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Cablegate: Ambassador's Call On Minister of Finance Papakonstantinou

VZCZCXYZ0000
RR RUEHWEB

DE RUEHTH #1653/01 3291023
ZNR UUUUU ZZH
R 251023Z NOV 09
FM AMEMBASSY ATHENS
TO RUEHC/SECSTATE WASHDC 1122
INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUEHTH/AMEMBASSY ATHENS

UNCLAS ATHENS 001653

SENSITIVE
SIPDIS
DESK PASS TO U.S. TREASURY/IA - JEFF BAKER/LARRY NORTON
DASK PASS TO U.S. TREASURY/OTA - LARRY MCDONALD
DESK PASS TO STATE/EUR/ERA - MATTHEW BEH/JONATHAN KESSLER
DESK PASS TO STATE/EEB/OMA - JOHN C. KELLEY
DESK PASS TO OMB - ROB GOLDBERG

E.O. 12958: N/A
TAGS: ECON ECIN PREL GR EFIN
SUBJECT: AMBASSADOR'S CALL ON MINISTER OF FINANCE PAPAKONSTANTINOU

REF: A. 09 ATHENS 1621; B. 09 ATHENS 371

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SUMMARY

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1. (SBU) Ambassador Speckhard's November 16 courtesy call on
newly-appointed Minister of Finance George Papakonstantinou
underscored the challenges confronting the new Greek government as
it seeks to shore up deteriorating Greek public finances, bridge a
credibility gap created by the misreporting of economic statistics
by previous governments, and maintain popular support by balancing
politically-difficult reforms with delivering on campaign promises.
The Minister admitted Greece's economic and fiscal situation is
dire and will require politically difficult decisions and reforms
in the coming months. Chief among his immediate priorities for the
Ministry will be to address the two key structural impediments to
improving public finances: an ineffective tax administration system
and an inadequate budget process. The Minister asked for technical
assistance from U.S. tax and budget experts, namely the IRS and
OMB.

2. (SBU) SUMMARY CONTINUED. Papakonstantinou told the Ambassador
that his goal is to shrink the deficit from 12.7 percent in 2009 to
9.4 percent in 2010 through a combination of revenue enhancing (60
percent) and expenditure reducing (40 percent) measures. He
believes the measures he is proposing are not overly ambitious and
are achievable. He also acknowledged that budget cuts alone cannot
solve all of Greece's problems; structural reforms are needed. To
this end, he highlighted key reforms the GoG will introduce in the
coming months, including pension reform, liberalization of closed
professions, and removal of impediments to investment. The
Ambassador stressed that these and other structural reforms were
fundamental to restoring Greece's competitiveness, and that greater
reliability and less bureaucracy were critical to improving
Greece's investment climate. The Ambassador also raised bilateral
issues, including Afghanistan and Pakistan assistance, debt owed to
U.S. drug and medical suppliers, and the Thessaloniki Jewish
Cemetery. END SUMMARY.

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BROKEN TAX AND BUDGET ORGANS NEED REVAMPING

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3. (SBU) Minister of Finance George Papakonstantinou admitted the
state of Greek public finances was dire, suggesting broken tax
administration and budget mechanisms lay at the root of the
problem. He described the current taxation system as one that
allows too many distortionary exemptions and lacks transparency and
equitable burden-sharing between different professions - factors
which promote the wide-spread tax evasion pervasive in Greece
(estimated in the press to be on the order of 30 billion euro
annually, or about 12 percent of GDP). He said that his
predecessors have attempted to address both tax evasion and
questions of fairness by balancing the level of taxation between,
for example, employees (e.g., public servants) and the
self-employed. In Papakonstanou's view, merely adjusting the rate
of taxation on direct earnings misses the crux of the issue, namely
that lack of transparency and poor tax collection mechanisms allow
people, particularly the self-employed, to underreport their
earnings. [Note: Tax evasion is one of the most important
contributing factors to Greece's large underground economy,
according to the OECD which estimates it to be approximately 25
percent of GDP. End Note.]

4. (SBU) To overcome the huge problem of evasion, Papakonstantinou

plans to develop a system that makes taxation more fair and
equitable by forcing people to declare for the first time details
of their finances and assets beyond just direct employment income,
including real estate holdings, cars, bank accounts, and
distributed earnings. The Ministry will then cross-check this
information with tax filing forms in order to assess whether people
are reporting their incomes accurately. Papakonstantinou also
plans to introduce legislation that abolishes special exemptions
for various classes of professionals, like athletes and architects.
While such measures may be met with opposition from affected
groups, he believes the measures are defensible because their aim
is fairness. [Note: Papakonstantinou did not address how the GoG
will stand up the systems and mechanisms necessary to monitor and
cross-check all this information. Many press reports indicate that
ratings agencies and other market watchers are skeptical of
Greece's current tax administration and collection mechanisms,
largely owing to a lack of qualified tax personnel and computerized
and automated tax systems. End Note.]

