Tag Archives | IMF

Improving Greece’s Global Competitiveness

2-51408e0467fd0

EU’s directives on Energy and Environment put additional pressure on one of the most productive sectors of a weakened Greek economy.

By Ratish Srivastava (@socialia13)

Eight years since the Sub-Prime Mortgage crisis hit the world economy, Greece still seems to be on a downhill path. EU’s Directives on Energy and Environment are an encumbrance to one of its most productive sectors – refinery. Greece is losing its comparative advantage in the global economy, in turn hampering its ability to find a way out of trouble.

There are two major implications from this – one, the argument for the case of a Greece exit from the EU becomes stronger. Second, if Greece does have a choice to leave the EU then it will be choosing between long-term impact of its refinery sector on the environment or having more flexibility to improve the conditions of its citizens, at least through the refinery sector’s productivity.

The Greek economy has shrunk by a quarter in the past five years and unemployment is as high as 25%. Greece has received three bailouts from the IMF, the proceeds of which have been used to pay off their international debts. This crisis in the Greek economy and Europe’s debt crisis have combined to have a major impact on the refining sector in Greece.

A report by Foundation of Economic and Industrial Research in Greece, estimates that the refining sector has a strong impact on Greek economy. The research took into consideration the direct, indirect and induced effect of the sector on the overall economy. The report further estimated that the refining activity contributes € 3.8 billion and 40,000 jobs to the domestic economy, whereas its contribution to the tax and social security revenues is also significant. Another major contribution the refinery sector has is on reducing trade deficit, as the export of petroleum products amounted to 37.5% of all exports, most of which are going to non-EU countries who have the option to switch suppliers (86%).

In light of EU’s Directives on Energy and Environment, the refinery sector faces significant challenges as high financing and energy costs, lower margins, high cost of crude oil has reduced the competitiveness of Greek refineries in international markets. There is a dramatic shift in fundamental demand and supply trends of the world in refinery, as the refining capacity grew in Asia-Pacific (15%), West Asia (8%) and Russia (6%). The refineries in these economies have a high complexity index, implying that they can produce high value products in addition due to their size; they can achieve economies of scale.

The most complex refineries are able to produce petroleum products with high market value and process most types of crude oil, exploiting its price variations and availability. To achieve this complexity, significant investment needs to be made constantly. The refinery sector in Greece already invests in itself majorly, as the sector’s investment accounts for 26% of total investment in the manufacturing sector (€1.3 billion). This investment intensity comes as a surprise as Greece faces high rates on borrowing, making it expensive for them to borrow. However, this investment is seen as necessary to keep up with the international market for oil products in terms of increasing the complexity of the refinery.

The developing economies of Asia-Pacific, West Asia and Russia are export-oriented economies that are increasing the complexity of their refinery. With the domestic demand for oil products lesser than their capacity to produce them, with fewer compliance costs, lack of environmental regulations and low labour costs, these economies are able to price their goods competitively.

Greece will not be able to compete with these developing economies, due to additional costs imposed on them by the EU’s climate change policies. With the following directives in place – EU Emissions Trading System adopted in 2005 (EU ETS currently in its third phase 2013-2020), the Fuel Quality Directive in 2009 (FQD) and Industrial Emissions Directive (IED) in 2010, the refinery sector will not be able to compete in the international market and their products will face a competitive disadvantage compared to its rivals. These policies come at a time when the Greek economy needs more flexibility for the refinery sector to become competitive globally. However, the EU is hoping to achieve its ‘EU Energy Roadmap 2050’ which was launched in 2011 (which is, during the crisis period of Greece), as compliance with Best Available Technique (BAT) under IED is compulsory for an EU member state. BAT brings about high cost of emissions reduction for the refineries with little to no flexibility on meeting the emission targets. In a report by European Commission in 2014, the refining sector in EU has the highest energy cost worldwide with the cost for Greece the highest among EU member states.

