Friday, July 18, 2014
Saturday, March 01, 2014
Whither the Euro?, by Kevin O’Rourke: The euro area economy is in a terrible mess.
In December 2013 euro area GDP was still 3 percent lower than in the first quarter of 2008, in stark contrast with the United States, where GDP was 6 percent higher. GDP was 8 percent below its precrisis level in Ireland, 9 percent below in Italy, and 12 percent below in Greece. Euro area unemployment exceeds 12 percent—and is about 16 percent in Portugal, 17 percent in Cyprus, and 27 percent in Spain and Greece.
Europeans are so used to these numbers that they no longer find them shocking, which is profoundly disturbing. These are not minor details, blemishing an otherwise impeccable record, but evidence of a dismal policy failure.
The euro is a bad idea, which was pointed out two decades ago when the currency was being devised. The currency area is too large and diverse—and given the need for periodic real exchange rate adjustments, the anti-inflation mandate of the European Central Bank (ECB) is too restrictive. Labor mobility between member countries is too limited to make migration from bust to boom regions a viable adjustment option. And there are virtually no fiscal mechanisms to transfer resources across regions in the event of shocks that hit parts of the currency area harder than others. ...[more]...
Friday, January 31, 2014
Do "we now have a world economy destined to seesaw between bubbles and depression"?:
Talking Troubled Turkey, by Paul Krugman, Commentary, NY Times: O.K., who ordered that? With everything else going on, the last thing we needed was a new economic crisis in a country already racked by political turmoil. True, the direct global spillovers from Turkey, with its Los Angeles-sized economy, won’t be large. But we’re hearing that dreaded word “contagion”...
It is, in many ways, a familiar story. But that’s part of what makes it so disturbing: Why do we keep having these crises? And here’s the thing: The intervals between crises seem to be getting shorter, and the fallout from each crisis seems to be worse than the last. What’s going on?...
You may or may not have heard that there’s a big debate among economists about whether we face "secular stagnation"..., a situation in which the amount people want to save exceeds the volume of investments worth making.
When that’s true, you have one of two outcomes. If investors are being cautious and prudent, we are collectively, in effect, trying to spend less than our income,... the result is a persistent slump.
Alternatively, flailing investors — frustrated by low returns and desperate for yield — can delude themselves, pouring money into ill-conceived projects, be they subprime lending or capital flows to emerging markets. This can boost the economy for a while, but eventually investors face reality, the money dries up and pain follows.
If this is a good description of our situation, and I believe it is, we now have a world economy destined to seesaw between bubbles and depression. ...
The larger point is that Turkey isn’t really the problem; neither are South Africa, Russia, Hungary, India, and whoever else is getting hit right now. The real problem is that the world’s wealthy economies — the United States, the euro area... — have failed to deal with their own underlying weaknesses. Most obviously, faced with a private sector that wants to save too much and invest too little, we have pursued austerity policies that deepen the forces of depression. Worse yet, all indications are that, by allowing unemployment to fester, we’re depressing our long-run as well as short-run growth prospects, which will depress private investment even more. ...
So Turkey seems to be in serious trouble — and China, a vastly bigger player, is looking a bit shaky, too. But what makes these troubles scary is the underlying weakness of Western economies, a weakness made much worse by really, really bad policies.
Thursday, January 16, 2014
Jamus Jerome Lim (World Bank), Sanket Mohapatra (World Bank), and Marc Stocker (World Bank), at econbrowser:
Guest Contribution: "Understanding the Potential Effects of QE on Gross Financial Flows to Developing Countries": In late November 2008, the Federal Reserve announced the first of a series of unconventional monetary policies---quantitative easing (QE)---which, by the beginning of 2014, had swelled its balance sheet to an unprecedented $4 trillion. Although QE was primarily designed to stimulate the U.S. economy, the program was far from innocuous for developing countries; faced with near-zero returns in the U.S. and other high-income countries (many of which were pursuing unconventional monetary policies of their own), financial capital began searching for alternative sources of yield, for which emerging economies were well-poised to offer.
In a background paper written for the thematic chapter of the recently-released Global Economic Prospects, we probe the question of whether QE had an effect on gross financial flows to developing countries. ...
Our baseline estimates place the lower bound of the effect of QE at around 3 percent of gross financial inflows, for the average developing economy. ... Overall, the effects of unconventional monetary policy, insofar as its impact on gross financial inflows, appears to be measurable and nontrivial. However, to the extent that QE appears to operate primarily via portfolio inflows to the largest emerging markets (rather than FDI), the broader benefits of QE for development finance are more likely to be second-order (relaxing financing constraints for firms able to access bond markets, enhancing liquidity in developing-country financial markets, and promoting overall financial development), and may also be more exposed to the risk of sudden reversals.
Wednesday, January 01, 2014
So is the euro crisis over? No — it’s not over until the debt dynamics sing, or perhaps until the debt dynamics sing a duet with internal devaluation. We have yet to see any of the crisis countries reach a point where falling relative wages are generating a clear export-led recovery, or in which austerity is actually paying off in falling debt burdens.
But as a europessimist, I do have to admit that it’s now possible to see how this could work. The cost — economic, human, and political — will be huge. And the whole thing could still break down. But the ECB’s willingness to step up and do its job has given Europe some breathing room.
Friday, November 15, 2013
Is the euro holding Europe together or pulling it apart?:
The Money Trap, by Paul Krugman, Commentary, NY Times: ... Not long ago, European officials were declaring that the Continent had turned the corner... But now ... the specter of deflation looms over much of Europe ... and last week the E.C.B. cut interest rates..., but the E.C.B.’s action will surely make, at best, a marginal difference. Still, it was a move in the right direction.
Yet the move was hugely controversial... And the controversy took an ominous form, at least for anyone who remembers Europe’s terrible history. For arguments over European monetary policy aren’t just a battle of ideas; increasingly, they sound like a battle of nations, too.
For example, who voted against the rate cut? Both German members of the E.C.B. board, joined by the leaders of the Dutch and Austrian central banks. Who, outside the E.C.B., was harshest in criticizing the action? German economists, who made a point not just of attacking the substance of the bank’s action but of emphasizing the nationality of Mario Draghi, the bank’s president, who is Italian. ...
What’s scary here is the way this is turning into the Teutons versus the Latins, with the euro — which was supposed to bring Europe together — pulling it apart instead.
What’s going on? Some of it is national stereotyping: the German public is eternally vigilant against the prospect that those lazy southern Europeans are going to make off with its hard-earned money. But there’s also a real issue here. Germans just hate inflation, but if the E.C.B. succeeds in getting average European inflation back up to around 2 percent, it will push inflation in Germany — which is booming even as other European nations suffer Depression-like levels of unemployment — substantially higher than that, maybe to 3 percent or more.
This may sound bad, but it’s how the euro is supposed to work. In fact, it’s the way it has to work. If you’re going to share a currency with other countries, sometimes you’re going to have above-average inflation. ...
The truly sad thing is that, as I said, the euro was supposed to bring Europe together, in ways both substantive and symbolic. It was supposed to encourage closer economic ties, even as it fostered a sense of shared identity. What we’re getting instead, however, is a climate of anger and disdain on the part of both creditors and debtors. And the end is still nowhere in sight.
Monday, November 04, 2013
Why won't policymakers "around the world to face up to the nature of our economic problems"?:
Those Depressing Germans, by Paul Krugman, Commentary, NY Times: German officials are furious at America, and not just because of the business about Angela Merkel’s cellphone. What has them enraged now is one (long) paragraph in a U.S. Treasury report... In that paragraph Treasury argues that Germany’s huge surplus on current account — a broad measure of the trade balance — is harmful, creating “a deflationary bias for the euro area, as well as for the world economy.”
The Germans angrily pronounced this argument “incomprehensible.” “There are no imbalances in Germany which require a correction of our growth-friendly economic and fiscal policy,” declared a spokesman for the nation’s finance ministry.
But Treasury was right, and the German reaction was disturbing. For one thing, it was an indicator of the continuing refusal of policy makers in Germany, in Europe ... and around the world to face up to the nature of our economic problems. For another, it demonstrated Germany’s unfortunate tendency to respond to any criticism of its economic policies with cries of victimization. ...
Five years after the fall of Lehman, the world economy is still depressed, suffering from a persistent shortage of demand. In this environment, a country that runs a trade surplus is, to use the old phrase, beggaring its neighbors. It’s diverting spending away from their goods and services to its own, and thereby taking away jobs. ...
Furthermore,... Germany ... shares a currency with its neighbors, greatly benefiting German exporters, who get to price their goods in a weak euro instead of what would surely have been a soaring Deutsche mark. Yet Germany has failed to deliver on its side of the bargain: To avoid a European depression, it needed to spend more as its neighbors were forced to spend less, and it hasn’t done that.
German officials won’t, of course, accept any of this. They consider their country a shining role model,... and the awkward fact that we can’t all run gigantic trade surpluses simply doesn’t register.
And the thing is, it’s not just the Germans. Germany’s trade surplus is damaging for the same reason cutting food stamps and unemployment benefits in America destroys jobs — and Republican politicians are about as receptive as German officials to anyone who tries to point out their error. In the sixth year of a global economic crisis whose essence is that there isn’t enough spending, many policy makers still don’t get it. And it looks as if they never will.
Thursday, October 24, 2013
A Very Expensive Tea Party, by Simon Johnson, Commentary, NY Times: The recent government shutdown and confrontation over the federal debt ceiling gained the Republicans nothing,... – and may have cost them politically... But it slowed the economy and undermined confidence in public finances in a way that will have a significant negative impact on future budgets of the United States. None of this should make for an appealing strategy, but Tea Party Republicans are giving every indication that they want to do the same thing again early next year. Their more moderate colleagues need to take a firmer hand.
On the political gains from recent tactics, it is hard to find any good news for the Republican side as a whole. ...
The shutdown and debt ceiling brinkmanship did real damage to the economy. ...
Members of the Tea Party movement express concern about the longer-run federal budget... But their tactics are directly worsening the budget over exactly the time horizon that they say they care about. ...
The major long-term issue the United States faces is rising health-care costs..., but an important part of our projected future deficits is interest costs...
The United States dollar is the world’s primary reserve currency and safe haven; the asset that major investors, such as central banks and big international companies, actually buy is United States Treasury debt. ...
Over a longer period of time, of course, investors get the message: United States Treasury debt is not so safe... Unwittingly and perhaps inadvertently, the Tea Party is helping to fulfill the prophecies of ... Arvind Subramanian, who has long predicted that the renminbi will eclipse the dollar... Speeding up such a transition will directly increase the interest cost of the national debt and exactly run counter to what Tea Party representatives claim they want to do. ...
In the American system,... the ... only force that can rein in Tea Party extremism – and get the nation off the road to fiscal ruin – is resurgence among Republican moderates. Unfortunately, their recent performance has not been impressive.
Monday, October 21, 2013
American Debt, Chinese Anxiety, by Menzie Chinn, Commentary, NY Times: Last week, the United States once again walked up to the precipice of a debt default, and once again the world wonders why any country, much less the world’s largest economy, would endanger its financial reputation and thus its ability to borrow.
Though a potential global financial crisis was averted at the last minute, one notable development has been a string of warnings by Chinese officials. ...
These statements, unusually blunt coming from the Chinese, show that repeated, avoidable crises threaten the privileged position of the U.S. as issuer of the world’s main reserve currency and (until now) risk-free debt.
It is unlikely that China would provoke a sudden, international financial calamity — for instance, by unloading U.S. Treasury securities and other government debt. Nonetheless, the process of repeated crises and temporary reprieves will only solidify the Chinese government’s determination to diversify its holdings away from dollar-denominated assets. Moreover, these crises provide ammunition to advocates within the Chinese government for expanding the role of the renminbi in international markets. Both of these trends will erode the ability of the United States to issue debt at super-low interest rates, and accelerate the ascent of China’s currency. ...[more]...
Saturday, October 19, 2013
On the road and out and about today, so -- for now -- just a quick one from Paul Krugman responding to Antonio Fatas (some of Krugman's supporting evidence has been omitted):
Do Currency Regimes Matter?: Antonio Fatas, citing new work by Andy Rose (pdf), suggests that currency regimes don’t really matter — in particular that membership in the euro has not really been a special problem for peripheral countries.
Challenging preconceptions is always good, and this is a serious debate. I am still, however, very much on the other side. I’d argue two points.
First, nominal wage stickiness — the key argument for the virtues of floating exchange rates — is an overwhelmingly demonstrated fact. Rose doesn’t offer reasons why this doesn’t matter; he just offers a reduced-form relationship between currency regimes and economic performance, and fails to find a significant effect. Is this because there really is no effect, or because his tests lack power?
Second, there is the very striking empirical observation that debt levels matter much less for countries with their own currency than for those without. ... Indeed: debt only seems to matter for euro nations.
So I don’t buy the notion that the currency regime is irrelevant. But clearly the Rose results need to be taken seriously, and we have to figure out why he finds what he does.
