Last week the Senate Foreign Relations Subcommittee on Europe and Regional Security Cooperation held a hearing for which I was asked to address the lessons that the United States can learn from the Greek financial crisis. One obvious lesson is that the United States needs to take actions to prevent its own federal debt from exploding, as is forecast by the Congressional Budget Office in their alternative fiscal scenario (See Tab 5 of CBO’s July 2015 Release). But I chose to emphasize a broader set of economic policy issues in my testimony.
First note that while the Greek economy has been performing terribly recently (real GDP has declined by an average of 5% per year for the past five years) over the longer term economic growth has also been poor. Real GDP growth averaged only 0.9% per year and productivity growth (on a total factor basis) averaged only 0.1% per year since 1981.
Second note that Greece’s economic policies–regulatory, rule of law, budget, tax—have also been very poor according to many outside observers. According to the Heritage Foundation’s index of economic freedom, Greece ranks 130 among the countries of the world, the worst policy performance in Europe and on a par with many poor sub-Saharan African countries. According the World Bank’s Doing Business indicator, Greece ranks 61, which is well below Portugal, Italy, Spain, and Ireland; and on two important pro-growth measures in the World Bank’s Doing Business indicator it ranks 155 on enforcing contracts and 116 on registering property. And, according to yet another measure, the Fraser Institute’s Index of Economic Freedom, Greece ranks 84 in the world.
These factors alone explain much of Greece’s poor economic performance and for this reason in its recent report on Greece, the IMF concludes that “To achieve [productivity] growth that is similar to what has been achieved in other euro area countries, implementation of structural [supply side] reforms is therefore critical.” No quantitative measure is perfect and there are exceptions, but there is a general association between these economic policy measures and economic performance.
Of course, U.S. economic policy scores higher according to these quantitative measures and one must be careful in drawing analogies and lessons. Nevertheless there is a problem: The United States has been declining in recent years on all of these measures of good economic policy. On the Fraser Index, the United States ranked 2 in the year 2000, and it ranks 14 today. On the Heritage Index it ranked 5 in 2008, and it ranks 12 today. On the World Bank’s Doing Business Indicator it ranked 3 in 2008, and it ranks 7 today.
I have also noticed such a deviation from good economic policy in the United States in recent years and wrote about it in my book, First Principles. I find a connection between the recent US problem of low economic growth and this deviation from sound policy principles. In the United States adherence to the principles of good economic policy has ebbed and flowed over the years, creating waves of bad economic times and good economic times.
Of course, there are implications for Greece: the best policy for Greece would be to change radically economic policy in a pro-growth direction. This would move Greece up in the economic policy indexes and, more importantly, start productivity and economic growth.
For the United States, the policy implications are similar, though their purpose is to accelerate the slow upward pace of the economy—say from a 2% growth rate to a 4% growth rate—and avoid another economic crisis, rather than to stop a precipitous downward drop in the economy and stop an ongoing crisis, as in the case of Greece.