Marshall Auerback

 

Recent Posts by Marshall Auerback

  • The European Monetary Union is the Titanic

    Jul 19, 2011Marshall Auerback

    The Iceberg Cometh: An economic and financial crisis will soon be brought about by the collapse of the European Monetary Union. And everyone goes down with the ship!

    The Iceberg Cometh: An economic and financial crisis will soon be brought about by the collapse of the European Monetary Union. And everyone goes down with the ship!

    In the past, I have called the euro zone a "roach motel". But as usual, I've been outdone in the metaphor design department by the Italians: Guilio Tremonti, the Italian Finance Minister, last week compared Germany and its small-minded Chancellor Angela Merkel to a first-class passenger on the Titanic. The underlying message is the same: You can be sailing in coach or you can be in the 1st class compartment. But when the ship hits the iceberg, everybody goes down together -- Germans, Italians, Greeks, Irish and French alike. All euro zone members have an institutional wide problem of not being able to fund deficits, given that the countries of the euro zone have all acceded to impose gold standard conditions on themselves by forfeiting their fiscal freedom.

    To repeat: this is not a problem confined to the periphery. The sovereign risk problem applies to the central core countries, such as Germany and France, as it does to the Mediterranean "profligates". Once a run on the currency starts and moves into the banking sector, then none of the governments will be able to do anything other than to oversee financial and economic collapse while the fiddlers in Brussels and Frankfurt try to spin some line about "special circumstances" or something without admitting the whole system they imposed on the area is the cause of this crisis.

    In the words of Stephanie Kelton:

    The risk for the fiscal authorities of any member country is that the ‘dismal arithmetic' of the budget constraint leaves few palatable alternatives. If the yield on government securities demanded by markets exceeds a country's nominal income growth, then interest expense on the outstanding debt must become a relatively larger burden (Jordan, 1997: 3).

    In a country like the United States, this should never cause financial stress; the U.S. government can always meet any dollar-denominated commitment as it comes due. But markets clearly recognize that things work differently in the Eurozone, where governments are no longer able to ‘print money.' As a result, the bonds issued by member governments now resemble those issued by state and local governments in the United States (or bonds issued by provinces in Canada or Australia), where yields often differ by a sizable amount.

    The European Monetary Union has hitherto only survived because whenever push comes to shove, the ECB has stepped in as the "missing" fiscal agent and has kept the bond markets at bay. It continues to "write the check" whenever the markets seek to shut down the individual markets on the grounds of looming insolvency.

    But Finance Minister Tremonti is right: the underlying logic of the monetary system will continue to ensure these on-going crises will spread across the union. Each successive "resolution" is merely a place-holding operation. The EU bosses are just buying time and kicking the can down the road. Ultimately, to survive the system has to add a unified fiscal authority and abandon the fiscal rules embodied in the Stability and Growth Pact or accept the experiment has failed and dissolve the union. The constant stop-gap measures being introduced on a seemingly ad hoc basis are leading toward a very unpleasant dissolution, the end result for which could be Europe's "Lehman" event. Meanwhile, the iceberg is approaching rapidly.

    Europe's brokered marriage is in deep trouble. The partners have not grown together. For a long time, countries such as Greece and Portugal benefited from the illusion of economic convergence through the lower interest rates and stable currency that the euro brought with it. When the European economy was growing, the markets indulged the fantasy that there was little to choose between Greek and German debt. But that has now changed -- and Greece has to pay a significant premium on its borrowing, as does Portugal and now Spain and Italy.

    It is also now obvious that countries such as Greece, Spain, Italy, Ireland and Portugal are struggling to compete with the much more productive German economy. In a currency union they cannot devalue their way out of trouble. The only alternative solution on offer is a long and painful period of austerity to reduce their costs through cuts in wages and living standards, the so-called "internal devaluation" -- in reality, a one-off coordinated reduction of wages and prices across the board. It is, as I have argued before, more like an "infernal devaluation." It amounts to a domestic income deflation -- as wages are crushed -- in order to get the prices of tradable goods down enough so the current account balance increases sufficiently enough to carry the next wave of growth.

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    This lack of economic convergence has revealed the lack of political convergence around a shared European identity. There is a striking lack of sympathy for the Greeks or Italians from Germany. Berlin continues to fiddle while Rome and Athens burn. The German position seems to be that the weaker European economies are paying the price for not being as hard-working and skilled as Germans -- and must now shape up or ultimately leave the euro.