Sunday, October 13, 2013
Developing countries are unhappy with the IMF:
Impatience With I.M.F. Is Growing, by Reuters: Emerging market countries complained on Saturday about the plodding progress in giving them more power at the International Monetary Fund. The global lender, after its annual meetings this past weekend, failed to meet a deadline originally self-imposed for 2012 to make historic changes meant to give emerging nations a greater say. ...
The delay on changes first agreed to in 2010 also pushes off even more difficult decisions about how to reform the I.M.F., which is still dominated by the nations that founded the organization after World War II.
The 2010 changes have been held up because the United States, the fund’s biggest and most powerful member, has not ratified them and prospects for action before the end of the year are slim due to gridlock in the U.S. Congress. ...
The next round of voting changes may involve even more give and take, as I.M.F. member countries wrangle over the specifics of an elaborate formula that determines the voting power of each country, how much it must contribute to the Fund and what it can borrow. ...
The I.M.F. said it planned to finalize a formula by January... But ... another deadline is likely to slip by. The revision of the formula is intended to further reflect the rise of China, Brazil and other large emerging market economies...
... As the IMF has increasingly lectured others about the importance of governance, problems in its own political legitimacy have increasingly impaired its efficacy. Granting more voting powers to China and a few other countries that are under represented is a step in the right direction. But even the IMF recognizes that it is only the first step. Critics point out that these changes are unlikely to have much effect on its decisions, and they worry that having granted the most powerful of the underrepresented more voting power, the drive for further reform will weaken.
That would be a shame. The U.S. still is the only country with veto power. The choice of the heads of both the IMF and the World Bank make a mockery of legitimate democratic governance. Neither asks who is most qualified, regardless of race, color, nationality. The American president appoints the head of the World Bank and Europe chooses the head of the IMF. The recent selection of the head of the World Bank highlighted the problems.
The IMF’s new focus on global imbalances is also a step in the right direction. ... The IMF should have long been focusing on such issues—its real mandate—rather than on development and the transition from Communism to the market economy, areas that are clearly not within its core competence, and where its policies were often badly misguided. ...
Friday, September 06, 2013
Antonio Fatas is "skeptical that we can that quickly conclude that the Euro was a failed experiment and that life without the Euro would have been better":
The Euro counterfactual, by Antonio Fatas: Since the financial crisis started we have heard many commentators telling the Euro countries: "I told you so, this was a very bad idea". The argument is that the Euro area is not an optimal currency area - a jargon used by economists to argue that the costs of having a single currency are larger than its benefits. While until 2008 things have looked fine, the crisis is the real test for the Euro area and it has failed. And it has failed because of what any standard macroeconomics textbook tells you: that once you give up your exchange rate you lose a stabilization tool and when a crisis that is asymmetric in nature comes along you suffer a prolonged crisis as the only way out is to let prices and wages fall (internal devaluation), a painful and inefficient process.
In a recent post, Paul Krugman reminds us once again of these arguments by comparing Ireland during the current crisis to Thailand or Indonesia during the Asian crisis. His argument is that the Asian economies recovered quite fast from their crisis while Ireland has not (and Greece has not even started any recovery). As Kevin O'Rourke puts it, Ireland looks like Thailand without the Baht.
The arguments seem solid and the evidence strong but I am somehow skeptical that we can that quickly conclude that the Euro was a failed experiment and that life without the Euro would have been better (and maybe I am reading too much into those posts and they are not really going that far in their statements).
What one wants to do is build a counterfactual: where would Greece or Spain or Ireland be if they had never joined the Euro? What would their currency have done for them before and after the 2008 crisis? Unfortunately we cannot build such counterfactual so the best we can do is to look for similar examples (such as Thailand during the Asian crisis). But let me argue that if one extends the set of examples and anecdotes some of the data does not speak that clearly against the Euro. ...[more]...
Friday, August 30, 2013
How worried should we be about recent declines in emerging-market currencies?:
The Unsaved World, by Paul Krugman, Commentary, NY Times: The rupiah is falling! Head for the hills! On second thought, keep calm and carry on.
In case you’re wondering, the rupiah is the national currency of Indonesia... The thing is, the last big rupiah plunge was in 1997-98, when Indonesia was the epicenter of an Asian financial crisis. In retrospect, that crisis was a sort of dress rehearsal for the much bigger crisis that engulfed the advanced world a decade later. So should we be terrified about Asia all over again?
I don’t think so... Consider, for example, the worst-case nation during each crisis: Indonesia then, Greece now.
Indonesia’s slump, which saw the economy contract 13 percent in 1998, was a terrible thing. But a solid recovery was under way by 2000. By 2003, Indonesia’s economy had passed its precrisis peak; as of last year, it was 72 percent larger than it was in 1997.
Now compare this with Greece, where output is down more than 20 percent since 2007 and is still falling fast. Nobody knows when recovery will begin, and my guess is that few observers expect to see the Greek economy recover to precrisis levels this decade.
Why are things so much worse this time? One answer is that Indonesia had its own currency, and the slide in the rupiah was, eventually, a very good thing. Meanwhile, Greece is trapped in the euro. In addition, however, policy makers were more flexible in the ’90s than they are today. The International Monetary Fund initially demanded tough austerity policies in Asia, but it soon reversed course. This time, the demands placed on Greece and other debtors have been relentlessly harsh, and the more austerity fails, the more bloodletting is demanded.
So, is Asia next? Probably not. Indonesia has a much lower level of foreign debt ... than it did in the 1990s. India, which also has a sliding currency that worries many observers, has even lower debt. So a repetition of the ’90s crisis, let alone a Greek-style never-ending crisis, seems unlikely.
What about China? Well, as I recently explained, I’m very worried, but for entirely different reasons...
But let’s be clear: Even if we are spared the spectacle of yet another region plunged into depression, the fact remains that the people who congratulated themselves for saving the world in 1999 were actually setting the world up for a far worse crisis, just a few years later.
Monday, May 27, 2013
Joe Stiglitz on tax avoidance by companies such as Apple and Google:
Globalisation isn't just about profits. It's about taxes too: ... Apple, like Google, has benefited enormously from what the US and other western governments provide: highly educated workers trained in universities that are supported both directly by government and indirectly (through generous charitable deductions). The basic research on which their products rest was paid for by taxpayer-supported developments – the internet, without which they couldn't exist. Their prosperity depends in part on our legal system – including strong enforcement of intellectual property rights; they asked (and got) government to force countries around the world to adopt our standards, in some cases, at great costs to the lives and development of those in emerging markets and developing countries. Yes, they brought genius and organizational skills, for which they justly receive kudos. But while Newton was at least modest enough to note that he stood on the shoulders of giants, these titans of industry have no compunction about being free riders, taking generously from the benefits afforded by our system, but not willing to contribute commensurately. Without public support, the wellspring from which future innovation and growth will come will dry up – not to say what will happen to our increasingly divided society. ...
To say that Apple or Google simply took advantage of the current system is to let them off the hook too easily: the system didn't just come into being on its own. It was shaped from the start by lobbyists from large multinationals. Companies like General Electric lobbied for, and got, provisions that enabled them to avoid even more taxes. They lobbied for, and got, amnesty provisions that allowed them to bring their money back to the US at a special low rate, on the promise that the money would be invested in the country; and then they figured out how to comply with the letter of the law, while avoiding the spirit and intention. If Apple and Google stand for the opportunities afforded by globalization, their attitudes towards tax avoidance have made them emblematic of what can, and is, going wrong with that system.
Much more here.
Thursday, May 23, 2013
Tuesday, March 26, 2013
Paul Krugman says, politics aside:
Cyprus should leave the euro. Now.
Monday, March 25, 2013
The end of an era:
Hot Money Blues, by Paul Krugman, Commentary, NY Times: Whatever the final outcome in the Cyprus crisis — we know it’s going to be ugly; we just don’t know exactly what form the ugliness will take — one thing seems certain:... the island nation will have to maintain fairly draconian controls on the movement of capital in and out of the country. ... And ... Cypriot capital controls may well have the blessing of the International Monetary Fund, which has already supported such controls in Iceland.
That’s quite a remarkable development. It will mark the end of an era ... when unrestricted movement of capital was taken as a desirable norm around the world. ... To some extent this reflected the ... rise of free-market ideology, the assumption that if financial markets want to move money across borders, there must be a good reason, and bureaucrats shouldn’t stand in their way. ...
But the truth, hard as it may be for ideologues to accept, is that unrestricted movement of capital is looking more and more like a failed experiment.
It’s hard to imagine now, but for more than three decades after World War II financial crises of the kind we’ve lately become so familiar with hardly ever happened. Since 1980, however, the roster has been impressive: Mexico, Brazil, Argentina and Chile in 1982. Sweden and Finland in 1991. Mexico again in 1995. Thailand, Malaysia, Indonesia and Korea in 1998. Argentina again in 2002. And, of course...: Iceland, Ireland, Greece, Portugal, Spain, Italy, Cyprus.
What’s the common theme...? Conventional wisdom blames fiscal profligacy — but ... that story fits only one country, Greece. Runaway bankers are a better story... But the best predictor of crisis is large inflows of foreign money: in all but a couple of the cases I just mentioned, the foundation for crisis was laid by a rush of foreign investors into a country, followed by a sudden rush out. ...
Now what? I don’t expect to see a wholesale, sudden rejection of the idea that money should be free to go wherever it wants, whenever it wants. There may well, however, be a process of erosion, as governments intervene to limit both the pace at which money comes in and the rate at which it goes out. Global capitalism is, arguably, on track to become substantially less global.
And that’s O.K. Right now, the bad old days when it wasn’t that easy to move lots of money across borders are looking pretty good.
Tuesday, March 19, 2013
This is from Francesco Saraceno, "an Italian born economist working in France":
Cyprus. Been There, Seen That: A small country is on the verge of bankruptcy. It is so small that the amount of money needed to save it (17bn euros) amounts to less than 0.12 per cent of the eurozone GDP (no typos here. It is around 30 euros per European citizen).
Been there, seen that. Just three years ago in another small country, Greece. At the time, procrastination, self interest, ineptitude, unpreparedness, made the small problem become huge. And we are all still paying the bill. The Greek crisis management was so successful that our leaders are happily embarking in the same dynamics: improvised, dangerous, half-baked solutions, supposedly designed to avoid free riding (the protestant syndrome, once again) and in fact destabilizing the whole system.
There is no need for me to repeat what has been understood everywhere except, as usual, in Berlin, Frankfurt and Brussels...
Here I just want to cite a few paragraphs from an excellent piece by Nick Malkoutzis...
There is really very little to add to this. Except maybe that Nick Malkoutzis is even too nice to Germany. It is interesting to notice that most of the time, in battered countries, Germany’s banks are among the top creditors. In this particular case, the exposure of German banks is 5.8 billions, exactly the amount that the tax should levy. Certainly a coincidence, but still…
I remember, a few years back, Joe Stiglitz accusing the IMF and the American treasury of imposing unnecessary austerity to crisis countries, in Latin America and in East Asia, with the objective to buy time for their banks to minimize their losses (or often times to cash their profits). The resemblance with the current situation in Europe, is worrisome. Very.
Cyprus Set to Reject Bailout, Citing Tax on Bank Deposits: Cyprus’s Parliament is likely to reject an international bailout package that involves taxing ordinary depositors to pay part of the bill, President Nicos Anastasiades said Tuesday, despite a revision that would remove some objections by exempting small bank accounts from the levies. ...
Should the measure fail in Parliament, Mr. Anastasiades and his E.U. partners would have to return to the negotiating table. Analysts have also raised the possibility of bank runs and a halt in liquidity to Cypriot banks from the European Central Bank if the measure did not pass.
The bailout plan, negotiated over the weekend, has aroused harsh criticism in many quarters for its unprecedented inclusion of ordinary bank depositors — including those with insured accounts — among those who would have to bear part of the cost. ...
The managing director of the International Monetary Fund, Christine Lagarde, said Tuesday she was in favor of modifying the agreement to put a lower burden on ordinary depositors. ... She urged leaders in Cyprus to quickly approve the plan... She complained that critics have not recognized how much the agreement will force Cyprus banks to restructure and become healthier. ...
Monday, March 18, 2013
Neil Irwin with the latest on Cyprus:
Financial markets haven’t freaked out over Cyprus. That doesn’t mean we’re in the clear, by Neil Irwin: First the good news: Financial markets have been relatively stable ... over international authorities’ decision to force losses on those with deposits in Cyprus’s banks. ... [There are] signs of an adverse market reaction to the weekend’s news — but not evidence that a broader run on Europe is underway. ...
The modest declines in financial markets Monday are a sign that global investors are betting that the losses being forced upon Cypriot bank deposits will be a one-off situation, and not form a precedent for future aid to banks in Greece, Spain, Portugal and beyond. ...
