. Further, monetary policy was constrained by the narrow mandate of the ECB, the sole objective of which was to monitor inflation, which is not to exceed the equally arbitrary benchmark of 2%. Lastly, wage moderation was recommended by way of producing convergence across the member states of the Eurozone as well as the EU as a whole, ignoring the very unequal income levels and distribution within and across countries.

    Both the precedence of economic over social policy in the EU and the particular institutional arrangements of the Eurozone assume that member states are homogeneous. To the extent that this is not the case, divergences have widened, endangering the cohesion of the Eurozone and of the EU. The present economic crisis has intensified such divergences, as the case of Greece demonstrates. In addition to the social and environmental deficits, the EU also suffers from an inherent democratic deficit, as vital decisions are taken by the European Council, that is, on an intergovernmental basis. This is yet another aspect of European integration that the ongoing crisis has worsened, insofar as the German-French axis prevails in the decision-making process, especially in relation to the handling of the crisis. Again, the case of Greece substantiates this view.

    The deficiencies of European integration – the “ill-fitting” pieces of the puzzle – allowed the financial crisis to turn into a public debt crisis, which is by now going full circle, feeding back into the economy and the financial sector. This process has been exacerbated by the fixation of European leaderships and especially Germany on austerity as the cure for the present problems, based on the fallacious belief that public debt is analogous to private debt. As Robert Skidelsky, Paul Krugman and many others have argued, the notion that nations must economise in hard times, just like households or corporations, is not only wrong but also dangerous, since it can produce long drawn-out recessions, or, as in the case of Greece, a depression-level slump.

    Bail out agreements and debt restructuring

    The handling of the Greek public debt crisis reveals many misconceptions, as well as a fundamental unpreparedness to deal with what historical experience has shown to be the expected outcome of a major financial and banking crisis – that is, a fall in production and a worsening of public finances.

    As early as in 2009, the European Commission and the Council signalled that it was back to business as usual, that recovery from the crisis and the recession was on the way. Thus it was back to the Stability and Growth Pact and its constraints on public finances. In April 2009, the European Council declared that “an excessive deficit exists in Greece”.2 According to the January 2009 interim forecast of the European Commission, the general government deficit was projected to reach 4.4% of GDP, in excess of the 3% limit of the Pact. In late 2009, the deficit was revised reaching 15.4% of GDP! Part of this increase has been attributed to the disguising of the true size of the debt through the use of complicated financial derivatives in the 1990s, a practice which was considered to be legal and which was followed by other Euro-area governments too.3 

    Interestingly enough, the financial markets did not immediately react, as the spreads on 10-year Greek government bonds over the German ones increased by about 100 basis points only until the end of 2009. Neither did the European authorities, which carried on with the Excessive Deficit Procedure (EDP), as stipulated by the Stability and Growth Pact (SGP). This indicates a misconception on the part of the EU leadership: that is, the failure to realise that the fiscal policy tools of the Pact – which Germany and France had dispensed with in the early 2000s at the time of the dot.com bubble and the ensuing economic downturn – were irrelevant in the face of financial market upheaval and recession.

    Bail-out I – By early May 2010, the spreads on the long-term Greek government bonds over the German ones increased by more than 1000 basis points, revealing the implications of the above misconception. In May 2010, the Greek Loan Facility was established, essentially a bail-out agreement, conditional on far-reaching austerity terms. At the same time, the ECB embarked on its Securities Market Programme, buying government bonds on the secondary market. By that time, it became clear that this was more of a Eurozone problem than a Greek problem per se, even though it hit Greece especially hard.

    The main elements of the 2010 bail-out agreement are as follows:

    • A loan of € 110 billion was approved, of which € 80 billion are intergovernmental loans pledged by the Eurozone countries and € 30 billion by the IMF; approximately two-thirds of this amount will be used to repay bonds and loans and to support the Greek banking system through the Hellenic Financial Stability Fund.4

    • The loans carry a 3.5% interest rate and have maturities of 15-30 years, including a grace period of 10 years.

