The Greek crisis would be significantly eased if it could improve its tax collection arrangements to ensure that it had more financing available to cover its spending.
Answer: True
The answer is True.
The Greek government effectively is like a state in a federal system where the central bank determines the interest rate (which may or may not be appropriate for the conditions in the particular sub-region in the system) and issues currency.
The state-federal analogy is a bit stretched when it comes to the Eurozone (EMU) because federal systems always have a national fiscal capacity which provides the capacity to redistribute spending across regions to meet specific demands. For ideological reasons (conservative economic beliefs), the EMU deliberately did not incorporate such a capacity into its system which is a glaring weakness that is now being exposed in the current crisis.
The Greek government is bound by the same rules that bound nations when there was a gold standard and currencies were convertible. In this case there is only one currency which is not issued by the Greek government.
Under the gold standard as applied domestically, existing gold reserves controlled the domestic money supply. Given gold was in finite supply at the time, it was considered linking the money supply to the quantity of gold available, would provide a stable monetary system.
Shifts in a nation's gold reserves reflected (largely) trade relationships and deficit nations had to ship gold to surplus nations (as all trade imbalances were reconciled via gold shipments).
Gold reserves restricted the expansion of bank reserves and the supply of high powered money (Government currency). The central bank thus could not expand their liabilities beyond their gold reserves (although it is a bit more complex than that). In operational terms this means that once the threshold was reached, then the monetary authority could not buy any government debt or provide loans to its member banks.
As a consequence, bank reserves were limited and if the public wanted to hold more currency then the reserves would contract. This state defined the money supply threshold.
So a nation with an external deficit was faced with the prospect of persistent domestic recession as they had to shrink the money supply when they lost gold.
The concept of (and the term) monetisation comes from this period. When the government acquired new gold (say by purchasing some from a gold mining firm) they could create new money. The process was that the government would order some gold and sign a cheque for the delivery. This cheque is deposited by the miner in their bank. The bank then would exchange this cheque with the central bank in return for added reserves. The central bank then accounts for this by reducing the government account at the bank. So the government's loss is the commercial banks reserve gain.
The other implication of this system is that the national government can only increase the money supply by acquiring more gold. Any other expenditure that the government makes would have to be "financed" by taxation or by debt issuance. The government cannot just credit a commercial bank account under this system to expand its net spending independent of its source of finance.
As a consequence, whenever the government spent it would require offsetting revenue in the form of taxes or borrowed funds.
With the move away from the strict gold standard and to US-dollar convertibility, the monetary system which prevailed in the Post World War 2 period up until its collapse in 1971, little changed.
Monetary policy had to defend the currency parity agreed by the nations and so an external deficit country had to endure money supply contractions and domestic recession. Fiscal policy had to ensure it did not compromise the external parity by generating income growth that would drive imports faster than exports. It was a balancing game and for most nations biased towards sluggish domestic conditions.
That is why the system collapsed and was replaced by the fiat monetary system.
But in signing up for the EMU, all member governments reinstated the constraints that were imposed (voluntarily by the system of currency convertibility).
All Greek government spending has to be financed. That can come from taxation or debt-issuance. However, in the current crisis, the bond markets are exacting premium rates (above the benchmark German bond rate) from the Greek government which is further straining their public finances.
It is known that the system of tax collection is fairly inefficient in Greece for various reasons that are not germane to our interests here and for which I am not qualified to speak anyway. So it follows that when a government is revenue-constrained as all the EMU nations are - anything that improves the efficiency of the tax collection process will reduce their need to issue debt (into a hostile market) and ease the fiscal pressures they are facing.
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