Archive | July, 2012

Beyond Indignados

30 Jul

Until recently Spain has been a relatively quiet place. During the late 1970s it became a classic case of negotiated transition. In 1977, the entire political spectrum, from the hard right to the communists, signed a compact that sealed the terms of the country’s political and economic liberalization. This was followed by a massive transformation of the Franquist economic legacy during the 1980s and 1990s. During this period, the developmentalist industrialization drive that marked Spain’s postwar period made room for an economic model that aimed to increase competitiveness by targeting the consolidation and internationalization of the country’s financial, energy and construction sectors. As a result, in the eyes of many, by the 2000s Spain emerged as a European “tiger” economy. Suggestively, permanent double-digit unemployment levels were the sole negative markers of the Spanish model remarked on a regular basis by analysts.

Even as the post-Lehman crisis raged on, sending unemployment at the highest level in OECD and putting half of the country’s youth out of work, citizens did not lash out harshly against the status quo. Unlike the Greeks, most Spaniards seemed to be joining Ireland in taking a stoic view of the crisis. By mid 2012, even the famously reflexive and creative indignados movement whose tactics stressed a radical rupture with Spain’s existing political institutions withdrew from the national scene into myriad neighborhood assemblies. Spain’s economic model was failing a record number of its citizens but the consensual bases of 1977 seemed to endure the test of the worst economic crisis.

Yet this Spanish political tradition began to melt into the air in the summer of 2012. The 65 billion austerity hole in the Spanish government’s fiscal coffers adopted in early July by the conservative administration of Mariano Rajoy led to string of protests whose repertoire signals that more contentious forms of politics may be entering the stage. The country’s relatively tamed labor union movement put hundreds of thousands in the street and the protest space is no longer the main turf of the ultimately easy to ignore indignados. In July coal miners battled the bicorned federal police in the Asturias mountains using makeshift weapons and staging ambuscades. Enraged by the government’s reneging on its commitment to subsidize the industry, hundreds of miners walked from various parts of Spain towards Madrid. Thousands cheered them along the way. In Madrid, the miners’ column protest swelled into a massive rally on Paseo de Castellana, the city’s leafy main avenue. It was hardly a dull view. Stone-throwing, tear gas, rubber bullets and hovering police choppers made up a picture that had little to do with the typically subdued protest style of Spaniards in revolt. The miners’ march on Madrid seemed to be just the beginning of a different age in Spain’s protest politics. Flash protests organized by a broad array of actors, ranging from pot-banging burghers to flamboyantly militant youth spread like wildfire throughout the country as police tactics became more violent. For weeks, the phantom of protesting Athenians has been visiting Spain on a regular basis.


Fair and Unfair Rants Against Germany

13 Jul

From Yanis Varoufakis blog

Generalising is the first step toward racism. Every sentence beginning with “The Germans believe this” or “The Greeks do that” is an initial slide on a slippery slope leading, eventually, to bigotry. As I have argued before (click here for a video version) there is no such thing as the Germans, or the Brits, or the Greeks for that matter. Our various nations sport as much variety within them as the divergence that we observe between them. Moreover, there is no such thing as the ‘representative’ German, Greek or American. The fact that groups, and naturally nations, are subject to social norms that generate patterned behaviour and mindsets does not annul this point. As long as some gallant Germans fought the Nazis and died in Auschwitz, the claim that ‘the Germans’ are prone to, or responsible for, Nazism is absurd. Similarly, the fact that tax evasion and corruption is prevalent in Greece is no excuse for loose talk about ‘the tax-evading and corrupt Greeks’. Does this, however, mean that one cannot articulate a legitimate critique of Germany, of Greece, of nations in general? In recent months, following the rampant Euro Crisis, much criticism has been piled on Germany. A lot of it (just like its equivalent directed against Greece, Italy etc.) is misplaced and downright offensive, even if founded on many discrete truths (nb. all big lies are so founded). Then again, it is impossible to come to terms with the Euro Crisis’ persistence and evolution unless Germany’s position is critically assessed. So, what are the limits of rational and fair criticism? This is the question I wish to tackle below by offering three principles of fair and useful criticism.

