Journal Issue

Greece: Selected Issues

International Monetary Fund
Published Date:
January 2006
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I. Growth in Greece: Can Better Performance be Sustained?1

A. Introduction

1. Since the mid-1990s, the Greek economy has returned to strong growth, partly closing the income differential vis-à-vis the EU-15 average. In the last decade, GDP growth averaged 3.7 percent a year following, and partly coincident with strong macroeconomic adjustment: the general government deficit fell from almost 16 percent of GDP in 1990 to an average of 5½ percent since 2000 and consumer price inflation from around 20 percent to 3½ percent (Figure 1). In addition to the improved macroeconomic situation, the favorable external environment and a number of exceptional factors (for instance, immigration, the liberalization of the financial services, the Athens Olympics and EMU accession) also contributed to strong growth.

Figure 1.Greece: Key Economic Indicators in International Context

Sources: World Bank; OECD; and IMF staff calculations.

2. From the perspective of assessing the underlying (trend, or potential) growth of the Greek economy, recent history raises a number of issues. As always in such exercises, the key issue is separating the trend from a transitory economic cycle. The specific case of Greece, however, raises the following points: To what extent was the revival of growth due to exceptional factors, and what will happen to growth after these exceptional factors have run their course? What has been driving the pick-up in productivity growth and how can strong productivity growth be maintained in the future? Does the cooling of the economy in the first half of 2005 (to a still respectable 3½ percent) indicate a temporary pause of the strong growth or a shift to slower growth? How fast is the economy likely to grow in the medium-term and, in view of population aging, the long term?

3. Accordingly, the focus of this chapter is to gauge the growth prospects of the Greek economy. It is estimated that exceptional factors boosted growth by 1 percentage point per year in recent years and, under current trends and policies, growth is likely to drop to about 3 percent by the end of the decade. However, vigorous steps to rectify long-standing structural weaknesses in public administration, business environment, product and factor markets, education and infrastructure would boost medium-term growth prospects. In the longer run, growth will be dominated by population aging and productivity gains, with lower unemployment, higher participation rates, and immigration conferring only temporary benefits.

4. The rest of the chapter is organized as follows. The next section places the recent strong growth performance of the Greek economy in a historical and international context. Section C assesses the impact of exceptional factors on growth. Section D presents statistical estimates of potential growth and Section E explores the reasons for the recent pick up in growth. Sections F and G look at the medium and long-term growth prospects and Section H concludes.

B. The Recent Growth Recovery in Perspective

5. Over the past half century, the growth performance of the Greek economy has been uneven. From the early 1950s until the mid-1970s the economy grew at an annual average rate of 6½ percent narrowing the income differential vis-à-vis the EU-15 countries and raising living standards well above those of Spain, Portugal and Ireland. Then, abruptly and for the next 15 years, the economy stalled and macroeconomic and structural imbalances worsened, manifested among other things in soaring fiscal deficits and inflation (Figure 2). Since the mid-1990s, the economy has returned to strong growth, benefiting from improved policies, a favorable external environment, and a number of exceptional factors.2

Figure 2.Greece: Selected Economic Indicators, 1960-2004

Source: OECD, Analytical Databank; AMECO; and IMF staff calculations.

Greece: GDP Growth, 1950-2004

6. There is broad consensus that the reversals in the growth process are related primarily to shifts in policy orientation rather than exogenous shocks.3 The rapid growth of the 1950s and 1960s was jumpstarted by the bold economic reforms of 1953 that boosted external competitiveness and dismantled controls (Box 1). The subsequent stalling coincided with very lax fiscal and monetary policies, increased state interference in the economy, policies to change the distribution of income, and drifts in the direction of policy. Two notable attempts in 1985 and 1992 to stabilize the economy were short lived. Finally, the spark that the economy has been showing since the mid-1990s is related to the removal of earlier distortions, the restoration of a stable macroeconomic environment—linked to EMU participation—and the liberalization of broad sectors of the economy, especially financial services.

Box 1:The Three Phases of Growth in Post-WWII Greece

The history of growth in Greece is very instructive from the policy perspective. The large swings in the direction of policy dwarfed other developments creating a quasi controlled experiment environment that allows us to gauge the responsiveness of the economy to policy shifts. There are three growth phases:

Rebound and catching up (1950-79): The long period of rapid growth after a decade of conflict was jumpstarted with a 50 percent devaluation, trade liberalization, and the removal of price controls. Growth averaged 8.5 percent during 1960-70 and was also supported by strict fiscal and monetary discipline, wage moderation, favorable business conditions, and cheap credits to priority sectors. However, by the early 1970s the economy had become overheated and macroeconomic imbalances started to build up. The first oil shock exacerbated these imbalances and exposed vulnerabilities in corporate balance sheets; moreover, its monetary accommodation destabilized price expectations. The fluid political environment during this period was not conducive to tackling decisively the macroeconomic and structural imbalances. In addition, worsening labor relations and increasing state intervention—including nationalizations—undermined business confidence, strained the public finances and compromised monetary policy. During 1974-79, the public sector turned from surpluses to high deficits and the unit labor cost shot up. Growth weakened to 3.4 percent per year (less than half its earlier rate) and inflation soared to 12.8 percent (compared to 2 percent during 1960-70).

Stagflation (1980-94): This period is characterized by financial instability and pronounced state intervention. Early in this period, the macroeconomic imbalances and structural problems that were inherited from the 1970s were exacerbated by the second oil shock and EU accession. The monetary accommodation of the second oil shock and the introduction of full wage indexation entrenched inflationary expectations. The rehabilitation and resolution of loss-making enterprises was delayed by the specter of rising unemployment and was accompanied by a rise in state corporatism, soft budget constraints, an expansion of the role of the state, and the bloating of the public sector. In addition, the ambivalent official attitude towards the EU and a proclivity to seek exceptions from EU directives did not facilitate the dynamic integration of the economy into the EU. Last, but not least, policies were introduced to ameliorate social exclusion and income inequalities. Against this backdrop, the general government deficit reached 16 percent of GDP, the tax burden was raised and monetary policy was subjugated to the financing needs of the state. Inflationary finance pushed inflation to over 20 percent and drained resources from the private sector. Productivity stagnated, investment dropped, unemployment doubled to 7 percent, and the economy stalled (Figure 2). By the mid-1980s, the need to recalibrate economic policy became apparent but a notable attempt in 1985-87 to stabilize the economy with EU support was short lived. The direction of policy started to improve in the early 1990s. Of particular importance is the liberalization of the financial sector and efforts to rein on fiscal deficits and inflation. However, the beneficial effect of these policies on growth were felt with a lag, mainly after 1994. Featherstone (2003) argues that the risk of marginalization as the rest EU member countries were making arrangements for closer integration catalyzed broad political consensus for improving policies.