After outcry from the people of Cyprus and anyone who cares about financial markets and worries about the implications of a government suddenly seizing a chunk of the money people kept in supposedly safe bank accounts, the terms of the rescue deal were being renegotiated Monday. The most likely outcome is a new deal that protects Cypriots’ deposits up to 100,000 euros, though details were murky Monday. ...
The international negotiators ... are right that they have principle on their side. It is unfair for the rest of the world to come to the rescue of Cyprus at a time when the Russian oligarchs who have used the country’s banking system to squirrel away money pay nothing. But sometimes it’s better to have a policy that is unfair than one that is destructive. Europe has spent the past three years trying to persuade global investors and ordinary citizens that their money is safe in European banks. They had finally succeeded in the last several months. But the punitive approach to depositors in Cyprus throws that success into new question. ...
See also his discussion in the article about “Deauville,” and the delayed reaction of financial markets to this somewhat similar event. His point is that despite today's relatively calm reaction, we are not yet in the clear.
European policy seems to follow a common path. There is some sort of crisis that results in one group or another having to take a large loss, and the moralizing and fighting over who that should be leads to brinksmanship until, just before things really fall apart, someone steps in with a temporary, kick-the can down the road fix of some sort. This is starting to look similar -- I hope -- but one of these times they are going to misjudge where the brink actually is.
The War on Common Sense Continues, by Time Duy: This weekend, European policymakers opened up a new front in their ongoing war on common sense. The details of the Cyprus bailout included a bail-in of bank depositors, small and large alike. As should have been expected, chaos ensued as Cypriots rushed to ATMs in a desperate attempt to withdraw their savings, the initial stages of what is likely to become a run on the nation's banks. Shocking, I know. Who could have predicted that the populous would react poorly to an assault on depositors?
Everyone. Everyone would have predicted this. Everyone except, apparently, European policymakers.
The situation remains fluid, with even the final hit to depositors still unknown. The Financial Times is reporting that authorities are considering altering the plan to shift the burden on the tax away from smaller depositors. Moreover, at this point it is not clear is the parliment will concede to the measures despite a last minute push by ECB officials to affirm the deal before markets open Monday. And the impact on other nations in the European periphery remains unknown.
At this point, I would imagine the damage is done, regardless of any modification of the plan. Cypriots know that their savings are now on the bargaining table. To be sure, there will be repeated reassurances that this is a one-off event, but how trustworthy are such assurances? Indeed, if Greece is any example, this will not be the last bailout, and thus plenty of time for the European policymakers to insist on another bite at the apple. Perhaps if authorities completely backtrack on the plan could they stave off a bank run, but even on that I am not confident. Trust is easy to lose and hard to earn.
The bigger question is what does this mean for the European financial system as a whole? Will depositors across the Eurozone view Cyprus as a unique situation? Or will Greek citizens come to believe that the next tranche of bailout funds might come with a new conditions to shore up government finances? Will taxes on deposits be an element of any future bailouts? If so, Italian and Spanish depositors might come to view their mattresses as safer than the bank.
Perhaps expectations of a broader bank run are premature. Early reports from Spain claim that no such run is in the making (of course, what else would they say?). But I suspect this is still a game-changing event, sure to make the financial system more unstable by aggravating the negative feedback loop that surrounds financial crises. What else could be the case when you remove a basic safeguard against panic in the banking system?
I can only sample the amazing amount of excellent commentary in response to this new development. Frances Coppola, in a must read piece, explains the economic consequences:
The effect of large and small depositors removing funds on that scale will be a brutal economic downturn as the money supply collapses. In particular, the dominant financial sector will suffer a severe contraction, putting thousands of jobs at risk and paralysing lending to Cypriot households and businesses. And that is IN ADDITION to the estimated 4.5% economic contraction that is already happening due to austerity measures imposed on Cyprus in 2012 to reduce its fiscal deficit, and the further measures required in this bailout.
Yes, exactly how will this help Cyprus emerge from their recesssion? If you guessed "it won't," you are correct. But expect European policymakerst to drone on about how their plan will restore confidence in the economy of Cyprus. Coppola also bemoans the culpability in the ECB:
The FT confirms the ECB's role in forcing through the deal. It says the ECB threatened to stop providing liquidity to Laiki, Cyprus's second-biggest bank, which would have caused an immediate disorderly collapse. I have written previously about the ECB's disgraceful behaviour. This is the worst example yet.
Just two weeks ago I implored the ECB not to do anything stupid. They didn't listen.
Like me, Karl Whelan is challenged to see that this was a good choice:
Even if we get through the next week without panic, my gut feeling is that this decision is a bad one and the Europeans should have chosen from the other two options on the table. Over the longer-term, I doubt if financial stability in the euro area (and the continued existence of the euro) is compatible with a policy framework that doesn’t protect the savings of ordinary depositors.
Nick Rowe points out that savers in Cyprus are suffering disproportionately because they lack the ability to print their own currency:
The difference is that inflation from printing too much money is a tax on currency too. Cyprus cannot tax currency; it can only tax bank deposits.
Joseph Cotterill (another must read piece), identifies the reason to spread the pain to small depositors:
The spin that this is about spanking money-launderers is rubbish. The 9.9 per cent levy will be the cost of doing business for the average CIS corporate shell, as Pawelmorski notes. More to the point, someone clearly balked at increasing the rate above 10 per cent for big-ticket depositors — because why else distribute pain to small holders to make up for it. Someone has an eye on Cyprus somehow maintaining a future as an offshore banking centre.
Too big a hit to large depositors would end any hope that Cyprus could hold onto its biggest industry. The anonymously penned Some of it Was True blog wonders if there are any rules in European finance:
Probably of more lasting importance is the latest bout of rule-changing by the authorities. Debt unwindings are generally well-defined in law. First equity, then sub debt, then deposits and senior bonds together, and all treated equally. Most of these principles have been tweaked over the last few years, but the tweaks are getting steadily more aggressive. The ECB, holders of Athens-law and foreign law Greek debt all got different treatment; the Dutch didn’t restructure SNS Reeal paper, they confiscated it; the Irish banned lawsuits against the ultimate wind-down of Anglo Irish. This is scratching the surface compared with the rule-changes of the past but it’s getting steadily more creative.The referee has gone from being quasi-neutral arbiter, to pulling off his black shirt to reveal a Manchester United one underneath and awarding himself a series of penalties. While there’s clearly no point in market participants playing the shocked blushing virgin in the face of a situation where the consequences of following the legally-logical steps are socially unacceptable, the uncertainty generated creates costs too.
Edward Harrison (yet another must read) takes a fatalistic view of the news:
It was inevitable that we would be in crisis again. The austerity world view of crisis resolution is completely at odds with the capacity of the euro zone’s institutional architecture to handle a crisis. And so, we keep doubling down on the same policy of austerity in exchange for reforms which has created the downward spiral to begin with. I wish I could be optimistic here. But I think it is going to get worse. I hope I’m wrong. And I certainly hope that periphery depositors still have enough faith in the euro to ride this one out. If the Cyprus panic metastasizes, it will get ugly.
Peter Siegel at the FT places the blame on the Germans:Unbeknown to the Cypriot delegation members as they entered the hulking Justus Lipsius summit building in Brussels on Friday night, their fate was already sealed: their German counterparts wanted about €7bn for the estimated €17bn bailout of their country to come from deposits in the country’s banks.
“They were hand in hand with Finns, who were much more dogmatic,” said one senior eurozone official involved in the 10-hour marathon talks that stretched until 3am on Saturday morning. “Had that not happened, full bail-in,” the official added, using the terminology for wiping out nearly all Cypriot bank accounts.
Felix Salmon see the German influence as bad for Euope and Germany itself:
The Cypriot parliament is probably not going to revolt this weekend, but any politician who votes for this bill is going to have a very, very hard time getting re-elected. This decision is important not only because of the precedent it sets with regard to bank depositors, but also because of the way in which it points up just how powerless all the Mediterranean countries (plus Ireland) have become. More than ever before, it’s Germany’s Europe. That’s bad for Cyprus — and it’s not even particularly good for Germany.
For their part, the Germans deny responsibilty for actions against small depositors:
"It was the position of the German government and the International Monetary Fund that we must get a considerable part of the funds that are necessary for restructuring the banks from the banks owners and creditors - that means the investors," German Finance Minister Wolfgang Schaeuble told public broadcaster ARD in an interview.
"But we would obviously have respected the deposit guarantee for accounts up to 100,000," he said. "But those who did not want a bail-in were the Cypriot government, also the European Commission and the ECB, they decided on this solution and they now must explain this to the Cypriot people."
Bottom Line: In the short-run, the implications for the European periphery might be limited. But, in the long-run, it is hard to see the assault on Cypriot depositors as anything but a step backwards for financial stability in Europe. This crisis remains far from over.
Sunday, March 17, 2013
Next week could be fun for economists in search of natural experiments -- will there be a large bank run? -- but not so fun for Europeans:
The Cypriot Haircut, by Paul Krugman: ... With all the problems in Greece, Italy, Spain, and Portugal I wasn’t watching Cyprus. But that’s where the big euro news is this weekend; in return for a bailout, Cyprus is supposed to impose a large haircut — that is, loss — on all depositors in its banks.
You can sort of see why they’re doing this: Cyprus is a money haven, especially for the assets of Russian beeznessmen; this means that it has a hugely oversized banking sector (think Iceland) and that a haircut-free bailout would be seen as a bailout, not just of Cyprus, but of Russians of, let’s say, uncertain probity and moral character. ...
The big problem, however, is that it’s not just large foreign deposits that are taking a haircut; the haircut on small domestic deposits is a bit smaller, but still substantial. It’s as if the Europeans are holding up a neon sign, written in Greek and Italian, saying “time to stage a run on your banks!”
Tomorrow and the days immediately following should be very interesting.
Monday, February 25, 2013
ECB Should Pledge to Not Do Anything Stupid, by Tim Duy: Market participants were rattled today by the election news out of Italy, as it looks like the economically-challenged nation is now politically adrift. But what exactly might worry investors? I pulled this quote from Bloomberg:
“We don’t want to see more chaos out of Europe,” Bruce McCain, chief investment strategist at the private-banking unit of KeyCorp in Cleveland, said in a phone interview. His firm oversees more than $20 billion. “Any question about whether or not Italy would be committed to austerity measures after the elections gets investors concerned.”
Why should we be concerned that Italy backslides on its commitment to austerity? After all, evidence of the economic damage wrought by such policies continues to mount. If anything, a reversal of recent austerity should be welcome.
I suspect, however, that it is not the austerity that worries market participants. It is the fear that European Central Bank head Mario Draghi will threaten to pull his pledge to do whatever is takes to save the Euro in the face of Italian intransigence. The fear that European policymakers are about to partake in another grand game of chicken that once again will bring the sustainability of the single currency back into question. In short, I think that market participants fear tight monetary policy much more than loose fiscal policy.
I am very much hoping that the ECB will keep calm and not do anything that encourages market participants to once again doubt the central bank's commitment to the Euro. Otherwise, this spring and summer will look much like last year's. And the year before that. And the year before that.
Friday, February 15, 2013
..these conventional and unconventional actions work the same way: by lowering the real (inflation-adjusted) interest rate, they stimulate domestic demand and consumption...This pushes the exchange rate down in two ways. First, a lower interest rate reduces a currency’s relative expected return...Second, higher inflation reduces a currency’s real value and thus ought to lead to depreciation. But higher inflation also erodes the competitive benefit of the lower exchange rate, offsetting any positive impact on trade.
If this were the end of the story, the currency warriors would have a point. But it isn’t. The whole point of lowering real interest rates is to stimulate consumption and investment which ordinarily leads to higher, not lower, imports. If this is done in conjunction with looser fiscal policy (as is now the case in Japan), the boost to imports is even stronger. Thus, QE’s impact on its trading partners may be positive or negative..The point is that this is not a zero sum game; QE raises a country’s GDP by more than any improvement in the trade balance.
The Federal Reserve is generally considered the first offender in the currency wars, yet it is often forgotten that the vast majority of the Dollar's real depreciation occurred prior to the recession:
To be sure the Dollar took a hit after the first round of quantitative easing, but that was a positive policy outcome for all as the calming of financial markets eased the rush to the safety of the US currency. On average, since the beginning of 2008 there has been little change in the real value of the Dollar, despite the massive expansion of the Fed's balance sheet.
Also note that by stabilizing the US (and global economies), the Fed contributed to a stabilization of the US current account balance:
All of the improvement in the current account balance occurred prior to the Fed's expansion of the balance sheet, largely due to collapsing global trade. And the subsequent period was one of generally declining real government spending; a more stimulative policy would likely have supported more imports such that trade remained an even greater drag on the economy.
In short, the Federal Reserve did not pursue a "beggar-thy-neighbor" policy. The Federal Reserve actually stabilized the Dollar's value, calmed global financial markets, made a positive contribution to international trade, and stabilized the US current account balance. Sounds like a net win across the board.
