1. 9063081 1
‘The crisis in Greece after 2008 was caused by the
profligacy of the Greek Government alone’. Critically
discuss this claim
It is clear to observe that after the onset of the global financial crisis of 2008,
Greece had suffered greatly due to the socialisation of debts from national banks’
exposure to toxic assets from the sub-prime mortgage market. This was in
addition to an already significant level of public debt. As an introductory statistic,
Greek government debt as a percentage of GDP rose from 105.7% in 2007 to
147.8% in 2010 two years after the banking crisis. (OECD)
There are of course a variety of perspectives on why the Greek debt crisis has
occurred. In trying to determine the cause, we first discuss the handling of Greek
public finances over the past 15 years, taking a closer look at the tax system and
its efficiency. From this we see that exposures to banking crises are high. We
observe that more could have been done to restore efficiency in the tax system in
order to reduce reliance on borrowing.
We then discuss the impact of the Eurozone and its structure on the state of
Greece, and determine that the rules set out within the Eurozone have
disadvantaged the peripheral states such as Greece whilst at the same time
benefiting the core nations which had greater levels of competitiveness. We find
that this unequal effect is a product of low German wages, which put pressure on
governments in the periphery due to restrictions on monetary policy in the EMU.
In this case, we conclude that a large current account deficit that was largely out
of Greek control has played its part in reducing government revenues, making
debt repayments more problematic.
Finally, we assess the argument with an analysis of Greek exposure to a global
financial crisis during the boom period. We see that the maturity of Greek debt is
a problem in particular and that Greek banks had large exposure to toxic assets
from the financial crisis, which of course makes the public sector more

2. 9063081 2
vulnerable due to the need for bailouts. We see that complex interconnectedness
on bank balance sheets throughout Europe renders the ability of the Greek
government largely powerless in preventing additional pressure on national
debt levels.
My position is that of disagreement with the statement that the Greek crisis was
caused by the profligacy of the Greek government alone. It is the final word of the
statement that proves to be crucial. Carelessness certainly appears to have had a
part to play, particularly with respect to the tax system and questions
surrounding pro-cyclical government spending. However, significant additional
causes such as relative competitiveness and the global banking crisis are part of
a wider problem that is not something that can be controlled by the government
of a peripheral state within the EMU system. Therefore, to suggest that the debt
crisis was due to only the irresponsibility of the Greek government is somewhat
removed from a larger picture.
Taxationin Greece
In our analysis of the run up to the Greek crisis, we begin by discussing the
structural problems in the Greek taxation system. First of all, Buiter (2010)
argues that for improvements in Greek public finances to be lasting, ‘significant
public sector reforms and other structural reforms’ are required. Mitsopoulous &
Pelagidis highlight large discrepancies (as much as 20%) between declared
average income levels and incomes estimated by the Greek National Statistical
Service. This perhaps suggests a problem with the evasion of taxes in Greece. We
can see that there is a high tendency for Greek workers to be self employed
rather than be involved in salaried employment. (Eurostat, 2008, p.115) This
tendency can be potentially explained by the Greek progressive tax system that
imposes high tax levels on higher-income brackets. Mitsopoulous & Pelagidis
(2011) explain that those under self-employment status are presented with
lower social security payments and have greater opportunity to evade tax. This
trend towards self-employment therefore is observed to a greater extent, as the
income bracket gets higher. When the proportion of aggregate incomes from

3. 9063081 3
both salaried labour and pensions begin to decline after a yearly income of
€20,000, aggregate declared income from self-employment begins to rise. As
Mitsopoulous & Pelagidis (2011, p.118) clarify: ‘The thinning of the population of
salaried employees at these higher brackets along with the large number of self-
employed, and their relatively low social security contributions when compared
to salaried labour, are not matched by higher revenues than the ones declared by
salaried employees’. Rapanos & Kaplanoglou (2013, p.290) also explain large
discrepancies between the wealth of liberal professionals and traders when
judged on declared income and expenditure levels.
Additionally, a large percentage of income tax declarations are low enough to
ensure that approximately half the households that file returns do not pay tax at
all (Mitsopoulous & Pelagidis, 2011 pp. 116-118). Investigating this further, they
observe that “Of 5.5 million personal income tax declarations by heads of
households for fiscal year 2007, 3 million declared an annual income of less than
€12,000”. This group paid just 0.4% of the total tax take. When tax takes per
income bracket are compared with France and Germany, it can be seen in Greece
that low and middle-income earners contribute very little to personal income tax
relatively.
Mitsopolous & Pelagidis (2011, p.119) point to the need for reforms to be able to
reclaim undeclared incomes in income taxation. They state that any reforms
introduced that shift the distribution of declared income to match that of the
incomes found by Greek National Statistical Service, that seem to provide a truer
representation of incomes, would lead to additional income tax revenue of about
€5bn for the Greek Government. This amounts to 2% of Greek GDP in 2007.
We can deduce that this can be interpreted as carelessness from the Greek
Government. The overly progressive tax system has actually had the opposite of
its intended effect, in that those faced with higher burdens have opted to avoid
paying tax through moving into self-employment. Not recognising and taking
steps to resolve this issue sooner has cost them significant government revenue,
which in turn helps Greece deal with its debts. Mitsopoulous & Pelagidis (2011,