    • The bail-out package is strictly conditional on the implementation of severe austerity measures, the attainment of specific fiscal targets, as well as extensive liberalisation and privatisation measures.

    • The disbursement of the loan is to be made in 13 tranches, each conditional on a review of fiscal developments.

    By early 2011, it became clear that the Programme’s fiscal targets could not be attained, both because a strong recession had set in and because the fundamental causes of the Greek malaise were not addressed. The triumvirate consisting of the EU/ECB/IMF, known as the Troika, did admit that the recession was deeper than expected. However, they also blamed the Greek government for “policy slippages”. Thus the disbursement of each new tranche became tied to the introduction of further austerity measures, devised ad hoc. A downward spiral of fiscal austerity, falling disposable incomes and financial market pressure was thus established, leading to a solvency crisis.


    Bail-out II – As financial market pressure spread to other countries of the Eurozone periphery, endangering the viability of the single currency, the EU decided to grant Greece a second bail-out, along the lines of the previous one in terms of austerity measures, but with a new twist, the involvement of private investors in a “voluntary restructuring” of the securitised part of the Greek public debt. The second bail-out amounts to a € 130 billion loan until 2014, including an IMF contribution of € 28 billion. The main features of the second bail-out agreement are as follows:

    • Additional fiscal austerity measures; 

    • The incorporation into the Greek constitution of a provision, whereby priority is given to debt-servicing payments over other types of public expenditure; 

    • An “enhanced and permanent presence” of the Task Force already established under the first bail-out agreement, overseeing the implementation of austerity measures. This reports directly to the Troika, bypassing the Greek government;

    • Political assurances from the leaders of the two major political parties at the time that they will observe and implement the agreement irrespectively of political developments.


    Private sector involvement (PSI) – Out of a total of € 205.6 billion in bonds eligible for the exchange offer, approximately € 197 billion, or 95.7% have been exchanged. This is aimed at ensuring that “Greece’s public debt ratio is brought on a downward path reaching 120.5% of GDP by 2020”.5 

    It should be noted that the PSI concerns only government bonds, i.e., the securitised part of the Greek public debt, which amounts to 57% of the total. Of this, 30% is in the hands of Greek investors (banks and financial institutions) and 27% in the hands of non-Greek investors. Of the remaining amount, 16% is with the ECB (acquired under its Securities Markets Programme (SMP)), 18% is official lending by the Troika and 9% is domestic borrowing. Thus, the PSI reduces the value of the Greek public debt as a whole by approximately 30%. On the other hand, the financing of the PSI will absorb a considerable part of the 2012 bail-out, so that the net effect on the size of the public debt is considerably smaller than it would otherwise be.

    In particular, the sum of € 93.5 billion – out of a total of € 130 billion, which is the second bail-out (i.e., 72%) – will be needed to finance the debt restructuring exercise, as follows:

    • € 30 billion in EFSF bonds; 

    • € 5.5 billion in interest payments on the bonds traded in;

    • € 23 billion for the recapitalisation of Greek banks, which are the biggest holders of Greek bonds;

    • € 35 billion as “credit enhancement” to underpin the quality of the bonds so as to allow their continued use as collateral for access to Eurosystem liquidity operations by Greek banks.

    Adding to the above the sum of € 63 billion worth of long-term bonds, which will be given to investors to replace their existing holdings, one sees that Greece has undertaken obligations amounting to € 156.5 in order for € 197 billion of old debt to be written off.6 Therefore, only about € 40 billion worth of sovereign debt has actually been written off. Further, the newly issued bonds are governed by British law, providing increased protection against a future default, since they are not convertible into another currency in the event of Greece’s exiting the Euro.

    It has been argued that “austerity” as a policy guideline is a generic term encompassing three types of measures (i) fiscal consolidation; (ii) the flexibilisation of the labour market and (iii) the liberalisation of product and services markets, including privatisation.7 The 2010 and 2012 Economic Adjustment Programmes for Greece and the additional measures taken in 2011 and in 2012 prove the point. There follows an overview of the main austerity measures taken since 2010 and their impact on the economy so far.