I begin by putting under the microscope my last statement, namely that Germany’s position needs to be critically assessed. What or, more pertinently, who is Germany? I have already claimed that there is no such thing as “the Germans”. But Germany? Surely there is a Germany. First, there is the country itself, as a bounded geography containing people, institutions, economies, governments etc. Then there is a language, a culture, national myths, customs etc. Of course, these constituent parts cannot be, in toto, the subject of the critical assessment that I claimed to be important in our quest for clues on the Euro Crisis’ nature. Clearly, we need a more focused answer to the question: “What is Germany and how can its role before and during the Crisis be assessed?”

One possibility is that, when investigating ‘Germany’s demeanour’, we simply refer to its government, indeed to the trio of German notables made up by the Chancellor, the Finance Minister and the head of the Bundesbank. This seems to be an appropriate albeit constrained form of critical assessment of Germany’s stance during the Crisis. On the one hand it is free of all generalisations, and predicated upon what specific individuals have said or done, but, on the other hand, it fails to investigate the undercurrents that have led these three individuals to the decisions and beliefs that they have reached. Clearly, a broader critical assessment is called for. The trick is to produce it without falling prey to the generalisations that are both politically odious and analytically misleading. Here are some principles guiding legitimate criticism of a country’s stance, with particular reference to Germany in the present juncture.

1st Principle – Analysis: Resisting the fantasy of a monolithic Germany

Consistent with my point that there is no such thing as ‘The Germans’, it is imperative that any analysis of Germany must be based on an analysis of the clash of interests within German society. One may very well argue that “Germany has benefitted from the euro” but, once stated, such a statement or claim must be immediately reconstructed along the lines of an empirical account of how, for instance, a large swathe of Germany’s working class saw their living standards fall, their working conditions deteriorate, and their democratic rights curtailed. Only then can we begin to grasp the levels of resentment within German society which, while in aggregate hugely boosted by the Eurozone’s creation, has been divided between fabulous winners, sorry losers and a middle-of-the-road band of citizens who lie in between but who never fail to fear for a future in a society so badly divided.

Additionally, unless our analysis throws light on the ‘clash of the titans’, i.e. of the tussle between Frankfurt’s financiers and the mighty German industry, we shall never manage to articulate a useful analysis of Germany’s dithering regarding closer integration, eurobonds, a unification of Europe’s banking systems, investment policies via the European Investment Bank etc. Indeed, our penchant for discovering deeper, and often unseen, conflicts within German society must be always alive and eager. Once the financial capital vs industrial capital ‘clash of the titans’ is investigated, we should swiftly move to the ‘interest gap’ between medium sized German manufacturing firms that are reliant on exports without having a foreign production base and the German conglomerates that have shifted much of their production base beyond Euroland. Unless we understand the tensions along this division too, we shall have very little insight into the undercurrents connecting the vast German medium sized manufacturing sector with Frankfurt and Berlin.

In short, it is incumbent upon critical assessors of Germany to take into consideration, and study carefully, the unfolding drama that goes on constantly in the country as a contest of interests, faculties and functions of the different social classes, the different sectors and the different segments within these sectors of Germany’s social economy. If they do, it is utterly impossible to maintain a monolithic, stereotypical and, thus, potentially racist (and hence misleading) view on Germany.

2nd Principle – Synthesis: Assembling the ‘German Position’ on a foundation of sophisticated functionalism

The first principle was about decomposing, about an analysis of, the ‘German Position’ or ‘German Interest’ into elements that are in conflict with one another. But as always, any analytical phase must be followed by a synthetic one if a legitimate view of the ‘German Position’ is to be assembled. How can this be done sensibly and in a manner that is free of generalisation, stereotypes and sentences beginning with “The Germans…”? My answer revolves around the method which I call sophisticated functionalism.

First things first: What is functionalism? It is the tendency to explain certain entities on the basis of their function. E.g. biologists explain the existence of the stomach in terms of a narrative revolving around digestion. Long before DNA was discovered, all theories about our stomachs and their functionings were based on the presumption that stomachs evolved because animals that had them digested food better and, therefore, experienced a major improvement in their ‘evolutionary fitness’. Then came DNA and our functional explanation of stomachs became sophisticated.