4. 9063081 4
p.120) in their concluding remarks also state that the revenue shortfall as a
proportion of GDP approximately equates to the structural government deficit in
the years preceding the crisis.
The Structure ofthe Eurozone
In the second part of our analysis we examine the effect of the structure of the
Eurozone on the peripheral states, particularly considering the consequences of
the Eurozone Stability and Growth Pact on Greek public finances.
It is first important to mention that Greece, by being involved in the European
Monetary Union (EMU), does not have the flexibility to be able to manipulate the
interest rate and therefore affect the relative value of their currency. The
European Central Bank (ECB), who has the primary aim of stabilising inflation to
maintain the competitiveness of the Euro outside of Europe, sets interest rates.
What is also vital to the Euro’s acceptability as a stable currency abroad is fiscal
discipline between member states. Hence, the Eurozone Stability and Growth
Pact was set up at the outset of the Euro’s introduction. Under this, rules were
set up with somewhat arbitrary figures behind them. Government deficits as a
percentage of GDP had to be no more than 3%, and government debt as a
percentage of GDP could not exceed 60%, and if so, the violating government(s)
needed to ensure that the figure declined every year at an acceptable speed.
(European Commission, 2015)
Although it appears the ECB were successful in creating a relatively competitive
currency, this has come at a cost in that it has limited the ability of member
states to be able to react optimally to macroeconomic imbalances. In terms of
competitiveness within the Eurozone, the restrictions rendered the relative
performance of labour markets in member countries as critical. (Lapavitsas et al.
2011, p.323). Consequently, we can then see a potential for greater influence of
other member states on Greek macroeconomic performance, particularly its
current account.

5. 9063081 5
Germany in particular now becomes essential to the argument, as since the
beginning of the Euro, it has experienced significantly low inflation rates in
comparison to other member states. From 1997 to 2006, German inflation has
hovered around 1 to 1 and a half percent. During the same period, as a point of
reference, Greek inflation has been approximately double the German rate.
(Lapavitsas et al, p.331). Additionally, we can observe that Germany has only
very recently introduced a minimum wage policy, and during 1997-2008 there
was no floor for wage levels (BBC, 2014).
In order to prevent large trade imbalances in the Eurozone it is important for
member states to have similar unit labour costs, and the ECB initially set out a
guideline of up to 2% inflation to ensure price stability in the Eurozone. This
therefore implies that labour cost inflation should also be at a similar level.
(Bibow, 2012 p.17-18) states that after convergence to this 2% at the start of the
Euro, it was Germany that began to break away from its own historical norm and
experience approximately zero nominal unit labour cost inflation. It was wage
restraint rather than exceptional productivity that brought about these
differences in unit labour costs within the Eurozone. Additionally, (Bibow 2012
p.17) explains “if sustained over a number of years, divergent trends build up to
ever large distortions in relative competitiveness positions.” We can obtain
further evidence for this hypothesis by examining the current account positions
of Germany and peripheral states during this period. An increase in relative
competitiveness for Germany should in theory lead to a stronger current account
position in comparison to the periphery.
This is exactly what can be found. Firstly, Lapavitsas et al (2011, p.342) reveals
that two thirds of German exports during this period can be found to be within
the Eurozone. This is significant since it implies that the main purchasers of
German goods and services are the peripheral states, funded by spiralling
consumer debt.
Observing the statistics on current accounts during the Euro’s time period, there
are clear imbalances present. The (IMF, p.342) data highlights how German
current account surpluses as a percentage of GDP have grown significantly from