Greece: Key Economic Indicators
Per capita GDP growth, in percent5.60.13.2
GDP growth, in percent6.60.83.7
Productivity growth6.50.42.4
TFP growth1.7-0.41.3
Business investment, percent of GDP12.69.814.5
Unemployment, in percent3.17.110.4
CPI inflation, in percent9.018.44.7
General government balance, in percent of GDP-0.7-10.2-5.3

Growth revival (1995-2004): In this period, the economy returned to financial stability and growth and major efforts were made to catch up with structural reform. Initially, policies were driven by the requirements for EMU participation and deeper integration with the EU. A bold stabilization program, building on earlier progress, resulted in the cumulative reduction of inflation by 17 percentage points during 1990-99 and of the fiscal deficit by 14 percentage points of GDP. Linking the adjustment program with EMU participation, added credibility to the disinflation effort and helped prevent output losses. However, some adjustment fatigue could not be avoided as the unemployment rate ratcheted up. Growth accelerated to 4 percent benefiting from the restoration of price stability, privatization, liberalization of several sectors of the economy, the crowding in of the private sector as the public sector phased out its reliance on compulsory bank financing, the removal of distortions, the completion of major infrastructure projects. Growth benefited also by a favorable external environment (especially in the Balkans), and a number of exceptional factors (see Section C).

7. The economy stalled in the 1980s, derailing the catch-up process. Since 1975, Greece’s growth rate has been lower than the euro area’s. It has also trailed growth in Spain and Portugal—countries with broadly similar initial economic conditions and experiences (for example, a transition from dictatorship to democracy and EU accession)—and fallen well short of that in Ireland. As a result, even after the recent rebound in growth, Greece’s per capita GNP, while up from 67 percent of the euro-area average in the mid-1990s, is still below the 86 percent of the average recorded in the 1970s. Moreover, Greece’s relative position vis-à-vis the euro area has been overtaken by Spain, Portugal, and Ireland. Looking forward, convergence is likely to be a lengthy process: it would take over 20 years to raise Greece’s per capita income to the euro area average, assuming a growth differential of 1.3 percentage points a year (the average recorded during 1995–2004).

Per capita GDP Growth in Selected EU Countries
Euro area4.
Source: World Bank development incicators.
Source: World Bank development incicators.

Per capita GNI relative to the euro area

8. Greece’s experience with stop and go growth is not unique. Jones and Olken (2005) have found evidence that growth “miracles” and “failures” are ubiquitous at ten to fifteen year time horizons. Their analysis suggests that growth reversals are largely due to shifts in productivity growth, rather than factor accumulation; growth accelerations are associated with substantial increases in trade; growth decelerations, on the other hand, are correlated with increases in monetary instability and sharp declines in investment. An important conclusion from the international experience is that growth miracles do not last forever and they do not always end smoothly.

9. Viewed from a broader perspective, the recent growth rate of the Greek economy has been high, but not exceptionally so. Although well above the euro area average—itself not a very ambitious benchmark—Greece’s growth rate falls short of the growth rates of some other more advanced economies. It is also well below the growth rates registered by the new EU accession countries—which are at a less advanced stage in the convergence process—and is even lower than Greece’s growth rate after the first oil shock. In addition, the recent growth rate has been insufficient to reduce the extremely high unemployment and public indebtedness, eliminate chronic structural problems in broad sectors of the economy, and redress elements of underdevelopment still present in the Greek economy.

GDP growth, 1995-2004

(In percent)

C. The Contribution of Exceptional Factors in Recent Years

10. In the past decade, growth benefited from several exceptional factors. Most prominent have been: strong immigration; nominal convergence to the EU and the adoption of the euro; rapid credit expansion in the wake of liberalization of the financial sector and, more recently, below-normal interest rates in the euro area; and the 2004 Athens Olympics.4 This section tries to quantify the impact of these factors on growth and distinguish between supply and demand effects (the latter do not matter for potential growth) and transitory versus lasting effects (only the latter matter for underlying growth). The distinction between potential and underlying growth is important for the analysis that follows. Potential growth corresponds to the rate of growth that can be maintained while achieving low and stable inflation, whereas underlying growth refers to the trend in potential growth. A temporary supply shock—for instance, a surge in immigration or investment—would raise potential but not underlying growth. Thus, the latter is the relevant concept in determining the longer term growth momentum of an economy.


11. Net immigration has been the major driving force behind population growth in Greece. After a long history of emigration, during the past quarter century Greece became a significant immigration country.5 The turn-around started in the mid-seventies when several European countries adopted restrictive immigration policies, spurring the return of about half of the earlier economic emigrants. The restoration of democracy in 1974, too, had a catalytic effect on immigration. Subsequently, a significant number of political refugees from the Greek civil war and other ethnic Greeks were repatriated, especially following the opening up of the borders with Albania in 1987. Immigration (largely illegal) soared in the 1990s following the collapse of the communist regimes in the Balkans and Eastern Europe. Indeed, with the indigenous population virtually stagnant, immigration accounts for the entire increase in the population in the past decade. As a result, the share of foreigners in the population census quadrupled from 1.6 percent in the 1991 to 7 percent in the 2001.6 However, full accounting of illegal immigrants could raise the share of foreigners to up to 10 percent (Baldwin-Edwards, 2004), well above average by international standards.

Sources: NSSG and IMF staff calculations.

Source: World Bank development indicators.

12. Both supply and demand factors have contributed to the surge of immigration. Supply factors include low wages and difficult economic conditions in the countries of origin. From the demand side, immigration has been driven by chronic labor shortages in agriculture, tourism, construction and certain services. Immigration (especially illegal) has also been used to circumvent non-wage costs and labor market regulations. The large—and probably expanding—informal economy, which is estimated at 30-40 percent of GDP, has acted as a catalyst.78 In addition, ineffective border controls and the lack of a coherent and proactive immigration policy have acted as facilitators. In the 2001 census, Albanians were by far the largest ethnic group, followed by Bulgarians, Romanians and Georgians. Construction was the largest employer, accounting for one quarter of the immigrant workers, followed by agriculture (17 percent), tourism and trade (16 percent), manufacturing (12 percent) and other services (20 percent).

13. Notwithstanding its significance, immigration is covered poorly in statistics. Despite two attempts in 1998 and 2001 to legalize immigrants, at least one-third of the immigrant population is believed to remain undocumented. The total immigrant population, based on a conservative estimate of illegal immigrants, is estimated to have reached 900,000 in 2004,9 which is consistent with the implied cumulative immigration from published annual statistics on population, births and deaths. By comparison, the foreign population in the Labor Force Survey (LFS) was only 550,000 in 2004, which raises doubts about the accuracy of employment statistics.10

Greece: Contribution of Employment to GDP Growth, 1995-2004
Employment growthContribution to employment growthContribution to GDP growth 4/
(Annual rates, in percent)
Employment, LFS 1/
Employment, adjusted 2/
Employment, adjusted 3/
Source: IMF staff calculations.

Labor Force Survey data refer to 1998-2003.

Foreign employment estimates are based on immigration implied by population, birth and death statistics and an employment rate of 64 percent as per the 2001 Census.

Foreign employment is based on the immigration estimates in Baldwin-Edwards (2004) and an employment rate of 64 percent.

Contributions to GDP growth assume an employment elasticity of output of 0.65 (estimated with a Cobb-Douglas production function) and 25 percent below avergae productivity for foreign workers (as indicated by wage differentials in IKA statistics).

Source: IMF staff calculations.

Labor Force Survey data refer to 1998-2003.

Foreign employment estimates are based on immigration implied by population, birth and death statistics and an employment rate of 64 percent as per the 2001 Census.

Foreign employment is based on the immigration estimates in Baldwin-Edwards (2004) and an employment rate of 64 percent.

Contributions to GDP growth assume an employment elasticity of output of 0.65 (estimated with a Cobb-Douglas production function) and 25 percent below avergae productivity for foreign workers (as indicated by wage differentials in IKA statistics).