Now, the problem with functional explanations in social theory (but often in biology and neuroscience too) is that sloppy theorists can use it to articulate all sorts of nonsense. For example, take the absurd theory that Greece’s Eurozone membership was functional to the interests of some Masonic Lodge. Or that the creation of the EFSF was functional to Germany’s long held plan to conquer southern Europe. Indeed, come to think of it, all idiotic and racist conspiracy theories are based on some idiotic functionalist argument (e.g. German mid-war hyperinflation was functional to the interests of Jews). While, functionalism is essential to social theory (as it is to biology), it is a sophisticated form of functionalism that must underpin any critical assessment of Germany, if it is to be useful not only to the critic but also to the Germans. But what would this sophisticated functionalism look like? Here is an answer:


Functional explanations are sometimes regarded as peculiar because they appear to explain something by its beneficial effects. It is the effect of an action rather than an intention which lay behind the action which is used to explain why the action was taken. Such explanations must consist of the following five steps if they are to pass our ‘sophistication test’ and be something beyond conspiratorial:

(1) X must be shown to determine Y

(2) Y must be shown to be beneficial for some ‘agent’ or ‘agents’ Z

(3) Y must be unintended by Z

(4) We must show that the causal relation between X and Y is unrecognised by Z

(5) Our analysis must demonstrate how Y maintains X by a causal feedback loop through Z.

Example 1: Y=long giraffe neck, X=giraffe’s DNA, Z= giraffe population. Here we need not worry about (3), as no intentions are present or detectable. First, the biologist must demonstrate how the giraffe’s DNA produces the giraffe’s long neck. Then she must demonstrate how the long necks of the giraffes boost their evolutionary fitness which, in a never-ending-circle, maintain the structure of the DNA that produces the long necks.
Example 2: Y=hierarchy in premodern societies, X=unequal gift exchanges, Z=rulers
We have now moved into the realm of social theory. This theory, if it is to hold water, must explain how lavish gifts by rulers to their subservient, which cannot be fully reciprocated, are not only the product of rigid hierarchies but that, in addition, help maintain these hierarchies. Note that, here, the theory becomes more interesting when the causal links are undetected by both rulers and their subservient. Each acts on the basis of their intentions (e.g. the pleasure of gift giving) but, behind their backs, social processes unfold that co-determine their intentions, beliefs and, of course, the hierarchical structure of power.

Let us now see how sophisticated functionalism can offer a foundation for a legitimate critique of the ‘German Position’. Take, for instance, my own ‘allegation’ (see It’s the German Banks Stupid!) that, to understand the toxic structure of the EFSF (the European Financial Stability Fund) one needs first to comprehend the parlous state of German banks. Can such an argument be made without generalisations and without some conspiracy theory? The answer is affirmative and comes in the form of a sophisticated functionalist theory whose elements are:

X=European leaders’ decisions, Y=EFSF’s toxic structure, Z=German bankers

To make my theory stick, I must begin by fleshing out (2) above [since (1) is self-evident], then explain the importance of (3)&(4) [namely, that the bankers do not even need to be cognisant of the manner in which the EFSF benefits them] and, finally, illustrate the feedback loop by which the EFSF’s existence helps maintain, through the actions of German bankers, European politicians’ penchant for these policies.

I know not whether my analysis of these steps is adequate or not. Indeed, my intention is to strengthen the analysis of each of these steps further. What I do know, however, is that this form of criticism is legitimate, resorts to no generalisations and, importantly, contains not an iota of a smidgeon of conspiratorialism.

3rd Principle – Contesting one’s own ‘theory’ of the ‘German Interest’: An example

Consider the critique of Germany’s mercantilism by Heiner Flassbeck (which appeared in a guest post here). I am in broad sympathy with Heiner’s thesis (which is the reason I re-posted his article) and think that it maps out nicely the imbalances that were building up prior to 2008 as a result of policies employed by the German government during the 1990s and early 2000s. It is a thesis that I have often invoked during debates and presentations. Nevertheless, applying my 1st Principle above, I feel the need to re-assess these criticisms and to subject them, in turn, to critical assessment. For if criticism of Germany is not subject to self criticism, the limits of rational and legitimate ‘reproach’ will have been breached.

Let me offer two examples of such self-criticism: The first criticism of Heiner’s critique of German neo-mercantilism (which I have subscribed to in the past) is that it focuses exclusively on Germany, presuming that the rest of the Eurozone was placid and a spectator. The second criticism is more analytical and concerns a common error that both critics and supporters of German policies commit.

