Nouriel Roubini writes: The risks facing the eurozone have been reduced since the summer, when a Greek exit looked imminent and borrowing costs for Spain and Italy reached new and unsustainable heights. But, while financial strains have since eased, economic conditions on the eurozone’s periphery remain shaky.
Several factors account for the reduction in risks. For starters, the European Central Bank’s “outright monetary transactions” program has been incredibly effective: interest-rate spreads for Spain and Italy have fallen by about 250 basis points, even before a single euro has been spent to purchase government bonds. The introduction of the European Stability Mechanism (ESM), which provides another €500 billion ($650 billion) to be used to backstop banks and sovereigns, has also helped, as has European leaders’ recognition that a monetary union alone is unstable and incomplete, requiring deeper banking, fiscal, economic, and political integration.
CommentsBut, perhaps most important, Germany’s attitude toward the eurozone in general, and Greece in particular, has changed. German officials now understand that, given extensive trade and financial links, a disorderly eurozone hurts not just the periphery but the core. They have stopped making public statements about a possible Greek exit, and just supported a third bailout package for the country. As long as Spain and Italy remain vulnerable, a Greek blowup could spark severe contagion before Germany’s election next year, jeopardizing Chancellor Angela Merkel’s chances of winning another term. So Germany will continue to finance Greece for the time being. [Continue reading...]
Michael Lind writes: More than half a decade has passed since the recession that triggered the financial panic and the Great Recession, but the condition of the world continues to be summed up by what I’ve called ‘turboparalysis’ — a prolonged condition of furious motion without movement in any particular direction, a situation in which the engine roars and the wheels spin but the vehicle refuses to move.
The greatest economic crisis since the Great Depression might have been expected to produce revolutions in politics and the world of ideas alike. Outside of the Arab world, however, revolutions are hard to find. Mass unemployment and austerity policies have caused riots in Greece and Spain, but most developed nations are remarkably sedate. Scandal and sputtering economic growth appear unlikely to prevent another peaceful transition of power within the Communist party of China. And in the US, the re-election of President Obama and the strengthening of his Democratic party in the US Senate reflect long-term demographic changes in an increasingly non-white and secular American electorate, not the endorsement of a bold agenda for the future by the Democrats. They don’t have one.
In the realm of ideas, turboparalysis is even more striking. On both sides of the Atlantic, political and economic debate proceed as though the bursting of the global bubble economy did not discredit any school of thought. Right, left and centre, the players are the same and so are their familiar moves. Public debate is dominated by the same three groups — market fundamentalists, centrist neoliberals, and mildly reformist social democrats — who have been debating one another since the 1980s. Someone who went to sleep like Rip Van Winkle in the 1980s when Reagan and Thatcher were in power and awoke today would find nothing new in the way of economic theories or political doctrines.
By now one might have expected the emergence of innovative and taboo-breaking schools of thought seeking to account for and respond to the global crisis. But to date there is no insurgent political and intellectual left, nor a new right, for that matter. In the US, the militant Tea Party right, many of whose candidates went down to defeat in this year’s elections, represents the last gasp of the Goldwater-Reagan coalition, not something fresh. The American centre-left under Obama is intellectually exhausted and politically feeble, reduced to rebranding as ‘progressive’ policies like the individual mandate system (‘Obamacare’) and tax cuts for the middle class which originated on the moderate right a generation ago. In Britain, the manifestos of various ‘colour revolutions’ — Blue Labour, Red Tory and so on — have the feel of PR brochures promoting rival cliques of ambitious apparatchiks rather than the epochal thinking the times require.
Why has a global calamity produced so little political change and, at the same time, so little rethinking? Part of the answer, I think, has to do with the collapse of the two-way transmission belt that linked the public to the political elite. Institutions such as mass political parties, trade unions, and local civic associations, which once connected elected leaders to constituents, have withered away in more individualistic and anonymous societies. One result is a perpetual crisis of legitimacy on the part of political elites, who owe their electoral successes increasingly to rich donors and skilful advertising consultants. New political movements are hard to found. At the same time, anachronistic movements can continue to raise funds or entertain audiences, even if, like America’s conservative movement, they lose election after election.
