Research Topics

In 2022, Greek GDP grew at a higher rate than the eurozone average as the nation’s economy rebounded from the COVID-19 shock.

However, it was not all welcome news. In particular, Greece registered its largest current account deficit since 2009. Despite a widespread focus on fiscal profligacy, it is excessive current account and trade deficits—largely caused by private sector imbalances—that are at the root of Greece’s multiple economic challenges. This policy note identifies the major determinants causing the deterioration of the current account balance in order to devise appropriate corrective policies.

In this strategic analysis, Institute President Dimitri B. Papadimitriou, Senior Scholar Gennaro Zezza, and Research Associate Nikolaos Rodousakis discuss the medium-term prospects for the Greek economy in a time of increasing uncertainty—due to the geopolitical turbulence emanating from the Ukraine–Russian conflict, with its impact on the cost of energy, as well as the increase in international prices of some commodities.

Growth projections for the current year are lower than those recorded in 2021, indicating the economy needs to perform much better if it is to continue on the growth path that began in the pre-pandemic period.  Similarly, growth projections for 2023 and 2024 appear much weaker, denoting serious consequences may be in store.

With increasing price levels and the euro depreciating, an economy like Greece’s that is highly dependent on increasingly costly imports will become more fragile as the current account deficit widens. In the authors’ view, the continuous recovery of the Greek economy rests with the government’s ability to utilize the NGEU funds swiftly and efficiently for projects that will increase the country’s productive capacity.
 

Against the background of an ongoing trade dispute between the United States and China, Senior Scholar Jan Kregel analyzes the potential for achieving international adjustment without producing a negative impact on national and global growth. Once the structure of trade in the current international system is understood (with its global production chains and large imbalances financed by international borrowing and lending), it is clear that national strategies focused on tariff adjustment to reduce bilateral imbalances will not succeed. This understanding of the evolution of the structure of trade and international finance should also inform our view of how to design a new international financial system capable of dealing with increasingly large international trade imbalances.

Proposals for the Eurozone Crisis

After reviewing the main determinants of the current eurozone crisis, this paper discusses the feasibility of introducing fiscal currencies as a way to restore fiscal space in peripheral countries, like Greece, that have so far adopted austerity measures in order to abide by their commitments to eurozone institutions and the International Monetary Fund. We show that the introduction of fiscal currencies would speed up the recovery, without violating the rules of eurozone treaties. At the same time, these processes could help transition the euro from its current status as the single currency to the status of “common clearing currency,” along the lines proposed by John Maynard Keynes at Bretton Woods as a system of international monetary payments. Eurozone countries could therefore move from “Plan B,” aimed at addressing member-state domestic problems, to a “Plan A” for a better European monetary system.

Policy Alternatives Addressing Divergences and Disparities between Member Countries

In this paper we outline alternative policy recommendations addressing the problems of differential inflation, divergence in competitiveness, and associated current account imbalances within the euro area. The major purpose of these alternative policy proposals is to generate sustainably high demand and output growth in the euro area as a whole, providing high levels of noninflationary employment, as well as preventing “export-led mercantilist” and “debt-led consumption boom” types of development, both within the euro area and with respect to the role of the euro area in the world economy. We provide a basic framework in order to systematically address the related issues, making use of Anthony Thirlwall’s model of a “balance-of-payments-constrained growth rate.” Based on this framework, we outline the required stance for alternative economic policies and then discuss the implications for alternative monetary, wage/incomes, and fiscal policies in the euro area as a whole, as well as the consequences for structural and regional policies in the euro-area periphery in particular.

China and India

The narrative as well as the analysis of global imbalances in the existing literature are incomplete without the part of the story that relates to the surge in capital flows experienced by the emerging economies. Such analysis disregards the implications of capital flows on their domestic economies, especially in terms of the “impossibility” of following a monetary policy that benefits domestic growth. It also fails to recognize the significance of uncertainty and changes in expectation as factors in the (precautionary) buildup of large official reserves. The consequences are many, and affect the fabric of growth and distribution in these economies. The recent experiences of China and India, with their deregulated financial sectors, bear this out.

Financial integration and free capital mobility, which are supposed to generate growth with stability (according to the “efficient markets” hypothesis), have not only failed to achieve their promises (especially in the advanced economies) but also forced the high-growth developing economies like India and China into a state of compliance, where domestic goals of stability and development are sacrificed in order to attain the globally sanctioned norm of free capital flows.

With the global financial crisis and the specter of recession haunting most advanced economies, the high-growth economies in Asia have drawn much less attention than they deserve. This oversight leaves the analysis incomplete, not only by missing an important link in the prevailing network of global trade and finance, but also by ignoring the structural changes in these developing economies—many of which are related to the pattern of financialization and turbulence in the advanced economies.