Starting with the first criticism, the issue is not the so-called ‘German Interest’ but the combined interests of Europe’s business community (also known as Europe’s Capital). As my friend Joseph Halevi never ceases to remind us, Europe’s Capital is extremely keen to maintain the European Union as a ‘free hunting ground’, as a guarantor of financial rents, as the enforcer of policies that make redistribution extremely hard to effect, of wage deflation and of the shifting of competition from the market for goods and services to the market for labour (i.e. ensuring the maintenance of oligopoly power in the product market while working populations are forced to compete savagely against one another). Yet, at the same time, national bankers, rentiers and (to a lesser extent industrialists) have no interest in seeing the power of the nation-state wane. Their cosy, and highly lucrative, relationship with national politicians would wither if it did. If this is right, then the singular focus on Germany’s role is ill-judged and unfair. France’s elites were as responsible for Germany’s mercantilism as German industry, in the sense that they were happy to concede oligopoly rights to German industry (even in France) for the purpose of coming under of the umbrella of the DM (thereby restraining the French trades unions).

Turning to the second criticism, most of us take it for granted that Germany’s successful squeezing of labour unit costs prior to the Crisis boosted its competitiveness in relation to the rest of the Eurozone (with detrimental effects on the balance of payments of the Periphery). Interestingly, this thesis is propagated both by mainstream German economists and politicians and by critics of Germany’s mercantilism. But, is this thesis correct? Or, to be more precise, is it as straightforward as it sounds?

The first thing to recall is that the Periphery always maintained a trade deficit with Germany. Always! How was this sustainable? Via continual devaluation of the lira, the peseta, the drachma, is the conventional answer. Nevertheless, we must also note that, with the exception of northern Italy, the rest of the Periphery’s competitiveness was never really helped by those devaluations. Greece, for instance, never produced any cars and, thus, the devaluation of the drachma only slowed down the rate at which Volkswagens were being imported; what it never achieved, by definition, was an increase in Greek car exports to Germany. What of other products, like oranges and olive oil? The demand for those was more or less inelastic in Germany and, thus, all that happened really was that the devaluation of the drachma enhanced Greek farmers’ profit margins (especially when the devaluations caused hyper-inflation at home). The same applies to the euro era, when Germany succeeded in squeezing unit labour cost growth (below that of the Periphery plus France) and to maintain an inflation rate well below the Eurozone average: Prices of German industrial goods in the rest of the Eurozone did not fall in Greece, in Italy, in France. All that happened was that German oligopoly profits increased while Greece, Spanish, Italian and Portuguese profitability collapsed (especially after the tide of German finance capital to the Periphery receded in a hurry).

In summary, a nuanced critique of Germany’s role in the Euro Crisis requires not only proper ‘analysis’ (see 1st Principle), sophisticated functionalist synthesis (see 2nd Principle) but, in addition, critical assessment of the critical theories themselves.

Summary and conclusion

I began this piece by claiming that generalisations are the first step on the road to fully fledged racism and, to boot, to highly misleading economic analysis. Germany has been, for a while now, in the firing line from various quarters (including myself) regarding its handling of the Euro Crisis. Can the ‘German Position’ be subjected to rational assessment and criticism without generalisations? I think so, even if – admittedly – it requires considerable skill to stay on a ‘fine line’. In the preceding paragraphs I tried to outline that ‘fine line’ in the context of three principles which we ought to respect when putting together a critique of Germany but, also, of other national governmental stands.

The 1st Principle focused on the need to avoid treating Germany as a monolith with consistent preferences, interests and beliefs. In a recent post, addressed to me, Kantoos Economics takes me to task for stating that Germany benefited significantly from the euro. Does this statement violate the 1st Principle? Yes and no. In one sense, there is no doubt that Germany’s trade balance did benefit. However, it is important to note that this does not mean that the benefits of burgeoning net exports were distributed to all segments of German society. Indeed, there is plenty of evidence suggesting that large parts of the German working class saw their living standards drop substantially. In brief, while it is possible to point to aggregate measures (such as the nation’s trade balance or GDP), it is essential that distributional issues, as well as issues related to the relative bargaining power of various strata or classes, are taken into account in a manner that breaks down any monolithic view.

