George A Provopoulos: The strategy for the Greek economy's exit from
the crisis - what is at stake?
Speech by Mr George A Provopoulos, Governor of the Bank of Greece, at the 79th Annual
Meeting of Shareholders, Athens, 24 April 2012.
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THE NEW ADJUSTMENT PROGRAMME PROVIDES MORE FAVOURABLE CONDITIONS
THAN PREVIOUSLY, BUT EXIT FROM THE CRISIS WILL DEPEND EXCLUSIVELY ON
THE COUNTRY'S WILLINGNESS AND ABILITY TO RISE TO THE HISTORIC
CHALLENGE
The historical stakes are still high
Two years after the first Memorandum, we are now faced with a new challenge, one that is
especially crucial for the country's future. Despite the progress made, the failure to act in a
resolute and timely manner, along with the recession, resulted in a worsening of the
dynamics of public debt, making a new agreement for financial support necessary. The new
loan agreement and the economic adjustment programme provide more favourable
conditions than before for a return to growth. The new agreement offers conclusive evidence
of our partners' willingness to support us. However, uncertainty continues to surround the
global economy, reflecting, in part, the sovereign debt crisis in European economies.
The economic situation, both at home and abroad, leaves no room for complacency. To take
advantage of the new opportunity, we must promptly implement what we have agreed to and
make up for previous delays. There is no easy way out of the crisis. The adjustment must be
pursued with determination.
The current pre-electoral period has temporarily sidelined planned reforms. If, after the
elections, there is any question about the will of the new government and society to
implement the programme, today's favourable prospects will be reversed; the country will
then be at risk of finding itself very soon in a particularly adverse situation, which will impact
negatively on citizens' morale.
What is at stake is the choice between:
An orderly, albeit painstaking, effort to reconstruct the economy within the euro area, with the
support of our partners;
or
a disorderly economic and social regression, taking the country several decades back, and
eventually driving it out of the euro area and the European Union.
Past failures to act in a resolute and timely manner have magnified the actual costs of
adjustment
The second adjustment programme, along with private sector involvement in the
restructuring of Greece's public debt, leading to its substantial reduction, mark the end of one
phase of the crisis. With the help of our partners, and with a hard effort and at considerable
cost, under the first programme changes were made that were important, but still insufficient
in relation to the size of the economic problem at hand. This explains the repeated
underperformance with respect to the targets of the adjustment programme after the first
Memorandum. The related revisions would have been avoided had we accepted from the
outset our full responsibility for the necessary change in course, once it had become clear
that the growth model followed was no longer sustainable.
The needed adjustment did not take place to the extent required. The Memorandum, which,
in any case, contained reforms that should have been implemented long ago, was handled
defensively and treated as an external imposition. This defensive stance, however, proved to
be totally counter-productive - it magnified the costs of adjustment and deepened and
prolonged the recession.
A promising new start: a battle has been won, but the war is not over
The lack of sufficient policy adjustment brought us to the restructuring of debt and the new
loan agreement - choices which, given the circumstances, had become unavoidable. The
restructuring improves the dynamics of public debt and creates a more favourable framework
for the economy. Thus, a very difficult phase of the crisis comes to an end, at great social
cost, but without any devastating effects. We now find ourselves at a promising new starting
point. In this sense, a battle has been won, but not the war. This is why there can be no
slackening off or complacency. On the contrary, continued vigilance, an intensification of
efforts and a faster pace are required. In order to succeed now, we need to promptly make
fundamental qualitative changes [mainly] to the functioning of the state, the operation of the
public administration and, more broadly, institutions, the political system, the judicial system,
the social partners, as well as the values and attitudes that shape our behaviour.
The agreement of society and of political forces is needed on the main issue: the
country's European prospects and growth
For these changes to proceed, what is needed is the broadest possible consensus across
society and the spectrum of political views.
Citizens must be convinced of the necessity of the changes stemming from the country's
choice of euro area membership; further, they must understand that an eventual failure to
implement the changes would entail losses many times greater, as well as an irreparable
break-up of social cohesion.
It is to be hoped that political forces will agree on the issues that unite them, namely the
country's European prospects and its growth potential; in this way the continuity of the state
will be ensured.
The necessary changes can be realised today
Today we are better positioned than just a few months ago to take effective action. The
objective conditions that make this possible are in place:
 The restructuring of the public debt substantially reduces the country's obligations
and the cost of servicing them, thereby facilitating fiscal adjustment.
 The loan agreement and the accompanying economic adjustment programme were
passed by Parliament with a large majority.
 Whilst the fiscal deficit remains high, it has been substantially reduced. The
objective of achieving primary surpluses from 2013 onwards is clearly attainable.
