Greece: Selected Issues

This Selected Issues paper provides updates on Greece’s financial stability framework. The paper highlights that the Bank of Greece (BoG) has strengthened the financial stability framework over recent years. In addition to the liquidity provided by the euro system through its regular refinancing operations and standing facilities, the BoG can provide emergency liquidity assistance (ELA) to financial institutions. In response to the global financial crisis, the authorities have assisted bank capital and funding. A manual has been developed to monitor financial stability and spell out contingency plans for the management of crises.


This Selected Issues paper provides updates on Greece’s financial stability framework. The paper highlights that the Bank of Greece (BoG) has strengthened the financial stability framework over recent years. In addition to the liquidity provided by the euro system through its regular refinancing operations and standing facilities, the BoG can provide emergency liquidity assistance (ELA) to financial institutions. In response to the global financial crisis, the authorities have assisted bank capital and funding. A manual has been developed to monitor financial stability and spell out contingency plans for the management of crises.

III. Structural Reforms in Greece: Lessons from Other Countries14

It is often touted that times of crisis are best to implement bold reforms. Indeed, as international experience suggests, a number of countries embarked on ambitious reforms in times of crises. These reforms led to improved labor market outcomes and to subsequent rapid growth, even as they came with short-run cost. This note summarizes some lessons from international experience that could benefit Greece.

A. Background

24. Greece has experienced a loss of competitiveness. The current account deficit has remained large in recent years, while the real exchange rate has steadily appreciated on account of higher inflation and unit labor cost increases exceeding those of trading partners. Various indicators point to a stagnant or declining market share and loss of price competitiveness. (Figure 1). Recent staff estimates of the equilibrium real exchange rate based on the CGER methodology suggest that Greece’s real exchange rate is significantly overvalued relative to fundamentals (with estimates of its competitiveness gap between 20–30 percent).

Figure 1.
Figure 1.

Greece: Competitiveness Indicators

Citation: IMF Staff Country Reports 2009, 245; 10.5089/9781451816334.002.A003

Sources: ECB; WEO; World Economic Forum; IMF, BOP statistics; Eurostat; and Comtrade.

25. Labor markets are relatively weak (Figure 2). The employment rate in Greece is low, in particular for females and youth, while unemployment duration is among the highest among peers. These outcomes are partly due to elevated minimum wages and tax wedges, and relatively high employment protection legislation (EPL).

Figure 2.
Figure 2.

Greece: Labor Market Issues

Citation: IMF Staff Country Reports 2009, 245; 10.5089/9781451816334.002.A003

Sources: ECB; OECD; and World Bank.

26. Moreover, structural impediments hinder product market performance (Figure 3). Among these are: a relatively restrictive business environment, including a high number of procedures and relatively high cost to start a business, high barriers to entry, especially in services, low ICT penetration, and insufficient internal competition due to high regulation and limited liberalization of utilities (vital since utilities serve as key inputs to the whole economy).15

Figure 3.
Figure 3.

Greece: Product Market Performance

Citation: IMF Staff Country Reports 2009, 245; 10.5089/9781451816334.002.A003

Sources: OECD; World Bank; World Economic Forum; and IMF staff estimates.1/ 2008 data are unavailable so 2003 data are used instead.

B. Lessons from Other Countries

27. Greece could benefit from the experience in other countries that have implemented structural reforms to boost competitiveness—learning from their mistakes and triumphs. It is clear that, without the option of devaluation, Greece needs to reform product and labor markets to restore competitiveness and boost long-run growth. However, it may be less clear what would be the timing, details, sequencing, and requirements for such reforms to be successful. International experience offers a number of lessons on implementing structural reforms that could benefit Greece at this time.

  • Crises should be used as opportunities for reform. As experience in several countries shows, periods of slow or negative growth are more conducive to product and labor market reforms (Box1).16 This appears to be the case for a number of countries, including Ireland, the Netherlands, Canada, New Zealand, and the U.K., which reformed during “difficult times,” when the perceived cost of the “status quo” appeared higher and hence the political will to reform became relatively stronger.17 Greece could, therefore, use the current crisis as an opportunity to address its structural problems and boost competitiveness and growth.

