Disaggregated import demand and Greek recovery: Is the external imbalance sustainable?

The purpose of this paper is to evaluate the impact of the Greek economic recovery on the current account and the extent to which the expected external imbalance will be sustainable. Since a domestic income increase leads to higher imports, it becomes essential which type of imports is mostly affected. If the increase comes mostly from intermediate and capital goods, the resulting current account deficit will most likely be reversible. If, however, the increase in imports comes primarily from consumption goods, the Greek economy will face again the same unsustainable external imbalances present before the crisis. The impact on imports from the long anticipated economic expansion will be affected by the size of income elasticities for each category of imported goods. We, therefore, disaggregate import data into three categories of goods: consumption, intermediate and capital. Based on previous studies, we expect to find high income elasticity for consumption goods imports. Unless the elasticities for the other two categories are sufficiently high, the increased current account deficits due to economic recovery will be unsustainable and impossible to finance. On the other hand, an increase in intermediate and capital goods imports will probably lead to increased domestic production and exports and eventually a reversal of the external deficits. This possibility creates important policy implications. It makes economic reforms that will stimulate exports and foreign direct investment even more necessary. Increased production in tradable goods sectors and FDI are the only ways to finance external deficits and grow without these deficits in the long run.