    Any suggestion that German under-consumption and export-addiction might have something to do with the crisis in the euro-area is brushed aside. Some Greek politicians have responded to German pressure with angry references to the Nazis' brutal occupation of their country during the Second World War. So much for European solidarity.

    In this context, it is interesting to see that former German Chancellor Helmut Kohl is now apparently speaking out against current Chancellor Merkel, who has proven herself to be a small-minded burger who should not be entrusted with the leadership of a great nation like Germany.

    Merkel, of course, claims to be safeguarding the interests of German taxpayers. It is amusing to hear the Germans talk about the "cost" to them of staying in the euro zone as a result of "funding" so-called "profligates" such as Greece or Italy. First of all, the "funding" comes from the ECB which creates new net financial euro denominated assets at will, not the Germans.

    In fact, there has been zero cost to the Germans. They've locked their export competitors into the European Monetary Union at hopelessly uncompetitive exchange rates. German taxes haven't gone up, they haven't had their generous social welfare provisions cut (which are much larger than Greece's, contrary to popular perception). At the same time, the periphery countries have had their economies destroyed by enforced austerity, in exchange for which they get ongoing ECB funding which (wait for it) helps them to buy yet more German imports.

    So the ECB keeps the game on the road to facilitate the continued expansion of German exports to the rest of Europe (although that strategy is, as Mr Tremonti amongst others, has started to notice, is becoming a touch self-defeating), and the Germans pay nothing for this privilege. No increased taxes, no austerity and no competitive threat to Berlin's export base so long as the PIIGS are locked into the euro straitjacket.

    A further sad irony is that if Greece, Spain or the other periphery nations genuinely succeeded in implementing a successful "internal devaluation" a number of German businesses would relocate, or force further downward pressure on German domestic wages.

    Guilio Tremonti is right: Germany is in the first class cabin of the Titanic. Another way of looking at it is that figures like Chancellor Merkel are leading the PIIGS to slaughter in the abattoir, not realizing that they are on the same conveyor belt. The tragedy ushered in by the current crisis is entering into its critical phase, and the small mindedness of the policy response could well spell the death of not just a currency but also a vision for a unified Europe. The essential problem is that the EU was founded as a political venture but quickly grew into a (promising) economic venture. The irony is that the lack of a true political union -- which would have permitted a unified fiscal policy -- is precisely what will kill the whole idea.

    Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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  • The Real Crisis is Unemployment

    Jul 11, 2011Marshall Auerback

    A deal on the debt ceiling of the kind proposed by both parties will only make the jobs crisis worse -- and push deficits up.

    "O, the heart's blood of a patriot! That's a fellow now that'd sell his country for fourpence-ay-and go down on his bended knees and thank the Almighty Christ he had a country to sell." - Irish proverb

    We had a horrendous employment number last Friday. Leaving aside the headline details, (which showed unemployment rising from 9.1% to 9.2%), the household measure of employment fell by 445,000.

    A deal on the debt ceiling of the kind proposed by both parties will only make the jobs crisis worse -- and push deficits up.

    "O, the heart's blood of a patriot! That's a fellow now that'd sell his country for fourpence-ay-and go down on his bended knees and thank the Almighty Christ he had a country to sell." - Irish proverb

    We had a horrendous employment number last Friday. Leaving aside the headline details, (which showed unemployment rising from 9.1% to 9.2%), the household measure of employment fell by 445,000.

    Okay, it's just one number. But this measure of employment, which is never revised, now shows no employment growth over the last five months and very negative employment growth over the last three.

    But it gets worse: The work week was down one tenth. Overtime was down one tenth. The labor participation rate at 64.1% was the lowest since 1984. The broad U6 unemployment rate rose from 15.8% to 16.2%. In other words, several other employment indicators in this report confirm the deep disappointment in the payroll series and the much more negative message of the household series.

    And the President's response to this disaster: Get a deal done on the debt ceiling!

    "The sooner we get this done, the sooner that the markets know that the debt limit ceiling will have been raised and that we have a serious plan to deal with our debt and deficit, the sooner that we give our businesses the certainty that will need in order to make additional investments to grow and hire," Obama said.

    He made his remarks just hours after the latest employment report was released.

