Greece's bond rating improves

Friday's upgrade on Greek bonds from B- to B was a boost for the country struggling through a devastating financial and economic crisis for the past four years, with plummeting GDP, rising unemployment, and increasing accumulated government debt. But Greece's new rating remains deep in "junk-bond" territory.

Greece has undertaken four years of painful reforms in exchange for two international bailout packages in 2010 and 2012 worth a total of 240 billion euros ($327 billion). Fitch called Greece's effort to rein in government spending and achieve a primary surplus "remarkable".

The rating upgrade came two days before Greeks were to vote in local, regional and
European elections that the left-wing main opposition party had painted as a referendum on Greece's international bailout.

Primary budget surplus, but shrinking GDP and rising aggregate debt

Greece attained a primary budget surplus in 2013 after several years of massive government expenditure cutbacks. A primary surplus means that tax revenues are now enough to cover program expenditures, before the costs of paying interest on accumulated debt are added in.

Once those interest payments are added, the Greek government budget remains deep in the red. Its budget deficit in 2013 totalled 12.7 percent of GDP.

Greece's GDP has shrunk year-on-year for several years in a row. Tax revenues as a percentage of GDP have risen four years in a row, from 40.4 to 45.8 percent of GDP. Over the same period, nominal GDP shrank from a peak of 233 billion euros in 2008 to 182 billion euros in 2013.

The combination of decreasing GDP and continuing annual deficits has led to a steady rise in the ratio of sovereign debt to GDP, from 107 percent at year-end 2007 to 175 percent at year-end 2013.

Does government budget austerity promote economic recovery?

Economists are deeply divided over whether government cutbacks at a time of shrinking GDP make an economy's prospects better or worse. Economist Mark Blyth, author of "Austerity: History of a Dangerous Idea", says that government budget cutbacks during recessions are a disastrous policy that causes a downward spiral into economic depression, as in Greece.

Cutbacks during recessions further reduce aggregate demand, causing additional job losses and GDP shrinkage. That results in an increasing aggregate debt to GDP ratio, as tax revenues decline and social welfare expenditures struggle to keep up with rising demand. As a result, the burden of interest payments on accumulated debt becomes an ever larger share of the public budget, and the government's debt ever less credit-worthy, in a self-reinforcing spiral.

Anti-austerity economists recommend targeted expenditures in infrastructure aimed at improving productivity and growing the economy, saying that it's acceptable for aggregate nominal debt to continue to increase as long as GDP grows faster than debt. In Greece, by contrast, aggregate debt is growing while GDP is shrinking.

nz/hg (AP, AFP)