14. During the 1995-2004 upswing, immigration contributed 0.3-0.4 percentage points annually to growth. This is a production-side estimate.11 The range reflects differences in the estimate of foreign employment between the Labor Force Survey—which reports an implausibly low number of foreign workers (owing to inherent difficulties in surveying illegal immigrants)—the more comprehensive (but less detailed) Baldwin-Edwards study, and, finally, implied estimates of immigration from annual population statistics.

15. About half of the impact of immigration on growth is transitory. In the past, immigration has been clearly above its sustainable level. The latter is difficult to pin down but a plausible working hypothesis is that immigration could grow at a sustainable rate of 3.5 percent per year, which is consistent with the NSSG’s population projections. On this basis, about half of the growth in immigration has been transitory,12 which implies a temporary boost to potential GDP growth by 0.2 percentage points per year. Being a supply shock, a temporarily faster immigration boosts both actual and potential growth. However, it would not affect underlying growth, which is what matters for projecting trends into the future.

16. The high immigration of the past decade is unlikely to continue. The inflow is expected to slow as the stock adjustment from the Balkans and Eastern European countries runs its course, the absorptive capacity of the economy is exhausted, and immigration policy becomes proactive and performance based. If immigration continues at its current pace of 40,000 persons annually—the assumption used in the NSSG’s baseline population projection (October 2005)—the share of first-generation immigrants in the population would rise in the next ten years from 10 to 13 percent.

17. The above calculations do not consider second-round effects of immigration on growth. These include induced investment needed to maintain capital-labor ratios; changes in relative factor prices and factor intensities; and complementarities in labor markets. For instance, immigration has alleviated chronic labor market shortages and reduced production costs, thereby strengthening demand for domestic labor. It has also facilitated greater female participation by improving home- and long-term care services and by enhancing job prospects. The surge in immigration has also raised domestic demand and raised demand for housing. However, benefits have not come without costs, such as delays in enterprise restructuring, an expanding informal economy, and an overstretched social and physical infrastructure. Immigration, consisting mainly of low-skill labor and catering jobs frowned upon by the indigenous population, has not been unwelcome, especially as it is not considered to have been the main culprit for the inching up of unemployment in the mid-1990s.13

18. The under-recording of illegal immigrants in employment statistics leads to the over-estimation of productivity growth. The preceding calculations suggest that adding to the employment series an adjustment for illegal immigration raises the contribution of employment in the standard growth accounting framework by 0.2-0.3 percentage points. This reduces trend TFP growth by the same amount and, to the extent that the past trend is a guide for projections, reduces also prospective TFP and potential growth.14

Monetary stimulus

19. Growth in the past decade has also benefited from two strong monetary stimuli: the reduction of nominal and real interest rates following Greece’s accession to the EMU, and the cyclical low interest rates in the euro area since 2002.

20. Improved policies in the run-up to EMU accession brought about a dramatic decline in interest rates. Having set as their primary strategic objective full membership in EMU, the authorities took resolute steps to meet the convergence criteria set by the Maastricht Treaty. As a result, inflation fell from around 20 percent in the early 1990s to 3½ percent since 2000. In addition, between Greece’s entry in the Exchange Rate Mechanism (1998) and accession in the EMU (2001), long-term interest rates dropped from 8.5 to 5.3 percent. The Oxford Economic Forecasting Model (OEF, 2005) and the Bank of Greece (BoG) quarterly model (Sideris and Zonzilos, 2005) suggest that this interest rate convergence raised growth by 1-1½ percentage points in 2001 by allowing an increase in the investment rate and, to a lesser extent, consumption. The lower real interest rates are likely to have a permanent effect on the level of GDP—the GDP trajectory will shift upwards—due to a higher capital-labor ratio but, arguably, the growth rate will fade gradually over time as the transition to the new steady-state is completed.

21. Since 2003, growth has also benefited from a cyclical monetary easing in the euro area. Nominal interests are about 2 percentage points below their “historically normal” level and some interest rates have even become negative in real terms. The OEF and BoG models suggest that this monetary stimulus added 0.4 percent points to output growth in 2004.

Financial stimulus

22. Since the mid-1990s, the liberalization of the banking sector has been providing a strong stimulus through the relaxation of credit controls, together with lower interest rates. Consumer credit soared in 1994-95, when most quantitative credit constraints were dismantled, and has since been rising at an average annual rate 34 percent. This relentless credit growth reflects primarily the rising number of persons gaining access to bank credit and the relaxation of credit limits, rather than the decline in interest rates. Although financial liberalization was essentially completed in 1994, the relaxation of limits per borrower was more gradual (Voridis and others, 2003) and the reactivation of credit ceilings in 1999-2000 (to avoid destabilizing capital inflows in the run-up the EMU accession) lengthened the adjustment process.15 The adjustment of behaviors and portfolios has yet to be completed and may continue for some time, given the low household credit/GDP ratio by international standards.

Bank credit to households has been galloping.

23. The rapid expansion of credit to households has had a powerful impact on GDP growth. With the adjustment of behaviors and portfolios still unfolding, the econometric estimation of the macroeconomic impact of financial liberalization is problematic. However, a rough estimate is possible from information on household indebtedness. A recent survey (Mitrakos et. al., 2005) indicates that for 20 percent of the borrowers, the debt/income ratio exceeded 100 percent and, for another 20 percent, debt service exceeded 30 percent of their income. Banks report that about 7 percent of consumer credit is impaired. There is also circumstantial evidence that credit card debt is increasingly used to cover basic current expenses and is becoming part of the “safety net” in times of economic hardship. Against this backdrop, it is reasonable to assume that at least 10 percent of borrowers are credit constrained and, thus, their spending is aligned to credit expansion. Combining this with adjustments for the import content of private expenditure and the possibility that bank credit may be crowding out trade credit and borrowing from informal lending channels, yields that credit expansion to households contributed to GDP growth on average 0.2 percentage point yearly in 1995-2004 and about 0.4 percent in 2004.

24. The financial stimulus is likely to persist in the near term. Given that private sector credit as a share of income remains well below the euro area average, the expansionary effect of financial liberalization is expected to fade only gradually as the market matures and households’ indebtedness stabilizes.

The 2004 Athens Olympics

25. The organization of the Olympics was an ambitious project with upfront costs and potential future benefits. Besides providing a sizeable demand stimulus to an already booming economy, the Olympics were the catalyst for undertaking long overdue infrastructure projects (mainly in transportation and telecommunications), facilitated the development of local expertise, and helped upgrade and expand tourism infrastructure. Last, but not least, the Olympics generated also a generalized euphoria about economic prospects and boosted spending. The successful organization of the Olympics and better infrastructure could improve Greece’s international image as tourist destination and attractiveness as business location. Finally, the acquisition of expertise could spur the development of new private sector activities. However, these potential future benefits would be dented by the costs of amortizing the (yet uncertain) financial loss of the Olympics.

26. The Olympics boosted public and private expenditure. During 2002-04, public expenditure for the preparation of the various venues averaged 1¼ percent of GDP.16 Sponsors contributed another ¼ percent of GDP on average in 2003-04.17 In addition, the completion of several infrastructure projects was accelerated to coincide with the opening of the Olympics and the tourism industry expanded capacity and upgraded the quality of services. Finally, the Olympics buoyed tourist revenue and private consumption in 2004, although well below expectations.