The competitiveness of Greek refineries, which contributes significantly to the domestic economy, is not secured. Current legislations and policies of the EU create more problems and uncertainty for the refining sector in Greece as it is affected by a number of other exogenous factors (price fluctuation in crude oil prices, global economic crisis). The bailouts do not help Greek economy, as the money from them is not used to make necessary structural changes that the domestic economy requires. Yanis Varoufakis, the ex-Finance Minister of Greece resigned after his government accepted the third bailout package, maybe realising that the right steps towards a sound economic policy were not taken with the bailout.

One of the most productive sectors of the Greek economy faces uncertainty, reduced domestic demand, high costs, low margins and a comparative disadvantage in the international market. If Greece hopes to take the right steps to move towards a more stable economy, it needs its refinery sector to become more globally competitive. However, with strong pressure from the EU regarding its ‘Energy Roadmap 2050’, the chances for the Greece economy to improve its situation seem bleak as the potential of the refinery sector is being limited.

Ratish Srivastava (@socialia13) is a research intern at the Takshashila Institution

Featured image: Heiko Prigge/Monocle

Comments { 0 }

Structural Reforms: What are they and how do you go about it?

BY Anupam Manur (@anupammanur)

No democratically elected government with a limited term of office would want to risk negative popularity in the short term for potential benefit in the future, for which they might not be able to take credit.

The microeconomist’s universal answer to all questions is demand and supply and the macroeconomist’s version is structural reforms. So goes the joke. Kaushik Basu, Chief Economist of the World Bank, in fact tweeted something similar: “Structural reform is safe advice. No one knows what it means. If economy grows: I told you. If it stalls: You didn’t do structural reform.”

So, what exactly constitutes structural reforms? From the political angle, The Economist looks at structural reforms as changes to the way the government works. From an economic viewpoint: it is about making markets work efficiently in the various sectors of the economy. An IMF paper[i] describes structural reforms as: “They typically concern policies geared towards raising productivity by improving the technical efficiency of markets and institutional structures, and by reducing or removing impediments to the efficient allocation of resources”. In fact, changes in the Ease of Doing Business rankings, published anually by the World Bank, signifies the various structural reforms undertaken in any country.

Structural reforms gained popularity from the IMF and World Bank. The two global institutions would attach preconditions to the loans that they provided to countries. These conditions were known as Structural Adjustment Programmes (SAP). Only upon initiating these reforms would a country be eligible to get loans from the IMF or World Bank. These reforms included:

  1. Trade liberalisation: Removing barriers to trade, decreasing tariffs and quotas, exchange rate liberalisation, and minismising the government’s involvement in trade.
  2. Balancing budgets: Governments had to impose strict austerity measures to reduce the fiscal deficit and create a roadmap for repayment of the loan, which involved raising taxes and cutting down expenditure.
  3. Reigning in inflation by imposing tighter monetary policy conditions and removing government’s influence in the central bank’s functioning.
  4. Removing many state controls on production, subsidies, price controls, etc.
  5. Encouraging investment by removing regulatory hurdles. This applied to both domestic and international (FDI) investment. This also involved market deregulation in most sectors of the economy.
  6. Improving overall governance structures, reducing corruption, etc
  7. Privatization and divestment of large public sector units.

Much of the Fund’s current work still revolves around the same issues. In the latest Article IV IMF staff consultation with member countries, their recommendations for most of the countries bordered around the same issues: initiate structural reforms: the United States has to reform its primary education, while France has to balance its budget and urgently carry out labour market reforms; Japan needs structural reforms to inspire more migration to mitigate the demographic crisis, and Brazil need to reduce the fiscal deficit, inflation, corruption in the government, undertake financial market reforms, and so on.

Most empirical analysis does bear out the fact that structural reforms matter to increasing productivity and GDP growth. However, there are a lot of conditions under which structural reforms work. Most countries try to undertake structural reforms when they are in crisis – either out of their own volition in order to fix the broken systems or by command from the IMF and World Bank. The success of the reforms depend upon a number of factors, such as the initial conditions, strength of existing institutions, speed of reforms and the sequencing of the reforms. After the disintegration of the USSR, for example, many countries undertook structural reforms in order to move to a market based economy. Each country followed a different approach and the ensuing results very varied. The Central and Eastern European countries fared far better than the former Soviet Union countries.