There is now broader public awareness of the gravity of the situation and of the

need for radical change if Greece is to remain within the European Union.
The banking system proved resilient during a difficult period and today looks forward

to its restructuring, which will enable it to operate more effectively to the benefit of
the overall economy.
These factors will help the economy, first, to recover from the crisis and, then, to
settle onto a sustainable growth path. Nevertheless, the risks remain high and
uncertainty is still considerable.
The recession and unemployment turned out worse than initially expected
 The recession that began in 2008 continues. In 2011, real GDP contracted by 6.9%.
The situation worsened in the fourth quarter, reflecting, among other things, the fact
that uncertainty remained high. The decline in GDP was driven by the fall in both
consumption and investment, the latter dropping by more than 20%.
 A further reason for the deterioration in GDP in the fourth quarter of 2011 was the
halt in the upward trend in real exports of goods, after four successive quarters of
growth. Exports of goods increased on average in 2011, but more slowly than in
2010 (3.6% against 5.4%). The decline in exports in the fourth quarter can be
attributed not only to the slowdown in economic activity in our trading partners, but
also to financial constraints faced by exporting firms (in particular, limited access to
bank and trade credit).
On the supply side, output of the secondary sector fell sharply (almost twice as

much as in 2010: -12%, compared with -6.1%). The decline in output of the tertiary
sector intensified as well (-5.9%, against -3.1%). By contrast, agricultural output
increased by 2.5%, but, because of the sector's small size, this positive
development had little effect on GDP as a whole.
The decline in production was the main cause of the net loss of some 300,000 jobs

and the surge in the number of the unemployed by approximately 250,000 people in
2011.
 Conditions in the financial sector deteriorated. The rate of credit expansion to the
private sector, which has been steadily decelerating since 2008, turned negative in
2011. While this development can be partly attributed to reduced demand for credit
on account of the recession, an important factor was also the liquidity squeeze
experienced by banks, resulting from the loss of confidence brought about by the
fiscal crisis. Today many sound businesses are suffering the consequences of that
squeeze.
The general government deficit was reduced in 2011, but meeting the fiscal targets for
2012 will require persistent efforts
The general government deficit as a percentage of GDP was reduced by 1.2 percentage
point in 2011, according to figures released yesterday, while the primary deficit was reduced
by 2.5% of GDP. Furthermore, in the first quarter of 2012, the central government deficit, on
a cash basis, decreased markedly year-on-year, while a primary surplus in the order of 0.5%
of GDP was recorded, compared with a primary deficit of 0.5% of GDP over the
corresponding period in 2011. Primary expenditure fell, albeit less than targeted, due to
increased subsidies to social security funds. Attaining the full-year targets will obviously
require persistent efforts.
Meanwhile, there is considerable uncertainty in the international environment as well
Global economic activity slowed in 2011 on account of the sovereign debt crisis in advanced
economies, the general decline in confidence, and the high prices of commodities.
The global economy's recovery suffered a blow in late 2011 from the rise in uncertainty
caused by the intensifying sovereign debt crisis in the euro area. As a consequence, the
risks surrounding projections for 2012 remain elevated. GDP growth is expected to slow both
in emerging and developing economies. In 2012, the euro area is expected to experience a
mild recession. This projection is subject to considerable downside risks, relating in particular
to an intensification of the debt crisis as well as further increases in commodity prices.
In response to these challenges, the Eurosystem resorted to standard and non-standard
monetary policy measures. At the same time, and in a move to restore market confidence,
the firepower of support mechanisms was increased.
The Greek economy: projections of key macroeconomic aggregates for 2012
The available short-term indicators for the first months of 2012 suggest that the recession will
continue this year.
 The Bank of Greece forecasts an average annual rate of decline in GDP of close to
5%; implying that the recession will be less pronounced than in 2011; this forecast
assumes that the necessary structural reforms will be implemented without delay.
 The average unemployment rate is projected to increase this year and exceed 19%,
up from 17.7% last year.
 Forecast reductions in unit labour costs for 2012-13, together with projected price
developments, should lead to a marked improvement in competitiveness, thereby
contributing to export growth and import substitution. In particular, it is estimated that
by the end of 2012, two-thirds to three-quarters of the total cost competitiveness lost
over the period 2001-2009 will have been recovered and that, by end-2013, all of
the loss will likely have been recovered.
The current account deficit is projected to decrease from 9.8% of GDP in 2011 to

roughly 7.5% of GDP in 2012 and that this downward trend will continue in the years
to come.
 The downward trend in inflation will also continue in 2012, with average annual
inflation expected to be around 1.2%. In 2013 inflation is projected to fall further,
possibly to below 0.5%.