But there is a deeper, structural reason for the persistence of turboparalysis. And that has to do with the power and wealth that incumbent elites accumulated during the decades of the global bubble economy. [Continue reading...]
George Soros writes: I have been a fervent supporter of the European Union as the embodiment of an open society—a voluntary association of equal states that surrendered part of their sovereignty for the common good. The euro crisis is now turning the European Union into something fundamentally different. The member countries are divided into two classes—creditors and debtors—with the creditors in charge, Germany foremost among them. Under current policies debtor countries pay substantial risk premiums for financing their government debt, and this is reflected in the cost of financing in general. This has pushed the debtor countries into depression and put them at a substantial competitive disadvantage that threatens to become permanent.
This is the result not of a deliberate plan but of a series of policy mistakes that started when the euro was introduced. It was general knowledge that the euro was an incomplete currency—it had a central bank but did not have a treasury. But member countries did not realize that by giving up the right to print their own money they exposed themselves to the risk of default. Financial markets realized it only at the onset of the Greek crisis. The financial authorities did not understand the problem, let alone see a solution. So they tried to buy time. But instead of improving, the situation deteriorated. This was entirely due to the lack of understanding and the lack of unity.
The course of events could have been arrested and reversed at almost any time but that would have required an agreed-upon plan and ample financial resources to implement it. Germany, as the largest creditor country, was in charge but was reluctant to take on any additional liabilities; as a result every opportunity to resolve the crisis was missed. The crisis spread from Greece to other deficit countries and eventually the very survival of the euro came into question. Since breakup of the euro would cause immense damage to all member countries and particularly to Germany, Germany will continue to do the minimum necessary to hold the euro together.
The policies pursued under German leadership will likely hold the euro together for an indefinite period, but not forever. The permanent division of the European Union into creditor and debtor countries with the creditors dictating terms is politically unacceptable for many Europeans. If and when the euro eventually breaks up it will destroy the common market and the European Union. Europe will be worse off than it was when the effort to unite it began, because the breakup will leave a legacy of mutual mistrust and hostility. The later it happens, the worse the ultimate outcome. That is such a dismal prospect that it is time to consider alternatives that would have been inconceivable until recently. [Continue reading...]
Minxin Pei writes: Financial collapses may have different immediate triggers, but they all originate from the same cause: an explosion of credit. This iron law of financial calamity should make us very worried about the consequences of easy credit in China in recent years. From the beginning of 2009 to the end of June this year, Chinese banks have issued roughly 35 trillion yuan ($5.4 trillion) in new loans, equal to 73 percent of China’s GDP in 2011. About two-thirds of these loans were made in 2009 and 2010, as part of Beijing’s stimulus package. Unlike deficit-financed stimulus packages in the West, China’s colossal stimulus package of 2009 was funded mainly by bank credit (at least 60 percent, to be exact), not government borrowing.
Flooding the economy with trillions of yuan in new loans did accomplish the principal objective of the Chinese government — maintaining high economic growth in the midst of a global recession. While Beijing earned plaudits around the world for its decisiveness and economic success, excessive loose credit was fueling a property bubble, funding the profligacy of state-owned enterprises, and underwriting ill-conceived infrastructure investments by local governments. The result was predictable: years of painstaking efforts to strengthen the Chinese banking system were undone by a spate of careless lending as new bad loans began to build up inside the financial sector.