Separately, I see that Japanese policymakers continue to make the same mistake of needlessly antagonizing their trading partners. From Bloomberg:
The yen fell after Kazumasa Iwata, a potential candidate to become the next central bank head, signaled the currency has scope to depreciate further and data showed Japan’s gross domestic unexpectedly shrank...Iwata, a former deputy governor at the BOJ, said in a statement the price goal can’t be reached without a correction in the yen’s strength. The yen at 90 to 100 per dollar marks a return to equilibrium, he said.
While there are voices in Japan arguing that the Yen's depreciation is simply a side-effect of domestic policies, it is tough for other nations to buy that story when prominent current, former and potentially future policymakers repeatedly put numbers on the appropriate value of the Yen. They would be better off with some noncommittal statement about currency values being driven by economic fundamentals, with only one spokesperson for the currency. Trying to convince Japanese policymakers to not talk about the value of the Yen, however, is generally about as productive as trying to convince the sky not to be blue.
Friday, February 08, 2013
Two from Tim Duy -- this is the first:
The finance minister's [Taro Aso] comments indicate some surprise within the government at how quickly those expectations among traders translated into declines in the yen.
"It seems that the government's policies have fueled expectations and the yen weakened more than we intended in the move to around 90 from 78," Aso told lawmakers in the lower house budget committee.
Surprise, when you tell market participants exactly what you intend to do, they react accordingly. Market participants received a strong signal that Japanese monetary and fiscal policy would be joined to deliver a significant boost to the economy. The early exit, some might say forced exit, of Bank of Japan Governor Misaaki Shirikawa, clearing away an impediment to such plans, only further entrenched expectations. And market participants delivered accordingly:
Apparently this was too far, too fast? Was it concerns about the price of imported energy goods? Or international pressure? Still from Reuters:
Recently, Aso has reacted strongly to criticism from German and other European officials that Japan is intentionally trying to weaken its currency with monetary easing, so his comments on Friday could cause some confusion about Japan's currency policy.
I continue to think that Japan made a significant tactical error when outlining their policy objectives. A substantial monetary easing that accomplished the objective of driving up inflation expectations in and of itself would be expected to depreciate the Yen. Japanese policymakers could have framed the policy as simply supporting the domestic economy similar to the approach initiated by the Federal Reserve. The impact on the Yen itself could have been implicit rather than explicit. Instead, by making the Yen a part of the discussion at the beginning, Japanese policymakers angered their international partners. I tend to think this was an unnecessary and ultimately counterproductive strategy.
Bottom Line: If Japanese policymakers really intend the depreciation of the Yen be limited to 90, then the supposed currency wars may already be near an end.
Wednesday, January 02, 2013
The Japan Story Continues to Evolve, by Tim Duy: Evolving economic policy in Japan is an excellent distraction from the fiscal cliff story. From my perspective, the most interesting idea Abe floated was forcing the Bank of Japan to buy government debt to support additional fiscal stimulus. Noah Smith countered that Abe is unlikely to experiment with monetary policy and will simply fall back on a mercantilist policy. While I think it is too early to ignore the fiscal policy aspect, it is increasingly clear that Abe thinks the future of Japan is in its past. From Ambrose Evans-Pritchard:
Premier Shenzo Abe is to spend up to one trillion yen (£7.1bn) buying plant in the electronics, equipment, and carbon fibre industries to force the pace of investment, according to Nikkei news.
This on the back of:
The disclosure came just a day after Mr Abe vowed to revive Japan's nuclear industry with a fresh generation of reactors, insisting that they would be "completely different" from the Fukishima Daiichi technology.
I imagine that should advanced civilizations ever travel to the Earth, they would be amazed that we allow fission reactors on the surface of the planet. I am amazed after by this after the lessons of Chernobal and Fukishima.
I have trouble with this characterization:
The industrial shake–up shows the ferment of fresh thinking in the third–largest economy after years of paralysis.
I am not sure this is fresh thinking at all. It sounds as if Japan is trying to go backwards in time to the 1980's. Especially when combined with an obvious intent to devalue the Yen for mercantilist reasons:
He has set an implicit exchange range target of 90 yen to the dollar, instructing the Bank of Japan to drive down the yen with mass purchases of foreign bonds along lines pioneered by the Swiss.
Finance minister Taro Aso brushed aside warnings that naked intervention would anger trade partners and damage Japan's strategic alliance with the US. "Foreign countries have no right to lecture us," he said, accusing the West of failing to abide by a G20 pledge in 2009 to forgo competitive devaluations.
As I have said in the past, I think that a yen/dollar target of 90 will yield only minor economic benefits at the price undermining Japan's international relationships. The US and Europe will reply that their quantitative easing programs are primarily aimed at boosting domestic demand, whereas if Japan appears to be pursuing an obvious beggar-thy-neighbor strategy. Of course, Abe isn't too worried about offending the international community. From Reuters:
Japanese Prime Minister Shinzo Abe wants to replace a landmark 1995 apology for suffering caused in Asia during World War Two with an unspecified "forward-looking statement", a newspaper reported on Monday...
..Any hint that Japan is back-tracking from the 1995 apology, issued by then Prime Minister Tomic Murayama, is likely to outrage neighbours, particularly China and North and South Korea, which endured years of brutal Japanese rule.
This is shaping up as a year in which Japan moves to center-stage in the international arena.
Bottom Line: Explicit cooperation between fiscal and monetary authorities to dramatically support domestic demand in Japan would be a step forward, but everything else that seems to be coming from Abe is a step backwards.
Saturday, December 01, 2012
Tyler Cowen on Europe:
... Until a broad solution is enacted, the system remains within the danger zone for a broader crash. ... Unfortunately, the relevant governments — and their citizens — still don’t seem close to accepting the onerous financial burdens they need to face. And when those burdens are unjust to mostly innocent voters, no matter whose particular story you endorse, acceptance becomes that much tougher.
Still, we shouldn’t forget that a solution exists. In essence, the required debt write-down is a large check lying on the table waiting to be picked up. No one knows how costly it is, but estimates have ranged from the hundreds of billions to the trillions of dollars. It need only be decided how to divide the bill. The reality is this: The longer that the major players wait, the larger that bill will grow. That they’ve yet to split the check is the worst news of all.
Tuesday, October 23, 2012
Here's my contribution to the debate over China bashing:
We Should Stop Blaming China for our Economic Problems: The second presidential debate featured Mitt Romney and Barack Obama going nose to nose over who would be tougher on China and other countries over their unfair trade practices. But by adopting a narrative that places the blame for our problems on other countries, President Obama is playing into the hands of those who’d like to make significant cuts to social insurance programs that protect working class households. ...
Here's the bottom line:
Blaming our troubles on external causes and implying that all will be well once these causes are eliminated allows the wealthy winners from globalization to escape the taxes that are needed to provide the social protections workers need in the global economy, and to ensure that the gains from globalization are shared equitably. President Obama needs to make it clear that helping the working class will take a lot more than just forcing China to change its ways... [It] will require us to look inward at our own character as a nation instead of blaming others.
Pointing fingers at other countries and demanding change may be politically effective, but the real change begins at home.[Read more]
Sunday, October 14, 2012
Ben Bernanke responds to foreigners complaining about US monetary policy (including saying that if some countries want to enjoy the benefits of an undervalued currency, then they must also pay the costs, "including reduced monetary independence and the consequent susceptibility to imported inflation":
U.S. Monetary Policy and International Implications, Speech by Ben Bernanke: Thank you. It is a pleasure to be here. This morning I will first briefly review the U.S. and global economic outlook. I will then discuss the basic rationale underlying the Federal Reserve's recent policy decisions and place these actions in an international context. ...
Federal Reserve's Recent Policy Actions
All of the Federal Reserve's monetary policy decisions are guided by our dual mandate to promote maximum employment and stable prices. With the disappointing progress in job markets and with inflation pressures remaining subdued, the FOMC has taken several important steps this year to provide additional policy accommodation. ...
As I have said many times, however, monetary policy is not a panacea. Although we expect our policies to provide meaningful help to the economy, the most effective approach would combine a range of economic policies and tackle longer-term fiscal and structural issues as well as the near-term shortfall in aggregate demand. Moreover, we recognize that unconventional monetary policies come with possible risks and costs; accordingly, the Federal Reserve has generally employed a high hurdle for using these tools and carefully weighs the costs and benefits of any proposed policy action.
International Aspects of Federal Reserve Asset Purchases
Although the monetary accommodation we are providing is playing a critical role in supporting the U.S. economy, concerns have been raised about the spillover effects of our policies on our trading partners. In particular, some critics have argued that the Fed's asset purchases, and accommodative monetary policy more generally, encourage capital flows to emerging market economies. These capital flows are said to cause undesirable currency appreciation, too much liquidity leading to asset bubbles or inflation, or economic disruptions as capital inflows quickly give way to outflows.
I am sympathetic to the challenges faced by many economies in a world of volatile international capital flows. And, to be sure, highly accommodative monetary policies in the United States, as well as in other advanced economies, shift interest rate differentials in favor of emerging markets and thus probably contribute to private capital flows to these markets. I would argue, though, that it is not at all clear that accommodative policies in advanced economies impose net costs on emerging market economies, for several reasons.
First, the linkage between advanced-economy monetary policies and international capital flows is looser than is sometimes asserted. Even in normal times, differences in growth prospects among countries--and the resulting differences in expected returns--are the most important determinant of capital flows. The rebound in emerging market economies from the global financial crisis, even as the advanced economies remained weak, provided still greater encouragement to these flows. Another important determinant of capital flows is the appetite for risk by global investors. Over the past few years, swings in investor sentiment between "risk-on" and "risk-off," often in response to developments in Europe, have led to corresponding swings in capital flows. All told, recent research, including studies by the International Monetary Fund, does not support the view that advanced-economy monetary policies are the dominant factor behind emerging market capital flows.1 Consistent with such findings, these flows have diminished in the past couple of years or so, even as monetary policies in advanced economies have continued to ease and longer-term interest rates in those economies have continued to decline.
Second, the effects of capital inflows, whatever their cause, on emerging market economies are not predetermined, but instead depend greatly on the choices made by policymakers in those economies. In some emerging markets, policymakers have chosen to systematically resist currency appreciation as a means of promoting exports and domestic growth. However, the perceived benefits of currency management inevitably come with costs, including reduced monetary independence and the consequent susceptibility to imported inflation. In other words, the perceived advantages of undervaluation and the problem of unwanted capital inflows must be understood as a package--you can't have one without the other.
Of course, an alternative strategy--one consistent with classical principles of international adjustment--is to refrain from intervening in foreign exchange markets, thereby allowing the currency to rise and helping insulate the financial system from external pressures. Under a flexible exchange-rate regime, a fully independent monetary policy, together with fiscal policy as needed, would be available to help counteract any adverse effects of currency appreciation on growth. The resultant rebalancing from external to domestic demand would not only preserve near-term growth in the emerging market economies while supporting recovery in the advanced economies, it would redound to everyone's benefit in the long run by putting the global economy on a more stable and sustainable path.
Finally, any costs for emerging market economies of monetary easing in advanced economies should be set against the very real benefits of those policies. The slowing of growth in the emerging market economies this year in large part reflects their decelerating exports to the United States, Europe, and other advanced economies. Therefore, monetary easing that supports the recovery in the advanced economies should stimulate trade and boost growth in emerging market economies as well. In principle, depreciation of the dollar and other advanced-economy currencies could reduce (although not eliminate) the positive effect on trade and growth in emerging markets. However, since mid-2008, in fact, before the intensification of the financial crisis triggered wide swings in the dollar, the real multilateral value of the dollar has changed little, and it has fallen just a bit against the currencies of the emerging market economies. ...
Wednesday, September 05, 2012
Paul Krugman tries, once again, to explain why there's no reason to fear that "terrible things will happen" if China stops purchasing our government bonds:
Wicksell Goes To China, by Paul Krugman: The idea that we are at the mercy of the Chinese — that terrible things would happen if they stopped buying our bonds — is very influential. Yet it’s just wrong.
Think of it this way: the argument that interest rates would soar if the Chinese bought fewer bonds is the same as the argument that interest rates would soar when the U.S. government sold more bonds — which, as you may recall, was the subject of fierce debate more than three years ago — and you know how that turned out.
Again, you can think of this in terms of Wicksell: we’re in a situation in which the incipient supply of savings — the amount that people would save at full employment — is greater than the incipient demand for investment. And this excess supply of savings leads to a depressed economy.
What China does by buying bonds is add to the excess savings — which makes our situation worse. (This is just another way of saying that the artificial trade surplus hurts our economy — just another way of stating the same thing). And we want them to do less of it; far from fearing that they will stop, we should welcome the prospect.
Yet this point isn’t even controversial — by and large, commentators aren’t even aware that fear-of-China syndrome might be in error.
Monday, July 30, 2012
Will the euro be saved? Should it be saved?:
Crash of the Bumblebee, by Paul Krugman, Commentary, NY Times: Last week Mario Draghi, the president of the European Central Bank, declared that his institution “is ready to do whatever it takes to preserve the euro” — and markets celebrated. ... But will the euro really be saved? That remains very much in doubt.
