EMU entry at a higher exchange rate will place greater pressure on the labour market

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In January 2000, the Greek government announced that it will join the third stage of EMU in 2001 with a higher drachma-euro exchange rate than previously announced. This decision is seen by the financial markets and the government itself as a sign of strength of the Greek economy. Nevertheless, as the productivity of labour in Greece lags behind the European average, it is predicted that mounting pressure will be put on wages, and structural reform in the labour market will accelerate.

On 15 January 2000. the Greek government suddenly announced a change in the drachma-euro exchange rate with which Greece will enter the third stage of EU Economic and Monetary Union (EMU) on 1 January 2001. Originally the rate at which the drachma would "lock in" against the euro was to be GRD 353; the new rate is around GRD 341. The government itself, economic observers and money markets considered this change to be the result of a series of achievements. These achievements concern, first of all, monetary convergence criteria, such as the reduction in the inflation rate to around 2%, the decrease in public deficits, the timid albeit real reduction in public debt and the decline in interest rates. However, they also concern certain real economic indicators, such as the GDP growth rate, fixed capital investments and labour productivity. To be sure, unemployment is on an upward course, but this fact is seen by the money markets as a social problem and not an economic phenomenon.

Following these developments, Greece will submit its request for admission to the third stage of EMU on 12 March 2000, and on 3 May 2000 two reports assessing Greek candidacy will be made public by the European Commission and the European Central Bank. The reports will be discussed, and on 12-16 June 2000 the European Parliament will deliver an opinion. On 20 June 2000, the European Council meeting in Porto will take a decision on Greek membership.

Greek participation in the third stage of EMU is seen as a milestone in the country's history, and expectations regarding its impact on the Greek economy are particularly positive. Nevertheless, aside from the government's exultant tones, the expectations being developed by workers may be unduly optimistic.

New ways of adjusting to competition

Given that the structural characteristics of the Greek economy lag behind those of most of the EU Member States, adjustment to international competition in the short and medium term can be achieved only through adjusting the prices of domestic products - that is, through improving price competitiveness. This is nothing new, since Greece is an open economy already participating in international competition. What will change and what will bring about important changes in the functioning of the system of production in Greece is the manner in which the prices of Greek products will be adjusted to international competition.

There are four ways in which a country can adjust to the pressures of international competition: by changing its exchange rate; by reducing production costs; by reducing profit margins; and finally by increasing labour productivity and improving the structural competitiveness of its economy (ie the competitiveness not due to prices, but to all other factors).

When within the euro-zone, Greece will no longer be able to take decisions on devaluation or revaluation of its currency. In other words, it will no longer be possible to use exchange policy as a way of adjusting to international competition.

Therefore, the remaining means of short-term adjustment are either reduced production costs or reduced profit margins. Means of long-term adjustment will be an improvement of structural competitiveness on the one hand and and increase in labour productivity at rates higher than the European average on the other.

With regard to the short term, there is the risk that adjustment will place a burden on labour - ie that there will be redistribution of income to the detriment of labour. Whereas the adjustment of the national economy to the requirements of internationalisation "in normal conditions" (that is, when there are separate national currencies) is carried out using exchange, monetary and fiscal policy as tools, membership of EMU will deprive economic policy of this ability. Thus all the pressure of international competition will be transferred to remuneration for labour. If the reverse is true, the burden of adjustment will be transferred to the profit margins of enterprises. Because enterprises are a powerful part of society, the choice of the first "adjustment channel" should be considered highly probable.

The productivity wager

However, neither a constant transfer of the burden of adjustment to the sphere of labour, nor a constant reduction in profit margins, is a long-term solution. This is because the former seriously erodes wage-earners' standards of living, and the latter undermines the ability of enterprises to invest. For this reason, these two "adjustment channels" constitute short-term or at most medium-term arrangements. The only solution is to be found in increasing labour productivity and the structural competitiveness of the Greek economy.

The long-term trend towards higher productivity in Greece may improve, as economic growth rates now appear to be on an upward trend and carrying investments along with them. At the same time, mechanical equipment is playing a greater part in investments. In addition, major public works and preparations for the 2004 Olympic Games in Greece (GR9912157N) are expected to have a positive impact on the rise in productivity. Some observers contend that the extensive training programmes carried out in Greece in recent years will also play a part in increasing productivity.

Labour productivity has picked up in recent years. Nevertheless, there is a danger that this will prove to be a coincidental development that may be reversed the first time the economy goes into recession. This is because during an economic recovery increased production leads to productivity increases, for reasons associated with the economic cycle. An analysis of the elements of productivity suggests that the rise in productivity in recent years in Greece may be nothing but a coincidental rise associated with the course of the economic cycle.

The productivity gap separating Greece from the other EU countries can be reduced only in the long term: first, because this gap is very wide (either in absolute terms or as rate of change); and second, because the long-term upward trend of productivity is a factor that changes only with great difficulty and over long periods.

For this reason, if there is no support for policies aimed at the technological and organisational upgrading of the system of production, increased productivity and competitiveness, improved knowledge and skills of the workforce and modernisation of outdated work procedures, then all the pressure of international competitiveness, in the framework of EMU, will be transferred to wages.

Commentary

For wages to take on the role of "adjustment channel", the labour market will have to be sufficiently flexible for wages to have the required flexibility. However, if the labour market cannot or will not meet such a challenge - that is, if there are elements that impede the necessary changes with regard to wage levels, working time and labour mobility - then the necessary adjustment of the economy will take place at the expense of production and employment. Such a development means an increase in the unemployment rate and a decrease in output. In these conditions, it can be foreseen with some certainty that Greece will adopt the views of both the institutions of the EU and the other international organisations (OECD and IMF) on reform and readjustment of all the factors determining wage levels. In other words, the policies that will be adopted in coming years will be aimed for the most part at increasing wage flexibility on the basis of differences in productivity, and at general wage restraint in the framework of price stability policy. For these reasons, the change in the rate with which the drachma will "lock in" to GRD 341 instead of the GRD 353 originally forecast, should be taken as an indication that the pressure that will be brought to bear from the very beginning on the labour market will be stronger than originally anticipated. For, at the rate of GRD 341, Greek products both in foreign markets and in the internal market will cost more than if the rate had been GRD 353. (Elias Ioakimoglou, INE/GSEE-ADEDY)