ATHENS- Greece has made steps towards creating a more competitive and dynamic economy, the International Monetary Fund (IMF) said in a report prepared by its staff team following consultations it had with Greek authorities.

The report, however, noted that the country should remain on the road of reforms, to preserve a general fiscal balance and the restructuring of the banking sector.

Growth has returned to Greece but so far has fallen below expectations, the report said, adding that after a 1.9 percent expansion in 2018, growth moderated in the first half of 2019, constrained by lackluster private investment and under-execution of public investment.

While the unemployment rate fell to 16.9 percent (seasonally adjusted) in July, structural unemployment remains high, and economic activity is below potential. Despite improvements, bank balance sheets are significantly impaired, and banks continue to reduce the amount of (net) credit provided to the economy. Real GDP growth is projected to moderate slightly to 1.8 percent this year, followed by some acceleration in 2020 to 2.3 percent, supported by fiscal loosening and higher private investment financed mostly by foreign capital inflows.

The IMF said that over the medium term, growth prospects are weighed down by adverse demographics and low productivity. The external position is weaker than indicated by medium-term fundamentals. Near-term downside risks are significant, including from rising protectionism and weaker global growth, roadblocks to economic reforms, and further deterioration of bank balance sheets; the medium-term outlook is more balanced, particularly if the government’s pro-growth reforms translate more quickly into results and markets react favorably to the additional progress

The IMF's executive directors recognized the progress that the authorities had made in implementing reforms during the program period, as well as the Greek economy's continued recovery, but noted that important challenges remain, the report said, adding that, in this context, they took positive note of the new government's commitment to pursue growth-friendly and inclusive policies, and welcomed their early policy actions. They stressed, however, that sustained and deeper reform implementation, deploying a full range of policy tools, and strong political resolve to tackle vested interests will be necessary to meaningfully boost investment, growth, and social inclusion.

Directors supported the authorities' plans to cut direct tax rates and urged more ambitious efforts to broaden tax bases and enhance tax payment compliance. They urged a shift of spending priorities toward more investment and targeted social spending, while strengthening fiscal risk management and contingency planning.

A number of directors considered that the authorities should build a consensus with European partners around a lower primary balance target to support the growth objectives. A number of other directors, however, stressed keeping the target, which they noted was agreed taking into account European fiscal rules and the implications for Greece's debt sustainability. Directors emphasized the importance of restoring the financial sector's resilience and ability to support growth. In this regard, they welcomed the government’s more ambitious nonperforming exposure (NPE) reduction objectives, noting that the proposed state-supported NPE securitization guarantee scheme could provide important backing.

However, directors stressed the importance of introducing a more comprehensive, ambitious, and well-coordinated strategy to clean up bank balance sheets, relying on market-based mechanisms (with any public support subject to cost-effectiveness assessments). These efforts should also include further improvements in the legal financial framework, including, in particular, an overhaul of the personal insolvency law to eliminate primary mortgage protection in order to strengthen payment discipline.

Directors underscored that Greece's success within the currency union will require policies to help boost productivity and narrow its competitiveness gap. In this context, they welcomed the government's efforts to unblock privatization, implement business deregulation, and restore elements of the cornerstone program-era labor market reforms. Directors stressed that realization of benefits from labor market reform would require meaningful parallel progress with other structural reforms, particularly further liberalization of product markets.

They also noted the importance of continued improvements in public sector efficiency and governance, and welcomed the recent progress in strengthening the AML/CFT regime and anti-corruption institutions, but underscored that important remaining shortcomings should be addressed. Specifically, they urged the authorities to strengthen public revenue administration (including strengthening tax enforcement), enhance the efficiency and quality of the judicial system (including enforcement of contracts), and speed up anti-corruption reforms.

Greece's response

The Greek government, however, did not appear to adopt the IMF's estimates over the country’s long-term sustainability of its public debt. Mihalis Psalidopoulos, Greece's representative to the IMF, said the Fund's estimates were "pessimistic" as it did not take into consideration the aggressive reduction of Greek state bond yields and of borrowing costs during the last 18 months, and particularly in the last three months.