Greece – the conundrum of currency and institutions

Nikos Miserlis // 31 January 2017

Part 2 of our Greek economy series. For Part 1, please click here.

 

The Institutional Problem Revealed through Global Indices

 

One could arguably blame the aforementioned problems in Greece on the lack of credible institutions. Research in economic and political science has shown that stable and well-functioning institutions have played a key role in the success of today’s Western world. The key to institutional success was securing property rights and enforcing contracts among economic actors but also minimising corruption through stability and the rule of law. Stable and solid institutions would have helped Greece not only to reduce the shadow economy and free-riding, but also induce economic activity and growth.
The bad state of Greek institutions is evident in the Fraser Institute’s Economic Freedom of the World Index (EFW). The EFW dataset provides a comprehensive measure of the degree to which countries rely on voluntary exchange and market institutions to allocate resources. The latest 2014 index that compares 159 countries across key areas like the size of government, taxes, legal system, property rights, freedom to trade, regulation on business etc, ranked Greece 86th, i.e. in the 3rd quartile of economic freedom[1].

 

Looking at the rankings of the individual areas one can clearly evidence the Greek institutional problem being revealed by the Index. In the ‘Size of Government’ category, Greece ranks 142nd out of 159, on ‘labour market regulations’, 143rd, and on business regulations, 92nd.[2] In simple terms, it is apparent that Greece needs to simplify regulations and restrictions and build solid institutions in order to manage its way out of the prolonged crisis.

 

Another interesting observation directly related to the institutional problem is the area of the legal system and property rights. In the EFW index Greece ranks 62nd out of 159, better than its 86th out of 159 overall position. However, looking at the World Bank’s Doing Business Index, which ranks 190 countries according to a number of factors that attempt to comparatively measure the ease of doing business, the ranking of Greece in the area of Enforcing Contracts is 133rd out of 190, compared to 61st in the overall ranking for the country.[3]

 

This shows that even if property rights are in theory protected by law, the sclerotic and malfunctioning legal system can lead to legal battles for years before individuals or businesses can enforce their property rights. This does not allow long-term planning, raises costs and creates uncertainty, practically deterring long term investments in the country.

 

Public Choice Theory and Special Interest Groups in Greece

 

But how do you build solid institutions in a country where owning any kind of asset instead of being a potential means for returns and prosperity is a burden that entails high taxes and onerous bureaucracy by the state? Is it possible for a country to fundamentally rebuild its legal system, its labour laws, government spending etc. while being in recession and under tight supervision and austerity?

 

Public Choice[4] theory has shown that special interest groups are often able to impose their preferred policies on larger and broader groups (e.g. consumers and tax payers), especially in countries where the free rider-problem is more prevalent. Naturally, given the widespread distrust for the state and institutions in Greece, there are no incentives for large and diverse groups of the population to act collectively and lobby effectively for legislation that would support their interests.

 

As a result, smaller and well-organised professional bodies and trade unions manage to block most of the reforms that undermine their interests, either by lobbying not to pass them into law, or blocking the actual implementation of new laws. This rent-seeking activity is safeguarding their privileges to the detriment of the overall population. The majority of special interest groups that block reforms are mostly dependent on the government (e.g. public servants, employees of state-controlled organisations, pensioners, etc.) or they are private sector unions that represent ‘closed professions’.

 

Despite rent-seeking being known to the broader Greek population for years, it is still hard for the average observer to grasp how specific interest groups can form an overall majority in general elections, not allowing the political landscape to change towards deep reforms and institutional modernization.
One reason is cultural and has to do with the close-knit institution of the extended family in Greece. Greek extended families are very close even at older ages, and a public servant can in many cases exert significant influence on other family members to vote for a party that promises to protect their interests better than others.

 

However, the most important reason why specific minorities decide the democratic outcome is the functioning of representative democracy itself. In the latest elections of 2015 the major coalition partner won 35.46% of the votes and the minor coalition partner 3.69% of the votes being able to form a majority in parliament with 39.15% of the total vote[5] (50 seats are granted to the 1st party in the Greek electoral system to avoid hung parliaments).

 

However, including abstention, which was 43.84% of the registered voters, the actual percentages of the two parties are 19.4% for the major coalition partner and 2.02% for the minor coalition partner. As a result, the coalition government formed a majority in parliament with 21.42% of the total electorate vote. Similarly, in the elections of 2012, abstention was 37.5% and the coalition government formed a majority in parliament with 32.45% of the total electorate[6]. The 2012 result was higher than that of 2015 but still one third of the electorate chose the elected government in Greece.
One would arguably claim that democracy has to function and provide a solution, i.e. an elected government even if abstention is very high as long as it is not the majority which would probably de-legitimise the outcome. However, this result explains clearly the reason why special interest groups, even though just a fraction of the total electorate put together, manage to elect the governments that promise to preserve their interests.

 

To be continued…

 

[1] The 4th quartile consists of countries mainly in Africa and Latin America. Western developed countries are mainly ranked in the 1st and 2nd quartiles.

[2] Economic Freedom of the World, 2016 Annual Report, Fraser Institute

[3] Doing Business, The World Bank Group, 2016

[4] Public Choice – A Primer, Eamonn Butler, The Institute of Economic Affairs, 2012

[5] Greek Ministry of Interior, Parliamentary Elections September 2015

[6] Greek Ministry of Interior, Parliamentary Elections September 2012

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