    And when they agree to the deficit cuts, then unemployment will fall...and I'll go on a diet by eating a bunch of Super Sized Big Macs.

    Here's the problem: Nobody in Washington DC seems to understand that today's crisis of unemployment is all about a lack of effective demand in the US economy. The persistently high unemployment is about a lack of jobs, nothing more. It has nothing to do with the uncertainty over the debt ceiling negotiations, except to the extent that any future deal, which features the cuts mooted by both parties in the press, will create an even greater shortage of spending power in the economy. Furthermore, as Bill Mitchell has argued, "the financial nature of the crisis...means that any revival of private spending will be slow to return. So private firms and households are first of all going to try to reduce their debt levels to restore some security to their balance sheets."

    This isn't your run of the mill recession; it's Japan's "balance sheet recession" writ large.

    Yet President Obama maintains that cutting spending will somehow induce the private sector to invest and help reduce unemployment. He's wrong. A deal on the debt ceiling, of the kind that is being proposed by both parties, actually makes it much harder for the private sector to achieve this goal.

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    To recap, a government deficit generates a net injection of disposable income into the private sector, generating an increase in its saving and wealth which can be held either in the form of government liabilities (cash or treasuries) or non-interest earning bank liabilities (bank deposits). If the nonbank public prefers bank deposits, then banks will hold an equivalent quantity of reserves, cash, and treasuries with the distribution among these government IOUs depending on bank preferences. By contrast, a government budget surplus has exactly the opposite effect on private sector incomes and wealth: As the government takes more from the public in taxes than it gives in its spending, this results in a net debit of bank reserves and reduction in outstanding cash balances held by the private sector. In other words, it drains wealth from the private sector.

    Firms will only employ if there are sufficient spending to purchase the output that the workers produce. 9.2% unemployment and 16.2% underemployment is clear evidence that the demand deficiency which emerged after the Great Financial Crisis of 2008 is far from over. This problem existed well before anybody even spoke about the debt ceiling, let alone started negotiating another increase. Far from solving this scourge, the Administration's own proposals will exacerbate unemployment and almost certainly cause the government deficits to rise even further.

    The President has his causation completely reversed: A growing economy, characterized by rising employment, rising incomes and rising capacity utilization causes the deficit to shrink, not the other way around. Rising prosperity means rising tax revenues and reduced social welfare payments. Cutting budget deficits when there is slack private spending growth and external deficits -- as the President and his Congressional negotiators are now proposing -- will erode growth and destroy net jobs.

    There is zero evidence to support the idea that a nation which cuts public spending in situations where there is high unemployment and huge underutilized resources will grow and create jobs. The ongoing economic disaster in Europe illustrates precisely the opposite phenomenon.

    But, hey, what's the worry? I'm sure the Administration's spin-meisters will simply argue that it's just a few headwinds (the "bump in the road" is SO yesterday). In the meantime, just to be on the safe side, the President appears open to cuts in Social Security (which today contributes zero to the budget deficit). Why? Because it will show "the markets" that we are "being responsible" about our deficit "problems", which in turn will do wonders to restore confidence and get us out of the ditch in which most Americans now find themselves (to use one of the President's favorite metaphors).

    Almost since the days of his inauguration, Barack Obama has talked a lot about digging the American economy out of the ditch which he inherited from the previous Administration. But he should bear in mind the old expression: when you're in a hole, stop digging. The Democrats are now posing as the party of fiscal austerity, offering up cuts in entitlements if only those "irresponsible" Republicans would agree to tax increases (which will further deflate the economy into the ground). And we have much of the mainstream press praising the President for his "grown-up, statesmanlike" behaviour, as he tries to out-Hoover everybody. The grim examples accelerating across Europe appear to mean nothing. And to what end? The deficits will only get larger if cuts and tax rises of the magnitude contemplated by the President become law.

    If the President and his team persist with his current ruinous deficit reduction fixation, they will turn that ditch into which the US economy has fallen into a coffin. At that point, the only people who will be celebrating any "achievement" over a debt ceiling deal will be the GOP hopefuls in the 2012 election.

    Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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  • Fiscal Policy for the People? Why Obama Should Invoke the 14th Amendment.

    Jul 6, 2011Marshall Auerback

    Obama has a chance to redirect our fiscal policy away from big banks and towards you and me.

    Obama has a chance to redirect our fiscal policy away from big banks and towards you and me.

