Uri Friedman is a writer for Foreign Policy
There's something puzzling about the austerity bill embraced by the Greek parliament overnight. The package includes measures such as government layoffs that seem logical for a country flirting with default. But news reports are also discussing private-sector wage cuts. How is the government able to slash salaries in the private sector, and why would it imperil much-needed tax revenue by reducing people's incomes and embarking on what Reuters is calling "among the most radical steps backwards inflicted in peacetime in modern Europe?"
For starters, the Greek government isn't strongarming companies into cutting salaries; it's modifying labor law by lowering the minimum wage by 22 percent to €586 a month (around $780) — roughly on par with Portugal's — with a 32 percent cut for workers under age 25. Greece's foreign lenders — the European Commission, European Central Bank, and International Monetary Fund — have long demanded the cuts in exchange for a second bailout, and over the weekend Greek Prime Minister Lucas Papademos publicly endorsed the measure, which had nearly torn his governing coalition asunder only days earlier. The austerity program may be a bitter pill to swallow, Papademos allowed, but it will stave off bankruptcy and "restore the fiscal stability and global competitiveness of the economy."
Platon Tinios, an economist at the University of Piraeus in Greece, explains that the cuts championed by international financial organizations are intended to structurally revamp economies and make them more competitive. "Greece has a very rigid labor market, which has translated in the past 10 years into what essentially was jobless growth," he explains. "The point is to intervene in the labor market so as to increase the probability of jobs being created faster when the recovery comes."
Or, as the New York Times put it earlier this month, the goal of reducing Greece's minimum wage is to "make Greek workers, who are generally less productive than workers elsewhere in Europe, able to compete more effectively inside the eurozone, where countries share a common currency that does not allow devaluations to help even out differences in labor costs."
Indeed, the EU and IMF forced a similar reduction in living standards in Latvia — through a process known as "internal devaluation" — though there is heated debate about whether it worked and whether the Latvian model can be applied to Greece.
Dimitri Papadimitriou, an economics professor at Bard College and the president of the Levy Economics Institute, is highly skeptical of the IMF's "neoliberal policy." He says it hasn't worked in Latin America or Portugal and won't work in Greece, which doesn't have an export-driven economy like Germany does.
Labor demand cannot be stoked simply by lowering the cost of production on the supply side, Papadimitriou argues. "If you had a good industrial base ... you could produce a lot more [by lowering wages] because the demand is there either from abroad or domestically," he explains. "But in the absence of that, interference with private-sector labor is not something that will solve the problem." Papadimitriou adds that reducing wages could put a dent in tax revenues and pension contributions.
Tinios, meanwhile, is less concerned about those possibilities. "In the medium term, what's more important is to create more jobs, and reducing the minimum wage doesn't mean that hundreds of thousands of Greeks will be paid less tomorrow; it will mean that new job offers will be made at the lower minimum wage," he notes, though he concedes that struggling firms may be more likely to slash existing salaries if the minimum wage is reduced.
There's also the question of whether, in cutting wages, Greece is chasing the wrong demon. "If our political system had, over the years and especially the last two years, addressed the essential problems of competitiveness in our economy — the excessive number of laws and bureaucracy, the corruption, the bloated and wasteful state, the closed markets, the antibusiness environment — then we wouldn't be forced to discuss wage costs today," Federation of Greek Industries President Dimitris Daskalopoulos declared earlier this month.
The ultimate lesson, of course, is that Greece is choosing from a menu of awful options. As the Associated Press noted over the weekend, "Greece is trapped in a lose-lose predicament: It must deepen an austerity plan begun in 2010 that will throw many more people out of work. Or it must default on its debts, abandon Europe's single currency, and see its banking system implode."
For now, Greek leaders appear to have averted their eyes, held their noses, and chosen the former.