5. (SBU) Echoing statements made publicly, the Minister emphasized
that the 2010 budget currently in process is the last if its kind.
As promised during the election, Papakonstantinou intends to launch
a full review of the Greek budget process and is looking at how
different countries like the United States structure their budget
frameworks. He said that one problem with the Greek budget
apparatus is that Greece's General Accounting Office (GAO), which
is embedded within the Ministry of Finance, lacks independence.
While the Greek GAO has responsibility for formulating the Greek
budget and reporting on the costs and benefits of each piece of
legislation, lack of independence limits its ability to accurately
assess and report views contrary to GoG statements. The Greek
budget process is further complicated by a lack of transparency and
of checks and balances (e.g., the Congressional Budget Office) that
would allow for a true public debate and differing perspectives to
be taken into account. To underscore the importance of
independence, transparency and checks and balances, the Minister
noted the example of the previous government's privatization of
Olympic Airlines. He claimed the new government has just
discovered that the privatization has saddled Greece with a
not-yet-quantified, but likely large, pension bill for years to
come. Finally, the Minister agreed with the Ambassador that Greece
could benefit from the adoption of a budget framework, similar to
that which exists in the United States but adapted for Greece's
Parliamentary system. Such a framework would include a budget
resolution that would set annual targets and ceilings on the budget
and appropriations process.

6. (SBU) Recognizing U.S. expertise in the areas of tax and budget
policy and enforcement, Papakonstantinou asked Ambassador Speckhard
for assistance in designing and implementing these reforms. He
noted the IRS provided technical assistance to the Ministry in the
late 1990s. The Ambassador expressed support, but recommended the
Minister narrow down the specific areas in which he is interested.
Papakonstantinou cited taxation of off-shore companies and
establishing statistical models to help catch tax evaders as two
key areas of need. In the budget arena, he welcomed the
Ambassador's suggestion that meeting with experts at OMB, Treasury,
CBO and the Congressional budget committees would be a good start
to determining if the U.S. system could serve as a model. The
Minister stated he would be willing to pay for such assistance, and
the GoG would not care if news of such assistance became public.

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BUT BUDGET AND TAXATION REFORM ARE NOT ENOUGH . . .

--------------------------------------------- ----------------------
--------------

7. (SBU) Papakonstantinou compared Greece's economic problems with
those of the United States, stating that both countries suffer from
"twin deficits," or current account and budget deficits. He
qualified, however, that unlike the United States, Greece
unfortunately cannot print currency, and the euro is not the
world's reserve currency. Claiming he understands the EU is
apprehensive that Greece's large budget deficit (projected to be
12.7 percent in 2009) and increasing public debt (currently over
115 percent of GDP) are creating systemic risks for the Eurozone,
the Minister nonetheless expressed frustration with the level of
criticism aimed at him by the EU and others over Greece's revised
statistics. Papakonstantinou stated that his 2010 budget will
reduce the deficit by 3.3 percent, or 7.8 billion euro, to 9.4
percent. Revenue-enhancing measures, including an extraordinary
tax on the 2008 profits of banks and large businesses and
collection of overdue taxes, account for 60 percent of the
reduction, while expenditure cuts and nonrecurring items included
in the GoG's revised 2009 deficit (e.g., hospital debt formerly not
recorded on budget) account for the remainder. He argued that the
measures he is proposing are not overly ambitious and are
achievable. While the EU, ratings agencies and markets are
pressuring for further cuts, the Minister claimed deeper cuts would
be irresponsible without a more detailed understanding of
contractual obligations ministries have made that impact the
current budget and outyears. [Note: Approximately 80 percent of
Greek outlays are considered non-discretionary or mandatory, with
an estimated 40 percent alone going towards civil service salaries
and pensions. In addition, ministries are known to enter into
contractual obligations without concurrence from the Finance
Ministry but which obligate the GoG to outyear financing. End
Note.] He added that deeper cuts were not advisable in the face of
Greece's first recession since 1993. More importantly, the
Minister indicated, his hands were tied by election campaign
promises, including a 2.5 billion euro stimulus package, from which
the government could not walk away.

