Budget Office: The sharpening of political polarization, negative for the economy

In its report, the Parliament Budget Office for the 3rd quarter of 2022 points to the existence of a political risk for the course of the economy, noting at the same time that “to the uncertainties about the formation of a stable government in the upcoming elections, the sharpening of political polarization must be added”.

Also in the report it is noted that “from our side, we must highlight the importance of institutions in economic development. In particular, the effective functioning of democratic institutions provides protection and is a lever for strengthening the orderly functioning of the economy. Parliamentary control, the independence of the judiciary and the freedom of the press provide the institutional guarantees for the safeguarding of property rights so that economic activity continues unhindered , the fairer redistribution of income to ensure political smoothness and transparency and accountability in the management of public money to achieve fiscal stability. The political system should have the continuous aim of systematically strengthening democratic institutions in order to avoid a possible deterioration of the quality of governance and trust in the rule of law, which would have long-term negative economic consequences.”

Regarding the economic figures, it is noted that “the growth rate was significantly reduced during the third quarter (2.8%) compared to the previous two (7.8% and 7.1%), resulting in a 5, 9% in January-September 2022. Unemployment continues to fall and the current account deficit widens, while inflation shows signs of easing over the past two months. The fiscal figures maintain the marked improvement over the previous year, widening the primary surplus recorded in the second quarter Report, confirming that this year’s fiscal target will be safely met.”

At the same time, it is stated that “based on the data so far, the Greek economy is entering a “soft landing” phase and we expect a significant slowdown in growth in the coming months, due to the negative effect of inflation on real disposable income and consumption, the decline in economic activity to major trading partners, the rise in lending rates and the expected lifting of most fiscal support measures. The rate of absorption of European resources and the degree of implementation of the investments financed by the Recovery and Resilience Mechanism are expected to be critical for the course of the economy in 2023.

The slowdown in inflation during the last two months is due to a significant extent to the “base effect” as the change in the consumer price index is compared to months that had already recorded increases. We expect that, as long as there is no new disruption in energy prices, the slowdown in inflation will continue into the first months of next year. However, uncertainty remains as to how quickly inflation will decelerate and how long it will take to return to close to 2% over the medium term.”

It is also noted that “restrictive monetary policy plays a decisive role in stabilizing inflationary expectations and reducing inflation. As expected, interest rate increases have a negative impact on the growth rate. Bank lending becomes more expensive, limiting the liquidity of businesses and also burdening the servicing of debt, public and private. It is worth repeating that the fiscal risk of higher interest rates is not short-term, on the one hand because the vast majority of Greek public debt is at fixed rates and on the other hand because even current interest rates remain well below inflation, narrowing the public debt/GDP ratio . In the medium term however, if interest rates exceed the sum of inflation and real growth (nominal growth) then the public debt/GDP ratio will move upward, requiring higher primary surpluses to ensure its sustainability.

The image of the external sector is particularly worrying. The optimistic estimates for the course of tourism did not yield what was expected, neither in terms of overall growth rate nor in terms of improving the current account balance. The deterioration of the external sector, combined with the fiscal burden of the pandemic, marks the return of the so-called “twin” deficits of the Greek economy, namely the fiscal deficit and the current account deficit. While the former is on an equilibrating trajectory, this has not caused the latter to equilibrate as well, as would theoretically be the case. Attention is therefore needed in the external sector of the economy in order not to develop into a serious macroeconomic imbalance.”

And the report concludes, noting that “even the recent proposal of the European Commission for the revision of the Stability Pact which contains significant improvements compared to the previous one. Although the overall deficit and public debt targets (3% and 60%, respectively) remain unchanged, the supervision of the process of reaching them becomes clearly simpler and more flexible. The economic policy of each country will be evaluated on a case-by-case basis with the main criterion being the rate of change of net public expenditure and the national reform program with a 4-year horizon. In essence, it is an attempt to combine some basic fiscal rules with the national specificities of each country. The first issue that arises concerns the means of enforcement available to the Commission in cases of non-compliance and the conditions for their activation. The second is the commitment of each government’s policies to the Commission’s reform agenda, undermining democratic functioning and offering the Commission an enhanced role in national policies. The discussion between the member states is expected to take place within the next year in order to enter into force in 2024”.

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