ARE THE GREEK BUDGET DEFICITS TOO LARGE

We use a residual-based cointegration test suggested by Gregory and Ha nsen that allows for the determination of a structural break in the co integration vector to test for the sustainability of Creek fiscal defi cits over the 1958-92 period. This relatively recent test leads to a d ifferent result from that derived from standard Engle-Granger cointegr ation tests. The use of the conventional Engle-Granger test implies no cointegration between tax revenues and interest-inclusive government expenditures. On the other hand, using the Gregory-Hansen test we conc lude that tax revenues and interest-inclusive government expenditures are cointegrated and a structural break in the cointegrating vector to ok place in either 1981 or 1983. Our result of cointegration with a st ructural break is consistent with a strict interpretation of the gover nment's intertemporal budget constraint since it implies a zero discou nted value of the public debt. However, since the cointegration-regres sion slope parameter is significantly less than one (when tax revenues are regressed on expenditure), the undiscounted value of the public d ebt is different from zero. This means that the government has incenti ves to default on its debt and, therefore, Greek budget deficit policy is not sustainable.