Light My Fire: the 7 ways to rekindle an economy in the short run -and why none is working in Greece.

Posted: July 6, 2015 in Greek Economy
Tags: , , ,

Light My fire

Given an economy where production suffers from severe hypothermia, with a lot of productive resources unemployed (human and non-human), there are seven ways to rekindle quickly the fire and create growth dynamics in the short-run horizon. Five have to do with increasing demand.

1) The public sector could Increase its demand for goods, services and infrastructure. 2) Alternatively it could increase the wages and the value of other contracts with the private sector, increasing in this way disposable private income, and hence demand. Directly or indirectly, these would create primary deficits and would require incurring new debt. New debt could be covered by willing foreign creditors, or by having commercial bans lend the government or having the Central Bank do it. Currently, foreign creditors are not willing. Commercial Greek banks are very weak to perform such lending in the scale that would be required, and the Greek Central Bank cannot issue euros.

3) The Central Bank could inject liquidity into the economy, using various instruments.

4) Increase foreign demand for local products and services, i.e. strengthen exports. In the short-run this could have a chance only if one had a currency and could devalue it.

5) Have resources donated to the economy (however one wants to name it -Foreign Aid, EU transfers, whatever): here, past experience is not good: such resources have flown into the country in the past. They did not increase the productive base of the economy to the degree that they should and could have done. So there is no evidence that they will do so now.

6) Increase private disposable income by lowering the tax and social security chunk per unit of output: lower consumption and personal income taxes considerably (especially at low to middle levels of income), lower employees’ and freelancers’ social security fees considerably.

7) Increase production directly, because businesses consider it profitable and an opportunity and start investing and expanding (preferably in export sectors or imports-substitution ones): short-term this could be helped if corporate tax was lowered considerablysay, to 10%, and also if employers’ social security fees were reduced.

It is obvious that 6) and 7) would reduce the revenues of the public sector, and so they would require on the balance to shrink the public sector not by just cutting waste and inefficiency, but also by privatizing parts of it that many would consider unthinkable. I am saying this not as a “timeless-should” prescription, but as a “current situation-must” prescription: Personally I see no particular problem in having a public sector that offers extended services to its citizens. Only, this public sector should be able to afford it, and the Greek public sector is not. Now, even watered-down versions of such a prospect  have already met with exceptional resistance, not only from the current left-wing government of Syriza but also from the previous coalition of the two political parties that have dominated the political system for the last 40 years (once-socialist Pasok and always right-wing New Democracy). It bores me to death to explain why, but take my word for it, the political system is backed by the vast majority of the population on this one, irrespective of political ideology.

Now note that Light-My-Fire measures 1), 2), 3), 4) could in principle become available only if the country changed its international institutional position: if it left the Eurozone and possibly the EU, regaining the traditional government policy independence of a stand-alone country. Apart from any other offsetting disadvantages and risks this would entail, it is simply not relevant, when discussing any solution inside the Eurozone and the EU.

On the other hand, note that Light-My-Fire measures 5), 6) 7), in order to be implemented and have a chance to succeed, require seriously disrupting the internal structure of the country. “Reform” is a very mild word here.

But in the context of a negotiation inside the Eurozone and the EU, only this second package of “slash public sector and public revenues/slash public expenses/slash public payments for interest and debt principal” is relevant, as a solution with a chance to show result in the short-run also.

And it was never on the table.  Instead, what has been implemented and still under discussion is different ways to say “increase public revenues per unit of output a lot, while cutting public expenses (but not enough)  and easing the interest and debt burden (but not enough)” (some reductions in social security fees -that are now to be taken back- were anemic). But any package that increases public revenues per unit of output with the aim to just cover expenses and a part of financial obligations, and so results in a reduction of private disposable income, will certainly fail to Light The Fire, and has obviously already failed in the case of Greece.

  1. An old man in the sea. says:

    Hi Alecos,

    What’s your take on this presentation and the theory therein?

  2. Alecos Papadopoulos says:

    That’s a known and useful approach -as regards descriptive economics. In my opinion what Economics missed in the past three decades is not “chaotic dynamics and complexity”, but the rise in size and economic importance of financial capital, as contrasted to any other form of capital that we have imagined up to then. The roots of the 2008 crisis lies here in my opinion -and it has also to do with wealth and income inequality.

    • An old man in the sea. says:

      Sorry my ignorance, but what has been done in that sense to incorporate financial capital with the correct size and importance in the economic theory?

  3. Alecos Papadopoulos says:

    Not much, as yet (I am talking about macroeconomic models, not micro-models of the financial sector). There are various papers that try to rationalize the 2008 crisis by some (not traditional Keynesian) transmission mechanism from the financial sector to the real economy, but none attempts to start from scratch (“what is financial capital? Does it have any unique characteristics? etc). It is my plan to make this the second part of my PhD (or my first post-PhD research project), after I finish with a new Expectations Formation hypothesis I am working on currently.

    • anoldmaninthesea says:

      It seems very interesting. After publishing, show it here. 😉

      • Alecos Papadopoulos says:

        At the end of October a first short exposition of my Influential Expectations Hypothesis (IEH) will be published at a local journal (in English). I will post it also here.

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