First of all, Europe’s single currency is a deeply flawed construction. And Mr. Draghi, to his credit, actually acknowledged that. “The euro is like a bumblebee,” he declared. “This is a mystery of nature because it shouldn’t fly but instead it does. So the euro was a bumblebee that flew very well for several years.” But now it has stopped flying. What can be done? The answer, he suggested, is “to graduate to a real bee.”
Never mind the dubious biology, we get the point. In the long run, the euro will be workable only if the European Union becomes much more like a unified country. ...
But ... a United States of Europe won’t happen soon, if ever, while the crisis of the euro is now. So what ... could turn this dangerous situation around? The answer is fairly clear: policy makers would have to (a) do something to bring southern Europe’s borrowing costs down and (b) give Europe’s debtors the same kind of opportunity to export their way out of trouble that Germany received during the good years — that is, create ... a temporary rise in German inflation... The trouble is that Europe’s policy makers seem reluctant to do (a) and completely unwilling to do (b).
In his remarks, Mr. Draghi ... basically floated the idea of having the central bank buy lots of southern European bonds to bring those borrowing costs down. But ... German officials appeared to throw cold water on that idea. In principle, Mr. Draghi could just overrule German objections, but would he really be willing to do that?
And bond purchases are the easy part. The euro can’t be saved unless Germany is also willing to accept substantially higher inflation... — and so far I have seen no sign that German officials are even willing to discuss this issue...
So could the euro be saved? Yes, probably. Should it be saved? Yes, even though its creation now looks like a huge mistake. For failure of the euro wouldn’t just cause economic disruption; it would be a giant blow to the wider European project, which has brought peace and democracy to a continent with a tragic history.
But will it actually be saved? Despite Mr. Draghi’s show of determination, that is, as I said, very much in doubt.
Sunday, July 29, 2012
Travel day, so here's a quick one:
Internal Devaluation, Inflation, and the Euro (Wonkish), by Paul Krugman: I’ve been writing for a long time about how the euro area needs more inflation. But I suspect that many readers don’t quite see how this ties into the macro story. So here’s something that may or may not clear things up — a stylized little model linking euro inflation and the adjustment problem to overall monetary policy. It’s very stylized, making some obviously untrue but I think still useful assumptions, and I have been finding that it clarifies my own thinking ...[continue reading]...
Wednesday, July 25, 2012
Martin Feldstein calls for a fall in the value of the euro:
A rapid fall in the euro can save Spain, by Martin Feldstein, Commentary, FT: The possible breakup of the eurozone is now openly discussed... The declining value of the euro holds the key to the eurozone’s survival. ...
A lower value of the euro would reduce the prices of eurozone exports and raise the cost of imports, reducing or eliminating the current account deficits of the peripheral European countries... The weaker euro would also boost Germany’s net exports, raise German wages and prices and reduce the trade imbalance within the eurozone.
The increase in peripheral country net exports would also raise their gross domestic product and so reverse their recessions that were caused by higher taxes and cuts in government spending. That would make it politically easier to achieve the needed fiscal consolidations. And shifting from recession to growth would raise business incomes and employment, reducing the volume of bad loans and mortgage defaults now hurting the banks. ...
The continuing decline of the euro reflects the market’s perception that the euro must fall or the eurozone will collapse. ... The decline of the euro can therefore occur without specific action by the European Central Bank. But a further shift by the ECB toward a looser monetary policy would speed the euro’s decline. ...
I believe now, as I did 20 years ago, that imposing a single currency on a heterogeneous group of countries is a mistake. ... But while the creation of the eurozone was an economic mistake, allowing it to dissolve now would be very costly to governments, investors and citizens. ... A new start for the euro is still well worth trying.
Tuesday, July 24, 2012
One more from Tim Duy:
Is There Even a Panic Button in Europe?, by Tim Duy: I didn't think it was possible, but my confidence in the ability of European policymakers to pull the Continent out of crisis continues to fall. This is saying a lot because I had virtually no confidence to begin with.
Consider where we are at today. Greece once again is making the headlines, as it is increasingly evident that they have made virtually no progress on the last bailout package, and will therefore need another. This should have come as no surprise; it was increasingly politically impossible to engage in additional austerity with the Greek economy plummeting into the abyss. But bailout fatigue will finally hit this time, as there appears to be no more appetite to limp Greece along. Evan Ambrose-Pritchard argues that Germany is leading the drive to finally force Greece out of the Eurozone. Ambrose rightly places at least some, if not the lion's share, of the blame for this outcome at the feet of the Troika:
This was entirely predictable – and was predicted by many critics – since Greece faced an IMF-style austerity package without the usual IMF cure of devaluation. The Troika's ideology of "expansionary fiscal contraction" – which the IMF has to its credit since abjured, but the fanatics in charge still swear by – is breaking a whole society on the wheel.
The Greeks were never given a bailout plan that had any hope of success. And they deserved such a bailout, given the rest of Europe's culpability in this crisis for letting Greece into the Euro in the first place.
Whether or not Greece can be forced from the Euro with little impact elsewhere remains to be seen. I doubt we will need to wait much longer to learn the outcome of Grexit. But the devastating train that is the debt crisis keeps rolling right along, currently crashing through Spain's economy.
And make no mistake, European policymakers have learned nothing from the Greek experience. One gets the sense that policymakers think the prescription was correct, but that the patient was simply unwilling to take the medicine. Where Greece failed, Spain will succeed, or at least so it is hoped. Indeed, today Spanish Finance Minister Luis de Guindos met with his German counterpart, and the FT reports:
Germany on Tuesday threw its considerable weight behind the reform and austerity programme of the Spanish government, in the face of a continuing surge in the cost of borrowing for Madrid, and strong protests against its spending cuts.
Spain is doing the right thing, apparently. It's just the markets that have it all wrong:
A joint statement by Wolfgang Schäuble, German finance minister, and Luis de Guindos, Spanish economy minister, condemned the high interest rates demanded for the sale of Spanish bonds as failing to reflect “the fundamentals of the Spanish economy, its growth potential and the sustainability of its public debt”.
The truth is exactly the opposite - market participants have looked at Spain's fiscal and economic situation, including the issue of provincial bailouts, and concluded that another sovereign bailout is coming, complete with private sector involvement. The "voluntary" kind of involvement, of course. And in return for this bailout, Spain will be pushed further down the same path of never ending recession as Greece. Because if once you don't succeed, try, try again. European policymakers will pursue the same path because they know of no other:
But after talks in Berlin last night on the eurozone crisis, the two gave no hint of any new initiatives to try to calm the markets, or prevent contagion from Spain affecting any other members of the eurozone, such as Italy.
This comes as Spanish 10 year yields hit 7.62% and the Italian equivalent lurches up to 6.60%. And unbelievably, the ECB is apparently out of the game, no longer willing to buy sovereign debt either to avoid being a victim of "public sector bailout" or because they believe that restrictions against monetizing the debt of member states trump imminent financial collapse. Meanwhile, the crisis is increasingly bleeding through to the supposedly immune German economy, with the Markit PMI continuing to fall. The deeper Europe slides into recession, the harder it will be to find solutions.
And it is already almost near impossible to find solutions, a fact proved by the seemingly pointless European summits that always seem to come too late and offer too little.
Yet despite what is obviously clear and present danger to the Eurozone project, and, more importantly than the project, but to the economy on which millions depend for their livelihood, there doesn't seem to be any panic in official circles. No sense that policies need to be fundamentally reassessed. No sense that time is of the essence. No one is even bothering to leak unsubstantiated and false rumors of some "Grand Plan" in the works.
In my view, the lack of panic is downright scary. Is Europe completely devoid of new ideas? Or is everyone simply on vacation?
Bottom Line: Still a Euroskeptic, and an increasingly pessimistic one at that. I really, really want to believe that Europe will quickly coalesce around a solution to the crisis, and I hope to see a move in that direction soon. At a minimum, the ECB should throw in the towel and backstop sovereign debt. But all I see are the same failed policies again and again. Worse, no one is running for the panic button. Maybe there isn't a panic button; I guess it was another piece of the necessary institutional framework forgotten during the creation of the Euro.
Monday, July 02, 2012
Can Europe save itself?:
Europe’s Great Illusion, by Paul Krugman, Commentary, NY Times: Over the past few months I’ve read a number of optimistic assessments of the prospects for Europe. Oddly, however, none of these assessments argue that Europe’s German-dictated formula of redemption through suffering has any chance of working. Instead, the case for optimism is that ... a breakup of the euro ... would be a disaster for everyone, including the Germans, and that in the end this prospect will induce European leaders to do whatever it takes to save the situation.
I hope this argument is right. But every time I read an article along these lines, I find myself thinking ... disaster, no matter how obvious, is no guarantee that nations will do what it takes... And this is especially true when pride and prejudice make leaders unwilling to see what should be obvious.
Which brings me back to Europe’s still extremely dire economic situation. ... European leaders committed themselves to ... the notion that fiscal austerity and “internal devaluation” (basically, wage cuts) would solve the problems... Meanwhile the euro’s crisis has metastasized... Yet the policy prescriptions coming out of Berlin and Frankfurt have hardly changed at all.
But wait, you say — didn’t last week’s summit meeting produce some movement? Yes... Germany gave a little ground... But these concessions remain tiny compared with the scale of the problems.
What would it really take to save Europe’s single currency? The answer, almost surely, would ... involve both large purchases of government bonds by the central bank, and a declared willingness by that central bank to accept a somewhat higher rate of inflation. Even with these policies, much of Europe would face the prospect of years of very high unemployment. But at least there would be a visible route to recovery.
Yet it’s really, really hard to see how such a policy shift could come about.
Part of the problem is ... that German politicians have spent the past two years telling voters something that isn’t true —... that the crisis is all the fault of irresponsible governments in Southern Europe... — ... now the false narrative stands in the way of any workable solution.
Yet ... even elite European opinion has yet to face up to reality. ... So will Europe save itself? The stakes are very high, and Europe’s leaders are, by and large, neither evil nor stupid. But the same could be said ... about Europe’s leaders in 1914. We can only hope that this time is different.
Monday, June 11, 2012
A Bigger Bailout Awaits, by Tim Duy: The half-life of European bailouts is getting shorter and shorter, which should come as no surprise in these kinds of repeated games. The announced Spanish bank bailout triggered some early euphoria in financial markets which at the moment is quickly fading. Why? I suspect that market participants fear the bank bailout is simply a precursor to a much bigger bailout of Spanish government debt, a bailout that will involve some sizable private sector involvement.
One of the most telling stories is this from the FT:
Spain’s Treasury on Monday vowed to continue as normal with sovereign bond auctions, arguing that the eurozone’s weekend agreement on a €100bn bailout for Spanish banks would underpin the country’s debt market.
Spain desperately needs to be able to finance at lower bond yields - the fiscal situation simply is not sustainable at interest rates currently north of 6%. They can't close deficits fast enough at those yields. Moreover, the ECB for all intents and purposes is out of the game. Not only do they feel honor bound to avoid anything that looks like the direct financing of national deficits, but they have likely run out of patience. Recall ECB President Mario Draghi's comments in May:
In a damning indictment of Spain’s handling of the problems at Bankia, its third largest lender, ECB president Mario Draghi said national supervisors had repeatedly underestimated the amount a rescue would cost. He also cited the rescue of Dexia, the Franco-Belgian lender, as an example.
“There is a first assessment, then a second, a third, a fourth,” Mr Draghi said. “This is the worst possible way of doing things. Everyone ends up doing the right thing, but at the highest cost.”
One also wonders what kind of fiscal deterioration is being hidden from the general public. Or other EU officials for that matter.
Apparently, the hope was that by channeling the bailout funds to Spain's Fund for Orderly Reconstruction, it would appear as if Spain itself is not paying for the bailout. The lack of a "program" with IMF involvement was added to further create the illusion that this was not a sovereign bailout, and was instead some type of EuroTARP. Thus, a potential liability would be avoided and Spanish bond yields would fall accordingly. In essence, the bank bailout was a last-ditch gamble on the part of the Spanish government to avoid a general government bailout. (For further reading, FT Alphaville has a nice series of posts trying to understand the details of the bailout. See here, here, and here).
The trouble is that market participants started to poke holes in this ruse, realizing that the bailout is just sovereign debt by another name, and debt that most likely would be senior to existing bondholders. There was some initial confusion over this point, although it seems that Germany wants the funds to coming from the soon-to-be-launched ESM, in which case the debt will be senior. It really doesn't matter, though. FT Alphaville hits the nail on the head:
But we’ll close by noting even ‘pari passu’ EFSF debt (or ESM debt which might subsequently absorb EFSF pari passu status) has shown signs of de facto seniority in Greece. EFSF loans to Greece were rescheduled before bondholders, but when it came to the PSI, the EFSF did not take write-downs in common with bondholders.