There are two important political economy factors at play that determine the success of structural reforms. The first is the time lag between the implementation of the reforms and the eventual positive effects of the same. Most empirical research shows that there is a considerable lag before the positive effects are played out in the economy, be it in terms of increased growth, reduced inflation, increased employment or higher trade. In between, however, it is not uncommon to see short term pain and a dip in growth. This explains why most countries are still reluctant about implementing big reforms. No democratically elected government with a limited term of office would want to risk negative popularity in the short term for potential benefit in the future, which they might not be able to take credit for.

Closely related is the second political economy factor of managing the winners and the losers. Every big reform will create multiple winners and losers. Economists such as Roland suggests that a gradual approach to reforms would allow an opportunity to giving compensating tranfers to losers from reforms to buy their acceptance.

The former Swedish Finance Minister, Anders Borg, has written an insightful article on the ways to tackle this particular problem. One of his biggest advice: front loading. “When structural reforms are implemented close to an election, the short-term impact will dominate the debate, and the more nebulous long-term gains will be written off as uncertain forecasts.” Thus, this should be done early enough after a government is formed to allow for some of the positive effects to come through before the next election.

Anupam Manur is a Policy Analyst at the Takshashila Institution.

[i] “Structural Reforms And Macroeconomic Performance: Initial Considerations For The Fund”, IMF Staff Reports, November 2015.

Comments { 0 }

Reforms in global financial system — Finally

The reforms at International Monetary Fund(IMF) has meant better voting share for India and a voice in global financial system

The IMF’s reform package of quotas and governance became effective on January 26, 2016. As a result of this, India, Russia, China, and Brazil gain entry into the club of 10 largest economies of the world. This review was long pending since December 2010. The delay was attributed to approval by the US Congress which finally gave its nod in December 2015. What do these reforms exactly mean?

First, it is essential to know the origin of IMF. It is an international organisation of 188 countries working to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth and reduce poverty around the world. To summarise — it is the lender of last resort for the all the countries in the world. It was formed at the end of World War II as part of international financial system led by the US.

Second, what exactly is ‘quota’? Each member country is assigned a quota — which is a value of its share in the IMF financing system. This is proportional to that country’s impact on the world economy. A country’s quota in the IMF determines its voting power, the amount of financial resources it must provide to the IMF, and its access to IMF financing. It then goes without saying that larger a country’s quota, greater will be its say in the governance of IMF. Quotas are based on a weighted average of GDP, openness, economic variability and international reserves. They are expressed in Special Drawing Rights (SDR), an international reserve asset determined by the value of the US dollar, euro, Japanese Yen and pound sterling. The increase in quota has meant enhanced resources for IMF.

The IMF’s capital has nearly doubled from $ 329 billion to $ 659 billion. Much of this has come because of funding from member countries, especially of G-20, contributed after the financial crisis of 2008. As a result, more than 6 percentage points of quota have been transferred from developed to the the emerging market countries. India and China have increased their voting shares by 0.292 and 2.265 percentage points respectively. India’s increase, though marginal has been enough to place it in the top 10 countries. The developed countries have had a decrease in their voting share from 0.2 to 0.5 percentage points. This redistribution has catapulted China from sixth to third position behind US & Japan. Saudi Arabia’s decrease by nearly a percentage point has placed it below India, Russia and Brazil. This reform will also affect the selection process of Executive Directors,i.e., the governance.

Once the reforms are in place, all positions on the board will be determined by election. In the earlier system, member countries with five largest quotas each appointed an Executive Director. This invariably meant a European as the head of IMF. It had been a common refrain among the developing countries that IMF would always be headed by an European and World Bank by an American. The reforms are reflective of the emerging economic order in the world and reinforce IMF’s legitimacy as a global financial institution.