6. 9063081 6
2000 to 2007, peaking at approximately 7.5%. Greece on the other hand has
experienced one of the worst current account positions in the Eurozone,
experiencing the opposite trend to that of Germany with a deficit of almost 15%
of GDP in 2007.
We can see from the data that this appears to be no coincidence. We see a slightly
delayed effect from the diversion of German unit labour costs to large differences
in current account positions within the Eurozone. We can also discount exchange
rates from the equation since both Germany and Greece operate under the same
currency, controlled by the ECB. Neither has the capacity to be able to
manipulate the currency, which would potentially lead to shifts in trade
positions. When we also see that the majority of German exports are situated
within the Eurozone, we can see that these macroeconomic asymmetries have
had some effect on the Greek current account position, which in 2008 stood at an
extremely high 15% of GDP (IMF, p.342). The evidence would suggest that this
leaves Greece in a far more vulnerable position to a global banking crisis due to
large flows of money leaving the country. According to Mody & Sandri (2011,
p.204) “The econometric results show, indeed, that countries with weaker
competitiveness were prone to greater sovereign stress resulting from financial
sector weakness”.
Greek Exposure to International Banking Crisis
It would be a mistake to ignore the large impact of the 2008 financial crisis on
Greek debt levels. As we saw in the introductory statistic, between 2007 and
2010, government debt as a percentage of GDP rose by 40% (OECD).
Increasingly high levels of bank balance sheet interconnectedness and
deregulation of the banking sector in the years preceding the crisis has
ultimately rendered the stability of the private sector as increasingly important
to sovereign debt levels. (Erturk et. al, p.5) A good summary of this argument is
made by Mody & Sandri (2011, p.17), who argue that the Subprime crisis “took
the Eurozone of its tranquillity” and that the crisis affected the premium for the
expected increase in public debt ratios, raising the probability of default with

7. 9063081 7
“minimal country differentiation”. The similarity across various countries is a
key observation in that it implies that the crisis was essentially global. Ceteris
paribus, the events of 2008 affected sovereigns largely equally. This is perhaps
evidence to suggest that the ability of the Greek government to prevent the
effects of such an event as small.
In addition to the crisis itself and the need for the bailing out of domestic banks,
the effect on the Greek Economy due to the recession that followed was
significant in terms of the natural cyclical components of fiscal policy.
Source: Eurostat

8. 9063081 8
From the data outlining Greek GDP growth, we can clearly see the enormous
effect of the Subprime crisis on the Greek economy beginning from 2008. As
Buiter (2010, p.3) outlines: “The recession weakened many government revenue
sources and boosted certain public expenditure categories (like unemployment
benefits) for the usual cyclical or automatic fiscal stabiliser reasons”. This of
course further impacts on public debt levels and has resulted from global
financial crisis, which cannot be strongly attributed to the profligacy of the Greek
government.
Despite this, it is important to understand that Greece was dangerously exposed
to such a financial sector shock, not just through the private sector but also
through aggressive pro-cyclical behaviour and “fiscal profligacy” before 2008.
(Wren-Lewis, 2015 p.22) (Buiter, 2010 p.3) The ‘profligacy’ can be interpreted as
not taking the necessary measures to minimise risks associated with any
potential negative shocks to the economy. Argitis & Nikolaidi (2014, pp.279-281)
observe that before entry in the EMU, the Greek government began to
accumulate a significant level of debt in order to satisfy the Maastricht criteria.
Argitis & Nikolaidi also point to an excessive build up of long-term debt in and
around the time of entry into the euro. This leads to risks that become larger as
the debt reaches maturity. At the time, the easy choice to take is to be able to roll
over debts instead of applying structural reforms with potential political
implications. The majority of this debt matured at around the time of the
financial crisis, applying further pressure on re-financing. Finally, the liquid
assets-to-debt ratio of Greece during the period 1999-2009 was observed as
‘very low’ at around 4-5%, and Argitis & Nikolaidi conclude that this is far from
sufficient as a margin of safety against unforeseen contingencies.
The evidence in this section would suggest that the Greek government certainly
had a role to play in its own downfall, but we can also question their ability to
make structural reforms for political reasons. Even if it is easy to recognise that
changes need to be made in order to increase government revenues and possibly
cut spending to more sustainable levels, it is much harder to implement such