When the Chinese Central Bank (the People’s Bank of China) and banking regulators sounded the alarm in late 2010, it was already too late. By that time, local governments had taken advantage of loose credit to amass a mountain of debt, most of it squandered on prestige projects or economically wasteful investments. The National Audit Office of China acknowledged in June 2011 that local government debt totaled 10.7 trillion yuan (U.S. $1.7 trillion) at the end of 2010. However, Professor Victor Shih of Northwestern University has estimated that the real amount of local government debt was between 15.4 and 20.1 trillion yuan, or between 40 and 50% of China’s GDP. Of this amount, he further estimated, the local government financing vehicles (LGFVs), which are financial entities established by local governments to invest in infrastructure and other projects, owed between 9.7 and 14.4 trillion yuan at the end of 2010.
Anybody with some knowledge of the state of health of LGFVs would shudder at these numbers. If anything, Chinese LGFVs are known mainly for their unique ability to sink perfectly good money into bottomless holes in the ground. So taking on such a huge mountain of debt can mean only one thing — a future wave of default when the projects into which LGFVs have piled funds fail to yield viable returns to service the debt. If 10 percent of these loans turn bad, a very conservative estimate, we are talking about total bad loans in the range of 1 to 1.4 trillion yuan. If the share of dud loans should reach 20 percent, a far more likely scenario, Chinese banks would have to write down 2 to 2.8 trillion yuan, a move sure to destroy their balance sheets. [Continue reading...]
Charles Eisenstein writes: Federal Reserve chairman Ben Bernanke’s pledge at Jackson Hole last Friday to “promote a stronger economic recovery” through “additional policy accommodation” has drawn criticism from economists, liberal and conservative, who question whether the Fed has the wherewithal to stimulate economic growth. What we actually need is more spending, say the liberals. No, less spending, say the conservatives. But underneath these disagreements lies an unexamined agreement, a common assumption that no mainstream economist or policy-maker ever questions: that the purpose of economic policy is to stimulate growth.
So ubiquitous is the equation of growth with prosperity that few people ever pause to consider it. What does economic growth actually mean? It means more consumption – and consumption of a specific kind: more consumption of goods and services that are exchanged for money. That means that if people stop caring for their own children and instead pay for childcare, the economy grows. The same if people stop cooking for themselves and purchase restaurant takeaways instead.
Economists say this is a good thing. After all, you wouldn’t pay for childcare or takeaway food if it weren’t of benefit to you, right? So, the more things people are paying for, the more benefits are being had. Besides, it is more efficient for one daycare centre to handle 30 children than for each family to do it themselves. That’s why we are all so much richer, happier and less busy than we were a generation ago. Right?
Obviously, it isn’t true that the more we buy, the happier we are. Endless growth means endlessly increasing production and endlessly increasing consumption. Social critics have for a long time pointed out the resulting hollowness carried by that thesis. Furthermore, it is becoming increasingly apparent that infinite growth is impossible on a finite planet. Why, then, are liberals and conservatives alike so fervent in their pursuit of growth? [Continue reading...]
Anatole Kaletsky writes: Through an almost astrological coincidence of timing, the European Central Bank, the Bank of England and the U.S. Federal Reserve Board all held their policy meetings this week immediately after Wednesday’s publication of the weakest manufacturing numbers for Europe and America since the summer of 2009. With the euro-zone and Britain clearly back in deep recession and the U.S. apparently on the brink, the central bankers all decided to do nothing, at least for the moment. They all restated their unbreakable resolution to do “whatever it takes” – to prevent a breakup of the euro, in the case of the ECB, or, for the Fed and the BoE, to achieve the more limited goal of economic recovery. But what exactly is there left for the central bankers to do?
They have essentially two options. They could do even more of what the Fed and the BoE have been doing since late 2008 – creating new money and spending it on government bonds, in the policy known as “Quantitative Easing.” Or they could admit the policies of the past three years were not working, at least not well enough. And try something different.
There is, admittedly, a third option – to do nothing, on the grounds that public bodies should stop interfering with the private economy and instead leave financial markets to restore economic prosperity and full employment of their own accord. This third idea is based on the economic theory that if governments and central bankers leave well enough alone, “efficient” and “rational” financial markets will keep a capitalist economy growing and automatically return it to a prosperous equilibrium after occasional hiccups. This theory, though still taught in graduate schools and embedded in economic models, is implausible, to put it mildly, especially after the experience of the past decade. In any case, experience shows that the option of government doing nothing in deep economic slumps simply doesn’t exist in modern democracies.