Economic Impact of the Athens Olympics, 2000-05(At current prices in million euros, unless otherwise indicated)
Public investment692081,1271,6632,0243305,421
Public consumption-297082384-565
Private investment plus sponsors---500800-1,300
Private consumption----100-
Exports (tourism)----250400650
First-round effect on nominal GDP, million euros691336341,4142,1175304,827
First-round effect, in percent of nominal GDP0.
Total effect, in percent of nominal GDP0.
Total effect, in percent of GDP at constant prices0.
Impact of Olympics on GDP growth0.
Sources: Ministry of Economics and Finance and IMF staff calculations.
Sources: Ministry of Economics and Finance and IMF staff calculations.

27. Olympics-related spending is estimated to have raised growth by 0.6 percent a year on average in 2002-04. This estimate reflects mainly a demand stimulus. It treats as transitory all budgetary Olympic expenditures and parts of private investment, consumption and exports as indicated in the preceding table. It also assumes 40 percent import content for Olympic-related expenditure and an expenditure multiplier 1.518 and uses the public investment deflator to calculate growth rates.19 Moreover, as a first approximation, the calculation does not account for spill-over effects on inflation and competitiveness and assumes that the contributions of sponsors did not crowd out private expenditure. The situation was reversed with the winding down of Olympic spending: the withdrawal of stimulus knocked as much as 1.6 percentage points off growth in 2005.20

28. However, the Olympics have so far had a limited impact on underlying growth. Expenditures on strictly Olympic infrastructure (stadiums, for example) is unlikely to have significantly expanded the productive capacity of the country. Improved traffic conditions have been a collateral benefit that has raised living standards and, to some extent, productivity. There is also the possibility of positive spill-over effects on the rest of the economy, but these are uncertain, not automatic, and usually take time to materialize.

29. Nevertheless, the Olympics could provide some medium-term stimulus to growth. The size of the stimulus would depend on the successful marketing of the Olympic image and infrastructure, the ability to put the tourism sector on a sustainable growth trajectory, and the exploitation of competencies developed during the Olympics. In this regard, significant first steps were taken in 2005 with the creation of the Ministry of Tourism and the revitalization of the advertising campaign. However, key for success will be the responsiveness of the private sector and its readiness to adapt to the changing international environment. The strong recovery of tourism in 2005 is a hopeful sign but, given the long list of remaining structural problems that still beset the sector, intense international competition,21 and special factors (e.g. the tsunami) that diverted tourism to Greece in 2005, it is too early to ascertain if the recovery of tourism in 2005 was a turning point.

The combined effect of exceptional factors on growth

30. The four exceptional factors considered of immigration, monetary stimuli, financial stimulus, and the Olympics boosted growth by 0.7 percentage points a year. Their combined effect has been stronger in recent years, rising from ½ percentage point in 1995-99 to 1 percentage point in 2000-04. Immigration was the dominant factor in 1995-99 but its significant has since been declining. Recently, lending to households has emerged as the dominant factor, although both were overshadowed by contribution of Olympic spending in 2002-04.

31. Still, even after excluding the effects of these factors, growth performance in recent years has been strong, averaging 3½ percent. This rough estimate of underlying growth is slightly higher than potential growth, which includes also the supply effect of immigration and indirect supply effects from the remaining exceptional factors. For assessing the growth potential over the medium term, underlying growth is a more relevant indicator than potential growth, direct estimates of which are derived in the next section.

Impact of Exceptional Factors on Growth 1
(In percent)(Average, in percent)
Cyclically low EA interest rates-------
Athens Olympics-----
Financial liberalization0.
Total impact0.
Memorandum items:
GDP growth2.
GDP growth excluding exceptional factors1.

The estimates abstract from second round effects.

Includes only the effect of transitory immigration, which is measured by the deviation of immigration from its long-term trend.

The estimates abstract from second round effects.

Includes only the effect of transitory immigration, which is measured by the deviation of immigration from its long-term trend.

D. What is the Trend in Underlying Growth?

32. Unobservable potential/underlying growth is most commonly estimated by two approaches. Statistical techniques focus on the time series properties of GDP, and economic techniques examine aggregate supply capacity through the production function. The point of departure of both is the traditional assumption in business cycle analysis that potential output evolves smoothly and actual output fluctuates around potential in identifiable phases. The change in log output, Δyt, is decomposed into:

Δyt = Δpt + Δct

where Δpt denotes potential output growth and Δct is the change in the output gap; changes in logs are used as approximations of percentage changes. Furthermore, potential growth can be decomposed into Δpt = Δut + Δet where Δut and Δet denote respectively underlying growth and the contribution of exceptional factors to potential growth. In the longer term, potential and underlying growth coincide.

33. The statistical approach uses signal extraction techniques to identify the two unobserved components. The approach works well with historical data but do not address the question as to what drives potential growth and the cycle and thus are not well suited for projections.

34. The economic approach makes it possible to identify how factor inputs and technical progress contribute to potential growth. This decomposition of the determinants of growth highlights the constraints that weigh on the economy and the role of economic policy and structural reforms in strengthening growth. Also, the economic approach provides a framework for building scenarios for the future based on hypotheses for the evolution of demographic, institutional and technological factors. Here, a Cobb-Douglas production function expresses growth as:

Δyt = αt + (1-θ) ΔKt +θ ΔHt

where αt, ΔKt and ΔHt denote respectively the growth of total factor productivity, productive capacity and labor input. After decomposing these three factors into their “normal”—or potential—and cyclical components using economic theory and/or purely statistical methods, potential growth is expressed as:

where the superscript * denotes potential growth rates. The economic approach shares some of the problems of the statistical approach. In particular, total factor productivity is unobservable and, being calculated residually, could be contaminated by omitted variables and other specification errors.

35. At the practical level, each approach has its strengths. In cases where, like in Greece, the effect of exceptional factors on output is more accurately estimated than their effect of capital and employment, statistical estimates of potential growth could be more accurate than the ones based on the production function. Ideally, the best of each approach could be brought together through a multivariate Kalman filter.

36. The rest of this section presents statistical estimates of potential growth. There are broadly three signal extraction techniques to estimating potential growth:

  • Smoothing filters: these define the trend by certain smoothness characteristics, which use them to construct the estimates. For instance, the Hodrick-Prescott filter constructs a smooth trend series {τt} that minimizes Σ(ytτt)2+λΣ(Δτt+1Δτt)2, where λ is the penalty on variations in trend growth. The popular choice of λ=100 eliminates from annual series cyclical fluctuations at frequencies lower than eight years.22
  • Band-Pass filters: these differentiate {τt} and {ct} by their cyclical characteristics and form estimates that attenuate certain frequencies. For example the Baxter-King and Christiano-Fitzgerald filters are linear filters that isolate periodicities between a lower and an upper bound (usually 1.5 and 8 years). The advantage of band-pass filters over the HP filter is their flexibility to isolate specific frequencies; in practice, however, their estimates are similar to those of the HP filter.
  • Signal extraction filters: these define {τt} and {ct} by specific stochastic processes and apply signal extraction methods such as the Kalman Filter. The power of the multivariate Kalman filter rests in its ability to incorporate economic theory (for instance, information about inflation, unemployment and other relevant factors) to sharpen the identification of the cyclical and trend components. A potential disadvantage, stemming from the non-linearity of the filter, is that convergence is not assured and the solution may be sensitive to the choice of starting values, especially of the variances.

