Endgame for Greece!

The endgame has begun. Even if Greece manages to arrange the disbursement of the next tranche under Plan I and even if Plan II becomes approved by the EU, Greece has absolutely no chance to comply with the austerity requirements on a sustained basis because the economy of Greece is a basket case and because there seem to be no plans whatsoever (neither on the part of Greece nor on the part of the EU) how the economy could get going again.

There is no industrial development plan how to convert a corrupt and crony-driven economy into a value-generating market economy. This is not a project for a few months, nor even for 2-3 years. This is a project for an entire generation and it has to be planned accordingly.

Economists have calculated that Greece, since the Euro, has become roughly 40% more expensive relative to Germany. However, the Greek Euro has maintained the same international purchasing power as the German Euro. Consequently, Greece has imported products and services from abroad instead of producing them domestically. The Greek economy has become a zombie-economy which had lost its business model long before the financial crisis of 2008: 80% of the economy consists of services, i. e. “selling each other souvlaki at inflated prices and paying for them with money borrowed abroad”.

From 2001-10, Greek imports amounted to 446 billion EUR compared with exports of only 146 billion EUR. Despite the present recession which brought imports down and even increased exports, exports still only cover 40-45% of imports (compared with 78% in the USA and even 93% in Italy). The current account deficit during this period was 199 billion EUR! This luxury of the Greek economy was financed through foreign savings.

From 2001-10, the gross external debt of Greece increased from 121 billion EUR to 409 billion EUR; representing a net increase of 288 billion EUR. Most importantly, the foreign debt of the private sector (212 billion EUR) is higher than the foreign debt of the public sector (187 billion EUR). Even if all of Greece’s sovereign debt were forgiven and even if the budget could be balanced, the problem of the Greek economy would remain.

The Greek economy literally “burns” money. The current account deficit for 2011 can be expected at no less than 25 billion EUR. And continued capital flight will probably amount to another 25 billion EUR. In the past, the ECB has filled this “hole” by lending money to the Greek banking sector. Picture the following: the ECB sent tax payers money to the Greek banking sector so that wealthy Greeks could – perfectly legally via bank accounts – transfer their own money abroad and so that the Greek economy could import goods instead of producing them domestically! How much longer will the ECB be able to do this? (presently, they have lent roughly 100 billion EUR to the Greek banking sector).

Greece is not a bottom-less pit. However, she is a pit with 3 big holes: budget deficit, current account deficit and capital flight. Quite a bit has been done already with regard to the budget deficit but more needs to be done. Nothing has been done yet as regards the current account deficit and capital flight.

If Greece does not get a handle on the current account deficit and on capital flight, she has absolutely no chance!!!

An industrial development plan needs to aim at reducing the current account deficit and at eliminating capital flight. Exports can probably not be increased at a significant rate because Greece does not have all that much to export (yet). Revenues from tourism can probably not be increased significantly, either, because they are already very high and because Greek tourism – objectively speaking – isn’t really all that competitive (Greek tourism lives very much on cult).

Consequently, it is imports and capital flight which are the two factors left which could make a difference, and a big difference they could make indeed! Imports must be drastically reigned in (and replaced, as much as possible, with domestic production) and capital flight must simply be stopped outright.

If Greece left the Euro and returned to the Drachma, all of the above would happen automatically: the new Drachma would devalue by at least 30-40% making all imports more expensive accordingly; capital flight via bank accounts would no longer be possible because banks would not have the necessary local currency.

A Euro-exit, above all an uncontrolled one, would probably be the worst of all evils in the present chaos. Financial assets of Greeks (savings) would overnight become 30-40% worth less in terms of foreign currency. Bye, bye social peace!

If a Euro-exit is the worst of all evils and if Greece cannot make it with the present Euro-structure, then Greece must hold on to the Euro and simulate a situation – at least temporarily – as though she had returned to the Drachma.

Temporary measures: special taxes on imports in order to make imports altogether 30-40% more expensive (on a staggered scale, however: 0% for priority imports; 100% for luxury imports); selective Free Trade Zones where internationally competitive business conditions are allowed so that new domestic production for import substitution can be started; and capital controls.