    In early 2010, certain austerity measures were announced within the framework of the EDP. These included an increase in the VAT rate (from 19% to 23%), in excise taxes for fuel, tobacco and alcohol and in income tax rates; also, a reduction in public sector wages, in pensions and in public investment. Further, the main areas of the 2010 and 2012 bail-out agreements and the associated austerity packages are the following:


    Fiscal consolidation – Over the period 2010-2014, fiscal austerity measures are expected to amount to over 30% of GDP, more than one-half of which (54%) is going to come from expenditure cuts and the rest (46%), from increases in revenue. Reductions in the public sector’s wage bill and in social benefits are greater than those for other items (approximately 10% of GDP), while tax increases are expected to produce additional receipts equal to 15% of GDP, although only 3% of GDP is expected to come from improving tax compliance. Public-sector employment is being reduced by 23%, as more than 150,000 employees are being placed on “reserve” (reduced wages for a year), moved to a pre-retirement scheme, or laid off as public entities close down or merge, while the recruitment rule is equal to 1 entry per 10 exits. Further measures include cuts in spending on education (primary and secondary schools are being closed down or merged), pharmaceutical and hospital operations, cash welfare benefits, pensions, social transfers and defence.


    Labour market reforms – The minimum wage regulated by the National General Collective Agreement has been reduced by 22% and for the under-25s by 32%. This will have an emulation effect on other wages in the economy. Occupational and sectoral collective agreements have been suspended until “at least 2014”, to be replaced by firm-level agreements. Dismissals have been made easier and less costly for employers, the internship period for newly appointed employees has been lengthened to 12 months, social contributions have been reduced and life-tenure contracts have been abolished.


    Structural changes – These include a far-reaching privatisation programme, expected to raise € 35 billion by the end of 2014 and € 50 billion by the end of 2017. A Privatisation Fund has been established to implement the programme. Deregulation measures are being taken in relation to the transport sector (road haulage), energy (granting access to 40% of lignite-fired capacity before the Public Power Corporation is privatised), the regulated professions (lawyers, pharmacists, as well as beauticians, fashion consultants, etc.) and the judicial system, while the further privatisation of the pension system is expected to reduce public expenditure for pensions from 4.4% of GDP to -0.2% by 2060.

    Greece is in its fifth year of recession. The depth of the economic crisis it is going through is unprecedented by comparison to that of other Eurozone countries, as well as to that of certain countries in the past, as shown in the table below.

    Table 1: Financial crisis and austerity numbers (see documentation on the Right)

    Keys: GR - Greece, IE - Ireland, PT - Portugal, ES - Spain, IT - Italy, LV - Latvia, AR - Argentinia, MX - Mexico, ID - Indonesia

    The rapid decline of the Greek economy has taken the Troika by surprise. For example, the forecast for the change in GDP in 2011 over 2010 was downgraded four times and it was still less than the final outcome! Thus, in early 2010 the decline in GDP was forecast at -0.5%. This was revised to -3% in late 2010, yet again to -3.8% in early 2011 and further to -5.5% in late 2011. It actually declined by -6.9% by the end of the year! Similarly, unemployment was forecast to increase to 13.2% of the labour force in 2011; it actually reached 21%!

    Not surprisingly, the fiscal ceiling set by the adjustment programme for 2011 – at 7.6% of GDP – was surpassed by 1.65% of GDP, as the actual public deficit amounted to 9.25% of GDP. While both the European Commission and the IMF recognise the deepening recession in Greece, they attribute this to policy slippages and to adverse developments globally, concluding that additional measures are necessary.8 The validity of their model is not questioned in any way. The fundamental philosophy underpinning the policies applied in Greece under the guidance and continuous surveillance of the Troika is that the only way out of public debt is through the shrinking of the economy. The lessons of the 1930s Great Depression appear not to have been learned – that is, that an economy cannot shrink out of debt; it can only grow out of debt.