The 2nd Principle concerns the proper, or legitimate, method for approaching the unconscious, and unintended, feedback effects between different German economic interests, German policy makers’ decisions, and the Eurozone’s fortunes. Crucial to this method is the recognition that many of the outcomes are unintended and that the causal relations (including the feedback effect) which do most of the work of fashioning outcomes escape the mindset of the actors whose choices drive history. In short, there is no conspiracy behind actions which look as if driven by certain interests and beliefs. I gave one example of how such an explanation can work in the context of the EFSF and Germany’s private sector banks. Another example comes from a piece I wrote two years ago (entitled A New Versailles hunts Europe – in which I characterised the bailout terms imposed upon Greece as a New Versailles Treaty). In that article I had written the following lines:

“Retribution was the order of the day, especially in the mindset of a nation [nb. germany] that, over the past century, has accepted its collective punishment gracefully and managed to rise out of the mire through sheer hard work and extensive reform. Greece should to pay for its sins too. For Germans, the cost of saving the Greek state from the clutches of the money markets was not the issue. The issue was that Greece should suffer a deserved punishment for putting at risk a club which gallantly bent the rules to have it admitted as its member. And when the said club is the one issuing the currency in which the German people trade, save and take collective pride, that punishment took on the significance of a crucial bonding ritual.”

Kantoos Economics, again, took me to task for these lines: “This is just flat-out wrong” he said (bold in the original), adding: “And offensive. Germany’s motivation was never retribution. Many German policy makers simply misdiagnosed the crisis as one of public debt alone and argued, correctly according to their diagnosis, that Greece should simply spend less and tax more to get out of it.” I beg to differ. While my 1st Principle bans me from generalisation, this ban cuts both ways: if Germany’s view is not monolithic it can neither be said to seek retribution (against Greece) nor not to seek it! Nonetheless, it is perfectly legitimate to perform the following mental experiment: Suppose that there were a button that the German Chancellor could press to make the Greek debt and the Greek current account deficit go away without any pain for the Greek people. Would a majority of German voters want Mrs Merkel to press it? Or would they prefer a significantly less efficient outcome (in terms of combating the Greek crisis) which is accompanied by significant hardship for the Greeks?

I have no doubt that both the German public and a large majority of German policy makers would opt for the latter; motivated by a mixture of (a) an urge to see that the Greeks are ‘taught’ a lesson (retribution) and (b) a view that such pain is important to deter the spendthrift Greeks (and assorted Peripherals) from repeating their ‘sins’ in the future. In this sense, my statement that Germany seeking ‘retribution’ was a prime mover behind the Greek Bailout package is utterly legitimate. Having said that, in order to prevent feeding others’ penchant for racist anti-German views, if I were to edit that quotation, I would have replaced “Germans” with “mainstream conventional views in Germany”.

Finally, the 3rd Principle calls for a constant drive to criticise our own criticisms of Germany; to keep on our toes about the possibility that our critical assessment of the Eurozone’s most significant member-state is flawed. Without such self-critical posture, our criticism is bound to verge into the realm of both moralising nonsense and analytical paucity.

Lastly, turning one last time to my two year old (plus) piece on Germany’s mindset when the Bailout conditions were imposed on Greece back in May 2010, and reading it again in the context of the three principles in this article, I am pleased that it seems to pass this new test. Here is how it concludes:

“In this context, turning countries like Greece into sundrenched wastelands, and forcing the rest of the Eurozone into an even faster debt-deflationary downward spiral, is a most efficient way of undermining Germany’s own economy. Assuming, for argument’s sake, that Greece is getting its just deserts, do the hard working Germans deserve a political elite that quickmarches them straight into economic catastrophe?” I do not believe they do. But it has happened before and it may happen again. To quote Keynes’ 1920 book on the Versailles Treaty one last time: “Perhaps it is historically true that no order of society ever perishes save by its own hand.”

Two years hence, Greece has been turned into a sundrenched wasteland. And the rest of the Eurozone has been (and is being) pushed into a debt-deflationary downward spiral. Moreover, these developments are now undermining Germany’s own economy, plunging German workers into an economic catastrophe that they do not deserve. Such criticism of Germany, free of generalisations, predictively accurate, and displaying equal concern for German workers and the pains of the Periphery, is analytically useful because it is ethically and politically legitimate. I stand convinced that the three principles outlined here help us achieve this benign balance when subjecting proud nations to critical scrutiny.

(Modestly) Stimulating Europe

13 Jul

Stephany Griffith-Jones and Matthias Kollatz-Ahnen

Strategies to overcome the European crisis only focused on collective austerity are not working; they are bad arithmetic, worse economics and ignore the lessons of history. A key missing ingredient is the urgent restoration of growth, which European citizens demand and several leaders are increasingly stressing. However, meaningful actions on a sufficient scale have not yet been taken.

One specific way of significantly stimulating European growth would be to greatly expand lending by the European Investment Bank (EIB) within Europe, so that it could finance increased investment, especially but not only in the countries suffering most from the crisis. By boosting investment to help restructure those economies with viable projects and make them more competitive, this could have positive medium-term supply effects; in the short-term it would also contribute to expanding aggregate demand in all European countries, lifting growth and employment.