37. Filters work well with stationary time series but often encounter problems when applied to actual economic series. In particular, smoothing and (to a lesser extent) band-pass filters tend to be imprecise (i) if at the boundaries of the sample the series happens to be off-phase, (ii) when the series is subject to persistent non-periodic shocks and (iii) when the smoothness assumption is not supported by the data. All three problems appear to be present in the Greek GDP series. Specifically, in the last years of the sample, the exceptional factors have boosted activity, which may therefore be above potential. These elements tend to introduce a positive bias in filter-based estimates of underlying growth, but have also been responsible for the repeated upward revisions of potential growth estimates in the recent past. Finally, the filtered series—being smooth by construction—has been slow to pick up the structural breaks in the data generating process that appear to have occurred around 1980 and 1995.

38. Against this background, two modifications were made in the estimation of the filters. First, the estimation horizon was extended beyond 2005 in an attempt to mitigate the end-of-sample problem. For this purpose, a baseline scenario was used that postulates a smooth transition from the currently high growth to the slower rates implied by population aging (see below). Second, in an attempt to remove the bias from non-periodic shocks, the filters are applied to an adjusted GDP series, which excludes the effect of immigration, cyclically low interest rates, and the Olympics, namely three of the exceptional factors identified above. The effect of rapid credit expansion to households has not been removed to ensure compatibility with the baseline scenario that postulates continued strong, albeit declining, credit growth in the immediate future.

Potential Growth Estimates Based on Adjusted GDP Data(In percent)
Hodrick-Prescott filter (end-point 2010)
Hodrick-Prescott filter (end-point 2008)
Baxter-King band-pass filter3.
Christiano-Fitzgerald asymmetric band-pass filter3.
Kalman filter
Markov Regime Switching model3.
Memorandum items:
Differential from filters based on unadjusted data0.

To ensure convergence, the Kalman filter is estimated with restrictions on the variances of the error terms.

To ensure convergence, the Kalman filter is estimated with restrictions on the variances of the error terms.

39. The results of the estimation can be summarized as follows:

  • Underlying growth rose significantly in 1995-98 and is currently about 3½ percent a year. The differences among the various estimates are insignificant and insensitive to the length of the estimation horizon. However, the estimates are subject to considerable uncertainty stemming from their reliance on the future growth path. Substantial deviations from the baseline, in either direction, and thus revisions of the estimates cannot be excluded.
  • On current trends, underlying growth could decline in the medium term. This stems from the fact that the effect of the rapid credit expansion to households, estimated in Section C at around 0.4 percentage points, is included in the adjusted GDP series. Thus, as this runs its course, underlying growth would ease towards 3 percent.
  • Exceptional factors artificially raise potential growth by ½ percentage point, estimated as the difference in the potential growth estimates of the unadjusted and adjusted GDP series. This is close to the estimate (0.7 percentage points) presented in previous section.
  • The Regime Switching model confirms the above estimates. This model (Appendix I), which by construction can identify reversals in trend growth and is increasingly used for business cycle dating, suggests that the Greek economy has been in the fast growth state uninterruptedly since 1994 and that, based on quarterly data until 2005, the probability of reverting to slow growth is almost zero.23

E. What Accounts for the Recent Rise in Growth?

40. A growth accounting exercise indicates that the rebound in total factor productivity (TFP) was the main factor behind stronger growth. The growth in labor input and the pick up of investment had a much smaller contribution to the acceleration of growth.24

Contributions to GDP growth
1980-941995-2004Contributions to growth acceleration
GDP growth0.83.72.9
Total factor productivity-

TFP growth, 1995-2004

(In percent)

41. The rebound of TFP growth is mostly structural, although temporary factors have also played a role. TFP has benefited from structural reforms and privatizations, the reduction of distortions in resource allocation—especially, the eradication of inflationary expectations—and the introduction of new information and telecommunication technologies.25 At 1.3 percent, TFP growth has been strong by international standards although below TFP growth in several high income/productivity economies. Moreover, the rebound in TFP is not exceptional for an economy emerging from a protracted period of declining TFP and with ample room for catching up. To some extent, however, it relates also to the cyclical upswing of the economy and the absence of comprehensive statistics on resource utilization, especially in services.26

Greece: Long-Term Growth and its Determinants, 1965-2004
(Percent changes, unless indicated otherwise)
Real GDP6.
Labor produstivity6.
Capital deepening4.
Total hours worked-
Average hours-0.1-
Unemployment, change (increase: -)0.2-0.5-0.2-0.70.4
Participation rate-
Activity rate-
Memorandum items:
Per capita GDP growth5.
Capital-output ratio, level0.931.301.441.291.38
Capital-output ratio, rate of change2.20.6-0.21.4
Capital-labor ratio, rate of change2.
Depreciation rate5.
Investment rate, private non-residential12.69.814.512.216.7
Investment rate, residential and public16.
Investment rate, total28.820.323.220.725.7
Unemployment rate3.17.110.410.310.5
Participation rate58.558.961.560.162.8
Dependency rate56.952.147.547.847.2
Source: Eurostat and IMF staff estimates
Source: Eurostat and IMF staff estimates

42. In addition, measurement problems have imparted an upward bias to productivity. This bias stems, first, from the expansion of illegal immigration, which by being under recorded in the LFS, artificially raises productivity growth. This is particularly pronounced in construction, a sector that relies heavily on immigrant workers, where productivity grew in 1995-2004 at a annual average rate of 8.7 percent, by far the highest among other sectors and almost triple the national average. Second, the productivity increase is related also to a possible downward bias in the public investment deflator that causes a corresponding overestimation of real GDP and, hence, productivity. These two factors are estimated to have added 0.2–0.3 percentage points to measured as opposed to true multifactor productivity growth.

43. Labor and capital contributed 0.6 percentage points each to the growth acceleration. The labor input was boosted by the increase in the participation rate and the reversal of the upward trend in unemployment. The higher contribution of capital stems from a rebound in business investment, which rose to 14.5 percent of GDP at constant prices. However, the effect of this increase on capital and the capital-labor ratio was blunted by some pick up in the depreciation rate (due to technological progress). On average, capital deepening added 1.1 percentage points to growth and raised labor productivity growth to 2.4 percent, the second highest after Ireland among OECD countries. The increases in investment and labor participation as well as the decline in unemployment are likely to contain some cyclical component, the measurement of which is subject to considerable uncertainty before the completion of the business cycle.

44. The rebound in growth was uneven. It was led primarily by non-financial services, which represent almost 30 percent of GDP, including telecommunications and tourism. This sector accounted for 1.7 percentage points, or almost half of the growth during 1995-2004. Construction, too, expanded at a very fast pace but, owing to its much smaller share in output, had a smaller contribution to growth. Industry, on the other hand, has been undergoing significant restructuring. Under pressure from strong international competition, it has been registering sizeable productivity gains but also downsizing and plant closures.

Developments in GDP by Sector, 1995-2004
GDPLabor productivityEmployment
(Composition, in percent)(Contribution to growth)(Percent changes)
Agriculture, forestry, fishing6.
Industry, including energy13.
Financial and business services20.90.63.0-1.14.1
Other services21.
Sources: NSSG and IMF staff calculations.
Sources: NSSG and IMF staff calculations.