Guru Aiyar is a Research Scholar at Takshashila Institution and tweets @guruaiyar

Featured Image: IMF by Javier Ignacio, licensed by creativecommons.org

 

Comments { 0 }

The aftermath of the Greek ‘No’ in referendum

By Anita van den Brandhof

The EU is failing to offer a strong answer to the Greek debt crisis, due to divergent interests between member states.

How did it all start?

When Greece joined the Euro in 2002, the economy and government structures were much weaker than other EU countries. This all changed when the Euro was introduced. Suddenly cheap loans became available, because the Euro offered more liability and lenders thought that the EU would repay the debts if Greece was unable to pay. Greece borrowed money on the international market and the economy grew fast. The borrowed money was not only used to support structural growth, but also for higher social benefits and the Athens Olympics.

The global financial crisis in 2008 hit hard on Greece. In 2009 the country admitted that the low deficit figures reported in 2002 were false. This ruined the Greek financial reputation: the deposits in Greek banks shrank and new loans from the international market became hard to obtain. In 2010 Greece had to accept the first bailout from the EU to prevent a complete bankruptcy. The loan of 110 billion euro came with a list of conditions that included reforms in the revenue collection system and significant budget cuts to bring down government spending. A second bailout of 109 billion euro was needed in 2011. The Greek government implemented most reforms and budget cuts, but it didn’t result in a healthier economy. The cuts in government spending increased unemployment, decreased consumer spending and also tax revenues went down. Since 2008, the economy has declined 25 percent and more than a quarter of the population became unemployed.

Grexit

The economic crisis resulted in a humanitarian crisis and political unrest. The Greek population is fed up with the conditions that came with the loans and are protesting against the European oppression. The leading leftish political party Syriza promised the Greek population that they will not accept new restriction from the EU. When the package deal for a new bail out scheme was finalized at the end of June 2015, Syriza decided to hold a referendum among its population. The majority of the Greek population voted against the new bailout program, to show their discontent to the EU. Without a new bailout, Greece would have to default. So what are the scenarios after the Greek rejection?

What could happen next?

In a sovereign country there are two methods to combat an economic crisis, but these measures are not available for Greece. Monetary measures, such as devaluing the Euro is not possible, are not supported because it will harm the stronger EU economies. Fiscal measures contain an increase in government spending, to bring about more investment. Greece cannot use fiscal measures, because the conditions of the loans stipulate that the Greek government has to cut its spending.

One way to get Greece out of the crisis is to waive the debts or postpone the payment, in order to give Greece space for investment and economic recovery. Waiving the debts would cost billions to the rest of the EU and is not popular among the stronger EU economies. In 2010 the Greek crisis was seen as a European crisis, because other Southern European countries also needed a bail out. However, the other countries have recovered and solidarity of the other EU members states towards Greece has evaporated. Especially the Dutch and Germans view Greece in terms of lazy, unreliable and incompetent. To raise public support in these countries for a new bailout plan is almost impossible.

A Greek exit of the Euro, “Grexit”, became a realistic possibility. Initially, the costs of introducing the old currency would be high, but it would give Greece the possibility to use monetary measures. The cost for the EU would be high as well, because it would hurt their reputation as a reliable financial partner and might cause a plunge in the stock market.

Most likely, the EU and Greece will come up with a temporary solution this week and postpone a Grexit. But the EU will not be able to find a sustainable solution for the crisis, due to its fragmented decision making procedures and divergent interests between the member states. It is possible that the EU will slightly increase the loans, to keep the Greek economy alive, but not enough to keep it from collapsing in the long run. In the long run a Grexit seems inevitable. Important for a Greek recovery after the Grexit is that it remains part of the single market economy of the EU, so that trade barriers are avoided and exports as well as tourism can be increased.

Anita van den Brandhof is a research scholar at Takshashila Institution.