One crucial advantage of this proposal is that with fairly limited public resources, a very large impact on investment, growth and employment can be achieved with the benefits of leverage. A second major advantage is that, as an existing successful European institution – the EIB – can be used. The measures can be quickly implemented.

There are two promising paths to use limited public resources to achieve important multiplier effects. The first is to achieve leverage with the EU budget. A very small amount (as proportion of the EU budget), equal to €5bn a year could be allocated as a risk buffer. This would allow the EIB to lend an additional €10bn annually both for financing infrastructure projects (project bonds) as well as projects to promote innovation. The project bonds would imply that 25% of the project would be advanced by a private investor, the EIB would finance the next 25%; with a mezzanine tranche; the remainder would be invested by pension funds and insurance companies; regarding the mezzanine tranche, the EU contribution would finance half the risk assumed by the EIB. Thus, €5 bn from the EU budget- leading to financing by the EIB of €10bn- would lead to project finance of €40bn annually.

The second path is to increase EIB capital by EU member states. Only a very small proportion of capital, (5%) has to be paid-in. Therefore if this paid-in capital is doubled, it would require only a total of €11.6bn from EU member states. Rating agencies accept a leverage of eight for the EIB to maintain its AAA status. Therefore, an increase of paid-in equity of around €12bn would allow the EIB to expand its lending by €95bn, which is an impressive multiplier. If this additional EIB lending was spread over the next four years, an additional €10bn could be lent in 2012, €35bn additional lending could be done in 2013, and €35bn could be lent annually in both 2014 and 2015. Because typically the EIB co-finances 50% of projects, with private sector or others contributing the other 50%, this would result in additional investment of €190bn.

To this programme of significantly enhanced EIB lending could be added some additional resources from the EU budget, to an important extent drawing till end 2013 from existing unused European Structural Funds. Further funds could be easily allocated to growth from the new EU budget from 2014 onwards of €25bn annually.

In total the additional EIB and EU resources allocated to growth could reach €35bn in 2012 and go to €60bn annually in the 2013-2015 . The resources for 2013-2015 would correspond to around 0.5% of EU annual GDP. As they would be allocated to finance increased investment and working capital, the latter for small and medium enterprises, this would have a major impact on EU growth and employment. It is interesting that these resources, with a total dimension of almost 2% of EU GDP would be similar, though somewhat smaller, to those of the Marshall Plan. Hopefully they would also contribute to a significant renewal of growth dynamic in Europe.

It is both feasible and urgent to set up a reliable investment program of this size, to foster a growth impulse that carries Europe forward.

We have estimated the impact that such a programme could have on EU growth and employment in 2013 and 2014, with the help of the international macroeconomic model HEIMDAL. We use conservative assumptions for the impact on investment, of half of the additional EIB and EU resources in 2013 and 2/3 in 2014. We also assume the most affected countries (such as Greece, Portugal, Spain, and Italy) would receive the greater part of the resources.

The modelling shows that such a programme would result in a minimum additional increase of average EU GDP of almost 0.6% in two years. Furthermore, more than half a million jobs would be already created in 2013, with accumulated additional EU job increases of over 1.2m by 2014. The southern European economies would have larger percentage increases than the average, though all EU countries would benefit, due to the important cumulative effects not just of increased investment at home, but also of increased European trade.

This figure does not include effects of increased EIB lending, via commercial banks to provide much needed working capital to credit constrained small and medium enterprises, which will stabilise or increase employment and output significantly further. Last but not least, growing confidence will result in increased private investments which are not included here, too. The impact on jobs will clearly be well above 1.2m.

It is urgent to act now and lay the foundations for renewed European growth and job creation. Our proposals offer a concrete, feasible and cost-effective way of doing exactly that. It is for EU leaders in their next summit to take such or similar measures on a sufficient scale and with the necessary speed that the difficult situation requires.

Matthias Kollatz-Ahnen is former Senior Vice President of the European Investment Bank (EIB).

This article was originally published in the Financial Times.

Is Spain Going the Way of Ireland?

10 Jul

Mark Blyth and Stephen Kinsella (Triple Crisis)

Spain is now heading down the same path that bankrupted Ireland. It doesn’t have to be this way; and indeed, it shouldn’t be this way. Ireland is not a role model for austerity policies, but rather a cautionary tale.

