Prime Minister's Economic Advisor on the Greek Economy &

C O N F I D E N T I A L ATHENS 001451

SENSITIVE

SIPDIS

DESK PASS TO U.S. TREASURY - LUKAS KOHLER
DESK PASS TO STATE/EUR/ERA - MATTHEW BEH
JONATHAN KESSLER

E.O. 12958: DECL: 2019/08/28
TAGS: ECON ECIN PREL GR EFIN
SUBJECT: Prime Minister's Economic Advisor on the Greek Economy &
GoG's Reform Capacity

REF: A. ATHENS 371; B. ATHENS 339; C. ATHENS 216; D. ATHENS 176

E. 08 ATHENS 1655; F. 08 ATHENS 1515

CLASSIFIED BY: Deborah A. McCarthy, DCM; REASON: 1.4(B),(D)

--------------

SUMMARY

--------------




1. (C) In a frank conversation with A/EconCouns, the Prime
Minister's Economic Advisor, Apostolis Philippopoulos, recently
discussed his views on the impact of the financial crisis on the
Greek economy, Greek economic policy in response to the crisis, and
the government's capacity to take on tough structural reforms in
the current political climate. Philippopoulos, an economics
professor who has served in his current capacity since December
2008, openly admitted that the current economic situation, with
persistent budget deficits, ballooning debt and eroding external
competitiveness, is unsustainable. He indicated that the Prime
Minister and his key economic advisors know what key reforms are
needed (namely liberalizing labor and product markets, controlling
tax evasion, and minimizing the size of the public sector). He
holds little hope, however, that real reforms will be implemented
in the next few months. Philippopoulos believes the GoG missed a
crucial opportunity to implement reforms during the 2004-2005 time
period - a time when the political and economic environment in
Greece was more conducive to change. Today, he lamented, Greek
politics has become too polarized, and Greek society lacks the
social cohesion necessary to undertake reforms that will
fundamentally and indelibly alter the relationship between
government and citizen.



-------------- --------------
--------------

IMPACT OF THE CRISIS ON THE GREEK ECONOMY & GOG RESPONSE

-------------- --------------
--------------




2. (C) Philippopoulos claimed that while the financial crisis has
affected the Greek economy, thus far the impact has been mild
relative to other EU and Eurozone countries. He believes the
reasons for this are two-fold: (1) the Greek banking system was not
exposed to toxic assets, as was the case in the U.S. and other
European countries; and (2) the GoG's economic policy in response
to the initial phases of the crisis was cautious. Philippopoulos
praised the GoG for abiding by the European Commission's (EC)
recommendation in late 2008 to avoid a large fiscal stimulus
package due to Greece's persistent budget deficits (3.7 percent of
GDP in 2007 and 5 percent of GDP in 2008). He feels this was a
very productive recommendation for Greece, since the multiplier
effect (the Keynesian notion that every dollar of public spending
acts as a stimulus to the economy by adding more than one dollar to
GDP) is lower than 1:1 due to the "gross inefficiency" of the
public sector and a highly politicized political system that
allocates resources according to patronage and corruption rather
than merit and efficiency. As a result, while the fiscal deficit
and public debt have increased (most economic analysts forecast
Greece's deficit will increase to 6-8 percent of GDP in 2009; the
IMF forecasts debt to balloon to 109 percent of GDP in 2009),they
would have been much higher if Greece had responded with a large
stimulus package, as many in the government and the public desired.





3. (C) Instead, Philippopoulos explained, the GoG's economic policy
in the face of the crisis has focused on restoring stability to the
financial system through a EUR28 billion bank aid package (see
reftel F) and a mild fiscal stimulus to support the most vulnerable
(see reftel A). He also pointed to four rounds of budget measures
the GoG has implemented in order to shrink the budget deficit to
the government's target of 3.7 percent of GDP in 2009 (see reftel

A; the fourth round was announced in June with the goal of
increasing revenues by EUR1.8 billion). [Note: While he stood by
the GoG's official line on the 3.7 percent deficit, Philippopoulos
seemed to squirm in his seat when discussing the GoG's target,
repeatedly stating that he was trying to be objective. It was
clear to A/EconCouns that he was trying to balance objectivity as a
serious economist with allegiance to the PM, but in essence was
saying that meeting this target was highly improbable. End Note.]
Philippopoulos noted that he is worried about unemployment. As a
lagging indicator, it is bound to increase, possibly by 10-11
percent by the end of the year (it already increased to 8.5 percent
year/year in May, up from 6.6 percent at this time last year).