This would violate EU-treaties (free movement of goods/services) but treaties can be amended, if only temporarily. This is an emergency and an emergency requires emergency legislation. For the EU it would clearly be more beneficial to approve such amendments so that Greece can build up a value-generating economy instead of continuing to send tax payers money to Greece so that a zombie-economy can be kept up.

A new Investment Law of constitutional rank must be established which assures the potential new investor all the internationally competitive business conditions which he desires. Since no one seems to trust any Greek law any more, the EU should guarantee compliance with this Investment Law so that investors do not have to carry any political risk (economic risk they have to carry!).

The investor would find an economic nirvana: he can produce competitively and he already has an assured market demand. And he is covered against all sorts of Greek political risk.

Wealthy Greeks hold hundreds of billion Euros in foreign bank accounts. The new Investment Law must aim at the voluntary return to Greece for new investment of parts of those funds. Greeks are good businessmen and they recognize a good business opportunity quickly. Why should wealthy Greeks prefer to earn 2% in Switzerland when they could earn a multiple thereof in Greece with the same security?

Why selective Free Trade Zones and not the whole country to begin with? Because one cannot restructure a country’s economy from A-Z at one and the same time; that would lead to a revolution. Instead, the objective has to be to make the Free Trade Zones work well and to hope that their economic framework will rub off on the rest of the economy over the years.

Of foremost priority is good business governance in the Free Trade Zones; everything must be on correct and transparent footing. If the Greek way of doing business (tax cheating, corruption) set foot in the Free Trade Zones, the project would be doomed from the start. There would have to be efficient control mechanisms such as regular audits by reputable auditing firms. Perhaps even periodic EU-inspections (after all, they guarantee compliance with the Investment Law).

The great risk associated with import controls is always that this protection of the domestic economy is misused by domestic manufacturers. Suppose an imported tooth paste costs 1 EUR per tube and the new internationally competitive conditions in the Free Trade Zones allow the domestic manufacturer to also operate profitably at that price. Assume further that a 100% special tax will temporarily be imposed on the imported tooth paste so that the domestic manufacturer can start up his business. Thus, the imported tube will now cost 2 EUR. The risk is that the clever Greek businessman may now want to sell the domestically manufactured tube at 1,99 EUR.

This is not how the system can work! The objective of the Free Trade Zones is to build up sustained domestic manufacturing. They cannot be misused by clever Greek businessmen to produce competitively but sell at twice the price. The benchmark always has to be the international price!

All of this sounds very much like a planned economy, but it isn’t. It all depends on the new Investment Law is formulated. The law has to establish firmly those rules within which entrepreneurs can act freely and to their profit. An effective Investment Law will offer the investor an attractive relationship between security, risk and reward. If that is accomplished, the investors will come on their own.

Chile showed in the late 1970s how a good Foreign Investment Law turned a formerly communist and planned economy in a short time into the „darling“ of foreign investors. Why should Greece not be able to accomplish the same? (particularly with the EU-guarantee, of which Chile had no equivalent).

Argentina has attempted several economic stabilization plans over the decades and for a limited period of time they all seemed to work. The foreign money of Argentines always returned quickly to the country and accelerated the recovery. However, as soon as the first clouds appeared on the economic horizon, that money left the country as quickly as it had come. Greece must accomplish the “trick” to create the kind of economic framework so that the foreign financial assets of Greeks stay in the country on a sustained basis.

The government must assure that many investment opportunities are always on offer for investors. They must be well presented and accompanied by base case business plans, and they must be publicly tendered. The government could even involve some PR-coverage to stimulate a “run” on such new investments (based on the theme: “let’s get in before the door perhaps closes again”).

The issue of Greece’s sovereign debt was purposely not addressed here because that problem is, in comparison, the smaller problem. A foreign debt problem can be solved with a few hundred people in a conference room (provided that they can agree on something). However, to develop an industrial development plan for the Greek economy and to successfully implement it, that requires the best brains not only of Greece but also of Europe.

But: once there is an industrial development plan for Greece, the sovereign debt problem will be much easier to solve because the country’s creditors could, for once, have the hope that there could be light at the end of the Greek tunnel!