  • Reforms need to be bold and are best implemented as a package. To be successful, a mix of fiscal, labor and product market reforms that complement and reinforce each other appears best. For example, Canada embarked on tri-partite reforms in the mid-1990s that tackled both a large fiscal deficit and product and labor market impediments (Box 2). These led to an impressive fiscal turnaround and significant job creation and growth since the mid 1990s. Other examples of this type include the U.K., New Zealand, Ireland, and the Netherlands. In Australia, liberalizing product and labor markets simultaneously allowed labor supply reforms to translate into more jobs rather than higher rents, again contributing to strong subsequent productivity growth (Box 3).18 Greece should consider implementing broad-ranging reforms to address its structural problems and at the same time tackle the deteriorating fiscal situation and place debt on a sustainable downward path.

  • Social partners need to show resolve to put the country’s best interest first. Structural reforms are difficult to implement due to resistance from well-organized special interest groups, making it hard for policymakers to protect the “public good.” Given the differing interests of unions, the government, and employer associations, labor market reforms are generally the most difficult to tackle. As experience in some Western European countries suggests, such as in Ireland and the Netherlands, coming to a common agreement was key, with labor unions and employers’ federations offering wage restraint and working hour reductions, while the government reduced somewhat labor taxes and social security contributions (Box 4).19, 20 Hence, in designing its reforms, the Greek authorities should include social partners and seek buy-in from all.

  • There is no free lunch—reforms are difficult and costly in the short run. As noted, structural reforms can have distributive effects that lead to costs for various groups. Uncertainty about the magnitude and impact of these effects complicates the decision process and policy design. By requiring cooperation among all social partners, reforms in Canada, Ireland and the Netherlands were designed to share costs between the private and public sectors. These countries implemented ambitious civil service reforms by directly restraining public sector employment and freezing public sector wages, together with pension reforms. At the same time, private sector wage moderation, together with cuts in minimum wages, led to lower social benefits (because benefits and wages are often connected). The Greek government should therefore be prepared to call on social partners to contribute to the reform effort, while at the same time take tough decisions, including by reducing the public sector wage bill, implementing pension reforms, and improving budget processes and spending efficiency.

  • The benefits of reforms take time to materialize. While costs are incurred early, the benefits of reforms accrue over the medium and long run, as resources take time to be reallocated. Country experience, such as that of New Zealand, corroborate this conclusion (Box 5).21 Empirical evidence from a panel of countries presented in the April 2004 IMF WEO also suggests that the cumulative gains from structural reforms in the trade, product and labor market areas are positive, but they predominantly materialize in the long run, while in the short term the estimated output responses are small or even negative. Time frames for strong reforms are measured by a decade, not by a few months or years. Greece should be aware of and be realistic about the costs and long-run benefits of reform.

  • Nevertheless, well-designed reforms can pay off over time. As all country examples presented in this note attest to, including the example of Austria (Box 6), comprehensive reforms lead to improved macroeconomic outcomes over time. In fact, it can be argued that some benefits of well-designed reforms could materialize sooner, through the immediate impact of financial markets on spreads and borrowing costs. A vast and growing literature suggests that policies and institutions significantly affect economic outcomes, with well-designed reform packages believed to yield lower unemployment and greater employment gains than “piece-meal” reforms. Comprehensive structural reforms are likely to benefit Greece by lowering unemployment and boosting the employment rate and potential growth.

United Kingdom: Difficult Macroeconomic Circumstances were Conducive to Reform

The United Kingdom underwent sweeping structural reforms in the 1980s. The reforms were facilitated by difficult macroeconomic conditions and reform sequencing. First, the increasingly disappointing economic performance of the 1970s exposed the weakness in the existing economic structure, and its widely dispersed adverse effects created an environment that was conducive to far-reaching reforms. Second, although unemployment was high, other macroeconomic indicators such as growth and inflation began to improve in the early to mid-1980s, enabling the reforms to continue. Third, the rise in equity and home ownership resulting from the implemented privatization schemes created additional support for the reforms. The reform program included the following key elements:

  • Reducing the state’s role in the economy through privatization of state-owned enterprises and public housing, reduction in government size through cuts in civil service employment, and pension reform that reduced the relative value of state pension benefits and created incentives to enroll in private pension schemes.

  • Improving work incentives in benefit programs. Net unemployment benefits were reduced by abolishing the earnings-related supplement, suspending their statutory indexation, and making their taxation less favorable. Eligibility criteria for receiving unemployment and other benefits were tightened. Job-seeking efforts were monitored via the 1986 “Restart program” which required six-monthly counseling for all unemployed.

