Last Wednesday (May 5, 2010) I wrote that Bailouts will not save the Eurozone in response to the miserable plan put forward to take the Greek government out of the bond markets for a period. Yesterday they announced a major ramping up of the credit line they are offering which is more characteristic of a fiscal rescue than anything else. However, it amounts to the blind leading the blind. The euro funds to finance the credit line are coming from the same countries that are in trouble. There are no new net financial euro assets entering the system as a consequence of this €750bn bailout plan and, ultimately, that is what is required to ease the recession and restore growth. The restoration of growth will also ease their budget issues. But this is Europe we are talking about. Despite the nice cars and bicycles they make, they are not a very decisive lot and their institutional structures are hamstrung by an arrogant sclerosis that pervades their polity and corporate world.
Apart from the obvious consistency issues that these “bailouts” pose for the design and rules of the EMU, the fact is they are missing the point. The problem lies in the flawed design of their system.
I particularly liked this opening gambit by UK Guardian commentator Larry Elliot in his May 19, 2010 article – IMF has one cure for debt crises – public spending cuts with tax rises:
Deadly riots. Public sector unions taking to the streets. An austerity package of mouthwatering severity. The news from Athens last week could mean only one thing: the International Monetary Fund had been in town.
That about says it all. Elliot puts the only question that needs to be answered “Why is it that the IMF’s medicine for Greece is exactly the opposite of what every other country did to stave off recession?”
What does the IMF and the EMU bosses think will happen in the countries they are imposing these austerity plans on?
First, the IMF knows that the “immediate prospects for the Greek economy … (are) … bleak” (quote from IMF boss Dominique Strauss-Kahn). They know full well that trying to cut a budget deficit when an economy is in a deep recession devastates local demand and economic growth.
Second, these austerity programs used to be called SAPs (Structural Adjustment Programs). They are deliberately designed to ensure that the public-private balance in an economy is irrevocably altered towards free markets and private production at race-to-the-bottom wages and conditions.
They promote environmental degradation as export markets are sought and local resources exploited with abandon. They promote significant increases in economic inequality as the wage share is cut in the hope that private investment will be stimulated.
They promote rising foreign-currency indebtedness as the “investors” move into pick the carcass made available at rock-bottom prices by privatisation. They promote foreign entry into service provision as the public service is hollowed out via outsourcing, contracting out or straight-forward privatisation.
That is the nature of the structural adjustment that the socialist Greek government is signing up for just to remain in the Eurozone. It is a price that is not worth paying given the experience of other nations that went through the same process during the 1980s after the Latin American debt crisis.
And the point is that it is totally unnecessary. The debt crisis is a mindless ideological construction. I am not saying the debts are not real and the Greek government is not liable. Obviously it is. But the choice to get itself in this position is totally voluntary.
It was obvious from the start of the EMU that it would be shown to be vulnerable to exactly these problems the first time it faced the stress test of a serious economic downturn. That downturn arrived – more serious than most – and the fatal design flaws in the EMU arrangements were there for all to see.
By surrendering their life jackets, it was obvious they would drown when the first big wave came – the weaker swimmers first and the stronger ones will follow later.
This ideological slant of these austerity programs is not headline news. It is all about fiscal responsibility and living within your means. But imagine if the taxe rises were aimed at the corporate sector or the high income earners and the spending cuts on corporate welfare and military expenditure. Imagine if luxury cars and clothing and wines were banned to “improve the current account”. Then the ideological nature of these impositions would become transparent. There would be such an outcry the world over.
The other point to note that the IMF intervention often masks a failed polity. Larry Elliot says:
History suggests that there are occasions when the fund’s intervention can help to restore confidence, often by simply providing cover for governments facing strong domestic opposition to unpalatable policies. In 1976, Callaghan and his chancellor, Denis Healey, agreed with the fund that cuts in public spending were needed, but knew it would be hard to get them past the trade unions and the left wing of the Labour party. Protracted, often bitter, discussions, both between the British government and the fund and rival factions in the cabinet, ended with deep cuts in spending in return for financial support for the pound.
So an unelected and unaccountable body is used as the Trojan Horse to undermine democracy. The point about democracy in my view is that it can lead to failed outcomes which generate costs that have to be borne by those who vote for the governments. I know the distribution of the costs of these failures are never proportionate.
But, in general, it is better for people to decide on public spending cuts rather than having them imposed. However, before deciding on spending cuts, the political debate has to determine what is the acceptable balance between public and private – or social and private and what level of benefits the country will support.