    In response to the debt ceiling drama, serious people are now talking about the President's ability to use the 14th Amendment to declare the debt limit unconstitutional. That's a welcome development in a debate too often characterized by wrong-headed economics and outright demagoguery. If Obama seizes the moment, we could not only end this damaging political grandstanding, but redirect the national conversation to what really matters: fiscal policy that addresses the needs of ordinary Americans.

    As far as we know, the originator of the constitutional arguments against the debt ceiling was former Reagan Administration official, Bruce Bartlett, whose last essay on the subject, "The Debt Limit Option President Obama Can Use," has started to gain significant policy traction. More recently, Treasury Secretary Geithner has made much the same point:

    "I think there are some people who are pretending not to understand it, who think there's leverage for them in threatening a default. I don't understand it as a negotiating position. I mean really think about it, you're going to say that-- can I read you the 14th amendment?"

    The Treasury Secretary subsequently did just that, quoting from the amendment to the Constitution adopted on July 9, 1868:

    "'The validity of the public debt of the United States, authorized by law, including debts incurred for the payments of pension and bounties for services in suppressing insurrection or rebellion' -- this is the important thing -- 'shall not be questioned."

    Senator Charles Schumer has also invoked the argument. In all cases, the logic is pretty much the same: the Constitution trumps the law regarding the debt ceiling.

    What's so great about this? Well, it could kill the debt ceiling -- and perhaps, along with it, other arbitrary constraints which foolishly constrain the efficacy of fiscal policy. Yet curiously, very few champions of aggressive fiscal policy are prepared to go this far, despite the fact that these pointless negotiations are surely undermining private sector confidence. They point to a very real prospect of the US economy going back into recession if the austerity plans that are currently being discussed become law.

    In a recent article, Katrina vanden Heuvel makes an excellent point about the opportunity for a more progressive budget arising if Obama goes constitutional: "Invoking the 14th Amendment defuses the bomb Republicans have strapped to the hostage." That's right: the President could well end the debt ceiling negotiations and craft a new budget on purely progressive lines.  And he could do so on very solid legal grounds, as she illustrates:

    "In Freytag v. Commissioner (1991), the Supreme Court held that the president has "the power to veto encroaching laws . . . or to disregard them when they are unconstitutional." The final word still may lie with the Supreme Court, but in the interim, the president need not wait for its opinion. "As a simple matter of constitutional logic, the president can refuse to enforce a statute he believes violates the Constitution," said Professor Barry Friedman of NYU Law School in a telephone interview with me...

    It is also unlikely that the action would be successfully challenged in court. Only Congress would have standing to sue, but doing so would require a joint resolution, something a Democratic-controlled Senate would almost certainly block."

     

    But there's more. So far, our fiscal policy has largely been directed toward the top 5% of our population. It amounts to unfair punishment for  lower income groups but asks nothing of our financial and corporate elites. Ending the debt ceiling could be an important step forward in redirecting policy away from bank bailouts, wasteful corporate tax subsidies and mooted tax holidays, and toward ideas such as a Government Job Guarantee, a proper health care system (which isn't grounded in private health insurance) and a first-class education system for all.

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    The budget/debt ceiling negotiations have focused on spending cuts and tax hikes which are neither necessary nor desirable at this juncture. The time to invoke higher taxation or reduced government spending is when our economy is operating close to full capacity, experiencing real resource constraints, and thereby threatening inflation. Progressives need to stop accepting the false logic that we "need to be responsible" and "deal with the budget deficit at some point in the future" on the spurious grounds of "affordability", solvency", or "because the bond markets won't fund us any longer." That's all wrong.

    Here's a better idea: Invoke the 14th amendment and then stop talking about the budget deficit altogether. The US is not broke and cannot go bankrupt. Let go of that myth. When invoking the 14th, the President could argue that the deficit reduction principles embodied in the debt ceiling limit should never be an object of government policy. He can point out that non-discretionary elements of the budget -- the automatic stabilizers like unemployment insurance -- will fall as economic growth resumes, thereby reducing the deficit. He can remind us that there is only one reason why growth slows relative to productive capacity: Some sector spends less than before while another sector does not plug the spending drain.