  • Reforming the tax system. The number of bands for marginal rates of personal income tax was reduced, while rates were lowered. Exemptions were reduced or eliminated, while the taxation of capital income was streamlined. The share of indirect taxes was increased, and corporate profit taxes were lowered while their base was broadened.

  • Reforming trade unions. The government introduced a series of legislative reforms, including extending the grounds for refusing to join a union, introducing limits on picketing, prohibiting actions that force contracts with union employers, and weakening the closedshop and union immunities.

  • Liberalizing financial markets. Administrative measures curbing bank lending and lending by building societies were removed, and pricing for financial services was liberalized.

  • Promoting entrepreneurship and self-employment. The government introduced measures to foster self-employment, such as offering tax relief, facilitating bank borrowing for small companies, and establishing local agencies to counsel small businesses on planning, marketing, and design.

    While the impact of the reforms on economic performance remains subject to debate, there is a broad consensus that the reforms contributed to halting the previous trend of relative decline in GDP levels per capita (e.g., Card and Freeman, 2002; and IMF, 2003), as the overall labor market and growth performance improved in the 1980s and the 1990s. Microeconomic evidence—examining the impact of specific reform efforts on firm-level productivity—also suggests that the structural reforms of the 1980s contributed to the United Kingdom’s improved relative productivity performance (Card and Freeman, 2002).

1/ This Box is based on Ch. III of WEO, Apr. 2008, “Fostering Structural Reforms in Industrial Countries.”

Canada: Reforms Need to be Comprehensive and Bold

Facing debilitating economic conditions, Canada launched path-breaking fiscal and structural reforms in the mid-1990s. A key priority was to eliminate the federal government deficit of over 5 percentage points of GDP based on the following initiatives:

  • A retooling of the budget process to incorporate a transparent budget forecasting framework, including a contingency reserve for debt reduction.

  • An expenditure review of all federal ministries to refocus the role of the government and stress the cost effectiveness and efficiency of public services. A similar approach is guiding France’s recently launched review of public policy.

  • An ambitious state reform including notably a 20 percent cut in the federal civil service; a reduced presence of the government in the economy through selective privatization, and contracting out; and broad deregulation.

Steps to raise economic flexibility and competitiveness complemented the fiscal reforms. These included:

  • reform of employment insurance and social assistance,

  • pension reform,

  • dismantling of trade barriers,

  • deregulation of major network industries, and

  • reduction of administrative burdens.

The fiscal turnaround after 1994 was remarkable. The federal government outperformed its fiscal targets every single year thereafter and achieved fiscal surplus in 1998, a year earlier than planned. Expenditure cuts allowed federal spending to fall from near 17 percent of GDP in 1994 to about 12 percent in 1998. With the improvement of the fiscal situation, the government enacted the largest tax cuts in Canadian history in 2000.

The improved policy framework created the conditions for sustained economic growth. Between 1997 and 2006, Canada enjoyed the highest job creation and output growth among G7 countries.

Australia: Reforms Reinforce Each Other 1/

Australia has experienced strong productivity growth since 1990, with aggregate labor productivity increasing by about 30 percent during 1990–2006. Some of this performance has been attributed to successful labor and product market reforms:

Labor market reforms: In 1991, bargaining agreements on employment conditions were decentralized at the enterprise level so as to better align wages to productivity gains. The 1993 reforms expanded and accelerated the use of enterprise bargaining, and in 1996, the Coalition Government furthered the decentralization process by introducing the possibility of individual contracts through the Australian Workplace Agreements (the powers of the Australian Industrial Relations Commission were also reduced). These steps, together with other reforms and ongoing structural changes of industrialized economies around the world, contributed in the secular decline in the unionization rate. As a result of these consecutive reforms, Australia stands out among OECD countries as a country with a flexible labor market characterized by a low level of corporatism, a decentralized wage bargaining system, and a flexible employment protection legislation.

Product market reforms: Significant trade liberalization was initiated in the 1980s. Starting in 1988, phased reductions in tariffs were implemented across all industries, so that by the end of the 1990s virtually all tariffs have become negligible. Infrastructure reforms were also initiated in the late 1980s, covering deregulation and restructuring of air and coastal transport, and telecommunication. Public enterprises were also progressively commercialized, corporatized and privatized on a large scale. Between 1995 and 2000, the National Competition Policy (NCP) further reduced anti-competitive regulations, and reformed government businesses and the transport and utilities sectors.