These choices are not of a financial nature. They relate to how the real pie is to be constructed and shared and how to use real resources in the future. If sacrifices and compromises have to be made to ensure that all competing demands on the available real resources are rendered compatible then these resolutions have to be reached politically.
By dressing the trade-offs as financial imperatives and then forcing one particular solution on the people, which reflects the mindless and failed IMF ideology is the anathema of democracy.
Most importantly, I would also note that in the British case in 1976 and the Greek case in 2010 – the lack of currency sovereignty was the cause. Britain was trying to hang on to some sort of corrupted peg even though the Bretton Woods system had completely collapsed in 1971. Greece gave up all sovereignty by joining the Eurozone.
Elliot also quotes Joseph Stiglitz who criticised the way the IMF dealt with the nations following the break-up of the Soviet Union:
The IMF kept promising that recovery was around the corner. By 1997, it had reason for this optimism. With output already fallen 41% since 1990, how much further was there to go?
You can still see the legacy of the IMF programs in these nations. I have been doing work over the last year in the old Soviet STANS (in Central Asia). There isn’t a lot to show for the 20 years of market liberalisation and privatisation that the Washington terrorists imposed on these nations. There are a few oligarchs who snaffled the privatised wealth. But there are thousands more who lost guaranteed superannuation that they had worked for their whole lives, and thousands who now have sub-standard housing and pay “market rents”.
Given the real resource wealth of these nations (barring some) the process of dismemberment could have been handled much better. A wider sharing of prosperity would almost certainly have resulted from a domestic-oriented full employment policy with a focus on first-class education, health and aged-care.
Elliot then quotes a former OECD economist who drew a parallel between the current crisis and the Asian crisis in 1997-98. Both were caused by failures in the private sector rather than the public sector and originated from “(m)alfunctioning banking systems”. The IMF – the one-trick pony – claimed the problems were caused by excessive government and not enough deregulation and demanded “cuts in public spending, higher taxes and lower government subsidies” in return for loans to restore foreign reserves.
The former OECD economist said of this:
The fund came in and prescribed fundamentally the wrong medicine. If the problem is a lack of private demand, the right approach is for governments to spend and to prevent the banking system from collapsing. The IMF told them to do the opposite. Politically speaking, it was a disaster in Asia. It was a searing experience for them and made Asian countries very sceptical about anything the west said. The west compounded that by doing exactly the opposite when it was our turn to face problems. Having gone through that experience they vowed individually and collectively ‘Never again’ and set about systematically building up their reserves.”
The failures go back in history though. Remember this graph which I posted last year and declared my chart of the year in my annual awards. The narrative for the chart was also presented in more detail in this blog – IMF agreements pro-cyclical in low income countries.
The graph uses World Development Indicators data, provided by the World Bank and shows Gross National Income per capita, which, in material terms is an indicator of increasing welfare.
The overwhelming evidence is that these programs increase poverty and hardship rather than the other way around. Latin America and Sub-Saharan Africa (which dominates the low income countries) were the regions that bore the brunt of the IMF structural adjustment programs (SAPs) since the 1980s.
While the high income countries enjoyed strong per capita income growth over the period shown (since 1980), Latin America (and the Caribbean) has experienced modest growth and the low income countries actually became poorer between 1980 and 2006.
The two trends are not unrelated. The SAPs are responsible for transferring income from resource wealth from low income to high income countries.
So Greek is signing up to this sort of destruction and life will not be the same after the IMF is through with them.
Greece will grow again in the future and the IMF will claim another success. It did the same with the South East Asian economies that it decimated in the late 1990s. They eventually grew but their recovery was unrelated to the IMF input.
Elliot uses one of my favourite anti-IMF examples to some effect. He says:
In the aftermath of the Asian crisis, the bigger emerging economies became warier of the fund. Russia defaulted on its debts in 1998, while Argentina, which had been the IMF’s poster child during a decade of austerity after 1990, abandoned its programme entirely in 2001 – deciding that default and devaluation was preferable to indefinite economic agony. The fund warned that the result would be pariah status, deep recession and hyper-inflation; Argentina actually grew by more than 60% over the subsequent six years.
And they successfully defaulted on their foreign-currency debt exposure although there is now signs of conservative forces emerging in that nation again which will begin the process of bond-market dependency all over again.
The fact is that Russia and Argentina and Greece all surrendered their currency sovereignty and, in doing so, created unsustainable positions for themselves. The IMF solution is to stop them regaining their currency sovereignty because they would be virtually out of a job if nations took control of their own affairs. Clearly in taking control default on the past “tainted” obligations is the best option.