I think that no matter how many smoke and mirrors the Europeans try to put into the place, they can't cover up the fact that the Spanish government owns this bailout. Market participants came to this conclusion as well and sent Spanish yield higher:
Which means that as of roughly 9am on the West Coast, Spain's gamble has failed. And that pushes Spain once step closer to a real bailout of sovereign debt, and the mess - private sector involvement, Troika monitoring, etc - that comes with it.
Thursday, May 31, 2012
Another one from Tim Duy:
Push Comes to Shove, by Tim Duy: The Spanish banking crisis is forcing another showdown in Europe with the German-led Northern contingent increasingly under siege not just from the South but now from just about everyone else. Spain is under pressure to finance a bank recapitalization, but worries that that path will push them straight into a Troika bailout program. And we all know just how well that has worked for Greece and Ireland and Portugal. And Spain holds real leverage. No one is under the delusion (well, almost no one) that Spain can exit the Euro without significant economic damage throughout Europe. Hence we are seeing increasing pressure on Germany to step-up the timetable to real fiscal integration, starting with a Euro-wide banking rescue using ESM funds. From Bloomberg:
German Chancellor Angela Merkel was besieged by critics for letting the euro crisis smolder, with the leaders of Italy and the European Central Bank demanding bolder steps to stabilize the 17-nation economy.
Italian Prime Minister Mario Monti and ECB President Mario Draghi pushed Germany to give up its opposition to direct euro- area aid for struggling banks. Monti further antagonized Germany by urging a roadmap to common borrowing.
The idea is to let banks tap the funds directly without going through their respective national governments - thus avoiding another Troika bailout disaster. Germany, of course, continues to resist, as this would force them to give up one of their tools to enforce austerity throughout Europe. Perhaps, however, German Chancellor Angela Merkel is starting to break under the pressure:
Merkel put some nuance into the German position today. While promising “no taboos” in attacking the crisis, she floated a timeline of “five to 10 years” for fixing flaws in a currency shared by countries with divergent wealth and attitudes toward taxing and spending.
Of course, Europe doesn't have a 5 to 10 year horizon. I am thinking they have something closer to a 5 to 10 week horizon to get their act together. Something big is going to happen in Europe this summer, and I think the odds of a tail-end outcome are increasing, at both ends of the tail. Either Europe pulls together sooner than the German timeline, or finally blows apart. The middle-ground, muddle-through option looks less attractive each day.
Cash Exiting China, by Tim Duy: Something that I have thinking about for a few weeks - and was reminded of reading Ryan Avent this morning - is the series of pieces at FT alphaville regarding the outflow of cash from China. See here and here and here. The thinking had been that the renminbi was a one-way bet as China moved forward with capital account liberalization as investors rushed to be part of the Chinese story. The growing exodus of cash, however, is calling that story into question.
Moreover, I am interested in how much of the outflow is attributable to a generalized rush to safety as a result of the European crisis versus how much is attributable to capital flight due to a a deteriorating economic environment inside China itself. I am reminded of this story from the Wall Street Journal earlier this year:
With a fortune of at least $1.6 million, Mr. Shi is part of the wealthy elite that benefited most from the Communist Party's brand of capitalism. He is riding the crest of arguably the biggest economic expansion in history.
And yet, while the party touts the economic success of the "Chinese model," many of its poster children are heading for the exits. They are in search of things money can't buy in China: Cleaner air, safer food, better education for their children. Some also express concern about government corruption and the safety of their assets.
Domestic money in China will be the first to head for the exit - insiders will always know more than outsiders about the underlying economic conditions. So the exodus of cash could indicate that the Chinese story is coming to a close - and that will have significant consequences for the global economy. It is another signal that emerging markets will not be supporting global demand anytime soon. I think the team at alphaville is right - this story is slipping under the radar while we all have our eyes focused on the farce in Europe. But it could be the real game changer in the global economy.
Thursday, May 24, 2012
European leaders put off any decisions on shoring up the region’s banks at a late-night summit on Wednesday despite rising concerns that instability in Greece was undermining confidence in the eurozone’s financial sector.
Instead, the heads of the EU’s main institutions were given the task of drawing up proposals for closer fiscal co-ordination in time for another summit next month, including plans that could include a path towards a Europe-wide deposit guarantee scheme and, in the longer term, commonly-backed eurozone bonds.
The trouble is that Europe doesn't have a month to wait for another summit. I am not confident they even have a week. But not to fear - the ECB is expected to step into the breech once again. At least that is the hope. But notice the irony. Germany doesn't want Eurobonds because of the moral hazard risk. They don't want to get stuck paying for Southern Europe's profligacy. At the same time, the ECB does want to act as lender of last resort for fear that will only encourage policymakers to put off hard decisions on fiscal union. Moral hazard to the right, moral hard to the left. The only path left is gridlock - and failure.
In the meantime, the Wall Street Journal reports on accelerating plans for a Greek exit.
European officials are stepping up contingency planning for a possible Greek exit from the euro zone, even as Europe's leaders struggled to overcome differences on how to resolve the currency bloc's crisis at a summit meeting here.
And, for good measure, St. Louis Federal Reserve President James Bullard let's us know that he sleeps easy at night. Via Reuters:
"I'm one that thinks that Greece could exit, and it could be handled in an appropriate way without causing too much damage, either in Europe or in the U.S.," St. Louis Federal Reserve Bank President James Bullard told Reuters.
I wish I could be so confident.
Wednesday, May 23, 2012
Cutting Off Your Nose...: ...to spite your face. This should be the new, official slogan of German policymakers. It is pretty clear that financial conditions in Europe are unravelling, now putting the Euro into free-fall. European policymakers simply became far too complacent over the winter, thinking that the ECB's two LTROs had fixed the problem. And, in a sense they did - for the moment. But as it became increasingly evident that the ECB was back out of the game, everything went sour. The economic realities came back into play. Moreover, there has been precious little action taken to resolve those problems - essentially, the lack of an federal fiscal institutional structure - that would make a common currency workable.
Moreover, Germany continues to block movement in that direction. From the FT:
Germany refused to share the debt burden of stressed eurozone peers on Tuesday, ignoring two of the most influential international economic bodies which offered support for proposals championed by Paris, Rome and Brussels ahead of a summit.
Angela Merkel, Germany’s chancellor, has argued that any co-mingling of eurozone debt would remove incentives for southern economies to adopt structural reforms. The calls from the International Monetary Fund and the Organisation for Economic Co-operation and Development came on the eve of Wednesday’s EU summit.
Merkel sees a large stick as the only way to end the crisis. She is unwilling to recognize that she needs to match that stick with a large carrot. At the end of the day, rather than concede on the necessity of internal fiscal transfers to make this work, she would rather doom the entire project to failure.
And speaking of the path to failure, notice another warning sign. Germany is now selling zero coupon bonds. Again from the FT:
Germany sold €4.5bn of two-year government bonds at a record low yield of 0.07 per cent, underscoring the strong demand for safer assets amid fears that Greece could be forced out of the eurozone.
The German Bundesbank said the two-year “Schatz”, which was sold with a zero-coupon for the first time, received bids for €7.7bn, compared to a maximum sales target of €5bn.
Germany is rushing headlong on the Japanese (and arguably) US path, dragging the rest of Europe along for the ride. Of course, German policymakers see it exactly the other way, and worry about the moral hazard implications of changing course. But Europe is beyond moral hazard, which at this point is just something to talk about over a few pints at the pub. Germany needs put moral hazard concerns in the back seat and find a cooperative path, and needs to find it soon.
Tuesday, May 22, 2012
Calm Before the Storm?, by Tim Duy: A relatively calm start to the week. Can it last? Almost certainly not. It will get worse before it gets better.
A few themes popped since last Friday that are worth considering. First is that some calmer voices have come to the forefront, arguing that a Greek exit is not really all that likely. See Brad Plummer at Ezra Klein's blog or Kate MacKenzie at FT Alphaville. The general point: Breaking up is hard to do. No argument here - a Greek exit would be ugly for Greece, and the rest of Europe as well. And, by all accounts, the Greek people don't want that outcome. The problem, however, is that the alternative, unending austerity to induce a substantial internal devaluation, is not really a solution either.
Indeed, it seems to me that on the current path, the cost of austerity will soon outweigh the cost of exit. And we are running out of time to change that trajectory. As I noted in my last post, it looks like the Greece fiscal situation is quickly deteriorating. And it looks like a collapsing tourism industry will only worsen the economy, thereby putting additional pressure on deficit to GDP targets. From FT Alphaville:
Greece received a boost last year as the unrest in the Middle East made countries such as Egypt unattractive destinations. But it looks like German tourists won’t be propping up the Greek economy so much this summer...
...When you think of the tax revenue that might be lost from this drop in activity, it’s possibly another sign that the bailout programme may be so far off course since the elections that it could have to be renegotiated anyway.
The last bailout is quickly being overtaken taken overtaken by events. What will be the demands of any new bailout? If history is any guide, more austerity - and with it a higher probability of exit.
This seems to be exactly the story that Syriza party leader Alexis Tsipras is trying to sell in Germany. To be sure, this is politically motivated, as he seeks to convince Greeks that voting for his party does not ensure an exit. Indeed, he is pushing the opposite story - that only by tearing up the bailout agreement can Greece stay in the Euro. From Bloomberg:
“Until when should German taxpayers pay into a bottomless pit?” Tsipras said to reporters in Berlin today after he held talks with leaders of Germany’s anti-capitalist Left Party. “It apparently flows to the Greek economy, but in reality only the banks and bankers are being financed.”...
...For Greeks, voting for Syriza “doesn’t mean that we’ll be kicked out of the euro,” he said. “It will mean a great opportunity for us to save the euro.”
A victory for Syriza would mean stability for Greece, whereas insisting on a continuation of the “catastrophic” austerity measures means a return to the drachma, Tsipras said.
I think he is right - except that to the Germans, tearing up the bailout is the same thing as exiting the Euro. Both sides have their hands on the buttons that ensure mutually assured financial destruction, and each austerity package forces Greece closer to pushing that button.
Another theme is one I find particularly intriguing - the idea that Greece will establish an internal currency that trades side-by-side with the Euro. FT Alphaville explains a version of this plan by Deutsche Bank’s Thomas Mayer. The basic idea is that the government will need to turn to issuing some kind of IUO's in the weeks ahead due to its deteriorating fiscal situation. The new currency would trade internally and need to be exchanged for Euros to pay for imports. The exchange rate would not be one to one, of course, and internal prices would be devalued against the Euro. To prevent the banking system from collapsing, it would need to be pulled into European supervision that guarantees Euro denominated accounts - thereby alleviating the fear of depositors that their Euro accounts would be replaced with a New Drachma, thus preventing a massive bank run. This is only a half exit, and the goal would be to stabilize the budget to the point where the government could cease printing the New Drachmas and eventually return to the Euro.
I am not confident this would work - and particularly not confident that the Greek government could wisely use its new-found power of the printing press. But it is a possible third way out, and this is a situation that desperately needs a third way.
Finally, Eurobonds are back on the table. Sort of. From the Wall Street Journal:
But next month's elections in Greece could dramatically change the euro zone's political calculus, analysts say. A victory by parties opposed to the bailout negotiated with the euro zone and the International Monetary Fund would sharply raise the risk of Greece leaving the currency area, and possibly prompt policy makers to adopt more far-reaching measures to contain the turmoil arising from such a threat.
These bolder policies include the creation of "euro bonds," or debt jointly guaranteed by the euro zone that would allow weaker countries such as Spain to borrow at interest rates partly subsidized by Germany. Berlin remains staunchly opposed, though new French President François Hollande is expected to raise the topic during informal discussions at the summit.
Edward Harrison argues that Germany is not entirely opposed to the idea and see a path - an austerity-laden path - to Eurobonds. (Other views on the role of Eurobonds can be found at the NYT's Room for Debate). The challenge, however, is that Europe doesn't have time to wait. Nor does it have time to wait for the other institutional plumbing, such a mechanism for Eurozone bank recapitalization under a full banking union.
Lacking a path to a real fiscal and economic union, the outcome of tomorrow's EU meeting is likely to disappoint. Back to the Wall Street Journal:
Without agreement on these major steps, the leaders will in the meantime back three relatively minor policy initiatives. The first is a proposal to increase the capital of the European Investment Bank, the bloc's long-term lending arm, by €10 billion. The second proposal would ease requirements for troubled governments to use funds due to them from the EU budget.
The third is a plan to borrow money against the EU budget that would be dedicated to infrastructure-investment projects. The plan would create a pilot project using €230 million in EU budget money that could leverage funds of up to €4.6 billion. After two years, the program will be reviewed and possibly increased.
Analysts say none of these ideas is enough to have a significant, near-term macroeconomic effect in the bloc's troubled economies.
"These ideas don't materially improve trend growth prospects in the euro zone," said Mujtaba Rahman, an analyst at the Eurasia Group, a political risk consulting firm. "It's a lot of rhetoric and not a lot substance."
