Why Debt Relief Won't Solve Greece's Problems

Greece will not get very far out of its present morass without coming to grips with how it got there. The country provides a textbook example of a flawed economic system.

The public sector is notorious for its corporatist practice of clientelism to gain votes and cronyism to gain favors -- though some say that Italy and France are as bad. Some evidence suggests the magnitude of this issue: Greece's government pensions relative to productivity are nearly twice Spain's.

The government favors the elites in business with tax-free status.

Some state employees even get a bonus for showing up to work on time.

It is less well-known that Greece's private sector is rife with companies that do not compete with each other and block or impede entry of new firms bearing new ideas. The dearth of competition can be measured: The last available OECD data showed profits as a share of business income at a whopping 46 percent in Greece, far exceeding the shares in the 22 other members. Here Italy was second at 42 percent and France at 41 percent. (The U.K. was at 32, the U.S. at 35 and Germany at 39.) Greece appears to be the most corporatist economy in Europe.

"The Greek economy is almost devoid of the dynamism needed for indigenous innovation."

The resulting economy is almost devoid of the dynamism needed for indigenous innovation. Hence, Greece has high unemployment and little potential for sustained productivity growth. And with competition so weak, entrepreneurs have not rushed in to hire people from the swollen ranks of the unemployed. It is no wonder that the employment recovery underway from late 2013 until early 2015 was relatively slow next to Ireland, the U.K. and Spain.

What can be done? Some economists believe that the Greeks' work ethic and thrift can pull them through. But the classical virtues can do nothing to offset the dearth of innovation that plagues the economy.

Some other economists believe that Keynesian tools alone -- devaluation and other stimuli to demand -- can offer wide prosperity. But the Keynesian belief that "demand" is always at the root of under-employment and slow growth is a fallacy. (Greece's long structural stagnation, interrupted briefly by Brussels' "structural funds," is a counterexample.)

Equally fallacious is the belief that even if an economy has been stunted by corporatist practices, Keynesian tools can hammer the economy back into shape. As history shows, including Greece's, the resort to fiscal stimulus is ultimately ineffective at best; and it may even add to the difficulties.

Thus, no amount of debt restructuring, even debt forgiveness, will help the Greeks achieve real prosperity. What they need is not short-term relief but, rather, a long-term cure.

The eurozone creditors could best help Greece by inducing it to rid itself of its corporatist practices in the public and private sectors. It is a question, though, of whether the creditor countries, themselves rather corporatist, would be willing to eradicate practices in Greece that they largely accept at home.

Greece Votes 'No'