Greece, Debt, and Parenting

If you are a parent, you may have experienced something like the following:

Son number 1 and his children live in a much nicer home than you did at his age. It is the biggest house he could qualify to buy and you put up the down payment to assist him in his purchase. He worked hard as an auto mechanic earning a decent income. His wage was increased modestly each year as his productivity gradually increased with experience, though barely keeping up with inflation. He and his wife were loving parents with three wonderful children and enjoyed their family time together spending what they earned on their children. However, they spent his income as he received it and borrowed the maximum possible to buy a nice second hand family van. When the car needed more than the normal repairs, he had no savings and borrowed the money from you. The occasional family illnesses were paid for by additional loans from you as well and rather than paying off their mortgage and other debts over time these debts grew larger. When his children reached college age they took jobs that did not require college educations as no money had been saved for college.

Son number 2 was also an auto mechanic but ran his own repair shop. His wife and two children lived in a more modest home with lower mortgage payments and they consumed his earnings carefully and modestly in order to save for emergencies, the children’s college fund, and his retirement, and to invest in equipment that would make his repair shop more productive. For a number of years they enjoyed a lower standard of living than did son number 1, but gradually paid down their mortgage without incurring additional debt. More importantly, his income rose more rapidly than did his brother’s because of his investments in tools and equipment. Within 24 years his income was twice his brothers as a result of its growing 3% per year faster.

With the bursting of the housing bubble in 2007 and having his hours of work reduced because of the slowing economy, son number 1 was forced to sell his house in a short sale arranged with the mortgage holder and you wrote off what he owned you. His family was forced to cut many of their expenditures because no one would lend them the money needed to continue living beyond their means. They were forced to cut their consumption even further in order to have some savings when the inevitable health and mechanical emergencies occurred because you decided that your earlier financial help had only perpetuated their shortsighted behavior and refused to lend him more. They complained about the fall in their standard of living as they were now forced to consume within their means. Your son number 1’s family was now poorer. Or more accurately, their standard of living matched reality and became sustainable. Their earlier, higher standard of living was an unsustainable illusion.

Needless to say, son number 2’s future was brighter. His family took advantage of the fall in housing prices by 2008 to buy a larger home, keeping their original one for its rental income. His two daughters went to and graduated from college. His higher standard of living was real and sustainable (i.e. he paid for his higher consumption fully out of his higher earnings).

If you rename son number 1 “Greece”, and son number 2 “Germany” you can begin to understand the difference between the situation of each economy and the difference between competitiveness (exports that match and pay for imports) and productivity (the level of wages and income). For a while Greece enjoyed an artificial and unsustainable standard of living. It needed to “adjust” to reality, i.e. to bring its expenditure in line with its income both internally (the government and each household better matching their incomes and expenditures) and externally (imports matched by –i.e., paid for by—exports) and thus to recognize that it is really poorer than it had pretended. This is what is meant by being competitive. To raise its standard of living it must become more productive by creating a more business friendly environment, reducing its blotted government bureaucracy, and liberalizing labor and product markets. For more details see my earlier articles on Greece: https://wcoats.wordpress.com/2010/05/30/greeces-debt-crisis-simplified/ and https://wcoats.wordpress.com/2012/02/26/saving-greece-austerity-andor-growth/

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About wcoats

Dr. Warren L. Coats specializes in advising central banks on monetary policy, and in the development of their capacity to formulate and implement monetary policy. He is retired from the International Monetary Fund, where, as Assistant Director of the Monetary and Financial Systems Department, he led missions to over twenty countries. Before then, he served as Visiting Economist to the Board of Governors of the Federal Reserve System, and to the World Bank, and was Assistant Prof of Economics at the Univ. of Virginia from 1970-75. Most recently he was Senior Monetary Policy Advisor to the Central Bank of Iraq; an IMF consultant to the central banks of Afghanistan, Kenya and Zimbabwe; and a Deloitte/USAID advisor to the Government of South Sudan. He is currently a member of the Editorial Board of the Cayman Financial Review and until the end of 2013 was a member of the IMF program team for Afghanistan. His most recent book is entitled "One Currency for Bosnia: Creating the Central Bank of Bosnia and Herzegovina."
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One Response to Greece, Debt, and Parenting

  1. James Roumasset says:

    But could you really cut off son #1 and withstand the political pressure from all your friends and relatives?

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