Econometric evidence from the OECD suggests that product market reforms have a significant and positive impact on multifactor productivity (MFP), in particular in industries that use ICT capital goods more intensively. Moreover, labor market flexibility appears to be associated with faster productivity gains in industries that are more human-capital intensive. Finally, countries with more flexible labor markets have experienced a faster ICT capital deepening. These results suggest that, in the case of Australia, a combination of labor and product market reforms could have induced productivity gains of the order of magnitude of those observed in the 1990s. Finally, technological diffusion seems to crucially depend on domestic R&D intensity and human capital, even after controlling for product market and labor market policies, suggesting that a wide range of factors affect the diffusion of technology best practices across OECD countries.

1/ This Box is based on Tressel, Thierry, 2009: “Does Technological Diffusion Explain Australia’s Productivity Performance?, “IMF Working Paper No. 08/4.

Ireland and the Netherlands: Coordination Among Social Partners is Key 1/

In response to a macroeconomic deterioration in the early 1980s, sparked by adverse global supply shocks and abetted domestic policy mistakes, Ireland and the Netherlands embarked on comprehensive labor market reforms, coupled with fiscal restraint.

  • Wage moderation was facilitated by coordination among social partners. At the core of the Dutch and Irish reform programs was a strategy to mitigate the effects of nominal wage growth with labor cuts. Labor unions and employers’ federations traded wage restraint for working hour reductions, while the government committed to reduce labor taxes and social security contributions, especially for low-income workers which led to declines in the tax wedge (the Wassenaar agreements).

  • Fiscal adjustment and labor market reform went hand in hand. Both countries recorded significant fiscal adjustment, even as the tax burden was falling. In Ireland, the stabilization program included a freeze on the public sector wage bill, which led to public employment falling by 10 percent over 2 years. In the Netherlands, the government wage bill was held down both by containing salaries and employments. Unions agreed to lower wages as a package with reductions in government wages and transfers and cuts in labor taxes, which in turn led to higher profitability, investment, employment, and growth.

  • Benefit reform was a key ingredient of the reform agenda. Both governments reacted on all fronts: reducing benefit generosity, shortening their duration, and tightening eligibility requirements. The minimum wage fell, and so did social benefits linked to it.

  • Other labor and product market reforms were implemented at the same time. Both countries also undertook reforms of their employment protection legislation and product market reforms. The Netherlands focused on streamlining layoff rules and relaxing hiring procedures, working time rules, overtime legislation, and regulations related to temporary work agencies (leading to the so-called “Polder Model” that strongly crowded in part-time work taken up by women, youths, and minorities—thus causing much higher participation rates). Ireland focused product market reforms on administrative simplification procedures and openness to trade and FDI.

1/ This Box is based on Annett, Antony, 2008: “What can Poland Learn from Other European Union Countries in Terms of labor Market Reforms?,” IMF Selected Issues Paper.

New Zealand: Reforms Are Costly and Can Take a Long Time to Bear Fruit

In the early 1980s, New Zealand faced high and variable inflation, rising public debt, growing unemployment, and mounting external pressures. A loss in international confidence in the economy in 1984 triggered a foreign exchange crisis. As a result, the government initiated a reorientation of macroeconomic policies and wide-ranging structural reforms which transformed its economy into one of the most open and market-oriented economies in the world.

Reforms were sequenced and spanned a decade.

  • First, the authorities introduced policies that allowed the exchange rate to float, removed foreign exchange controls, and liberalized financial markets and international capital flows.

  • These were followed by successive steps to remove distortions in and deregulate goods markets, to liberalize trade, and to implement an aggressive privatization program.

  • Macroeconomic policies were also tightened: monetary policy shifted to containing inflation while fiscal policy was strengthened through budget and tax reforms and reforms of the accountability and incentive structures in all parts of the public sector.

  • Labor market reforms followed in the early 1990s.

