Greece’s failed economy should be lesson for U.S.

Since the European Union (EU) was created, no member has skated as close to insolvency as Greece. The country teeters on the brink once again, drowning in debt. The crisis confronts the EU with its worst dilemma since the creation of the euro.

The Greek crisis also holds important lessons for the United States. We have our own debt problems, with the ratio of public debt to GDP climbing 40 percentage points to 105 percent since 2008. It would be far better to get our fiscal house in order and make structural reforms today, when there’s time to craft trade-offs rather than under duress when creditors are in danger of losing faith.

The immediate causes of the Greek crisis are clear. In 1992, members of the European Commission signed the Maastricht treaty which formed a more comprehensive EU, including a common currency . The Euro was launched in 1999.

Greece didn’t initially meet the fiscal criteria for joining the currency union. But in May 2000, the European Commission declared that the Greek fiscal deficit, including interest, was only 1.6 percent of GDP, inflation was only 2 percent; and the country met all the Maastricht requirements except for its government debt, a shortcoming that was hardly unique among member states.

Greece joined the euro zone in 2001 and when the markets opened, yields on Greek bonds fell to an all­ time low. The newfound perception of Greek debt as safe could most likely be attributed to investors believing that, by joining the euro zone, Greece had acquired an implicit European guarantee on its debt.

This enabled Greece to borrow money at very cheap interest rates. It borrowed plenty and embarked on an expansionary fiscal policy. This rapid growth in borrowing and spending was similar to the cheap credit that fueled the American housing bubble. One symbol of Greek extravagance was the 2004 Olympic Games, which cost almost three times the original estimate.

In the wake of the 2008 global financial crisis, the Greek economy slowed as tourism and shipping suffered from the decline in global trade. After a deep and prolonged recession, the economy has contracted by more than one quarter and unemployment now exceeds 25 percent. Today Greece’s debt is 180 percent of its GDP and will never be repaid without generating tax revenue from major economic growth.

To make matters worse, the Greek government misled the international community about its debt. When a new government took power in 2009, it announced that the deficit that has been projected to be around 5 percent would actually be about 12.7 percent.

Greece had been understating its deficits for years, raising alarms about the integrity of the country’s finances. The previous government had apparently been cooking the books, which shattered any faith that international investors might have had in the Greek economy and government.

Suddenly Greece was shut out of the financial markets. By the spring of 2010, it was veering toward bankruptcy. Two of the three international credit rating agencies cut ratings on Greek bonds to junk status and warned that further downgrades were likely.

The International Monetary Fund, European Central Bank, and European Commission issued the first of two bailouts for Greece, which would eventually total about 240 billion euros ($264 billion). Now, Greece is back in the soup and needs another $86 billion euros ($94 billion).

The lenders extended the bailout package in exchange for the Greek government agreeing to implement deep budget cuts, steep tax increases, and labor and pension reforms to make Greece a more attractive place to do business. But many believe these austerity measures alone will only quicken the shrinking of the Greek economy without providing debt relief.

If the United States is to avoid being in similar straits someday, we must learn some important lessons about borrowing to consume, living beyond our means and failing to invest in the productive capacity of our economy.

Originally Published: July 25, 2015

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