Enough to look like policymakers are doing something, but a far cry from the steps needed to bring the crisis under control. In other words, more of the same.
Friday, May 18, 2012
Can the euro be saved?:
Apocalypse Fairly Soon, by Paul Krugman, Commentary, NY Times: Suddenly, it has become easy to see how the euro — that grand, flawed experiment in monetary union without political union — could come apart at the seams ... with stunning speed, in a matter of months... And the costs — both economic and, arguably even more important, political — could be huge. ...
Greece is, for the moment, the focal point. Voters who are understandably angry at policies that have produced 22 percent unemployment — more than 50 percent among the young — turned on the parties enforcing those policies. And ... the result ... has been rising power for extremists. ... Greece won’t, can’t pursue the policies that Germany and the European Central Bank are demanding.
So now what? Right now, Greece is experiencing ... a somewhat slow-motion bank run, as more and more depositors pull out their cash in anticipation of a possible Greek exit from the euro. Europe’s central bank is, in effect, financing this bank run by lending Greece the necessary euros; if and (probably) when the central bank decides it can lend no more, Greece will be forced to abandon the euro and issue its own currency again.
This demonstration that the euro is, in fact, reversible would lead, in turn, to runs on Spanish and Italian banks. Once again the European Central Bank would have to choose whether to provide open-ended financing; if it were to say no, the euro as a whole would blow up.
Yet financing isn’t enough. Italy and, in particular, Spain must be offered hope —... some reasonable prospect of emerging from austerity and depression. Realistically, the only way to provide such an environment would be for the central bank to ... accept and indeed encourage several years of 3 percent or 4 percent inflation...
Both the central bankers and the Germans hate this idea, but it’s the only plausible way the euro might be saved. ... So will Europe finally rise to the occasion? Let’s hope so... For the biggest costs of European policy failure would probably be political.
Think of it this way: Failure of the euro would amount to a huge defeat for the broader European project, the attempt to bring peace, prosperity and democracy to a continent with a terrible history. It would also have much the same effect that the failure of austerity is having in Greece, discrediting the political mainstream and empowering extremists.
All of us, then, have a big stake in European success... The whole world is waiting to see whether they’re up to the task.
Closer to Colliding, by Tim Duy: Each passing day brings the runaways trains closer to collision.
The European strategy to scare the Greek people into voting for pro-austerity parties was always risky. My tendency is to think it will drive voters in the other direction, this is especially the case if voters come to believe they hold the real leverage. And that is exactly the strategy that is emerging. From the Wall Street Journal:
The head of Greece's radical left party says there is little chance Europe will cut off funding to the country and if it does, Greece will repudiate its debts, throwing down a gauntlet that could increase tensions between Greece's recalcitrant politicians and frustrated European creditors...
..."Our first choice is to convince our European partners that, in their own interest, financing must not be stopped," Mr. Tsipras said in an interview with The Wall Street Journal. "If we can't convince them—because we don't have the intention to take unilateral action—but if they proceed with unilateral action on their side, in other words they cut off our funding, then we will be forced to stop paying our creditors, to go to a suspension in payments to our creditors."
Europe and the Greece are locked in a battle of mutually assured financial destruction. Nor can European leaders afford to take Tsipras' threats lightly:
According to recent opinion polls, Mr. Tsipras' party is poised to win the most votes in repeat elections next month, bettering its surprise second-place finish in an inconclusive May 6 vote that left no party or coalition with enough seats in Parliament to form a government. With Mr. Tsipras poised to win pole position in the coming vote, it raises the risk that Greece will soon face a showdown with its European creditors over the contentious austerity program that Athens must implement in order to receive fresh aid.
If Europe caves and gives in to Greek demands, however, a new set of challenges to the austerity agenda will arise. How long would it be before the people of Spain or Italy or Portugal or Ireland realize that they too have much more leverage than they ever imagined. Can the Troika cave to Greece while remaining credible with other troubled economies? I doubt it - which I think increases the risk that the core of Europe will believe it necessary to create a moral hazard example out of Greece.
Of course, this worked so well with Lehman Brothers. We will just foget about that little detail for the moment.
Thursday, May 17, 2012
Senior European leaders are attempting to turn Greece’s repeat national election next month into a referendum on the country’s membership of the euro, a high-stakes political gamble that officials believe can win back voters disillusioned by the tough bailout conditions but eager to stay in the single currency.
José Manuel Barroso, president of the European Commission, made the choice clear on Wednesday, telling Greek voters the €174bn rescue programme would not be changed and that remaining in the eurozone was now in their hands...
...“The next election is going to be a sort of referendum election,” said one eurozone finance minister. “We are going to convey very clearly to the Greek people that if there is no stable government to implement the conditions of the programme then we are going to have difficulties and are going to have to adopt plan B.”
I thought the last election was supposed to be a referendum on Greece's commitment to the Euro. European policymakers fail to understand that they have provided the Greek people no way out - they are damned if they do, damned if they don't. Even if the Greeks overwhelming want to remain in the Euro, the austerity program guarantees ongoing recession, and the Greek people are being asked to commit to a program that is effectively already overtaken by events. The deteriorating fiscal situation seems to guarantee a new program will be necessary in the months if not weeks ahead. Would the rest of Europe agree to another bailout, regardless of whatever new conditions were required to get another deal done? If the rest of Europe really wants Greece to stay in the Euro, I think it can only work with a program of bilateral transfers to Greece in exchange for radical, rapid restructuring of the economy. Carrot, meet stick.
The rest of Europe might not think this is fair, but let's be honest - ultimately, it wasn't fair to bring Greece into the Euro in the first place.
On the issue of internal fiscal transfers, British Prime Minister David Cameron is joining the chorus of policymakers calling on Continental leaders to understand the extent of their problem:
“Either Europe has a committed, stable, successful eurozone with an effective firewall, well-capitalised and regulated banks, a system of fiscal burden sharing and supportive monetary policy across the eurozone or we are in uncharted territory which carries huge risks for everyone.”
That pretty much summarizes the situation. The institutional structure, the fiscal plumbing, simply isn't present in the Eurozone to adequately adjust for asymmetric shocks. End of story. Either get that structure in place or accept that the project is a failure. Can Europe make such a transition fast enough? Yes - with German leadership to offer a mix bilateral transfers, Eurobonds, and ECB commitment to stand as lender of last resort to all the region as a whole. Economically possible and politically possible, however, are two different things.
Finally, the ECB has reverted to its usual helpful self. From Bloomberg:
The European Central Bank is conducting a comprehensive review of all its policy tools and has no immediate plans to increase stimulus even as market tensions mount, two euro-area officials said.
The review, mandated by the central bank’s six-member Executive Board, intends to assess the effectiveness of its measures, including the bond-buying program and long-term refinancing operations, and is scheduled to be completed in June or July, said the officials, who spoke on condition of anonymity because the deliberations are private. A third official said the ECB may not consider taking any further policy action until July, and that the bank sees current market tensions as a way of focusing politicians’ minds on reform efforts.
Way to stay ahead of the central banking curve! Maybe if ECB members just close their eyes, tap their heels together, and softly whisper "there's no place like home," the crisis will come to a sudden end.
Hey, it works in the movies.
Wednesday, May 16, 2012
Here's the third part (German version) of an interview of Jamie Galbraith conducted a few weeks ago by Roger Strassburg and Jens Berger of the German blog NachDenkSeiten (first part, second part). This is on the Euro crisis:
NDS: You've pretty much followed what's been happening in Europe in the past years, haven't you?
Galbraith: I have been.
NDS: You've seen what's been going on in Germany? I've sent you some stuff that may or may not have enhanced what you know.
Galbraith: Thanks to you I have some familiarity.
NDS: I think if you look at the euro crisis, the financial crisis, and the reaction from German policy-- because Germany's power – became the European answer to the Euro crisis. Do you think that if we look at inequality, is inequality rising due to reactions like the austerity policy, like the constitutional debt brake, which now comes in future and … the Stability Pact...
Galbraith: Well, what you're seeing already is divergence across Europe, and that's the basic mechanism of rising inequality – and again, what played out in the United States in the form of credit booms to sectors, and in some cases in housing to various parts of the country – that boom followed by a bust played out in Europe as credit booms to countries, so you see the rise and the fall of Ireland and Spain and so forth, and it's that divergence which is truly the major, the largest single stress in the euro zone right now. Obviously what you describe going on inside Germany is also important, but the German national community is still bound together with a great many stabilizing institutions that still exist, although they are – as in the United States...
NDS: ...very much weakened...
Galbraith: …they're weakened, but they are still strong compared to what happens across national lines. So you expect things to fracture along the weakest links, and that's clearly the national boundaries in Europe. What will happen as a result of that is that you'll have a re-management of populations. It's clear that anybody with a professional qualification and the ability to do so will exit Greece to large expatriate communities already in the United States and in Australia. People will go – and Europe has a long history of people emigrating from Portugal and Spain – and if pressed, they will do that again. So you're going to see that the failure to stabilize national economies in Europe is simply going to lead, in the long run, to the redistribution of its populations.
NDS: I know you did compare inequality in Europe with the United States in your book. Do you think it's really legitimate to compare Europe, though, to the United States? In general you don't move from one country to another very often, because learning a language, of course, you're not going to learn a language and then move somewhere else two years later.
Galbraith: But I assure you, people do in fact, and they will. But it doesn't matter – in any event, for a valid measure of inequality, it is not necessary that people physically move. The important thing is that Europe is a unified economic whole from the standpoint of, let's say, an enterprise making investment decisions or an investor making portfolio decisions. The absence of barriers to capital mobility is just as decisive in creating a unified entity as fluidity of labor movement. But the other thing is one should not exaggerate the extent to which people inside the United States move permanently from one part of the country to another – it's very common for professionals, but a very large part of the population lives where it started from.
NDS: I don't know if you'd just call it a strategy, or if it's just more of an ideology of competitiveness between countries – Germany even goes so far as to want to have competition between the states for investment.
Galbraith: One consequence of European integration, which was clearly foreseen from the beginning and is characteristic of all industrial systems as they move to larger scale is that activity concentrates in the most competitive spot, and it's not just industrial, it's also agricultural. You've actually had concentration of certain agricultural activities in north Europe, which would hardly be thought to be ideal for that, but it happens. And it was foreseen that this would require compensating investments in the European periphery, but those investments haven't been close to being of an adequate scale. The same exact thing was true in the United States. You had, as the country developed on a continental level, industrial activity concentrated the North, Northeast and the Midwest. What ultimately happened to offset that was the New Deal. And the New Deal distributed economic activity – massive infrastructure projects in the South. We had, of course, the advantage of having a single country from the standpoint of distributing military expenditures, which is very important in the State of Texas, very important in other parts of the South. And we had a continental-level Social Security system that was established, which basically means that your base retirement is done at the national standard, not the local standard. So if you have a working life in Alabama, you're still getting at least the federal minimum Social Security payment. This has an enormous equalizing effect. People talk about the ways in which the United States is a very unequal country, but over the last 80 years, it has become radically less unequal geographically than it was before. It was a huge difference between the North and the South, which is no longer the case. Even forty years ago, when I was a kid, nobody, let's say, very few academics would consider making a move from New England to Texas. Because it was a oneway trip, you took a big cut in pay and you would never be able to come back. Now it's routine. The whole place has become substantially integrated, at least to a certain level. Now there are lots of inequalities and growing inequalities at the local level in the U.S., which is what people observe, but at the national level, it's much, much less than it used to be.
NDS: So do you think that a modern version of the Roosevelt New Deal would be the right answer for the euro crisis?
Wednesday, May 09, 2012
One more from Tim Duy:
Hopeful Signs From Europe?, by Tim Duy: While I suspect this is a case of too little, too late, it is increasingly evident that European policymakers on some level realize the errors of their ways. From the Wall Street Journal:
Euro-zone governments are expected to give Spain more leeway to meet its budget-deficit target next year, according to officials involved in the discussions, in a sign they intend to shift away from rigid enforcement of the currency bloc's budget rules.
Austerity will still be the guiding principle of European fiscal policies. But the likely Spanish move suggests the rules will be adjusted in some cases to account for the fact that when economies go into recession, their budget deficits usually rise.
Officials said the flexibility is unlikely to stop with Spain's politically sensitive deficit target. Among other countries that may take advantage of the rules in the future is France, which would have to pass large cuts to achieve its current deficit target for next year—a task likely to clash with the pledges of Socialist President-elect François Hollande to spur economic growth.
It is not clear that this shift gives struggling nations enough room, but it is a step in the right direction that policymakers now recognize that austerity programs have been self-defeating. Likewise, perhaps even the Bundesbank is coming around to the realities of European adjustment. From the FT:
The Bundesbank, the most hawkish of central banks, has signalled it would accept higher inflation in Germany as part of an economic rebalancing in the eurozone that would boost the international competitiveness of countries worst-hit by the region’s debt crisis.