Returning, therefore, to the two realistic alternatives, central bankers and financiers are overwhelmingly in favor of the first: keep trying the policy that has failed. [Continue reading...]
Der Spiegel reports: It wasn’t long ago that Mario Draghi was spreading confidence and good cheer. “The worst is over,” the head of the European Central Bank (ECB) told Germany’s Bild newspaper only a few weeks ago. The situation in the euro zone had “stabilized,” Draghi said, and “investor confidence was returning.” And because everything seemed to be on track, Draghi even accepted a Prussian spiked helmet from the reporters. Hurrah.
Last week, however, Europe’s chief monetary watchdog wasn’t looking nearly as happy in photos taken in front of a circle of blue-and-yellow stars inside the Euro Tower, the ECB’s Frankfurt headquarters, where he was congratulating the winners of an international student contest. He smiled, shook hands and handed out certificates. But what he had to tell his listeners no longer sounded optimistic. Instead, Draghi sounded deeply concerned and even displayed a touch of resignation. “You are the first generation that has grown up with the euro and is no longer familiar with the old currencies,” he said. “I hope we won’t experience them again.”
The fact that Europe’s top central banker is no longer willing to rule out a return to the old national currencies shows how serious the situation is. Until recently, it was seen as a sign of political correctness to not even consider the possibility of a euro collapse. But now that the currency dispute has escalated in Europe, the inconceivable is becoming conceivable, at all levels of politics and the economy.
Investment experts at Deutsche Bank now feel that a collapse of the common currency is “a very likely scenario.” German companies are preparing themselves for the possibility that their business contacts in Madrid and Barcelona could soon be paying with pesetas again. And in Italy, former Prime Minister Silvio Berlusconi is thinking of running a new election campaign, possibly this year, on a return-to-the-lira platform.
Nothing seems impossible anymore, not even a scenario in which all members of the currency zone dust off their old coins and bills — bidding farewell to the euro, and instead welcoming back the guilder, deutsche mark and drachma.
It would be a dream for nationalist politicians, and a nightmare for the economy. Everything that has grown together in two decades of euro history would have to be painstakingly torn apart. Millions of contracts, business relationships and partnerships would have to be reassessed, while thousands of companies would need protection from bankruptcy. All of Europe would plunge into a deep recession. Governments, which would be forced to borrow additional billions to meet their needs, would face the choice between two unattractive options: either to drastically increase taxes or to impose significant financial burdens on their citizens in the form of higher inflation.
A horrific scenario would become a reality, a prospect so frightening that it ought to convince every European leader to seek a consensus as quickly as possible. But there can be no talk of consensus today. On the contrary, as the economic crisis worsens in southern Europe, the fronts between governments are only becoming more rigid.
The Italians and Spaniards want Germany to issue stronger guarantees for their debts. But the Germans are only willing to do so if all euro countries transfer more power to Brussels — steps the southern member states, for their part, don’t want to take.
The discussion has been going in circles for months, which is why the continent’s debtor countries continue to squander confidence, among both the international financial markets and their citizens. No matter what medicine European politicians prescribe, the patient isn’t getting any better. In fact, it’s only getting worse. [Continue reading...]
Nouriel Roubini writes: Dark, lowering financial and economic clouds are, it seems, rolling in from every direction: the eurozone, the United States, China, and elsewhere. Indeed, the global economy in 2013 could be a very difficult environment in which to find shelter.
For starters, the eurozone crisis is worsening, as the euro remains too strong, front-loaded fiscal austerity deepens recession in many member countries, and a credit crunch in the periphery and high oil prices undermine prospects of recovery. The eurozone banking system is becoming balkanized, as cross-border and interbank credit lines are cut off, and capital flight could turn into a full run on periphery banks if, as is likely, Greece stages a disorderly euro exit in the next few months.
