I understand the moral outrage that Germans, French, and Dutch feel over the financial mess that Greek debt is causing in the EU, but their crisis-management policies have made the situation far worse than it had to be and it will be get even worse the next few years. I've written in the past how the lack of Data Governance in the EU allowed member states to accumulate national debt without verified reporting for the last decade. Greece was let into the Euro with only promises to reduce historic debt levels of 13% down to the treaty obligated 3%, but there were no audit controls or verified reporting requirements.
OK, that's the past.
This week, the NY Times reported that in 2009 the IMF presented a secret report to EU leaders disclosing that Greece had lied about its deficits for a decade. Why anyone was surprised by this is a mystery to me. Did the EU really expect Greece to change decades of post-war economic behavior once they were granted membership in the Euro? In my experience, behavior only changes when there is transparency and information illustrating deviations and consequences.
This was five months before Papendreou disclosed the amount of Greek debt to his nation and the world. But rather than deal with this issue quickly, EU leaders hid the report and delayed real action on the situation and instead forced Greece to accept crippling budget cuts that are now destroying that nation's economy.
Let me explain how this works. The world is in a serious global recession. In a recession, unemployment rises and incomes fall. Tax collection follows income. A nation needs GDP growth greater than 2% to increase employment beyond the rate of new workers entering the workforce. When people have less money, they spend less on consumption and the economy suffers. Normally, governments increase spending during these times to compensate for the lost consumer demand and that stimulus spending in turn increases tax revenues. But its normal to run a deficit during a recession because it takes a while for consumer demand to increase.
The EU is forcing Greece to cut government spending by 20%. Greece already has a reported unemployment rate of 16.3%. The Greek government should be deficit spending now to make up the gap and help bring people back to work. The Debt can be cut when the economy recovers and people are back at work. The labor market can be liberated, pensions can be reformed, and new audit standards can be enacted in a new EU Treaty to make sure that actual budget deficit numbers are part of the public record. All of this can be done over a decade when tax collections are rising and the government can ease changes into the economy in a non-destructive manner. This will save money for Greece and the EU.
The EU enforced budget actions are having the opposite effect, forcing the Greek economy to contract even further. This will in turn increase unemployment which will reduce tax collections and make the budget deficit worse.
As is normal for EU policy, the policies being enacted make worse the very thing they seek to avoid - Debt.
There is no silver lining. The Unity Government will preside over an historic reduction in living standards for everyone in Greece over the next decade.
This prescription will now be applied to Italy. Watch how the contagion creeps North.
On Saturday, I sat with an old friend at a secluded restaurant on a grassy river bank North of Bangkok. We are both actively engaged in the banking industry as observers, speakers, and peripheral participants. My friend has a more direct engagement with a Thai Bank but still as an adopted outsider. Lunch was excellent, and we sat on a wooden pier just feet from the river's edge as barges, trawlers, and all manner of ships slowly passed by with and against the current. A pair of large floor fans blew hot air our way and an umbrella shaded us from the searing sun playing tag with the clouds above. The heat in Thailand is soft, enveloping, pervasive, and quietly oppressive. You have no hope of resisting its dictatorship. Somehow the Thais have developed a sweating immunity to their own condition, whereas this Western visitor is deficient in that regard.
During lunch we compared current events in both Thailand, where the Red Shirts have barricaded themselves behind sharpened bamboo poles and tires doused with gasoline. Their encampment was many miles from our lunch spot, and indeed encompasses but a small corner of the entire city of Bangkok. Yet their determination to resist the current government, who themselves are only in power due to a similar incident involving a Yellow Shirt protest two years ago, has driven away western tourists and continues to cause confusion and insecurity in the highest elements of Thai society. And we discussed the Credit Crisis, Greek Debt, US Politics, and Regulatory Reform.
On Greek Debt, we discussed how the former Greek government hid the massive debt it had accumulated from EU Regulators (reporting a deficit of only 3.5% each year instead of the 12% it actually was accumulating), and how this massive amount came to light only with a change in government - when one group had an interest in reporting the bad data another group had an interest in hiding. Most today call this an act of Fraud, but it also has to be admitted that it was not just the former Greek government who had an interest in hiding their debt. The Germans, French, Belgians, and perhaps even the European Central Bank had an interest in ignoring the reality of Greek economic underdevelopment and overextension.
The data about Greek debt was available. Greece can't borrow on the black market. Their debt has to be issued in
bond markets, and the amounts, yield, and maturity dates are all public
record. Bond markets are largely transparent. But Transparency creates its own information asymmetries. First, the availability of information doesn't mean everyone collects the same amounts, has the power to use it, or knows what it means. Second, there is a private sector deference to public sector data aggregation, analysis, and reporting, and the public sector relies on static information reporting programs that limit source authentication, audit, and repudiation. These two behaviors allowed the Greek Government to report fraudulent deficit figures to the EU and the EU didn't bother to verify that information against publicly available market data.
One could argue that the construction and expansion of the EU Common Currency without adequate audit powers created an environment rife for fraud, but this is too easy. EU regulators could have at any time used data from bond markets to verify Greek debt. Why the EU didn't monitor the discrepancy between public reports and private market data has more to do with EU politics than Data Governance.
Every government is comprised of politicians who owe their hold on power to public perception. Everyone in Europe played See No Evil, Hear No Evil, Speak No Evil on the subject of emerging market debt in the EU. The information was available. Net inflows of financing and debt accumulation can be gained by studying the bond markets. Public obligations in Greece are also no secret. Everyone in Europe knew that pension guarantees starting at age 50 in Greece were a ridiculous luxury in a country with such low productivity and wages.
Transparency and Reporting do not, in themselves, guarantee that anyone is using or validating information sources correctly. Every report needs to be validated with external sources, because Transparency is not the same as the Truth. If the EU wants to fix this structural problem in its own multi-nation confederation, it will need to create an independent auditor, like the US Government Accountability Office, whose role it is to audit member programs and reports, to discover waste and abuse.
All reported data must be verified. If we didn't learn this in the Mortgage Credit Crisis, now is the time to take it home in the Sovereign Credit Crisis.
Banks, Hedge Funds, and other investment institutions should not wait for the EU and other governments worldwide to get the audit role right. They should build their own Information Analytics programs to validate the assertions of governments as well as listed companies because what Greece did is not new. Fraud is a part of business.
Data Validation should be seen as an important part of Market and Credit Risk Measurement and Mitigation programs. This is where Data Governance and Risk Management intersect, and new technologies will be needed to make reporting aggregation and analysis easier and faster.
On the river, in Bangkok, I asked my friend if his bank monitored the market and credit activities of their Thai competitors. They do not. They expect the government to collect data from every bank, aggregate and report that to the banking community. And his bank reads those reports. I would argue that the events of the last three years clearly demonstrate that governments are not well equipped to be doing primary market data analysis on behalf of themselves or any industry. They lack the technology infrastructure and the analytical skill to make intelligent use of the data the market already provides and their political dependencies create natural conflicts of interest.
Businesses must perform their own due diligence to verify government reports and conduct primary market data analysis of every potential investment opportunity.
Unverified data should not be trusted. This is Data Governance Rule #1.