45. The uneven contribution of the various sectors to growth points to vulnerabilities as well as opportunities. The pace of growth in the newly liberalized telecommunications is likely to ease in the medium term as the sector approaches maturity. Similarly, the future contribution of the construction sector would depend on infrastructure investment—for which there is ample scope but also binding financing constraints—and conditions in the real estate market. On the other hand, services have potential but need to be supported by a more flexible and pro-growth institutional environment and strategic plans to develop further key sectors such as tourism.

F. Is the Better Growth Performance Sustainable over the Medium Term?

46. The production function approach suggests that underlying growth accelerated to 3.6 percent a year during the period 2000-04.27 The acceleration was driven primarily by capital (due to the rise in investment) and the pick up in trend productivity. Labor was neutral as aging offset a rise in the participation rate. Potential growth was slightly higher, 3.9 percent, since it includes also the effect of exceptional factors (immigration, monetary stimuli and the Olympics) on the growth of capital and total factor productivity.

Underlying growth and contributions, 2000-2010
Potential growth3.63.3
Total factor productivity1.11.0
Memorandum item:
Actual growth4.43.2

47. Potential growth is projected to slow gradually to about 3 percent by 2010. Central to this projection, which assumes current policies and trends, is that credit expansion to households, which in recent years boosted GDP by 0.4 percentage points, slows gradually as the market for household credits matures. A possible scale down in EU transfers, which have been instruments for infrastructure projects, and further erosion in Greece’s external competitiveness due to continuing inflation differentials and fast reforms in competing economies could also slow growth. From the supply side, the slowdown in potential growth reflects an assumed modest slowing of TFP growth and a decelerating working age population due to aging. As a result, potential growth is projected to average 3.3 percent during 2005–10 (Table 1). However, substantial uncertainty surrounds such estimates and changes in policies could be decisive. For example, recent OECD (2005) calculations suggest that a combination of product and labor market reforms could boost growth by up to 1½-percentage point annually for a number of years.

Table 1.Greece: Long-Term Growth and its Determinants
(Percent change, unless indicated otherwise)
Real GDP6.
Labor productivity6.
Capital deepening4.
Total hours worked-
Average hours-0.1-0.50.0-0.2-
Unemployment, change (increase: -)0.2-0.5-
Participation rate-
Activity rate-
Memorandum items:
Per capita GDP growth5.
Capital-output ratio, level0.931.301.441.541.761.902.
Capital-output ratio, rate of change2.
Capital-labor ratio, rate of change2.
Depreciation rate5.
Investment rate, private non-residential12.69.814.516.516.
Investment rate, residential and public16.110.58.810.910.8
Investment rate, total28.820.323.227.421.5
Unemployment rate3.17.110.410.
Participation rate58.558.961.564.866.668.269.369.952.861.3
Dependency rate56.952.147.548.349.852.759.672.246.951.7
Source: Eurostat and IMF staff estimates
Source: Eurostat and IMF staff estimates

48. The above estimates exceed earlier staff estimates, are broadly similar to current estimates by other international organizations, and are somewhat lower than the authorities’ estimates. Earlier staff estimates (Vamvakidis, 2002, and Lutz, 1998) put potential growth at 2.6-3 percent based on lower estimates of productivity growth and capital accumulation. At that time there was little compelling evidence of a structural increase in TPF growth, and investment. Since then, however, the Greek economy has consistently exceeded expectations. The latest OECD (2005) and European Commission (2005) estimates of potential growth are, respectively, 3¾ and 2.9 percent, and both project a modest decline in the years ahead. The authorities estimate potential growth at 3¾-4 percent on a more optimistic assessment of TFP and factor growth.

49. Real time estimates of potential output are subject to significant uncertainty due to the inherent difficulty of distinguishing between trend and cycle in the most recent observations. The characterization of, say, a rise in TFP growth as trend shift or temporary shock depends on the duration of the increase and the path of future increases,28 which can only be ascertained ex post, usually after considerable lag. An additional source of uncertainty is revisions in national accounts. Thus in real time one can make at best a probabilistic statement, based on available information, and keep updating it as new information accrues. The chart below illustrates the sensitivity of potential growth estimates to perturbations in the baseline scenario.

Future growth prospects have a strong impact on potential growth estimates

G. What would be the effect of population aging on long-term growth?

50. Like in other European economies, the long term growth outlook is dominated by the impending population aging. Greece’s population is set to start declining around 2020. The share of population older than 64 will almost double to 31 percent by 2050 and the old-age dependency ratio—the population over 64 divided by those in the 15-64 cohort—to approach 77 percent (Figure 3). By 2050, only one out of every two persons will be of working age. Although long-term demographic projections are inherently uncertain, the factors underlying the population aging are beyond dispute: life expectancy has increased rapidly while fertility has dropped to one of the lowest in Europe (Figure 4). Barring a major surprise, these trends are well entrenched and likely to continue.

Figure 3.Greece: Population Developments and Prospects, 1970-2050

Source: UN Population Institute; Eurostat; US Census Bureau; World Bank; National Statistical offices; and IMF staff calculations.

Figure 4.Greece: Demographic Developments, 1960-2002

Source: World Bank Development Indicators.

Baseline scenario

51. Mainly as the result of population aging, potential growth is projected to drop from 3½ percent currently to just below 1 percent a year by 2050. Capital deepening and technological progress are assumed to keep annual labor productivity growth close to 2 percent (Table 1). But the decline in the population and the rise in old-age dependency will reduce total hours worked and shave almost 1 percentage point off GDP growth. Increases in the retirement age and the participation rate—both of which are low by international standards—and the drop of unemployment from its currently very high level would provide a temporary relief; immigration cannot be relied on to sustain growth, given that Greece already has a relatively high share of foreigners in the population. The acceleration of structural reforms could boost total factor productivity but, if reforms were to falter, potential growth could be lower than envisaged in the baseline.29 The long-term growth outlook is based on projections for labor and capital inputs and TFP embedded in a two-factor Cobb-Douglas production function. The analytical framework of the projections is outlined in Appendix II.

52. Labor input is projected to peak around 2020 and start declining thereafter dragging down GDP growth (Figure 5). Labor input is measured in hours and is calculated as the product of population, the share of working-age population, the participation rate, the employment rate, and average hours worked per employed.

Figure 5.Greece: Population and Employment, 1970-2050

Source: NSSG and IMF staff calculations.

Output growth is projected to decelerate

  • Population in the NSSG’s baseline scenario starts declining around 2020 when declines in the indigenous population start to more than offset net immigration.30
  • The share of working-age population is projected to decline from 68 percent to 56 percent between 2005 and 2050, exacerbating the decline in population and bringing forward to the early 2010s the peak in working age population.
  • The participation rate is set to rise to 70 percent as women continue to take up work and early retirement dissipates.
  • The employment rate increases in tandem with the decline of unemployment to 7 percent by 2030.
  • Average hours worked per employed decline until 2020 and remain constant thereafter. Average hours have been declining since 1970 as a result of more holidays and shorter workweeks but the shortening of the workweek may now have reached a limit. Part-time employment is expected to expand as more women enter the labor force, elderly move into semiretirement, and enterprises rely increasingly on flexible employment arrangements. As a result, the ratio of hours worked per full-time employee to hours worked per part-time employee is projected to rise slightly leading to a small further decline in average hours until 2020.