Moreover, fiscal and sovereign-debt strains are becoming worse as interest-rate spreads for Spain and Italy have returned to their unsustainable peak levels. Indeed, the eurozone may require not just an international bailout of banks (as recently in Spain), but also a full sovereign bailout at a time when eurozone and international firewalls are insufficient to the task of backstopping both Spain and Italy. As a result, disorderly breakup of the eurozone remains possible.
Farther to the west, US economic performance is weakening, with first-quarter growth a miserly 1.9% – well below potential. And job creation faltered in April and May, so the US may reach stall speed by year end. Worse, the risk of a double-dip recession next year is rising: even if what looks like a looming US fiscal cliff turns out to be only a smaller source of drag, the likely increase in some taxes and reduction of some transfer payments will reduce growth in disposable income and consumption.
Moreover, political gridlock over fiscal adjustment is likely to persist, regardless of whether Barack Obama or Mitt Romney wins November’s presidential election. Thus, new fights on the debt ceiling, risks of a government shutdown, and rating downgrades could further depress consumer and business confidence, reducing spending and accelerating a flight to safety that would exacerbate the fall in stock markets.
In the east, China, its growth model unsustainable, could be underwater by 2013, as its investment bust continues and reforms intended to boost consumption are too little too late. A new Chinese leadership must accelerate structural reforms to reduce national savings and increase consumption’s share of GDP; but divisions within the leadership about the pace of reform, together with the likelihood of a bumpy political transition, suggest that reform will occur at a pace that simply is not fast enough.
The economic slowdown in the US, the eurozone, and China already implies a massive drag on growth in other emerging markets, owing to their trade and financial links with the US and the European Union (that is, no “decoupling” has occurred). At the same time, the lack of structural reforms in emerging markets, together with their move towards greater state capitalism, is hampering growth and will reduce their resiliency.
Finally, long-simmering tensions in the Middle East between Israel and the US on one side and Iran on the other on the issue of nuclear proliferation could reach a boil by 2013. The current negotiations are likely to fail, and even tightened sanctions may not stop Iran from trying to build nuclear weapons. With the US and Israel unwilling to accept containment of a nuclear Iran by deterrence, a military confrontation in 2013 would lead to a massive oil price spike and global recession. [Continue reading...]
Niall Ferguson and Nouriel Roubini write: Is it one minute to midnight in Europe?
The failure of German public opinion to grasp the dire state of affairs in Europe today is inviting a repeat of precisely the crisis of the mid 20th century that European integration was designed to avoid.
With every increase in the probability of a disorderly Greek exit from the monetary union, the pressure on the Spanish banks increases and with it the danger of a Mediterranean-wide bank run so big that it would overwhelm the European Central Bank. Already there has been a substantial re-nationalization of the European financial system. This centrifugal process could easily continue to the point of complete disintegration.
We find it extraordinary that it should be Germany, of all countries, that is failing to learn from history. Fixated on the non-threat of inflation, today’s Germans appear to attach more importance to the year 1923 (the year of hyperinflation) than to the year 1933 (the year democracy died). They would do well to remember how a European banking crisis two years before 1933 contributed directly to the breakdown of democracy not just in their own country but right across the European continent.
Astonishingly few Europeans (including bankers) seem to remember what happened in May 1931 when Creditanstalt, the biggest Austrian bank, had to be bailed out by a government that was itself on the brink of insolvency. The ensuing European bank crisis, which saw the failure of two of Germany’s biggest banks, ushered in the second half of the Great Depression. If the first half had been dominated by the American stock market crash, the second was all about European banks going bust.
What happened next? The banking crisis was followed by President Hoover’s one-year moratorium on payment of World War I war debts and reparations. Nearly all sovereign borrowers subsequently defaulted on all or part of their external debts, beginning with Germany. Unemployment in Europe reached an agonizing peak in 1932: In July of that year, 49 per cent of German trade union members were out of work.