8. (SBU) Taxation and budget reforms and budget cuts alone cannot
solve Greece's problems, according to Papakonstantinou. Greece
needs major structural reforms, and Prime Minister Papandreou has
already commenced or will soon commence public dialogue on many of
these, including pension reform, deregulating closed or protected
professions (e.g., notaries and truckers) , and removing
impediments to domestic and foreign investment. He believes that
the GoG must move quickly over the next 6 months, while the
government's approval ratings are still high and its mandate fresh,
on these and other key structural reforms. The Minister hinted
that a reduction of the public sector may also be in the offing.
Noting he understood these were the purview of Minister of Economy,
Competitiveness and Shipping Katseli, the Ambassador stressed thQ
these and other structural reforms were fundamental to restoring
Greece's competitiveness. He underscored that greater reliability
in the tax structure, adequate judicial recourse for contract
disputes, and less bureaucracy were critical to improving Greece's
investment climate (see reftel A).

--------------------------

BILATERAL ISSUES

--------------------------

9. (SBU) The Ambassador thanked the Minister for Greece's support
in Afghanistan and urged continued financial support, particularly
on the assistance side in both Afghanistan and Pakistan. He also
sought Papakonstantinou's assurances that the government would
honor its debt to U.S. drug companies and medical suppliers.
Papakonstantinou stated that his Ministry has acknowledged and
included the debt owed to U.S. and European companies, estimated to
be approximately 6.2 billion euros, in the 2009 budget and,
together with the Ministry of Health, has established a process for
coming to terms with and paying companies owed money. His goal is
to complete this process in the next two months; however, he
indicated ,the GoG is banking on companies accepting a discount off
of the total face value of debt they are owed, since the GoG would
pay off the debt at one time. Finally, the Ambassador raised the
Thessaloniki Jewish Cemetery restitution issue. He noted that the
previous government had approved and tabled a 10 million euro
settlement for the Jewish community in Thessaloniki as restitution
for the cemetery destroyed by the Nazis in World War II and
subsequently expropriated by the government. While the Minister
was unaware of the status of this issue, he promised to look into
it and bring it to a close.

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COMMENT

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10. (SBU) It is clear that the Minister has the expertise and a
strong desire to tackle the problems that have lead to a
deterioration in Greece's public finances. Less clear, however, is
whether the GoG has the capacity in the short- to medium-term to
implement the reforms it envisages. While budget cuts are
important, they are meaningless unless accompanied by an overhaul
of Greece's taxation and budget frameworks. But such an overhaul
will take time to build capacity currently lacking. According to
the OECD, reducing tax evasion is one key to putting public
finances on a strong footing. This, however, will be dependent
upon the GoG's ability to implement computerized systems and hire
personnel with the appropriate expertise. The other key to putting
public finances on a strong footing is a budget framework under
which the government can put an end to chronic spending overruns.
Currently, the only entity in the GoG charged with budget
responsibilities is the Ministry's GAO. In addition to lack of
independence, it lacks the personnel and authority to properly
"score" (or assess and assign costs) current and out-year costs of
various pieces of legislation, as well as to monitor budget
execution by the various line Ministries. While the GoG is in the
process of adopting a program-based, multi-year budget process that
will help enforce discipline by spelling out the cost and outcome
of each activity itemized in the budget, it is slow going, and the
government currently has no way to ensure ministries limit spending
according to their annual budgets. Greek ministries often spend
their entire discretionary and non-discretionary annual allotments
by the second or third quarter, forcing the GAO to give them
additional funding to meet payroll for the remaining year.
According to the OECD, this system is a key contributor to Greece's
chronic expenditure overruns, which in turn are driving Greece's
budget deficit (see reftel B).

11. (SBU) COMMENT CONTINUED. The linchpin to both near-term budget
cuts and a longer-term tax and budget overhaul is maintaining the
political will to undertake these reforms in the face of weakening
public support, as well as dissension within PASOK itself, where
some have labeled it as a battle between the party and the
government. Despite a comfortable parliameQary majority (160 of
300 seats) PASOK's political will has already shown signs of
wavering before vested interesQ in the government bureaucracy,
trade unions, and the left wing of the party. In the span of 48
hours last week, the government announced a public sector salary
freeze and then quickly scaled this back in the face of criticism
from public servant unions and the party base, agreeing instead to
apply the freeze to only those public employees who earn more than
2,000 euros per month (a mere 40,000 out of 560,000 civil
servants). Such irresoluteness merely will serve to strengthen the
hand and will of other special interest groups as the GoG announces
measures that impact them. The government has not even begun to
break china on the much tougher issues like pensions and taxing the
full standard of living of the self-employed (who are reported to
be the biggest class of tax evaders and make up only 4 percent of
the Greek tax base). END COMMENT.
Speckhard

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