The recession is negatively affecting expectations and fuelling the vicious circle
Delays with fiscal adjustment and the implementation of structural reforms, negative
developments in the real economy and adverse conditions surrounding the provision of bank
finance to the economy, apart from their direct impact on incomes and unemployment, are
also contributing to uncertainty about the economic outlook. As long as the vicious circle of
fiscal contraction-recession-uncertainty continues, the prospects for meeting deficit and debt
targets will tend to weaken, thus refuelling negative expectations.
Some consider the vicious circle to be due to the tight fiscal policy pursued. Though not
without foundation, this interpretation is incomplete. It fails to take into account that, while
fiscal consolidation does bring about a decrease in aggregate demand, it also affects
expectations. Positive expectations can be generated when:
 a fiscal consolidation plan convincingly forms part of a credible medium-term
programme, aimed at reducing the share of the public sector in the total economy,
 there is strong evidence that the economic adjustment programme is likely to
succeed and that its continuity is ensured, regardless of changes in the political
landscape.
When these two conditions are in place, positive expectations can take hold, indirectly
boosting consumption and investment. These indirect effects can, to some extent, offset the
decline in demand brought about by the fiscal deficit reduction and gradually lead to
economic recovery.
A STRATEGY FOR EXITING THE CRISIS AND FOR SUSTAINABLE GROWTH MUST BE
IMPLEMENTED CONSISTENTLY AND WITHOUT DELAY
A national strategy for the orderly reconstruction of the economy
It has now become clear that the changes undertaken thus far are insufficient.
 Both the fiscal and the external deficits remain high, implying that the country
continues to live beyond its means, by relying on the financial support of its partners.
 Major structural weaknesses in the public sector still remain, even in cases where
measures to eliminate them have been legislated.
 Market distortions undercut competition and hamper growth.
 Whilst cost competitiveness has improved, structural competitiveness still lags.
It is therefore clear that the difficult task which we have before us calls for a persistent effort
over many years.
Recovery and growth through the mobilisation of the private business sector
A strategy for recovery and growth is of utmost priority. Failure to tackle the recession could
compromise our ability to meet the targets of fiscal consolidation. In the current context,
growth requires the mobilisation of the private business sector; this cannot be achieved as
long as the state continues to dominate the economy. Nor can it happen so long as the fiscal
deficit and public debt are persistently high. Moreover, there cannot be growth so long as
there is a climate of uncertainty and distrust exists about the prospects of the economy.
The prerequisites for growth are therefore:
 The restoration of confidence and the elimination of uncertainty;
 the creation of an environment favouring entrepreneurship;
 the transfer of resources from the bloated public sector to the production of goods
and services by the private sector and - more generally - from the sector of
non-tradable goods and services to that of the tradable.
Actions for growth
As early as in 2010, the Bank of Greece pointed out the need for a comprehensive Action
Plan for Growth, which would run in parallel with fiscal consolidation, specify needed
structural policies, and provide a framework for coordinating the growth-enhancing activities
of the public sector that do not put the fiscal targets at risk.
Such a plan is all the more urgent today. It includes the following goals:
Measures with immediate returns
 Reforms to improve the business environment, including measures to deal with red
tape and reduce the administrative burden on businesses, to simplify the regulatory
framework, and to restore market competition.
 A speeding-up of the privatisation programme. Apart from generating proceeds that
reduce the debt, privatisation may also entail further investment in order to fully
exploit the assets to-be-acquired. Privatisations open up opportunities for foreign
direct investment, which leads to technology transfer, efficiency increases, and
productivity gains.
 A faster absorption of the funds for the National Strategic Reference Framework
(NSRF) and the securing of funds from international institutions, such as the
European Investment Bank; such funds will ensure that important infrastructural
projects that have been put on hold can be resumed.
Structural changes for a transition to a new growth model
Apart from measures with immediate returns, a long-term growth policy is needed. Such a
policy must as of today strive for reforms to foster the transition to a new, export-oriented,
growth model. These reforms must focus on changing the structure of production and on
removing distortions. Greece's euro area entry did not bring about any significant
differentiation in the structure of production; as a result, the level of structural
competitiveness has remained low.
The last two years have seen an improvement in Greece's cost competitiveness, mainly as a
result of lower relative unit labour costs. While this is definitely a positive development, it is
not sufficient. An improvement in competitiveness is sustainable only when it is based on
productivity increases. For this to be achieved, structural reforms are required in order to
remove barriers and allow the transfer of resources to the production of internationally-traded
goods and services. The ultimate objective is export growth and import substitution, i.e. a
strengthening of the position of domestic products in both the external and the home
markets. Structural reforms aimed at a business-friendly environment and at attracting
foreign direct investment make a decisive contribution to progress in this direction.