9. 9063081 9
changes without consequence. Perhaps then we can question the role of the ECB
in not recognising the potential problems, providing warnings to Greece and
applying significant pressures for reform that would likely help public
acceptability. Perhaps also disincentives could be put in place to prevent the
Greek government from continually being able to favour long-term debt, which
only provides temporary relief from facing existing debts and likely intensifies
problems in future.
Conclusions
There are a variety of factors at play in the run up to the Greek crisis after 2008
that are important to determining the cause. Some of the arguments we have
discussed are largely unrelated to public sector profligacy. As I believe the crisis
was due to a combination of the suggestions discussed, this implies that the
statement that the crisis was down to government profligacy alone is incorrect.
As we have observed, the role of Germany since the beginning of the EMU in
deflating its unit labour costs has had large implications for the current accounts
of peripheral states such as Greece in the Eurozone. This has had an extensive
impact on Greek GDP, reducing much-needed government revenue, which in
turn has increased the public sector’s reliance on debt. Additionally, Greece has
suffered from a global financial crisis of which the origins can hardly be
attributed to the Greek government. This has required large public sector
bailouts of private banks in addition to costs as a result of the impact of
automatic stabilisers.
However, although the Greek government has not been the sole reason for the
debt crisis, that does not mean that there can be no blame attributed. Debt levels
were clearly excessive as a result of pro-cyclical spending, despite weak
competitiveness and tax evasion can also be seen as a problem stemming from
an overly progressive tax system that was in need of reform. It is important to
recognise however that it is not in the political interest to stop a vast proportion
of the population from evading taxes, and so questions can be asked of the ECB.

10. 9063081 10
Their remit is to ensure stability in the Eurozone, and perhaps they should have
recognised the problems in Greece earlier and taken the appropriate action.
Words: 2903
Bibliography
Argitis, G., & Nikolaidi, M. (2014). The financial fragility and the crisis of the
Greek government sector. International Review of Applied Economics, 28 (3), pp.
274-292.
BBC (2014) Germany approves first-ever national minimum wage Available at:
http://www.bbc.co.uk/news/business-28140594 (Accessed 05/01/2016)
Bibow, J (2012) The Euro Debt Crisis and Germany’s Euro Trilemma, IDEAS
Working Paper Series from RePEc, 2012
Buiter, W. H & Rahbari, E. (2010) Greece and the fiscal crisis in the EMU. New
York: Citigroup.
Erturk, I, Froud, J, Johal, S, Law, J, Leaver, A, Moran, M & Williams, K (2012) Deep
Stall? The euro zone crisis, banking reform and politics, CRESC Working Papers.
Manchester: CRESC; 2012. Working Paper No. 110
European Commission (2015) Who can join and when? Available at:
http://ec.europa.eu/economy_finance/euro/adoption/who_can_join/index_en.h
tm (accessed 02/01/2016)
Eurostat (2008), in Mitsopoulous, M & Pelagidis, T (2011). “The real cause of
Greek debt: Taxation and labour market distortions in Greece” Economic Trends,
46 (2) pp. 112-20
IMF in Lapavitsas, C, Kaltenbrunner A, Lindo, D, Michell, J, Painceira, J.P, Pires, E,
Powell, J, Stenfors, A, Teles, N (2010) Eurozone crisis: beggar thyself and thy
neighbour, Journal of Balkan and Near Eastern Studies, 12 (4) pp. 321-373
Kaplanoglou, G & Rapanos, V.T (2013). “Tax and Trust: The Fiscal Crisis in
Greece” South European Society and Politics, 18 (3) pp. 283-304
Lapavitsas, C, Kaltenbrunner A, Lindo, D, Michell, J, Painceira, J.P, Pires, E, Powell,
J, Stenfors, A & Teles, N (2010) Eurozone crisis: beggar thyself and thy neighbour,
Journal of Balkan and Near Eastern Studies, 12 (4) pp. 321-373
Mitsopoulous, M & Pelagidis, T (2011). “The real cause of Greek debt: Taxation
and labour market distortions in Greece” Economic Trends, 46 (2) pp. 112-20

11. 9063081 11
Mody, A., & Sandri, D. (2012). “The eurozone crisis: How banks and sovereigns
came to be joined at the hip” Economic Policy, 27 (70), pp.199-230.
OECD, Central Government Debt Tables. Available at:
http://stats.oecd.org/Index.aspx?DataSetCode=GOV_DEBT (Accessed
01/01/2016)
Wren-Lewis, S. (2015) “The Greek people have paid for their governments'
mistakes and for the errors of the Troika”. New Statesman (1996), 144 (5269),
p.22.