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IMF Miscalculated Greek Austerity Effect

IMF Chief Economist Olivier Blanchard
IMF Chief Economist Olivier Blanchard

The top economist at the International Monetary Fund (IMF) one of Greece’s Troika of lender, has admitted that the agency didn’t calculate how devastating the austerity measures it wanted would be on the Greek economy and those of other struggling European countries.
The IMF, along with the European Union and European Central Bank, are putting up $325 billion in two bailouts to keep the Greek economy from collapsing, but the deep pay cuts, tax hikes and slashed pensions it insisted upon cut so much into revenues and limited growth that it skewed how long a recovery would take, Olivier Blanchard said in a report, according to the Washington Post.
The new and technical paper looks again at the issue of fiscal multipliers — the impact that a rise or fall in government spending or tax collection has on a country’s economic output. The paper reflects his view and not that of the agency, it was cautioned.
The Post explained that if fiscal multipliers are small, countries can cut spending faster or raise more in taxes without much short-term damage. If they are large, then the process can become self-defeating, at least in the short run, with each dollar of government spending cuts costing the economy more than a dollar in lost output and, thus, increasing ratios of debt to gross domestic product.
That is what has been happening with a vengeance in Greece, where fund forecasters in 2010 predicted that the nation could cut deeply into government spending and quickly bounce back to economic growth and rising employment. Two years later, the Greek economy is still shrinking, and unemployment is at 25 percent.
Simply put, Greece was losing revenues almost as fast as it was cutting how much it spent, negating the expected effects of austerity in a vicious self-defeating cycle. More than 68,000 Greek businesses have closed since 2010 and despite the failure of austerity, Prime Minister Antonis Samaras’ uneasy coalition government is about to impose another $17.45 billion in spending cuts and tax hikes that are expected to further worsen a deep recession now in its sixth year.
“Forecasters significantly underestimated the increase in unemployment and the decline in domestic demand associated with fiscal consolidation,” Blanchard and his co-author, IMF economist Daniel Leigh, wrote in the paper. The Post added that the IMF fund has been accused of intentionally underestimating the effects of austerity in Greece to make its programs acceptable, although Greeks have responded with a barrage of protests, strikes and riots that brought down the previous government led by PASOK Socialist leader George Papandreou.
IMF officials said that it was European leaders – especially German Chancellor Angela Merkel – who insisted on keeping Greece’s feet in the fire, a stance many Greeks believe was punitive. Despite her intransigence, Samaras invited her to Athens in October, 2011, triggering widespread protests, and is set to go to Berlin next week to give her a report on the progress of government reforms.

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