Such reforms involve:
 bolstering competition in the markets for products and for factors of production;
 modernising public administration;
 ensuring a stable and growth-friendly tax system;
 speeding up judicial procedures;
 rationalising and simplifying the regulatory environment;
 encouraging innovation, research and export-oriented activities; and
 increasing the effectiveness of education at all levels.
None of this is new. The need for such reforms is widely recognised, and in many of these
areas measures have already been adopted. However, the pace of implementation remains
slow, meaning that the benefits are not yet visible. At the present critical juncture, all of these
reforms must be pushed forward simultaneously, with boldness and resolve and without
being watered down.
THE RESTRUCTURING OF THE BANKING SYSTEM WILL CONTRIBUTE TO ECONOMIC
RECOVERY AND GROWTH
The recession and the evolution of credit flows interact
The fiscal crisis and the climate of uncertainty have significantly worsened financial
conditions during the past two years. Doubts as to the Greek economy's ability to break out
of the vicious circle affected Greek banks, with the result that they were shut out from
international markets and experienced a continuous decline in deposits: from end-October
2009 to end-February 2012, domestic bank deposits by the private sector decreased by over
€70 billion, an equivalent to approximately one-third of Greek GDP. The deposit outflows
markedly constrained banks' ability to provide credit to the economy.
The economic recovery hinges upon the setting in motion of a virtuous circle, whereby an
improved economic outlook fosters the strengthening of the banking system, so that the latter
can, in turn, supply credit to the real economy, with positive feedback effects on
expectations, and so on.
It is possible to improve the funding potential
Improving the funding potential for the economy can be achieved in the following ways:
First, by restoring confidence, which could initially lead to a return of bank deposits of some
€10-15 billion of cash now being hoarded and then encourage capital repatriation. This
would substantially improve banks' liquidity positions.
Second, by attracting funds from sources other than the banking system. Two sources can
be mentioned in this regard. The privatisation programme, with expected proceeds of
€19 billion by 2015, mainly in the form of capital inflows from abroad, will lead to much
greater total inflows if the additional investments required to fully exploit the assets
to-beacquired are taken into consideration. Credit flows to businesses could be supported by an
additional €15 billion, provided that our absorption rate of NSRF funds is improved. To this,
one should add the funds available from the European Investment Bank.
The restructuring of the banking system
The key factor to improving financial conditions is the strengthening and restructuring of the
banking system, currently in progress.
2012 will be a critical year in shaping the future structure of the banking system in Greece.
Banks now face losses originating from the fiscal crisis. First, they are dealing with the
implications of having invested in Greek government bonds, an instrument considered safe
until recently. Banks' published annual statements show that the related impact is quite
substantial. Second, banks also face the consequences of the increased difficulty that
households and businesses have in servicing their debt obligations on account of the
protracted recession. These developments imply that it is imperative for banks to strengthen
their capital base - a process which is already under way.
Anticipating these challenges, early in 2011 the Bank of Greece, in cooperation with the
International Monetary Fund, the European Commission and the European Central Bank,
began planning a number of measures to safeguard financial stability. These measures
include:
 meeting short-term liquidity needs through the Eurosystem,
 formulating, in cooperation with the government, a resolution regime for credit
institutions, and applying it where necessary;
 securing €50 billion from the financial support programme for the banking system's
recapitalisation and restructuring.
The objective: a sound, strong and competitive banking system
The banking sector, following its restructuring, will be more sound, efficient and robust. The
publication of banks' capital needs will substantially increase transparency, which will in turn
help banks to gradually regain the confidence of markets and depositors. This will enable
them to better perform their fundamental role of financial intermediation and contribute to the
return of the Greek economy to a path of sustainable growth.
THE FUTURE OF THE COUNTRY IS IN OUR HANDS
Projections for domestic economic developments in 2012 are fraught with uncertainties. The
economic outlook for the euro area is also subject to uncertainties, linked to the possibility of
an intensification of the sovereign debt crisis. It is against this challenging backdrop that the
Greek economy needs to make steady progress. To this end, work to win the war on all
fronts has to continue uninterrupted from the very first day of the post-election period,
starting with the construction of an efficient and flexible state that will serve both the
competitive functioning of markets and social cohesion. This will avert conditions leading not
only to our sacrifices going to waste, but also to a drastic deterioration in the standard of
living. Thus, the speedy implementation of the policies contained in the second adjustment
programme will place the economy back on track to recovery by the end of 2013 and
gradually into a virtuous circle of confidence-fiscal balance-growth.
Therefore, we all must assume the historical responsibility of making the choice - as a
society, as a political system, as responsible citizens. The future of the country is today in our
hands.