This is anathema to the IMF and its private banking cronies because then there pillage of the nation’s resources is brought to a stop. As a note, I used the word tainted to describe obligations built up when a nation is not sovereign but is rather operating under the constraints imposed by a foreign currency.
Anyway, last week is was a €110bn bailout plan for Greece, this week it is a €750bn bailout plan for the entire currency union. Next week, ?.
Despite all the posturing and failure to acknowledge the real problems inherent in their monetary system, the pompous EMU bosses are inching closer to admitting – by their actions – the obvious. The Eurozone is built on flawed foundations and cannot work when there are serious demand crises.
Even in a general growth environment, the system cannot deliver reasonable living standards across the entire bloc.
So the €750bn package is recognition – finally – that their system is in a state of collapse. As the UK Guardian says (Source):
… this time the kitchen sink has been thrown at the problem.
An optimistic interpretation of the latest package is that it is signalling a need for a EMU-wide fiscal capacity, one that was denied in a bloody minded exercise of neo-liberal ideology with overtones of racism at the outset of the union. Clearly, Germany is still dominating the debate and they are dead against bailouts particularly when aimed at helping the indolent and haphazard southern Latinos they sell all their crap military equipment to (the racist overtones).
So I don’t expect progress on that front.
As I have noted previously, the sovereign debt issue is one thing, but the crisis is spreading to the banking system. A run on the banks in Europe will end their monetary system and force the ECBs hand. So things will get worse unless something major happens there.
The make-up of the credit line (between EU/EMU/IMF) is largely irrelevant from a monetary perspective. When you distil the hype you come to the conclusion that the troubled nations are just lending to themselves – as they have to because the bailout is in Euros. But this cannot provide a sustainable solution.
Budget deficits are flows – daily flows which under their monetary system require continual funding from external markets. If those markets refuse to fund any particular national government in the Eurozone then the EU has to step in. That is the basis of the lifeline announced yesterday.
You cannot eliminate these deficits in any short-time span. As the national governments roll over debt to raise funds for their net spending obligations the fund will prove to be inadequate.
Given the austerity packages that will accompany the bailouts, I expect the budget deficits to worsen as the austerity packages are implemented in Greece. So the austerity packages are going to increase not decrease these funding requirements.
So only will these austerity measures worsen and prolong the recession but the funding needs will expand. Given the way the EMU monetary system is structured, the Greek government will have to keep placing debt in the private bond markets or drawing on the EU bailout credit line. This need is what has brought the Eurozone to this point. It is going to get worse.
The Greek government cannot possibly satisfy the demands that are being placed on it, given it is hamstrung by the internally inconsistent EMU Treaty rules?
The problem is the lack of capacity of these national governments to issue their own currency. Under current institutional arrangements I cannot see the bailouts working. They will have a short-term palliative impact only on the bond markets but cannot overcome the intrinsic dysfunction in the Eurozone structure which has led to this crisis.
Within the logic of the EMU, there are only two outcomes: (a) The EU governments keep tipping bailout funds into Greece and then Spain and onto Portugal – without resolving the basic dysfunction in their monetary system; or (b) Greece will have to default and preferably leave the EMU.
In the context of the first outcome, the point this week (May 10, 2010) by the President of the European Commission in Brussels is of relevance:
The important point common to all these agreed elements today is that we will defend the euro whatever it takes. We have several instruments at our disposal and we will use them. The European Institutions – Council, Commission, European Central Bank and of course the Euro area Member States. This was the clear decision unanimously taken today.
Which brings us to the more obvious short-term solution – which staring them in their arrogant faces – the ECB is more than capable of injecting net financial assets denominated in Euros into the EMU system. It is the only entity that can make truly vertical transactions in euro.
So at present what is it doing? Managing liquidity to ensure the interest rate stays where it wants it.
Ultimately, the ECB is the only entity that inject the required net financial assets into the system. I doubt it will do this. I suspect they are hoping that the declining Euro will stimulate net exports sufficiently to inject growth into the region.
However if you think about that – the benefits of the declining euro will almost assuredly be appropriated by Germany and France and Benelux nations while the troubled southern European countries will enjoy very little gain. They would benefit if they could depreciate their own currency but given the disparate relative competitiveness within the EMU, the euro decline is unlikely to help them.
With Germany steadfastly refusing to expand domestic demand the net export bonanza will allow them to reduce their budget deficit without as harsh a domestic contraction that it is forcing – through the EU – onto Greece and soon Spain and then Portugal and Italy not to mention the hapless Irish.
No time to be a pensioner in Europe I would think.
Anyway, I have to write a piece for the press on the Federal Budget over here now.
So that is enough for today!