Since 2010, a sweeping debt crisis has hammered the Eurozone. The poster child of this crisis is Greece. In October 2014, Greek unemployment stood at 25.8 percent; high unemployment remains a theme in the Greek economy since the 2008 recession. Liberals decry the Greek economy situation as an example of conservative economic principle failures. However, the Greek economy is not an example of real conservative austerity, but rather, the result of liberal economic principles. Unfortunately, Greek austerity arrived too late. Unlike Greece, a country that adopted true austerity is Latvia, and its economic recovery is a testament to conservative fiscal policy.
Setting the standard for the Eurozone, the Stability and Growth Pact (SGP), which laid out the requirements for joining the Eurozone in 1997, stated that a country’s debt and deficit shall not exceed 60% of GDP and 3% of GDP respectively. Unfortunately, countries already in the Eurozone ignored the requirements set by the Stability and Growth Pact. For example, according to Anders Åslund, a leading advocate for austerity, “Greece maintained an average budget deficit of 7.3 percent of GDP from 1990-2009, with a public debt never less than 94 percent of GDP” (Åslund 93). These statistics violate both the Maastricht Treaty and the Stability and Growth Pact. Penalties were not assessed against Greece for its conduct violations. In fact, Greece actually received benefits from being in the Eurozone, such as lower interest rates on loans (Åslund 93). These lower interest rates created an incentive to overspend and borrow recklessly, which led to Greece’s debt crisis.
Following the requirements set forward by the Maastricht Treaty, which has similar requirements to the SGP in regards to debt and deficit requirements, has worked rather well in countries like Latvia. Latvia was in the process of joining the Eurozone when the first recession hit in 2008. The European Central Bank (ECB) placed harsh fiscal constraints on Latvia, so it would still be eligible for admission into the Eurozone. After adhering to the requirements of the Maastricht Treaty, Latvia joined the Eurozone in January 2014. Latvia’s economy now thrives, especially when compared to the Eurozone and European Union (EU) as a whole. Latvia was the fastest growing economy in the EU during 2013 with a real GDP growth rate of 4.2% (“Real GDP”).
In order to understand how Latvia’s and Greece’s paths differed, it is important to look at the role of the International Monetary Fund (IMF). The IMF acted passively during the European Debt Crisis. However, the IMF took action during the crisis in Eastern Europe that flared up in late 2008. The IMF initiated programs that stabilized the governments of many Eastern European nations. In fact, Latvia accepted an IMF program in December 2008 (Åslund 37). Latvia’s IMF program totaled 7.5 billion euros, more than one third of its GDP (Åslund 37). Fortunately, Latvia stabilized its economy quickly with the IMF loan and began economic recovery. Unlike Latvia, Greece did not experience the same success. The EU and ECB barred Greece from approaching the IMF, which eliminated the possibility of immediate loans that countries like Latvia received (Åslund 94). This barring led to the deterioration of Greece until it reached bankruptcy. When Greece required a bailout, the EU finally let Greece seek IMF support, which eventually led to marginal stability. Zero hesitation with bailouts in the future will avoid the deterioration of the economic situations within countries.
After examining Greece’s story, comparative qualities emerge from Latvia’s situation. At the end of 2008 Latvia’s foreign debt reached 137 percent of GDP; its GDP declined by 4.8 percent, its budget deficit rose to 4 percent of GDP, and by October 2008 Parex Bank (a national bank) couldn’t receive international financing (Åslund 35). Latvia decided to fight a potential downturn with “internal devaluation,” which is defined by Åslund as, “large cost and wage cuts” (Åslund 35). The reason Latvia didn’t devalue its currency, like the IMF originally recommended, is that it is a violation of the Maastricht Treaty and would have delayed its admission into the Eurozone. Åslund believes devaluation would have devastated Latvia’s economy by sending inflation, debt, and mortgage defaults soaring (Åslund 36). Latvia by almost any measure significantly cut public costs and wages. In December 2008, Latvia passed a program that cut spending and increased a few taxes, which amounted to 7 percent of GDP. In June 2009, Latvia introduced another program that cut its budget by 4 percent of GDP (Åslund 37). These programs together cut public wages by 25 to 30 percent, cut 14,000 public sector jobs (in a country of approximately 2,000,000 people), and eliminated half the government’s agencies (Åslund 37).
The success of these programs in Latvia is undeniable. Since Latvia introduced budget cuts, its economy is the fastest growing in the EU (“Latvia GDP Growth Rate.”). Latvia also had the third fastest unemployment decline in the EU, 3.1%, from 2012 to 2013 (“Unemployment statistics.”). Latvia also saw the largest decrease in the “at-risk-of-poverty rate” in the EU of 3.9%, in 2012 (“People at Risk”). From 2009 to the fall of 2013 Latvia’s exports, “have increased by more than 40%,” and “its export market share has increased from 0.07 to 0.08 percent” (Blanchard). Latvia also paid off its IMF loan in December 2012, three years earlier than expected (“Why Austerity Works”). This conservative economic model enabled Latvia to reduce its budget deficit to 1.5 percent of GDP by 2012 (Eglitis).
Even though the media might portray the Greek budget cuts as harsh and dramatic, they are miniscule compared to Latvia’s budget cuts, which is why Greece did not stabilize its economy. While Latvia slashed the number of public sector workers by 14,000, in Greece: “There have been no mandatory dismissals yet in the public sector… Those in the public sector who are unqualified or low performing have continued to have protected jobs” (“IMF Survey”). In fact, since 2010 (the year Greece received its first bailout) to 2011, Greece added 5,000 civil servants to its payrolls (“Why Austerity Works”). Latvia had a fiscal adjustment, a change in government spending, of 9.5% of GDP in 2009 alone, as Greece from 2010 to 2012 saw only a fiscal adjustment of 9% of GDP (“Why Austerity Works”).
Conservative economic policy rescued Latvia from the brink of financial ruin. Latvia went from massive bailouts to the fastest growing economy in the EU after immediately embracing smaller government during financial crisis. On the other end of the spectrum, Greece half heartedly reduced government spending. This Keynesian liberal form of economic policy drove Greece into a complete economic collapse that shrunk the Greek economy by 25% (Lowen). When analyzing the results of these two EU nations, it is clear that real austerity leads countries out of economic parel.
Åslund, Anders. The Last Shall Be the First the East European Financial Crisis, 2008-10. Washington, DC: Peterson Institute for International Economics, 2010. Print.
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Blanchard, Olivier, Mark Griffiths, and Bertrand Gruss. “Boom, Bust, Recovery Forensics of the Latvia Crisis.” Brookings. Brookings Institute, 19 Sept. 2013. Web. 17 Feb. 2014.
Eglitis, Aaron. “Latvian Budget Deficit Was 1.5% of GDP in 2012, Ministry Says.”Bloomberg.com. Bloomberg, n.d. Web. 21 Feb. 2014.
“IMF Survey : Greece Makes Progress, But More Effort Needed to Restore Growth.” International Monetary Fund. International Monetary Fund, 5 June 2013. Web. 17 Feb. 2014.
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