    Progressives have gotten into the habit of talking about making "sacrifices" now by starting the process of reducing the deficit. But this is a slippery slope, because it neglects the reality that shrinking the government's deficit will require either that the private sector spend more relative to its income or that the US current account deficit fall sharply. The fact is that households are still heavily indebted and business spending remains flat; the external sector is not adding net aggregate demand to the US economy. That means that the public deficit is insufficient to close the spending gap. So an arbitrary attempt to reduce the overall stock of government debt is doomed to failure.

    Remember, the budget deficit (and the corresponding negotiations over the debt ceiling) cannot be considered independently of the other sectors in the economy. Reducing the government sector deficit from the current 9% or so of GDP toward balance will require some combination of a private sector movement toward greater spending (and likely more private sector debt accumulation - which got us into this mess in the first place), along with a reduction in our trade deficit which, in aggregate, would amount to a total of 9% of GDP. That's a massive adjustment.

    As Randy Wray has argued:

    "The problem is that actually trying to balance the budget through spending cuts or tax increases could reduce economic growth... Lower economic growth could conceivably reduce our current account deficit-by making Americans too poor to buy imports, by lowering US wages and prices to make our exports more competitive, and by reducing the value of the dollar. Note that all of those are painful adjustments for Americans. And it might not work, because it requires the US to slow without that affecting the global economy-if it also slows, US exports will not increase."

    A sovereign government can always determine spending and taxation levels, assuming the absence of silly self-imposed limits such as a debt ceiling. What it can't do is determine in advance the size of the tax revenue or the overall amount directed to the automatic stabilizers. These are both a reflection of economic activity largely outside the control of government. And that means, as Wray notes, that "the budgetary outcome-whether surplus, balanced, or deficit-is not really discretionary."

    The notion of a debt ceiling limit is arbitrary. And it is not grounded in any kind of economic logic. If there are legitimate constitutional reasons to eliminate the debt ceiling, we have a wonderful opportunity to eliminate a host of constraints that foolishly direct government policy away from public purpose.

    Too bad the President didn't invoke this last Monday. July 4th would have been the perfect time to invoke the Constitution to rid the government of this self-imposed Congressional tyranny once and for all.

    Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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  • "Extend and Pretend" Continues in the Euro Zone

    Jun 29, 2011Marshall Auerback

    Markets are celebrating the triumph of an anti-labor, pro-capital agenda. But is social unrest the consequence?

    The Europeans genuinely must genuinely believe that they can get blood out of a stone.  Or perhaps resort to a modern day equivalent of turning lead into gold.  There's no other reason to explain the euphoria now prevalent in the markets, in light of the approval by Greece's lawmakers to pass a key austerity bill, thereby paving the way for the country to get its next bailout loans that will prevent it from defaulting next month.

    Markets are celebrating the triumph of an anti-labor, pro-capital agenda. But is social unrest the consequence?

    The Europeans genuinely must genuinely believe that they can get blood out of a stone.  Or perhaps resort to a modern day equivalent of turning lead into gold.  There's no other reason to explain the euphoria now prevalent in the markets, in light of the approval by Greece's lawmakers to pass a key austerity bill, thereby paving the way for the country to get its next bailout loans that will prevent it from defaulting next month.

    The €28 billion ($40 billion), five-year package of spending cuts and tax rises was backed by a majority of the 300-member parliament on Wednesday, including Socialist deputy Alexandros Athanassiadis, who had previously vowed to vote against.  The European Union and International Monetary Fund had demanded the austerity measures pass before they approve the release of a €12 billion loan installment from last year's rescue package.

    So default is averted for now, which is clearly the main reason behind the global equity rally seen over the past few days.  But will the package work?  Here's a look at the details of the Greek Medium Term Fiscal Bill.

    The projections for Real GDP Growth are:

    2012: 0.8%

    2013: 2.1%

    2014: 2.1%

    2015: 2.7%

    The projections for expenditures (bn euros) are:

    2012: 79.491

    2013: 83.467

    2014: 83.363

    2015: 85.39

    GDP growth rising in the midst of fiscal austerity?  How is this possible? Everyone knows the current planned financing of Greece is a band aid. With this new financing, Greece's sovereign debt to GDP ratio will rise to almost 170%. It will be more bust than ever. Its real GDP may fall by another 4%. Social tolerance for such austerity -- already strained -- will become less. If that wasn't evident before, it should have been today, given the sight of various reporters in front of the Greek Parliament wearing tear gas masks as they reported on the "success" of the Greek austerity vote.