While the reforms led to positive macroeconomic outcomes, they entailed short run costs. Inflation fell to low and stable levels, from about 8 percent in 1989 to 1½ percent by 1992, and low inflationary expectations gradually became entrenched. Fiscal consolidation took the public sector operating balance from a deficit of 7 percent of GDP in 1982/83 to 1 percent of GDP in 1992/93. At the same time, the growth performance of the economy in the immediate aftermath of the launch of reforms (1984–92) was disappointing—GDP per capita (on a PPP basis) grew by less than 1 percent and the unemployment rate rose from 6.2 percent in 1983 to more than 10 percent in 1992. After the period of intensive reforms, however, the economy’s growth performance improved significantly: New Zealand’s output growth rate between 1993 and 2002 was slightly higher than the OECD average. Real GDP grew at an average annual rate of 3.6 percent, compared with 1.6 percent during the reform period and 1.4 percent in the decade immediately preceding the initiation of reforms.

1/ This Box is based on Chapter III of WEO, April, 2008: “Fostering structural Reforms in Industrial Countries.”

Austria: A Decade of Structural Reforms has Paid Off 1/

Over the last 5–10 years, Austrian growth was 0.6–0.3 percentage points higher than in the euro area, and 1.1–1.0 percentage points higher than in the main trading partner Germany. Unemployment has been remarkably low for European standards, despite immigration. Structural reforms have helped, together with wage moderation and an orientation towards fast-growing Eastern Europe. Competitive pressures from the East actually helped structural reforms in Austria (e.g., w.r.t. shop closing hours).

  • Labor market reforms

    • Successful negotiations between Austria’s social partners, comprising labor and employer representatives have led to little wage drift at the local and firm levels, while productivity has been growing.

    • Reforms, including on working time flexibility and the severance payment system led to a relatively flexible labor market and a low unemployment rate.

    • Access to the labor market has been facilitated for skilled personnel from new EU member states.

    • Active labor market policies have been reformed to better fit individual or group specific needs.

    • Social security contributions were reduced.

  • Product market reforms

    • Entry restrictions in some sectors have been lowered, notably in wholesale and retail trade.

    • One-stop-shop for starting businesses was established

    • Legal shop openings were extended.

    • Opening of gas and electricity markets.

    • An independent competition authority was established.

  • Other reforms

    • Pension reforms: the 2003–04 reforms reduced the fiscal subsidization of early retirement (although some reforms were later relaxed). The statutory retirement age for civil servants was also raised.

    • Education reforms included: the introduction of government funding of higher-education institutions based on student enrollment; earmarking student fees to the universities in which students enroll; widening performance-related elements in university funding and in contracts for staff; introducing a formula-driven budgeting system to strengthen the financing and autonomy of universities.; increasing resources for vocational training measures.

1/ This box was prepared based on work by Jens Clausen, desk economist for Austria.

C. What’s in it for Greece?

28. The literature has attempted to identify those policies and institutions that could be most effective in boosting employment and growth. Among the many studies addressing this topic is Bassanini and Duval (2006), which uses panel data for 21 OECD countries (including all country examples mentioned in this paper, but excluding Greece) over the 1982–2003 period and finds that lowering tax wedges and unemployment benefits and reducing PMR crucially affect the unemployment rate as well as overall employment. Other policy variables, including active labor market policies (ALMPs) and the level of centralization/coordination of wage bargaining are also shown to matter (and EPL, but to a lesser extent), especially in the context of interactions with other policies. Such interactions, especially between labor and product market reforms, are found important by others, such as Nicoletti and Scarpetta (2005).

29. A wage bargaining model can be used to understand the effects of structural reforms on employment. In the same vein as Bassanini and Duval (2006), Annett (2008) tries to gauge the effects of liberalization reforms on private employment using a simple wage bargaining analytical framework. In this framework, the “wage curve,” measuring the relationship between wages and employment rate, can shift downward as a result of various institutional and policy variables, including: (i) changing workers’ preferences in favor of employment over wages, as could happen if the wage bargaining system became more centralized; (ii) lower tax wedges that can lead workers to accept lower wages at a given employment rate; (iii) lower benefits (unemployment, but also disability and early retirement, including level, duration, and access) that can affect the reservation wage of workers; and (iv) lower government wages that also reduce reservation income.

30. An econometric analysis helps quantify these effects. Annett empirically estimates a theoretical equation relating annual changes in wage curve shift to changes in the above-mentioned policy variables using data for 14 countries (the EU-15 excluding Luxembourg and including Greece) between 1980–2006. The results largely confirm the theory (Appendix Table II 1). Next, Annett examines the transmission mechanism from wage curve shifts to actual private sector employment generation, which depends on the underlying flexibility in labor and product markets. An equation is estimated whereby the change in the ratio of private sector employment to working-age population is related to wage curve shifts, product market regulation, labor market regulation, and the interaction between wage curve shifts and these two regulatory indices. The interactive coefficients are both positive and significant, suggesting that the benefits of wage moderation are larger in countries with more liberal labor and product markets (Appendix Table II 2).