Some Remarks on the Current Stability Programs, 2011–14

This paper evaluates whether the 2011 national stability programs (SPs) of the euro area countries are instrumental in achieving economic stability in the European Monetary Union (EMU). In particular, we analyze how the SPs address the double challenge of public deficits and external imbalances. Our analysis rests, first, on the accounting identities of the public, private, and foreign financial balances; and second, on the consideration of all SPs at once rather than separately. We find that conclusions are optimistic regarding GDP growth and fiscal consolidation, while current account rebalancing is neglected. The current SPs reach these conclusions by assuming strong global export markets, entrenched current account imbalances within the EMU as well as the deterioration of private financial balances in the current account deficit countries. By means of our simulations we conclude, on the one hand, that the failure of favorable global macroeconomic developments to materialize may lead to the opposite of the desired stability by exacerbating imbalances in the euro area. On the other hand, given symmetric efforts at rebalancing, the simulation suggests that for surplus countries that reduce their current account, a more expansionary fiscal policy will likely be required to maintain growth rates.

This paper contrasts the orthodox approach with an alternative view on finance, saving, deficits, and liquidity. The conventional view on the cause of the current global financial crisis points first to excessive United States trade deficits that are supposed to have “soaked up” global savings. Worse, this policy was ultimately unsustainable because it was inevitable that lenders would stop the flow of dollars. Problems were compounded by the Federal Reserve’s pursuit of a low-interest-rate policy, which involved pumping liquidity into the markets and thereby fueling a real estate boom. Finally, with the world awash in dollars, a run on the dollar caused it to collapse. The Fed (and then the Treasury) had to come to the rescue of US banks, firms, and households. When asset prices plummeted, the financial crisis spread to much of the rest of the world. According to the conventional view, China, as the residual supplier of dollars, now holds the fate of the United States, and possibly the entire world, in its hands. Thus, it’s necessary for the United States to begin living within its means, by balancing its current account and (eventually) eliminating its budget deficit.

I challenge every aspect of this interpretation. Our nation operates with a sovereign currency, one that is issued by a sovereign government that operates with a flexible exchange rate. As such, the government does not really borrow, nor can foreigners be the source of dollars. Rather, it is the US current account deficit that supplies the net dollar saving to the rest of the world, and the federal government budget deficit that supplies the net dollar saving to the nongovernment sector. Further, saving is never a source of finance; rather, private lending creates bank deposits to finance spending that generates income. Some of this income can be saved, so the second part of the saving decision concerns the form in which savings might be held—as liquid or illiquid assets. US current account deficits and federal budget deficits are sustainable, so the United States does not need to adopt austerity, nor does it need to look to the rest of the world for salvation. Rather, it needs to look to domestic fiscal stimulus strategies to resolve the crisis, and to a larger future role for government in helping to stabilize the economy.

Federal government and Federal Reserve (Fed) liabilities rose sharply in 2008. Who holds these new liabilities, and what effects will they have on the economy? Some economists and politicians warn of impending inflation. In this new Strategic Analysis, the Levy Institute’s Macro-Modeling Team focuses on one positive effect—a badly needed improvement of private sector balance sheets—and suggest some of the reasons why it is unlikely that the surge in Fed and federal government liabilities will cause excessive inflation.

The economic recovery plans currently under consideration by the United States and many other countries seem to be concentrated on the possibility of using expansionary fiscal and monetary policies alone. In a new Strategic Analysis, the Levy Institute’s Macro-Modeling Team argues that, however well coordinated, this approach will not be sufficient; what’s required, they say, is a worldwide recovery of output, combined with sustainable balances in international trade.

As the government prepares to dispense the tax rebates that largely make up its recently approved $168 billion stimulus package, President Dimitri B. Papadimitriou and Research Scholars Greg Hannsgen and Gennaro Zezza explore the possibility of an additional fiscal stimulus of about $450 billion spread over three quarters—challenging the notion that a larger and more prolonged additional stimulus is unnecessary and will generate inflationary pressures. They find that, given current projections of even a moderate recession, a fiscal stimulus totaling $600 billion would not be too much. They also find that a temporary stimulus—even one lasting four quarters—will have only a temporary effect. An enduring recovery will depend on a prolonged increase in exports, the authors say, due to the weak dollar, a modest increase in imports, and the closing of the current account gap.

Policies for the U.S. Economy

In this new Strategic Analysis, we review what we believe is the most important economic policy issue facing policymakers in the United States and abroad: the prospect of a growth recession in the United States. The possibility of recession is linked to the imbalances in the current account, government, and private sector deficits. The current account balance, which is a negative addition to US aggregate demand, is now likely to be above 6.5 percent of GDP and has been rising steadily for some time. The government balance has improved, again giving no stimulus to demand, which has therefore relied entirely on a large and growing private sector deficit. A rapidly cooling housing market is one of the signs showing that this growth path is likely to break down.

We focus first on the current account deficit. Our analysis suggests that a necessary and sufficient condition to address this problem, without dire consequences for unemployment and growth, is that net export demand grow by a sufficient amount. For this to happen, three conditions need to be satisfied: foreign saving has to fall, especially in Europe and East Asia; US saving has to rise; and some mechanism, such as a change in relative prices, should be put in place to help the previous two phenomena translate into an improvement in the US balance of trade.