    Can the package passed today deliver increased revenues?  The Greeks apparently think so, if one is to judge by the budget projections.

    Actual projections of revenues:

    2012: 60.959

    2013: 62.454

    2014: 63.192

    2015: 64.924

    Now, to be fair, much of the problem is an antiquated revenue system that supports that state, which results in a budget shortfall consistently about 10% of GDP. Greek economist George Stathakis, for example, has suggested that that the top 20% of the income distribution in Greece pay no taxes at all, which may somewhat of an exaggeration but, if only partially true, suggests that a modicum of tax compliance could perhaps generate an increase in revenues in spite of the austerity measures being introduced.

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    Perhaps. But it's hard to see how the EU's attempt to squeeze more blood out of the Greeks will generate increases of revenue of this magnitude. If one examines the Medium-Term Fiscal Strategy submitted to Parliament on June 8th 2011, it appears that the Greek authorities are basically banking on is a big rise in private consumption and investment by 2013 (both of which are negative contributors to GDP today) to reduce their deficit, even as government consumption continues to decline. So they are essentially assuming a "fiscal consolidation boom", even though there has been no historical precedent of the kind to justify this kind of a forecast. The Canadian example does not fit because it was accompanied by a huge depreciation of the Canadian dollar, thereby generating a huge turn in Canada's current account and largely offsetting the impact of the budget cuts. As a member of the euro zone, this option is unavailable to the Greeks.

    The short term hope must therefore be ongoing debt restructuring, continued ECB purchases of Greek debt in the secondary market (allowing central banks to buy the debt), guarantees, and lending. The hope is that the financial institutions holding all the periphery government debt can either move it off their balance sheets, or use the American method of "extend and pretend" to avoid recognizing the institutions are fundamentally insolvent.

    Short of a fiscal union (which is the ultimate solution to the woes of the euro zone), there are other measures which the Greeks could adopt to make their bonds more attractive to external investors, thereby preventing the markets "shutting the country down" on the grounds that they refuse to extend further credit to a fundamentally insolvent country. Warren Mosler and I have suggested one such alternative: Greece could successfully issue and place new debt at low interest rates. The trick is to insert a provision stating that in the event of default, the bearer on demand can use those defaulted securities to pay Greek government taxes. This makes it immediately obvious to investors that those new securities are 'money good' and will ultimately redeem for face value for as long as the Greek government levies and enforces taxes. This would not only allow Greece to fund itself at low interest rates, but it would also serve as an example for the rest of the euro zone, and thereby ease the funding pressures on the entire region.

    This suggestion, of course, does not deal with the problem of aggregate demand. But it provides an attractive instrument for the Greek government (and other periphery states) to secure private funding and possibly at lower rates of interest.  The bigger issue of aggregate demand, however, is still yet to be addressed, and it is hard to envisage a sustainable recovery in Greece, or, indeed, the entire euro zone, without changes to its institutional structures. Of particular concern is the absence of a fiscal authority which would allow the ECB to stick to monetary policy while giving a European Treasury the purse strings to deal with the crisis.

    Opposition to a broader fiscal authority, however, is mounting in the core as the crisis has increased hostility among the members. No one wants to cede power to the center. This opposition also reflects the fact that the third convergence -- between elite and public opinion -- has also failed to take place.  But it also reflects a failure to understand the institutional limitations at the heart of the euro zone.  In fact, having lost monetary sovereignty by adopting the euro, core countries such as Germany have more to gain by stabilizing their respective domestic economies by running large deficits during a downturn and boosting consumption, rather than deflating countries like Greece into the ground. That approach is ultimately self-defeating for the prosperous core countries.  As Randy Wray has argued:

    If the blood-letting and crushing of wages in the periphery actually does work, the factories will be moved out of Germany seeking lower cost workers. In other words, success in the periphery would shift the burden back to Germany's workers, who would have to accept lower wages to compete. That will be fueled by job losses if Germany cannot find sales outside the EU that will be lost as the periphery nations fall farther into depression. The result will be a nice little rush to the bottom, benefiting Europe's elite.

     

    Implicit in the drive to create a Germanic style "stability culture" is the belief that public debt is invariably an evil, the consequences of which must be stopped at all costs. But as events of the past decade have clearly demonstrated, excessive private sector debt build-up, notably in Asia and the United States, has played a far more destabilizing role in the global economy than fiscal profligacy, which undercuts one of the main rationales for retaining the Stability Pact in its current form.