31. Applying this model to Greece suggests that reform gains could be significant. As a stylized illustration, applying Annett’s estimated coefficients to changes in key policy variables in Greece—using a 10 percentage point reduction in the tax wedge, 1 percent of GDP reduction in the government’s wage bill, and two standard deviation reductions in PMR and in EPL, respectively—results in an increase of 3.2 percentage points in Greek private employment over 3 years. Were Greece to move toward best practices in each of these variables, the corresponding employment gains could be more significant (5–10 percent).22 According to this exercise, lowering the government’s wage bill relative to GDP and the tax wedge appear to have the largest effects on employment, followed by improvements in product market regulation and employment protection legislation.

D. A Menu of Options that Could be Considered

32. International experience points to a number of aspects to be considered in designing a successful structural reform strategy. As regards the timing of reform, the current crisis provides a unique opportunity. On sequencing, there is evidence that product and labor market reforms are complementary, with initial implementation of product market reforms spurring more difficult labor market changes (as product market reforms erode rents and profit margins, incentives for workers to demand a share in those rents is weakened, lowering resistance to wage moderation and other labor reforms). Wage moderation appears particularly beneficial for small open economies such as Greece, where the corresponding initial decline in domestic demand can be compensated for by significant improvements in competitiveness and net exports. However, it is crucial that wage moderation and other labor market reforms (such as reductions in the tax wedge) be combined with (and financed by) fiscal reforms that lower current government spending and reduce benefits.

A menu of specific options that could be considered in the case of Greece are as follows:

1. Labor market measures aimed at improving institutional frameworks and moderating wages:

  • achieve wage moderation, including through limiting the growth of minimum wages, in the context of a coordinated agreement from social partners that creates sufficient “buy-in” by the different vested interests;

  • equalize at a lower level employment protection for both permanent and temporary contracts, by streamlining layoff rules, relaxing hiring procedures, lowering firing costs, and allowing for more flexible hours to facilitate higher employment rates for females, youth, and the elderly;

  • investigate the effectiveness of Active Labor Market Policies and implement those that yield results.

2. Product market measures aimed at eliminating restrictions and privatizing public enterprises:

  • reduce administrative burdens and simplify rules and procedures for new businesses;

  • reduce barriers to entry, especially in the service sector (this has been shown to be associated with increased female employment), including by fully implementing the EU Services Directive;

  • privatize state-owned enterprises;

  • deregulate and restructure transport, telecommunication, and utilities, including by unbundling operations (generation, transmission, and distribution) of electricity and reducing price restrictions and barriers to entry in the road freight sector;

  • strengthen and increase powers of the Competition Authority.

3. Fiscal measures aimed at containing fiscal costs and achieving long-run sustainability:

  • reduce the government’s wage bill using public wage freezes/cuts and reductions in civil service (for example by winding down public entities created for specific purposes, such as those overseeing particular projects/reforms);

  • reduce the tax wedge by lowering labor taxes and social security contribution rates, especially for low-income workers and reduce the “marriage penalty” to foster female employment (tax cuts should only be adopted in conjunction with lowering wages in the private sector and reductions in the government’s wage bill; its costs and benefits should be carefully weighed, especially given Greece’s significant tax evasion problems, and taking into account long-run fiscal sustainability);

  • streamline budget processes and undertake expenditure reviews to improve the cost effectiveness and efficiency of public services;

  • reform pensions to restore sustainability and reduce disincentives to work at older ages (this has been shown to be more effective if combined with reductions in EPL);

  • increase transparency and disclosure, including by publishing monthly tax revenues data, monthly central government budget performance information, and quarterly financial statements of public enterprises.

Appendix: Annett’s Empirical Analysis and Results23

First, Annett estimates as equation relating annual changes in wage curve shifts—cyclically and productivity—adjusted real hourly wages in the private sector—to changes in key policy variables: the tax wedge on labor income—calculated as employees’ and employers’ social security contributions and personal income tax less transfer payments as percent of gross labor costs, averaged between single and married workers—benefit measures—incapacity related, unemployment, and early retirement benefits, the government wage bill, and the underlying negotiating stance—an average of the OECD’s centralization and coordination indices. A panel model is estimated for 14 countries (the EU-15 excluding Luxembourg and including Greece) between 1980–2006, with and without fixed effects (Table II 1). Year dummies capture common excluded variables. To capture dynamics, the estimated equation includes a single lag on the dependent variable. Standard errors are asymptotically robust to both heteroskedasticity and serial correlation. The basic equation is also estimated using GMM techniques to address dynamic panel bias and deal with endogeneity issues.