The political consequences are well known. But the Nazis were only the worst of a large number of extremist movements to benefit politically from the crisis. “Anti-system” parties in Germany — including Communists as well as fascists — had won 13 percent of votes in 1928. By November 1932, they won nearly 60 percent. The far right also fared well in Austria, Belgium, Czechoslovakia, Hungary and Romania. Communists gained in Bulgaria, France and Greece.
The result was the death of democracy in much of Europe. While 24 European regimes had been democratic in 1920, the number was down to 11 in 1939. Even bankers know what happened that year. [Continue reading...]
George Soros writes: It is now clear that the main cause of the euro crisis is the member states’ surrender of their right to print money to the European Central Bank. They did not understand just what that surrender entailed – and neither did the European authorities.
When the euro was introduced, regulators allowed banks to buy unlimited amounts of government bonds without setting aside any equity capital, and the ECB discounted all eurozone government bonds on equal terms. Commercial banks found it advantageous to accumulate weaker countries’ bonds to earn a few extra basis points, which caused interest rates to converge across the eurozone. Germany, struggling with the burdens of reunification, undertook structural reforms and became more competitive. Other countries enjoyed housing and consumption booms on the back of cheap credit, making them less competitive.
Then came the crash of 2008. Governments had to bail out their banks. Some of them found themselves in the position of a developing country that had become heavily indebted in a currency that it did not control. Reflecting the divergence in economic performance, Europe became divided into creditor and debtor countries.
When financial markets discovered that supposedly riskless government bonds might be forced into default, they raised risk premiums dramatically. This rendered potentially insolvent commercial banks, whose balance sheets were loaded with such bonds, giving rise to Europe’s twin sovereign-debt and banking crisis.
The eurozone is now replicating how the global financial system dealt with such crises in 1982 and again in 1997. In both cases, the international authorities inflicted hardship on the periphery in order to protect the center; now Germany is unknowingly playing the same role. [Continue reading...]
Steve Weissman and Frank Browning write: September 2008: The collapse of Wall Street giant Lehman Brothers provokes a worldwide economic meltdown.
May 2012: Barack Obama is warned before the Camp David G-8 summit that the financial maelstrom seizing Europe could turn out even worse. If much of Europe slides back into double-dip recession, as Britain has done, millions of Americans will be smacked hard, from Toyota workers in Kentucky to lettuce pickers in sunny California. And almost certainly, Mr. Obama will have turned over the keys to the White House come next January to the “vulture capitalist” Mitt Romney.
Here is the dreadful scenario that growing numbers of analysts fear: Long lines of Greeks, Spaniards and Portuguese pound on bank doors demanding to pull their money out before it is replaced by devalued drachmas, pesetas, escudos. Long-suffering Greek voters fail on June 17 to elect political parties that can form a governing coalition, and Greece takes a messy exit from the Euro. Europe’s already faltering financial system then collapses, sending the entire world into a long-lasting global depression for the new President Romney to tackle.
As one European insider put, the damage could be somewhere “between catastrophic and Armageddon,” while Mexico’s former central banker, Guillermo Ortiz, who was a leading candidate to head the International Monetary Fund (IMF), warned that a Greek exit from the Euro could have “an even bigger impact” globally than the Lehman bankruptcy. “If Greece leaves the eurozone, it could detonate a global financial crisis even worse than the 2008 credit crunch, dry up global trade financing and spur another U.S. recession.”
Seeing all this before the Camp David summit, President Obama joined with France’s mildly socialist president François Hollande in calling for new measures to stimulate European growth, against German Chancellor Angela Merkel’s insistence on austerity über alles. Obama went even further after the NATO summit in Chicago and urged European leaders to recapitalize their notoriously weak banks — and quickly. But his foresight will mean little if they do not come up with a hard-hitting and fast-moving plan of action, which their Wednesday night summit in Brussels failed to do. [Continue reading...]