    If we say that the government can run budget surpluses for 15 years, what we are ignoring is that this means the private sector will have to run deficits for 15 years. The private sector, in this case, would be going into debt that totals trillions of dollars in order to allow the government to retire its debt. Does that make sense? Again, it is hard to see why households would be better off if they owed more debt, just so that the government would owe them less. The Eurocrats, led by the ECB, are now using this crisis to ram through their vision of Europe, which is fundamentally anti-labor and pro capital.  That explains why the markets are celebrating today. But it lays the groundwork for more hostility and conflict in the future.

    Wasn't this precisely what the European Union was designed to prevent?

    Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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  • Trojan Horse Rescue in Greece

    Jun 21, 2011Marshall Auerback

    EU elites are casting Greece into the modern day equivalent of a debtors' jail with their 'rescue package'.

    In spite of all of the predictions to the contrary by the European Central Bank (ECB), the IMF and a host of "theoclassical" economists (who continue to disparage the utility of discretionary fiscal policy), the Greek economy continues to contract. Things will get worse, even if the new Greek government survives its vote of no-confidence, and takes the latest poisoned chalice from the ECB.

    EU elites are casting Greece into the modern day equivalent of a debtors' jail with their 'rescue package'.

    In spite of all of the predictions to the contrary by the European Central Bank (ECB), the IMF and a host of "theoclassical" economists (who continue to disparage the utility of discretionary fiscal policy), the Greek economy continues to contract. Things will get worse, even if the new Greek government survives its vote of no-confidence, and takes the latest poisoned chalice from the ECB.

    In truth, this latest "rescue package" is nothing more than a fiscal Trojan horse, which will do nothing but further undermine the sovereignty of Greece, much as Odysseus's wooden horse ultimately destroyed Troy. Why? Because the austerity conditionality attached to the latest bailout undermines spending and is almost certain to increase the very deficits that Greece is seeking to reduce. These are new conditions imposed on a monetary union which, at is core, is fundamentally illiberal and anti-democratic.

    In an ideal world, all euro zone governments would exit from the euro and restore their respective national currency sovereignty, float that currency and then take political responsibility for the subsequent fiscal actions. That is what I thought democracy was about and it is certainly the optimal way of organizing a genuine liberal democracy.

    By contrast, the European Monetary Union (EMU) has a huge democratic deficit at the heart. It is technocracy pushed to a politically unsustainable limit. What the ECB, EU or IMF is proposing is not in fact a genuine "United States of Europe" liberal democracy, but an unelected bureaucracy to rule without accountability to the people and impose whatever regime the elites deem suitable at any point in time. This would be anti-democratic, which is doubly ironic considering that Greece is going through the charade of signing a national suicide pact in order to sustain the unsustainable).

    The most recent labor force data released by Statistics Greece revealed an unemployment rate of 16.2% generally. But among 15-24 year-olds, the unemployment rate is now 42.5%, rising from 29.8% in 2010. For 25-34 year-olds, the unemployment rate is 22.6%. Female unemployment was estimated to be 19.5%. This is the stuff of which revolutions are made.

    There is no relief in sight as the EU elites continue to grind the nation into the modern day equivalent of a debtors' jail. They fail to understand that if you savagely cut government spending while private spending is going backwards and the external sector is not picking up the tab, then the economy will tank. Under those conditions, policies that aim to cut the budget deficit will ultimately fail.

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    So why persist with this ruinous course of action? Well, let's be honest about what's really happening here. We can first throw out the silly notion that this ‘rescue package' has anything at all to do with the welfare of the Greek people: it's a bank bondholder's bailout, plain and simply. As Bill Black recently noted in New Economic Perspectives,

    The EU is not lending money to Ireland, Greece, and Portugal to help those nations' citizens.  The EU is lending those nations money because if they don't those nations and their citizens and corporations will be unable to repay their debts to banks in the core.  That will make public the fact that the core banks are actually insolvent.  When the Germans and French realize that their banks are insolvent the result will be "severe banking crises and a return to recession in the core of the eurozone."  The core, not simply the periphery, will be in crisis. The ECB and the EU's leadership would be happy to throw the periphery under the bus, but the EU core's largest banks are chained to the periphery by their imprudent loans.