-------------- -

ECONOMY NEEDS DEEP REFORMS

-------------- -




4. (C) While praising the GoG's cautious economic policy,
Philippopoulos openly admitted that the economy was in crisis and
that the current situation was unsustainable. He said the measures
taken by the GoG thus far have been of one-off and temporary nature
and have had little impact thus far. The GoG has not undertaken
measures aimed at truly transforming the structure of the Greek
economy. At over 40 percent of GDP, he believes government
expenditure is too high, and that the size of the public sector
needs to be cut. While the size of the public sector and the
shadow economy (i.e., unreported income, which is estimated to be
25 percent of GDP) are acting as auto stabilizers during Greece's
economic downturn, Philippopoulos argued both are very bad in the
long run, as they crowd out the private sector, deprive the
government of crucial revenues, and stunt prospects for growth. He
would like to see Greece develop a new engine of growth, less
reliant on consumer spending and government budget deficits as in
the past decade and more driven by investments and savings.




5. (C) In addition, Philippopoulos believes the GoG should focus on
reforms that will reverse the decline in Greece's competitiveness.
These include liberalizing labor and product markets from excessive
regulation, implementing a regulation that would make the public
sector more accountable and more efficient, and developing a new
incomes policy for the public sector. He noted that public sector
wages are the key determinants of wage growth in Greece, and Greece
has lost competitiveness because wage growth has outpaced
productivity growth.



-------------- --------------
--------------

. . . BUT GREECE LACKS SOCIAL COHESION TO SUPPORT REFORMS

-------------- --------------
--------------




6. (C) Unfortunately, Philippopoulos does not see reforms of this
magnitude on the horizon. Instead, he sees the GoG taking further
stop-gap measures that will do little to transform the economy,
thereby having only marginal impact on Greece's economic problems.
He believes the GoG will announce further one-off and temporary
measures this fall (some as early as September 5, when the Prime
Minister makes a major speech at the Thessaloniki Trade Fair),
including another public sector wage freeze for 2010 and various
revisions to the taxation system aimed at decreasing the incidence
of tax evasion. The economic reforms that Greece needs require
social cohesion, a strong leader and public support, according to
Philippopoulos. While he quickly added that Prime Minister
Karamanlis is a strong leader, he believes that the Greek political
system has become far too polarized for anyone to unite the public
behind reforms that will fundamentally and indelibly alter the
relationship between government and citizen. Selling the public on
these reforms requires not only someone that can articulate the
necessity of change, but also a system with a bit less "noise" and
populism.


7. (C) Philippopoulos stated that the governing New Democracy party
missed a crucial opportunity in 2004-2005 to implement deep
reforms. This was a key time period when the opposition was weak,
trade unions were relatively quiet, and thanks to the euphoria
engendered by the Olympics, the Greek population was united in an
unprecedented manner. He argued that people - even public sector
employees - would have listened and supported reforms then.
Sighing wistfully, he admitted this is not the case today.



--------------

COMMENT

--------------




8. (C) Despite being an economic advisor to the Prime Minister, it
is not clear how much direct access Philippopoulos has to the PM,
or how strong his influence is on economic policy decision-making.
What is clear from the meeting, however, is his concern over the
lack of meaningful economic reforms taken thus far and the state of
affairs in Greek politics. Karamanlis's speech on September 5 at
the Thessaloniki Trade Fair will be telling whether he will
continue to rely on stop-gap measures for fear of completely
alienating public opinion in order to shore up Greece's public
finances, or whether he might risk significant structural reforms
with an eye both towards his legacy and the chance that Greek
voters may forgive short-term economic pain for the sake of bold
leadership.
SPECKHARD