1 - What are the major causes of Greek debt crisis?

The Greek financial crisis was a series of debt crises that started with the global financial crisis of 2008. Its causes were largely endogenous in nature, however, because its source originated in mismanagement of the Greek economy and of government finances rather than exogenous international factors. Furthermore, Greece’s membership in the Eurozone prevented it from exercising full control over its monetary policy, which meant that interest rates were kept too low for too long relative to the inflationary pressures that were building up in the Greek economy. Monetary policy was out of sync with a booming economy and easy access to credit.

The Greek financial crisis had two primary causes. First, Greece was undermined by government economic mismanagement, including widespread fraud and an absence of public accountability. Second, Greece’s membership in the Eurozone imposed on it an economic straitjacket that was ill suited to and inconsistent with its political and financial goals.

Despite Greece being beset by economic mismanagement and misreporting of economic performance by successive governments, investors failed to pick up or act on a growing collection of warning signs:

• unsustainable debt levels,
• excessive public spending,
• high wage growth not supported by productivity growth, which led to a decline in Greece’s competitiveness,
• a surge in credit growth, and
• massive tax evasion.

In addition, the lack of accountability and proper oversight in so many aspects of Greek public finances compounded the problems. At the height of the global financial crisis in the closing months of 2009, however, investors’ minds were distracted by the banking crisis in the rest of the world, so the spotlight was not fully focused on the specific issues in Greece.

The Eurozone, established for political purposes as a next step on the path to closer economic and monetary union within the European Union, gave rise to a flawed economic structure, and Greece’s inclusion in the Eurozone made Greece’s crisis inevitable.

From the late 1990s onward, Greece’s impending membership in the Eurozone encouraged investors to play a convergence game—buying up large amounts of Greek government debt and driving interest rates down as spreads tightened relative to core Eurozone countries. Low interest rates fueled an economic boom, which was sustained also by large inflows of foreign direct investment. The private-sector credit bubble that emerged was one symptom of unsustainable growth. Yet, in the years leading up to the global financial crisis, the Greek government itself chose to binge on increased spending, bringing about a significant increase in the budget deficit and overall government debt levels.

As Greece’s fiscal deficits surged in 2008–2010, interest rates on government and private debt in Greece shot up significantly. Handcuffed by the European Central Bank (ECB), however, Greece was unable to reduce interest rates or devalue its currency to stimulate economic growth. Greece was, in short, unable to implement its own monetary policy to match its fiscal and political needs.

Three bailouts, totaling EUR246 billion, coupled with draconian austerity measures, partially stabilized the situation but at a tremendous human cost in terms of generating chronically high unemployment, widespread poverty, and plummeting incomes. Real GDP contracted by approximately one-fourth between 2009 and 2015.

Investors allowed the strong economic upswing and convergence of the Greek economy with its Eurozone partners to distract them from closer scrutiny of Greece’s fundamental financial and economic problems. Smart investors would have learned not to take government statistics or public pronouncements at face value; smart investors do their own research and trust their own instincts about a situation.

Kindreich, A. (2017, July 20). The Greek Financial Crisis (2009-2016). Retrieved from https://www.econcrises.org/2017/07/20/the-greek-financial-crisis-2009-2016/