    To reiterate: this is not a "Greek problem" or a problem of the so-called Mediterranean "profligates".  Jurgen Stark of the ECB tells us that restructuring, whether soft (reprofiling) or hard (default), would be a disaster for the Greek banking system. But the Greek banking system has much less total exposure than the Eurozone, including the ECB itself. The ECB could easily assume the debts, secure genuine pricing transparency, and then impose haircuts on the bond holders. If the resultant price discovery renders these universal banks insolvent, then nationalize them as the Swedes and Norwegians did in the early 1990s, and simply tell the holders of credit default swaps (CDSs) on Greek debt to take a hike. After all, there is no risk of ‘default' once the entity holding this euro-denominated debt is the very entity responsible to credit any bank account it likes to any sum in euros. The ECB, the EU and the national governments of Europe (indeed, virtually the entire world) should simply underwrite all commercial risk banking exposures which deal with real economic activity and by law exclude all other claims from any safety net. That includes remaining "speculative" financial activity in things like CDS contracts which I have long argued should be specifically banned as a financial sector activity.

    Of course, that's not happening. Yet again, as was the case with AIG, the CDS tail is wagging the economic dog. And the irony is that this grotesque hardship imposed on regular citizens at the expense of bondholders is all carried out under the cries of "free markets".

    The ECB itself notes that:

    Legally, both the ECB and the central banks of the euro area countries have the right to issue euro banknotes. In practice, only the national central banks physically issue and withdraw euro banknotes (as well as coins). The ECB does not have a cash office and is not involved in any cash operations. As for euro coins, the legal issuers are the euro area countries ...

    The ECB is responsible for overseeing the activities of the national central banks (NCBs) and for initiating further harmonisation of cash services within the euro area, while the NCBs are responsible for the functioning of their national cash-distribution systems. The NCBs put banknotes and coins into circulation via the banking system and, to a lesser extent, via the retail trade. The ECB cannot perform these operations as it does not have its own technical departments (distribution units, banknote processing units, vaults, etc.).

    Even though monetary operations are for the ECB are conducted at the level of the national central banks, the "ECB has the exclusive right to authorise the issuance of banknotes within the euro area".

    This means, as Professor Bill Mitchell has noted, "it can never run out of euros and always approve the electronic entry of any amount of euros into any account (government or private) that it likes."  Unlike the US government, which still nominally has the status of a functioning democracy, the ECB has the anomalous combined status of central bank/fiscal authority without the political mandate from the people for either role. But it could ensure no member state government becomes insolvent and it could provide the euros at any time to ensure people had a viable job offer. And it's hard to believe that this could be at all inflationary, given prevailing high levels of unemployment and high unused capacity. All the ECB has to do is commit to maintaining aggregate demand and wealth stocks at their previous level and protecting private citizens from the consequences of a major debt default.

    As Mitchell notes, "the crisis is a voluntary human folly imposed on the majority by the elites". There is a reason why Europe's technocratic elites and bankers evade their fair share of the cost of the economic crisis that they largely created  while expecting the bottom 90% to pay for the fallout.

    Throughout history, sovereign debt defaults tend to be precipitated by decisions of the body politic of the debtor nation who refuse indentured servitude to their creditors. Debt default tends to come from within. Over the past week there has arisen growing opposition in Greece to another round of austerity that will be a condition of any new needed round of bailout financing. This has swung some members of the Greek parliament against more austerity tied to further bailout financing.

    Yes, Greece could well "solve" its problems today and the markets might well rally if and when the government wins its no-confidence vote. But everyone now knows a Greek bailout will simply be a case of "kicking the can down the road". The odds of default and future contagion are sky high because the underlying monetary union contains a dangerous design flaw that strips member nations of their power to safely expand their deficits in times of economic crises and continues to place the resultant burden of adjustment on everybody but bank bondholders. This is being exacerbated by a financial sector run amok. As my friend Chris Whalen has noted, "the refusal of the political class to imposes losses on large bank creditors since the collapse of Lehman Brothers and Washington Mutual in 2008 illustrates the extent to which the financialization of the western industrial economies has turned into a gradual coup d'etat by the banks and the global speculators who dominate their client base."

    Until the EU, ECB, and IMF grasp this particular, we remain at risk of a major new economic and political crisis.

    Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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