Table II.1.

Estimating the Policy Determinants of Wage Moderation

(Dependent variable: change in cyclically and productivity-adjusted real hourly wage)

article image
Source: Staff calculations based on OECD data.Note; Standard errors in parentheses.***,**, and * denote statistical significance at the 1 percent, 5 percent, and 10 percent levels respectively.

Second, Annett examines the transmission mechanism from wage curve shifts to actual private sector employment generation (Table II 2). An equation is estimated whereby the change in the ratio of private sector employment to working-age population is related to wage curve shifts, an index of product market regulation, labor market regulation, and the interaction between wage curve shifts and these two regulatory indices. Once again, the equations are estimated using pooled OLS, fixed effects, First Difference GMM, and System GMM. And again, year dummies are included to capture common excluded variables. This time, three lags of the dependent variable are included in the equation to clean the residuals of autocorrelation. The time series is slightly shorter here, as EPLs are only measured from 1985. The same restrictions on the instruments in the GMM estimation are in place. In both GMM cases, the Sargan-Hansen test of overidentifying restrictions accepts the validity of the instruments, the Difference Sargan accepts the validity of the extra restrictions, and there is no evidence of autocorrelation.

Table II.2.

Estimating the Effect of Wage Curve Shifts on Employment

(Dependent variable: change in ratio of private sector employment to working age population)

article image
Source: Staff calculations based on OECD data.Note: Standard errors in parentheses. ***,**, and * denote statistical significance at the 1 percent, 5 percent, and 10 percent levels respectively


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Prepared by Delia Velculescu.


It is also remarkable that the Greek economy is almost exclusively composed of small and medium enterprises, with very few large companies. A recent EU Commission report on SMEs in euro area countries suggests that these have a large role in increasing employment, even as they are less productive than large enterprises. The report points to the relatively weak performance of SMEs in South Europe, including Greece, where it notes the obstacles in administration, finance, and innovation compared to the EU average.


See Rodrik (1996) and Drazen and Easterly (2001) on the role of crises in fostering reforms.


Another incentive for reforms for a number of countries (such as Italy) was entry into the euro area.


For theoretical discussion and evidence on the complementarities of structural reforms (including benefits from sequencing product and labor market reforms), see, among others, Blanchard and Giavazzi (2003), Blanchard (2005), Nicoletti and Scarpetta (2001), Annett (2007), and Bassanini and Duval (2006).


Annett (2007) discusses and presents some empirical evidence that higher unionization rates are more conducive to labor and product market reforms. Countries such as Sweden, Denmark, Belgium, the Netherlands have traditionally less confrontational unions and a strong revealed preference for social dialogue and consensual decisions.


The alternative would be to introduce measures aimed at directly reducing the powers of unions, as the U.K. did in the 1980s. This, however, could be more disruptive.


The Dutch reforms of the early 1980s took ten years to fully come to fruition; Sweden entered a crisis in 1992/93 and took major reforms (especially in the fiscal area). It was not until a decade later that a new peak performance was reached. Germany began serious wage moderation in 1995, after the cost blowout with unification in 1991. German growth was flat for ten years, before the export machinery pulled the country out of its slump in 2005. Deep reforms appear to take a decade to mature.


Nicoletti et al (2001) find that the employment rate could increase by 1½ to 2 percentage points if Greece were to move toward the practices of the least restrictive countries. Badinger et. al. (2008) find that implementation of the EU Services directive could increase employment in Greece by 1.3 percent. Scarpetta and Tressel (2002) suggest that aligning the regulatory stance in Greece to that of the least regulated OECD countries could increase Greece’s long-term level of TFP relative to the technological frontier by more than 15 percent.


For more details on the estimation and a discussion of the results, see Annett, Antony, 2008: “What can Poland Learn from Other European Union Countries in Terms of labor Market Reforms?,” IMF Selected Issues Paper.

Greece: Selected Issues
Author: International Monetary Fund