The Macroeconomics of the Greek Depression

Abstract

The Greek economy experienced a boom until 2007, followed by a prolonged depression resulting in a 25 percent shortfall of GDP by 2016. Informed by a detailed analysis of macroeconomic patterns in Greece, we estimate a rich dynamic general equilibrium model to assess quantitatively the sources of the boom and bust. Lower external demand for traded goods and contractionary fiscal policies account for the largest fraction of the Greek depression. A decline in total factor productivity, due primarily to lower factor utilization, substantially amplifies the depression. Given the significant adjustment of prices and wages observed throughout the cycle, a nominal devaluation would only have short-lived stabilizing effects. By contrast, shifting the burden of adjustment away from taxes toward spending or away from capital taxes toward other taxes would generate longer-term production and consumption gains. Eliminating the rise in transfers to households during the boom would significantly reduce the burden of tax adjustment in the bust and the magnitude of the depression.

Migration, Search and Skill Heterogeneity

“…Even though these values are targeted to Greek trade data they are very close to values used conventionally in the open economy literature (see for instance Backus et al (1994)). The depreciation rate is set to δ = 8 percent, in line with Chodorow-Reich et al (2019) and the parameter governing the investment adjustment costs is set to Ξ = 0.9 following Papageorgiou (2014).…”

Monetary union, asymmetric recession, and exit

“…The Eurozone literature is large and mostly relates to specific aspects of the crisis. Closest is the research by Gourinchas et al (2016) and Chodorow-Reich et al (2019), who use an open economy DSGE model to explain Greek economic adjustment during the crisis. Martin and Philippon (2017) develop a stylized two-country model to analyze the contrasting behavior of periphery and core countries.…”

Financial frictions, default risk, and macroeconomic policy

“…I differ from the literature on fiscal policy in currency unions at the ZLB, e.g. Lindé and Trabandt (2018) and Blanchard et al (2017), by having a more elaborate tradable-non-tradable (hereafter TNT) production structure and by imposing the more realistic assumption that governments only buy non-tradable goods (Bianchi et al, 2021;Chodorow-Reich et al, 2021).…”