53. Capital accumulation affects growth through capital deepening. Capital input is measured as the product of capital stock (excluding residential structures) times its utilization rate. Capital stock projections are based on a constant investment rate of 16 percent of GDP and a depreciation rate of 6 percent, which correspond to their averages in 2000-04. The investment rate affects the path towards the steady state but not the steady state itself. Over time, the effect of investment on capital is being eroded by depreciation from the rising capital stock.

54. Total factor productivity, projected to grow by 1 percent a year, is the main contributor to long-term GDP growth. The risks to the TFP growth scenario are balanced. On the downside, aging may depress TFP growth as older societies could be less innovative and flexible; moreover, the expansion of the services sector (especially elderly care) could slow overall productivity growth. On the upside, structural reforms could raise TFP growth permanently by encouraging the reallocation of resources from low to high productivity sectors, improving education and recruiting actively high skilled and enterprising immigrants, and creating an economic environment conducive to innovation.

How Robust is The Baseline Scenario?

55. The long-term GDP outlook depends on long-term growth and on shocks that permanently shift the GDP path. Long-term growth is driven by three factors: growth in hours worked (Ĥ), TFP growth (Â), and the labor elasticity of output (θ). These are related to GDP growth (Ŷ) through the equation Y^=H^+(1/θ)A^ (see Appendix II). Thus, with TFP set to grow at 1 percent and labor elasticity at 0.65, labor productivity will grow at 1.5 percent in the steady state; and with hours declining by 0.9 percent a year, GDP growth converges to 0.6 percent, which is reached some time after 2050. Shocks that can permanently shift the level of GDP, but not the growth rate, include changes in the NAIRU, labor force participation or the investment rate.

56. A sensitivity analysis of the baseline scenario suggests that the long-run growth rate of real GDP could vary between 0.4 percent and 1.4 percent a year. The lower bound corresponds to the low-population growth scenario and the upper bound to high population and TFP growth.

  • The investment rate affects the level of the GDP trajectory but not the long-run growth rate. Nevertheless, a higher level is important for fiscal sustainability because it reduces fiscal imbalances in flow terms. If, because of reforms that make Greece more attractive as a business location, the investment rate increases by 4 percentage points over its baseline of 16 percent, average growth would be 2 percent a year—0.2 percentage points above the baseline—and the level of GDP in 2050 would exceed the baseline by 12 percent.
  • The “high” population scenario would raise average output growth in 2050 from 0.9 to 1.4 percent and boost average growth during 2005-50 by 0.3 percentage points. Similarly, the “low” population growth scenario would reduce average growth by 0.3 percentage points. An important ingredient of these scenarios is immigration.
  • The low labor force participation rate and the high unemployment rate allow large scope for raising output levels, but not long-term growth. For instance, a reduction of the unemployment rate by 3 additional percentage points would temporarily raise output growth by up to ½ percentage point for several years.
  • An increase in the retirement age by 4 years postpones the time when the labor force starts declining. Such an increase, phased in over a period of 16 years, does not affect the long-term growth rate, but raises the level of GDP by 9.6 percent relative to the baseline.
  • Raising TFP growth by 0.3 percentage point raises long-term output growth by 0.5 percentage point. The effect on output growth is “magnified” by a factor of (1/Θ) because higher TFP growth raises the steady state growth of the capital/labor ratio in physical units and hence capital deepening (see Appendix II).

57. The above projections abstract from interactions among growth, the fiscal situation, and policies. For example, if along any of these paths public debt reaches a level that makes investors uncomfortable, credit ratings could suffer and interest rates rise, exacerbating the pressure on public finances. As a result, investment and growth would also suffer. Policies can also affect behavior and distort choices. Raising taxes to improve the fiscal situation could discourage labor supply and capital accumulation thereby reducing growth.

Greece: Alternative Growth Scenarios
(Annual average growth rates, in percent)(GDP level, 2005=1.0)
Population, high3.
Population. Low3.
Population, base plus 4 years3.
TFP plus
Investment plus
Participation new3.
Unemployment minus

H. Concluding Remarks

58. The main focus of this paper was to estimate potential growth in Greece and evaluate the growth prospects. The results show that potential growth increased considerably in recent years, reaching 3 ½ percent, supported by a rebound in productivity growth, strong investment and an expanding labor due to immigration and increasing participation. In addition to the rebound in potential growth, actual growth has also benefited from a number of exceptional factors (Olympics, EMU accession, and financial liberalization) which have contributed about 1 percentage point in recent years.

59. The estimates suggest that potential growth will slow eventually as productivity growth settles to a more sustainable level and, especially, as the population ages. Reforms that reduce unemployment and increase labor force participation and investment can raise output growth considerably over the medium term and, thus, are of profound importance for economic welfare in general and fiscal sustainability in particular. However, these reforms have no impact on long run growth. Key to higher long-term growth is policies that raise productivity growth, mainly education and the creation of an open, competitive and dynamic economy.

APPENDIX I: Markov Regime Switching (MRS)

The MRS approach to the business cycle, pioneered by Hamilton (1989), models output growth as an autoregressive process switching between two regimes or states of nature. Growth in each regime is given by:

where S(t) is a discrete random variable that takes the values 1 or 2 depending on whether the economy is in the fast- or slow-growth regime with respective drift rates μ1 and μ2 (μ1 > μ2) The autoregressive coefficients measure the persistence of growth shocks ut, where E(ut)=0 and V(ut)=σ2. The business cycle is associated with the shifts in S(t), whereas the random shocks ut capture other fluctuations unrelated to the cycle.

The model is completed by specifying the evolution of regimes. In every period the economy switches randomly between the two regimes and the probability that if the economy is in regime i in period t it will switch to regime j in period t+1 is modeled as a two-state Markov process:

That is, the conditional transition probability pij depends only on the current state of the economy, not on earlier states.

Generalizations of the model include more than two regimes, regime-specific autoregressive coefficients and random shocks as well as the linking of the transition probabilities to institutional and other features of the regimes, for instance, the quality of institutions and policy frameworks.

The model (1)-(2) was estimated with quarterly seasonally adjusted GDP from 1981:02 to 2005:01:

VariableCoefficientStandard errort-statistic

Quarterly Growth Rate of Greek GDP

APPENDIX II: The Framework for Long-Term Growth Projections
Production function:Yt=At(utCt)1θHtθor equivalently:Yt=(utCt)1θ(EtH)tθ
Total factor productivity:At=(1+A^)At1or equivalently:Et=(1E^)Et1
Capital accumulation:Ct=(1δ)Ct1+iYt1
Hours workedHt=Ltht
Hours per employed:ht=hft(1πt)+hptπt


The circumflex ^ denotes percent change

Y = real GDP

A = total factor productivity, which grows at a constant rate Â

E = Harrod neutral technical progress which is related to total factor productivity by At=Etθ and, in terms of rates of change, by At^=θEt^

u = capacity utilization. It is set at its historic average constant after the completion of the current business cycle.

C = capital stock

H = total hours worked

hf, hp = hours worked per full-time and per part-time employee

π = share of part-time employment

L = employment

UR = unemployment rate. It is set equal to the NAIRU after the completion of the cycle.