    Current outlook

    All international organisations concur on the very poor prospects facing European economies in 2012 and 2013. According to the IMF, real economic activity in advanced economies is expected to increase by 1.4% in 2012 and 2% in 2013, while in the Eurozone it will decline by -0.3% in 2012 and slightly recover by 0.9% in 2013. The European Commission similarly forecasts a decline of -0.3% for 2012 and a growth rate of 1% in 2013 for the Eurozone, while it is slightly more optimistic for the EU on average (0% and 1.3% respectively). The OECD predicts very weak growth in the near term and a mild recession in the Euro area, followed by a very gradual recovery.9 

    The above forecasts present a very sobering view of the economic and social prospects in the immediate and near future. What is being observed is a convergence towards low growth at best, bearing directly on employment prospects. Under these conditions, high unemployment is set to persist, making recovery through the consumption channel more difficult. Further, the implications for the Eurozone countries undergoing IMF/EU programmes are even more severe, as shown in the following diagrams, depicting growth and unemployment in several countries, in addition to Greece.

    The prospects for Greece are at best uncertain and at worst bleak. So much so that various commentators have suggested that the best way out for Greece would be to default on its debt. For example, Felix Salmon of Reuters notes that Greece “… is trying to act from a position of weakness rather than strength, and in any case it simply doesn’t have the time to implement changes which involve a fundamental restructuring of the nation’s social compact”.10 Wolfgang Munchau of the Financial Times further argues that “Greece must default if it wants democracy”, noting that “It is one thing for creditors to interfere in the management of a recipient country’s policies. It is another to tell them to suspend elections or to put in policies that insulate the government from the outcome of democratic processes. … The proposals violate the principles of Germany’s own constitution. In short, they are unethical”.11 From a different angle, David Harvey, a well-known Marxian theorist, has stated that Greece “… should have defaulted and they should have done it earlier rather than later”, in view of the fact that “what is going on both in Europe and in the USA is a political project, not an economic necessity”.12

    Table 2: GDP growth rate (see documentation on the Right)

    Table 3: Unemployment rate (see documentation on the Right)

    So, what is to be done? Is there an alternative to the present conundrum? Even more pointedly, is there a future in the Eurozone for Greece and other indebted countries undergoing severe austerity regimes? These are very difficult questions indeed and one can only experiment with some answers.

    Some thoughts on alternatives

    We argued above that the narrative of the sovereign debt and economic crisis in the Eurozone should start with the question of external imbalances and trace their impact on fiscal budgets, taking into account the role of finance in an unregulated environment. Such a view leads to the conclusion that for a fiscal union to work, some means of achieving a rebalancing of external accounts is needed, so as to create the necessary space for fiscal expansion.

    In addition, it is necessary to fight financial speculation through measures such as the introduction of a financial transactions tax, the establishment of a European publicly owned credit ratings agency, increasing liquidity through central bank lending to governments rather than private banks, introducing a more equitable taxation system, etc. Disciplining governments instead of markets prioritises financial interests over those of society at large. Also, it reveals a basic misconception: namely, that banks operating in an ailing environment can remain healthy. The Eurocrisis of the past two years has demonstrated that this is a contradiction in terms.

    Instead, austerity and fiscal discipline – already implicit in the Stability and Growth Pact – were chosen by the European elites as the way to deal with the increase in the public debt both generally and in particular instances. Generalised austerity, however, produces low growth or even recession, which in turn increases the debt-to-GDP ratio. Thus alternatives are urgently required.

    An outline of such alternatives, which is indicative, rather than exhaustive, includes the following.

    • The narrative needs to be altered; the prerequisites of a viable fiscal union need to be recognised and acted upon.

    • Financial policy reform, which was initiated at the height of the financial crisis in 2008/2009, should be given new impetus.

    • The ECB must become a lender of last resort for governments and not just for private banks. Such an adjustment would provide a considerably more powerful tool than the EFSF in managing the Eurozone debt crisis. 

    • Austerity needs to be replaced by a programme of economic restructuring, spreading over a long period of time; growth needs to be restored.