Comments { 0 }

The Economic Consequences of Debt Repayment

If either the troika or the Greek government does not blink, a Greek default on its loans and exit from the Euro (Grexit) is a very real possibility.

With about €320 billion involved, the standoff between the left wing Syriza Government in Greece on one side and the IMF, ECB and the European Union (collectively known as the Troika) on the other makes it the most glorified and high risk game of chicken played. Monday, the 22nd June, presents one of the last opportunities for a deal to be brokered between the two sides and neither side is willing to back down and give in to the other’s requests.

In short, the situation reads thus: Greece has an outstanding debt of about €320 billion to various creditors. Recognising its inability to pay the amount, in 2010 and again in 2012, the IMF, the EU and the ECB decided to formulate a bailout package totally amounting to €240 billion. However, this money would be given to Greece only on the condition that it makes wide sweeping reforms and introduces a severe austerity drive. Further, 9 out 10 Euros from this bailout package will be used to pay back the creditors and not for Greek citizens. In June, Greece owes about €6.74 billion as part of its monthly debt repayment schedule (about €1.5bn to the IMF) and it does not have the resources to pay for that, while the last tranche of the bailout package worth €7.2 billion is also due to be given to Greece. While this situation is complicated enough, throw in a bit of political economy to the mix and there exists a true conundrum for everyone involved. The present government came into power in the last election in 2014 on a strict anti-austerity platform. It refused to prioritize repaying the creditors by cutting back on government expenses towards citizens’ welfare.

The IMF refuses to hand out the last €7.2 billion of the bailout package unless Greece undertakes severe austerity measures and also pays back the €6.74 billion that is due by the end of the month. The Greek government, with tremendous support from the citizens, refuses to take either action.

If one of the sides does not blink – the IMF extending the deadline for Greece to pursue fiscal consolidation and debt repayment or the Greek government undertaking reforms and paying part of the bailout money to its creditors – a Greek default on its loans and exit from the Euro (Grexit) is a very real possibility.

The IMF and Germany would do well to revisit Keynes’ classic work “The Economic Consequences of Peace” (1919), where he hinted at the possible consequences of the Allied countries extracting huge sums of money as reparations for the war (WWI) damages from Germany. He had rightfully explained that Germany will have no means to pay back the sums demanded by the Allied countries, especially given the economic downturn they were facing, except by resorting to the printing press. The predictions came true later on as Germany printed large sums of money in an expansionary monetary policy, which later resulted in hyperinflation, political upheaval, economic chaos, etc. The consequences of this are well known.

In this game of who blinks first, if neither of them blink by the looming deadline, everybody loses.

 

There is a chilling parallel here. If Greece defaults and exits the Euro, there will firstly be a bank run, where depositors will rush to withdraw their savings from the banks. This will result in a loss of liquidity. In the past few days, hundreds of Greeks are queuing up outside the cash points, in order to withdraw their money, in anticipation of a financial crisis. This will only worsen as the deadline approaches. Further, there will be a new, deep and prolonged recession. It would also be forced to go back to printing its own currency, the Drachma, or some other variant of it. Its financial system will collapse in the wake of a liquidity crunch and loss of access to the ECB. The Independent explains: “To prevent these institutions collapsing Athens would have impose controls on the movement of money out of the country. The international value of the new Greek currency would inevitably be much lower than the euro. That would mean an instant drop in living standards for Greeks as import prices spike. And if Greeks have foreign debts which they have to pay back in euros they will also be instantly worse off. There could be a cascade of defaults”.

This will obviously have a contagion effect, where banks, financial institutions and governments who are over exposed to Greek debt will lose their principal amount. The Euro currency and Euro stocks will crash, which can have renewed negative consequences for a world economy just recovering from the previous recession.

Thus, in this game of who blinks first, there is a unique scenario, where if neither of them blink by the looming deadline, everybody loses.

Anupam Manur is a Policy Analyst at Takshashila Institution. He tweets @anupammanur

 

Comments { 1 }