A future German inflation rate above the eurozone average could be part of a natural adjustment process as crisis-hit countries pulled themselves out of recession, the Bundesbank argued in evidence to German parliamentarians submitted on Wednesday.
That said, I wouldn't get too eager that the Bundesbank is eager to rush into more easing:
“In this scenario, Germany could in the future have an inflation rate somewhat above the average within the European monetary union, although monetary policy will have to ensure that inflation overall in the Emu is consistent with the goal of price stability and that inflation expectations remain firmly anchored,” the bank said.
They are not talking about easing overall policy, just acknowledging that even in the context of a maintained inflation target, Germany will experience inflation in excess of that target.
All in all, though, positive developments, at least at the margin. My concern is that all the recent talk about "growth compacts" and such will yield more headlines than positive outcomes, and as a consequence policymakers will begin to believe that the original path of austerity was in fact the only path to follow.
Tuesday, May 08, 2012
Greece, Again, by Tim Duy: It is shaping up to be another long, hot summer, and not just because of global warning. As has been widely noted, the austerity backlash in Europe began in earnest this past weekend. And Greece is once again the epicenter, at least for now. The Greek political system appears rudderless, which is calling into question the nation's resolve to complete the conditions of the last bailout package. Moreover, there are open calls for Greece to renege on the deal:
Greece’s Syriza party leader Alexis Tsipras, charged with forming a government, told his pro-bailout counterparts they must renounce support for the European Union- led rescue if there is to be any chance of forging a coalition.
Tsipras said he expected Antonis Samaras of New Democracy and Evangelos Venizelos, the former finance minister who leads the Pasok party, to send a letter to the EU revoking their pledges to implement austerity measures by the time he meets with them tomorrow to discuss forming a coalition. Samaras said he would not do so, and would support a minority government if necessary.
The Troika can't be particularly optimistic about Greek resolve whatever government finally holds together. Also note that in the coming days, Greece is faced with some real debt management decisions. From Bloomberg:
The government taking office after this weekend’s election has 30 days to decide whether to make today’s interest payment on 20 billion yen ($250 million) of 4.5 percent notes maturing in 2016, or default. Then, by May 15, officials must decide if they’re going to repay the 436 million euros ($555 million) due on a floating-rate note issued a decade ago.
These are among about 7 billion euros of bonds whose holders took advantage of being governed by foreign rather than Greek law to sidestep losses suffered under the private-sector involvement rescheduling, or PSI. Paying the holdouts in full would arouse the ire of Greek taxpayers, as well as investors who cooperated with PSI. A failure to pay would signal Europe’s debt crisis is worsening.
A lot of moving pieces here, but any way you organize the pieces, the odds of a Greek exit from the Eurozone are heading up with each passing day, and market participants are increasingly leaning in that direction. From Bloomberg:
“This summer I think is very likely,” Taylor, founder and chief executive officer of FX Concepts in New York, said today in an interview on Bloomberg Television’s “Inside Track” with Erik Schatzker and Sara Eisen. “The Europeans aren’t going to give them the money, the International Monetary Fund’s not going to give them an OK. They will be out of money in June.”
June is coming up fast. And, for the moment, the rest of Europe is drawing a line in the sand. As expected, the Germans are at the forefront. From Reuters:
The European Central Bank will not renegotiate Greece's bailout package and there are no alternatives to sticking with it if Greece wants to stay in the euro zone, ECB Executive Board member Joerg Asmussen was quoted as saying on Tuesday.
"Greece needs to be aware that there are no alternatives to the agreed bailout program, if it wants to stay in the euro zone," Asmussen told German financial daily Handelsblatt.
See also Athens News. Of course, the sustainability of the last bailout might have been a moot point anyway, given that the Greek economy will likely deteriorate more than expected anyway. From Athens news:The economy will contract by a steeper-than-expected 5 percent this year, the central bank chief said in a speech to the bank's shareholders on Tuesday.Last month, the bank in March had forecast a 4.5 percent contraction in the economy this year.
I don't know if this includes expectations of a decline of the Greek tourism industry. From ekathimerini:
Online tourism bookings from abroad are pointing to a 12.5 percent decline for this year, according to the Airfasttickets travel agency.
Nikos Koklonis, head of the company that owns the agency, says that the biggest drop in bookings for Greek destinations this year is from the German market, which last year accounted for 15 percent of all bookings. Its share has now shrunk to just 3 percent.
In my opinion, what makes a Greek exit more likely is the apparently growing belief that the external costs will be minimal. Back to Bloomberg:
“I think that people are feeling the implications of a Greek exit aren’t so bad,” Taylor said. If Greece leaves the euro, Europeans will “turn around and huddle together and say, ‘how do I help Portugal and Spain?’”
And Athens News:Voters' rejection of pro-bailout political parties in Sunday's election has raised the chances of Greece leaving the euro, but this unprecedented step is seen as manageable rather than catastrophic for the currency bloc.Some banks have raised estimates of the likelihood of Greece quitting the euro. But after a year of investors shedding bonds issued by highly indebted euro zone countries and big injections of central bank cash, they said the damage could be contained.And from CNNMoney:
The results of the latest elections in Greece may make it more likely that the country will eventually leave the eurozone. But such an exit would probably be more orderly than Greece's default, experts said....
..."[Greece] is not going to get pushed, but they might walk out," Citi chief economist Willem Buiter said at last week's Milken Institute Global Conference...
...Economist Nouriel Roubini thinks Portugal and Ireland may also find themselves restructuring their debt and could even wind up following Greece out the door, but none of that should prove disruptive to world markets.
"If a small country -- like Greece or Portugal -- exit, you can have an orderly divorce, but if that restructuring and/or exit hits Italy or Spain, effectively you could get a breakup of the eurozone," Roubini said. But he added that's an unlikely scenario....
The proximate cause for such optimism, I believe, is that the much feared Greek debt default failed to trigger a financial collapse. Apparently, European policymakers kicked that can far enough down the road that financial market participants had time to adjust to that ultimate outcome. That, in addition to the two LTRO's and more firepower in other emergency funding facilities have perhaps created a sense of complacency about a Greek exist from the Eurozone. And that complacency suggests that there will be no third bailout for Greece, especially if that means reserving resources for other ailing Euro members. No bailout renegotiations will likely tip the balance such that staying in the Eurozone will be more costly than exit.
Whether or not Europe should become so sanguine about a Greek exit is another question entirely. But perhaps at this point such concerns are irrelevant anyway. Unless economic conditions dramatically shift in a positive fashion in Greece, it is increasingly difficult to see how this ends with anything but a Greek exit from the Eurozone.
Monday, May 07, 2012
Joe Stiglitz on Europe:
After Austerity, by Joseph Stiglitz, Commentary, Project Syndicate: This year’s annual meeting of the International Monetary Fund made clear that Europe and the international community remain rudderless when it comes to economic policy. Financial leaders, from finance ministers to leaders of private financial institutions, reiterated the current mantra: the crisis countries have to ... bring down their national debts, undertake structural reforms, and promote growth. Confidence, it was repeatedly said, needs to be restored.
It is a little precious to hear such pontifications from those who, at the helm of central banks, finance ministries, and private banks,... created the ongoing mess. Worse, seldom is it explained how to square the circle. How can confidence be restored ... when austerity will almost surely mean a further decrease in aggregate demand, sending output and employment even lower? ...
There are alternative strategies. Some countries, like Germany, have room for fiscal maneuver. Using it for investment would enhance long-term growth, with positive spillovers to the rest of Europe. ...
Europe as a whole is not in bad fiscal shape... If Europe – particularly the European Central Bank – were to borrow, and re-lend the proceeds, the costs of servicing Europe’s debt would fall, creating room for the kinds of expenditure that would promote growth and employment.
There are already institutions within Europe, such as the European Investment Bank, that could help finance needed investments in the cash-starved economies. ...
The consequences of Europe’s rush to austerity will be long-lasting and possibly severe. If the euro survives, it will come at the price of high unemployment and enormous suffering, especially in the crisis countries. And the crisis itself almost surely will spread. ...
The pain that Europe, especially its poor and young, is suffering is unnecessary. Fortunately, there is an alternative. But delay in grasping it will be very costly, and Europe is running out of time.
Wednesday, May 02, 2012
A quick one while waiting for Bill Clinton to take the stage at the conference I'm attending. This is Ken Rogoff:
Why a More Flexible Renminbi Still Matters, by Kenneth Rogoff, Commentary, Project Syndicate: One of the most notable macroeconomic developments in recent years has been the sharp drop in China’s current-account surplus. The International Monetary Fund is now forecasting a 2012 surplus of just 2.3% of GDP, down from a pre-crisis peak of 10.1% of GDP in 2007, owing largely to a decline in China’s trade surplus – that is, the excess of the value of Chinese exports over that of its imports.
The drop has been a surprise to the many pundits and policy analysts who view China’s sustained massive trade surpluses as prima facie evidence that government intervention has been keeping the renminbi far below its unfettered “equilibrium” value. Does the dramatic fall in China’s surplus call that conventional wisdom into question? Should the United States, the IMF, and other players stop pressing China to move to a more flexible currency regime?
The short answer is “no.” China’s economy is still plagued by massive imbalances, and moving to a more flexible exchange-rate regime would serve as a safety valve and shock absorber. ...[continue reading]...
Sunday, April 15, 2012
The ECB’s Lethal Inhibition, by Barry Eichengreen, Commentary, Project Syndicate: Last December, with Europe’s financial system on the brink of disaster, the European Central Bank stunned the markets with an unprecedented intervention... The ECB’s surprise liquidity operation put the continent’s crisis on hold. But now, just fourth months later, matters are again coming to a head. The big southern European countries, Spain and Italy, battered by austerity, are spiraling into recession. ... So, will it be once more into the breach for the ECB?
The hurdles to further monetary-policy action are high, but they are largely self-imposed. At its most recent policy meeting, the ECB left its policy rate unchanged, citing inflation half a percentage point above the official 2% target. ...
A second argument against further monetary-policy action is that it should be considered only as a reward for budgetary austerity and structural reform, areas in which politicians continue to underperform. ...
With governments hesitating to do their part, the ECB is reluctant to support them. In its view, rewarding them with monetary stimulus ... only relieves the pressure on national officials to do what is necessary.
If this is the ECB’s thinking, then it is playing a dangerous game. Without spending and growth, there can be no solution to Europe’s problems. Absent private spending, budget cuts will only depress tax revenues, requiring additional budget cuts, without end. There will be no economic growth at the end of the tunnel, and political support for structural reforms will continue to dissipate.
The ECB is preoccupied by moral-hazard risk... But it should also worry about meltdown risk... The ECB will object, not without reason, that ... a ... cut in policy rates or “quantitative easing” by another name will do nothing to enhance the troubled southern European economies’ competitiveness.
True enough. But, without economic growth, the political will to take hard measures at the national level is unlikely to be forthcoming. ...
Monday, February 27, 2012
Paul Krugman writing from Lisbon:
What Ails Europe?, by Paul Krugman, Commentary, NY Times: Things are terrible here, as unemployment soars past 13 percent. Things are even worse in Greece, Ireland, and arguably in Spain, and Europe as a whole appears to be sliding back into recession.
Why has Europe become the sick man of the world economy? ... Read ... about Europe ... and you’ll probably encounter one of two stories, which I think of as the Republican narrative and the German narrative. Neither story fits the facts.
The Republican story — it’s one of the central themes of Mitt Romney’s campaign — is that Europe is in trouble because it has done too much to help the poor and unlucky, that we’re watching the death throes of the welfare state. ...
Did I mention that Sweden, which still has a very generous welfare state, is currently a star performer...? But let’s do this systematically. Look at the 15 European nations currently using the euro..., and rank them by the percentage of G.D.P. they spent on social programs before the crisis. Do the troubled Gipsi nations (Greece, Ireland, Portugal, Spain, Italy) stand out for having unusually large welfare states? No,... only Italy was in the top five, and even so its welfare state was smaller than Germany’s.
So excessively large welfare states didn’t cause the troubles.
Next up, the German story, which is that it’s all about fiscal irresponsibility. This story seems to fit Greece, but nobody else. ...
So what does ail Europe? The truth is that the story is mostly monetary. By introducing a single currency without the institutions needed to make that currency work, Europe effectively reinvented the defects of the gold standard — defects that played a major role in causing and perpetuating the Great Depression. ...
If the peripheral nations still had their own currencies, they could and would use devaluation to quickly restore competitiveness. But they don’t, which means that they are in for a long period of mass unemployment and slow, grinding deflation. Their debt crises are mainly a byproduct of this sad prospect, because depressed economies lead to budget deficits and deflation magnifies the burden of debt.
Now, understanding the nature of Europe’s troubles ... makes a huge difference, because false stories about Europe are being used to push policies that would be cruel, destructive, or both. The next time you hear people invoking the European example to demand that we destroy our social safety net or slash spending in the face of a deeply depressed economy, here’s what you need to know: they have no idea what they’re talking about.