Create a new Marshall Plan for Greece

By Barry Eichengreen

It should be clear to even the most blinkered observer that the Greek economy is in desperate need of help. Unemployment is 16 percent and rising. Even after a year of excruciating spending cuts, the budget deficit  exceeds 10 percent of GDP. Residents don't pay taxes. The property registration system is a mess. There is little confidence in the banks, and less in the government.

Since the economy needs help, here's a novel idea: Provide some. Now is the time for the European Union to come forward with a Marshall Plan for Greece.

Rather than piling more loans onto the country's unsustainable debt, the EU should offer a multiyear program of foreign aid. The Greek government and donors would decide together the projects it financed. These could range from new solar and wind power-generating facilities, turning Greece into an energy exporter, to updating ports.

Foreign aid and expertise could be used to modernize the property-registration and tax systems. Funds could be used for recapitalizing the banks and retiring debt. They couldfinance government support for the unemployed, indigent and elderly, who are among the principal victims of the financial crisis.

The EU should contemplate this option, because, for starters, it bears responsibility for Greece's plight. It offered membership to a country with deep structural problems, then accepted Greece into its monetary union with full knowledge that its fiscal accounts were not worth the paper they were written on. And it looked the other way when French and German banks recklessly enabled the Greek government's profligacy.

The current strategy, which amounts to trying to extract blood from a stone, is not working. There are limits to how quickly a country can reform. A society can bear only so much pain and suffering before it loses faith in its political system. EU leaders need to acknowledge this before it's too late.

History suggests that a Marshall Plan for Greece might actually work.

Recall the plight of the European countries receiving U.S. aid after World War II. They had massive debts. Their budgets were in deficit. They exported little. Property rights were uncertain. Support for governments grappling with these problems was fragile.

The Marshall Plan helped recipients to ramp up exports. Aid-financed reconstruction turned Rotterdam into a commercial hub for Northern Europe. U.S. aid underwrote the imports of coal and investments in hydroelectric power needed to get industry running again. In some cases, U.S. funds were used to extinguish part of the public debt.

Importantly, these projects were neither dictated by the donor nor chosen by the recipient, but decided in collaboration. The recipient, moreover, had to put up matching funds for each and every project.

A further condition for receiving aid was that the government had to follow through with macroeconomic stabilization. But this was politically feasible, because aid topped up public coffers, reducing the depth of cuts and the associated pain and suffering. Support for centrist governments undertaking these reforms was correspondingly stronger.

Indeed, solidifying political support for policies of stabilization and reform was probably the Marshall Plan's single most important contribution. With that support in place, the recipient countries could do the rest.

The cynics among us - that is to say, economists - will worry about the precedent set by a Marshall Plan for Greece. They will warn that other EU countries like Portugal will refuse to undertake more reform unless they receive similar largesse.

Economists are trained to worry about this problem, known as moral hazard. But the social chaos and international disrepute that Greece has suffered are a disincentive to go down this path. And while there is moral-hazard risk, there is also meltdown risk. If that meltdown is not averted, it could take down the rest of Europe.

A Marshall Plan for Greece would require European leaders to do the unprecedented: They would have to lead.

- The author is professor of economics and political science at the University of California, Berkeley. © 2011 Project Syndicate