The above model enables us to express GDP growth as the sum of seven components:

where capital deepening is defined as Ĉt- Ĥt and the bracketed term in the above expression equals labor productivity growth: Y^tH^t=A^t+(1θ)(C^tH^t). In terms of Harrod neutral technical progress, labor productivity growth is written as: Y^tH^t=θE^t+(1θ)(C^tH^t).

At the steady state, the following relations hold among the key variables:

  • The capital-labor ratio, expressed in efficiency units, Ct/(EtHt), remains constant.
  • Expressed in physical units, the capital-labor ratio increases at the rate of: C^H^=(1/θ)A^=E^.
  • The growth of labor productivity per hour worked depends on TFP growth and the labor elasticity of output: Y^H^=A^+(1θ)(C^H^)=(1/θ)A^=E^.
  • The output-capital ratio remains unchanged: Ŷ = Ĉ
  • Output growth is the sum of growth in labor productivity and hours worked: Y^=(1/θ)A^+H^=E^+H^

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Prepared by Anastassios Gagales (EUR).


In this chapter, the dating of the reversals in the growth process is based exclusively on the statistical properties of the GDP series. For instance, Tavlas and Zonzilos (2001) report structural breaks in the GDP series at around 1980 and 1995. Alogoskoufis (1995), using as criterion breaks in the economic policy regime, argues that the first structural break occurred somewhat earlier, in 1974. The two dates are not inconsistent given that, as a rule, policy shifts and changes in the institutional framework materialize over a number of years and affect growth after a lag. The same argument applies also to the second structural break in 1995.


Extensive reviews of Greece’s post-WWII economic performance can be found in Bank of Greece (1978, 1982), Alogoskoufis (1995), and Garganas (2001). Christofides (1996) provides a critical survey of the literature.


The list is not exhaustive. One could add also privatization (which has raised productivity in formerly state owned enterprises), deepening integration with the internal EU market, and EU transfers of about 1½ percent of GDP annually in the period 2000-04. These factors are not considered owing to the fact that they have a lasting effect on growth and thus affect underlying growth.


In 1950-74 about one million Greeks (13 percent of the population) emigrated to Western Europe, Australia, Canada and the USA. This emigration alleviated unemployment pressures, relaxed (through remittances) the external financing constraint during the take-off of the Greek economy, and facilitated some transfer of skills. OECD (2005) and Kasimis (2004) provide comprehensive accounts of the history of immigration in Greece.


The increase in the share of foreigners underestimates the effect net immigration on population since it does not include the repatriation of ethnic Greeks and the return of earlier Greek emigrants.


An interesting analysis of the relationship between illegal immigration and the informal economy, from the perspective of Mediterranean countries, can be found in Reyneri (2003).


The informal economy in Greece is 5-10 percentage points of GDP larger than in other southern European countries. This reflects ineffective administrative controls and enforcement mechanisms, over-regulation—especially in the labor market—and relatively high tax rates. See Kanellopoulos (1998), Schneider (2000), Tatsos (2001) and Vavouras and Manolas (2003).


These figures do not include 50,000 asylum seekers and 200,000 immigrants of ethnic Greek origin. See Kathimerini (Oct. 20, 2004) and Baldwin-Edwards (2004).


This estimate is obtained by inflating the 440,000 working-age foreigners reported in the LFS by the share (80 percent) of working-age immigrants in the total immigrant population.


Using a Cobb-Douglas production function, the impact of immigration on GDP growth is:

Where Y, α, K, Lg and Lf denote respectively, GDP, technological progress, capital, and the employment of native population and immigrants. θ stands for the elasticity of output with respect to employment and Greeks and γ is a Mincerian measure of the relative productivity of migrant workers. The calculation abstracts from the second round effect of immigration on capital. This is given by (1θ)φΔlnL where φ stands for the elasticity of capital with respect to immigration that depends on relative factor prices and substitutability of factors of production.


Transitory immigration is calculated as deviations from trend.


Lianos (2001) proposes a framework for analyzing distributional effects from, and the optimal size of immigration.


These calculations assume that GDP captures accurately the growth of the informal economy in recent years. Underestimation of the growth of the informal economy leads to a corresponding underestimation of TFP growth.


During the twelve-month period April 1999-March 2000, the Bank of Greece imposed temporary credit controls to stem credit expansion: banks were required to place in a non-remunerated deposit an amount equivalent to the growth of credit above specified rates. The Bank of Greece took also steps to smooth the impact of the reduction of reserves requirements from 12 percent to the euro area’s 2 percent: the freed-up reserves were placed in a blocked deposit and were released gradually by end-200l. See Garganas and Tavlas (2001) and Hilbers and others (2005).


This estimate is based on budgetary figures, which, being on a cash basis, might differ from national accounts data. For 2005, the first post-Olympic year, the public investment budget earmarked 0.2 percent of GDP for Olympic-related expenditure.


Estimate based on Alpha Bank’s publication, The Greek Economy, July/August 2004.


The impact on growth is approximately equal to the change in the share of Olympic expenditure to GDP. Thus, the increase in their share by 0.2 percentage point of GDP in 2004 boosted headline growth by exactly the same amount.


Significant surcharges were needed to ensure the timely completion of several athletic venues and related infrastructure projects. To the extent that these surcharges exceed those paid for other public investment projects, applying the public investment deflator to Olympic projects would lead to the overstatement of real GDP (and TFP growth if athletic venues were excluded from productive capital).


This constitutes the upper limit of the effect on growth. The effect would be lower to the extent that funds previously earmarked for the Olympics were subsequently channeled to other expenditure.


Patsouratis (2005) argue that Greece’s tourism is price elastic relative to other Mediterranean competitors.


This parameterization comes from Burns and Mitchell (1944), whose research suggested that business cycles in the US economy last up to eight years.


The model suggests also the economy went into recession in 1981-83, 1986-87 and 1992-94, a result that is consistent with, but more refined than, those based on structural break tests. Tavlas and Zonzilos (2001) discuss the application of the Zivot-Andrews test to the Greek GDP series.


The calculations were based on an elasticity of output with respect to labor of 0.65, which is estimated from a Cobb-Douglas production function that allows for structural breaks in the TFP series. No adjustment was made for changes in the quality of factor inputs. TFP growth was calculated by subtracting a weighted average of the growth of capital and labor input from actual growth.


See Nikolitsa (2005) for a detailed analysis of the decline and rise in labor productivity in Greece and of factors impeding the convergence of productivity to the euro area average. The latter include over-regulation, the small size of enterprises, sluggishness in adopting new technologies, the competition deficit in several sectors, and the regression—in relative terms—of the education system.


Being calculated as a residual, TFP growth incorporates also the effect of omitted variables (such as the quality and utilization of labor and capital); measurement errors (including the employment of immigrant workers); and changes in the structure of production.


Underlying growth is estimated from trend growth in factor inputs and total factor productivity, excluding the impact of exceptional factors as discussed in Section C.


For example, the assessment as to which portion of a rise in TFP growth from, say, 1 to 1.5 percent is permanent or transitory would be different depending on whether subsequent growth is 2 percent, 1.5 percent or only 0.5 percent.


The Ministry of Economy and Finance in the 2004 update of the Stability and Growth Programme and the European Commission (2005) project a similar outlook for growth.


Further details on 1 population projections can be found in the 2005 National Strategy Report on Pensions.

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