    • Public investment is needed in order to kick-start the economy, where private capital is reluctant to do so. Such investment must be ecologically and socially sustainable.

    • A more just distribution of income and wealth needs to be established through an equitable tax system and the harmonisation of taxes across the EU member states.

    • The role of public services needs to be reinstated. Social welfare should be incorporated in overall economic and social policy.

    • The deterioration of worker rights and of the conditions of the labour market must be halted and reversed.


    How can such alternative proposals be implemented? The problems facing the EU and the Eurozone are embedded in society and in the structure of production. It is in the rebalancing of social relations and a new social compact that such changes may be sought. A caveat is necessary. The deeper societies are drawn into the downward spiral of austerity and recession, the more difficult it will be for such a compact to be realised. Time is thus of the essence.

    Can Greece wait for such a turnaround? Greece appears to be in a lose – lose situation. If it follows the current austerity programme, it keeps its creditors happy at the cost of a social upheaval and through enormous expenses. If it satisfies pressing social needs, its creditors may pull the rug under its feet. So, what is to be done?

    First, a change in narrative is imperative. The debt audit campaign, already in progress in many European countries, as well as in Greece,13 is a good starting point. How did the Greek public debt reach its present level? Is it all legitimate? Should part of it be classified as onerous? With what consequences?

    Second, a breathing space is needed. The Greek economy needs to start growing again. It is a well-known fact that one cannot shrink out of debt. One can only grow out of debt.

    Third, the domestic problems need to be dealt with by the Greek social and political forces themselves. This is a complex process that cannot be imposed by outsiders, nor can it be done in a short period of time.

    Fourth, the Greek austerity experience is already feeding into the European collective mind, as shown by the solidarity mobilisations across Europe and the “We are all Greeks” campaign. Arguably this is perhaps one of the positive effects of the public debt crisis!

    Lastly, should Greece default? – the agonising question on many people’s minds! There is a no clear-cut answer to this. The implications of a Greek default can only be known ex post. These are unchartered waters. However, if what is happening at the moment goes on for much longer, life may become so unbearable for the Greeks that, although they are a traditionally pro-Europe people, they may opt for default and very probably exit from the Euro. Greece may thus become the first piece of the puzzle to go.  




    1. C.J. Polychroniou, “Neo-Hooverian policies threaten to turn Europe into an economic wasteland”, Levy Economics Institute of Bard College, Policy Note, 2012/1

    2. Council Decision 2009/415/EC in L.135/21

    3. For nearly fifteen years, Goldman Sachs created currency swaps that enabled Greek government debt issued in dollars and yen to be swapped for Euro-denominated bonds that would be paid back at a later date. The bond maturities ranged between 10-15 years. 

    4. E.C., 2011, The Economic Adjustment Programme for Greece – Fifth Review, Oct 2011

    5. Eurogroup Statement, February 21, 2012, p.2

    6. See also Ronald Janssen, 2012, The mystery tour of restructuring of Greek sovereign debt, 28/3/2012, http://www.social-europe.eu/2012/03/the-mystery-tour-of-restructuring-greek-sovereign-debt/

    7. European Memorandum 2012, section 1.2; www.euromemo.eu 

    8. As stated in the October 2011 Fifth Review by the E.C. “The fiscal consolidation effort of Greece has been very large, but more measures will be necessary” (p.27). In a similar vein, the Fifth Review by the IMF states that “Greece has some impressive programme achievements to its credit … but it is still well away from the critical mass of reforms” (pp. 32 & 34).

    9. IMF, Economic Outlook, April 2012; CEE, European Economic Forecast, Spring 2012; OECD Interim Assessment, September 6, 2012.

    10. Felix Salmon, “Greece is broken and can’t be fixed”, 15/2/2012 at http://blogs.reuters.com

    11. Wolfgang Munchau, “Greece must default if it wants democracy”, Financial Times, February 19, 2012.

    12. David Harvey, “Greece should default”, July 5, 2011; interview available at www.youtube.com

    13. www.elegr.gr

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