The parallels between Spain and Ireland are striking. Just like Ireland, Spain had a credit boom financed mostly with external debt, which meant that the balance sheets of their banks are now stuffed with bad debts as asset values collapse. Both governments have now injected billions into these ailing banks, to the detriment of their respective debt profiles. The Spanish Prime Minister has become preoccupied with creating market confidence, as was the Irish Prime Minister in the run up to the EU/IMF bailout. Confidence talk may buy some time, but ultimately it doesn’t make the problem go away.

The accent heard today in Madrid has a distinct Irish lilt to it. The script is the same. First, deny the problem. Second, underplay its size. Third, look for external help to solve it once you have promised what you cannot deliver.

Clearly we are in phase three now. Over the weekend it was announced that Spain’s banks — not the Spanish state — are getting a series of loans of up to 100 billion euros, which will be added to Spain’s national debt. Spain’s debt was 81 percent of its output before the bank bailout and is roughly 91 percent now, heading close to the same levels of government debt Ireland, Greece, and Portugal have.

How things change. Before the crisis, both countries had respectable debt profiles. And yet in the run up to the collapse in 2007, the combined asset footprint of the three main Irish banks was around 400 percent of GDP. One of those banks, Anglo-Irish Bank, lent 67 billion euros to the non-financial sector (real estate) in 2007 alone. For a sense of scale, the national ouput of Ireland in 2007 was 155 billion euros. Following this foolish bank guarantee, Irish government debt has quadrupled to over 108 percent of national output as the government injects money into the banking system. Despite this, credit growth has collapsed and domestic demand has still not recovered.

In Spain, really only the scale is different. Real estate had become so central to the Spanish economy that construction alone generated 14 percent of employment and 16 percent of national output in 2007. Once related sectors are included, those figures jump to nearly a quarter of national output and employment, respectively. Unsurprisingly, given such a construction boom, credit expanded to meet demand. Housing loans as a percentage of national output increased from 28.4 percent to 102.9 percent over the ten years of the construction bubble, while loans to developers constituted nearly 50 percent of national output by 2007. When the bubble burst, national output contracted 6.3 percent in the first quarter of 2009 alone.

While the true size of the Spanish banking problem is unclear, a good rule of thumb from Ireland is to stick a zero the end of whatever the government is saying it needs, which would be about $1.2 trillion dollars. But whatever it really is, when you’re talking about the 4th biggest economy in Europe and 10 percent of euro zone output, you have a problem that is “too big to bail.” Ireland went bankrupt stopping its banks going bankrupt. Spain simply cannot do this even if it wanted to: the problem is too big.

The banking collapse has led, inexorably, to a collapse in the real economy. Unemployment in Spain, just like Ireland, has soared as austerity has compounded the bursting of the bubble. In March 2006, Spanish unemployment was 8.1 per cent. By March 2012 unemployment was 24.1 per cent, Spain’s highest for nearly 20 years, with more than half of all workers under the age of 25 without jobs. Such levels of unemployment will accelerate defaults in the mortgage market; depress growth; and may lead to large-scale social unrest and political turmoil. Ireland has managed to avoid such social unrest for a variety of reasons, but indicators of social disruption like suicide, depression, and crime have all increased markedly as overall unemployment reached 14.5 percent and youth unemployment reached 29 percent in early 2012.

So what is to be done? First, either explicitly or implicitly, the Spanish sovereign must not make the same kind of blanket guarantee to the Spanish banking sector that happened in Ireland. That way leads directly to an IMF program of adjustment. With youth unemployment at such extreme levels, an IMF program is likely to be both economically wrenching and politically impossible.

Second, either Spain’s bondholders should be lined up and politely told they are taking a loss, or failing that, most of the banks should be nationalized. Ireland’s great mistake was in not taking one of these crucial steps quickly. In Ireland a National Asset Management Agency was formed to cleanse private banks’ balance sheets and disburse the bad loans over a longer period. So far, it has not been a success. Spain’s problems are too big for a bad bank solution.

Third, bank runs are not fiscal problems. The resolution of Spain’s banking problem, not its fiscal problem, should take account of both the creditors and the debtors in Spain’s system. Right now, all resolution attempts are aimed at ensuring creditors get their money back. A program of debt forgiveness, targeted to reduce moral hazard, is necessary given the precarious nature of the balance sheets of both financial corporations and households. It is important to remember the historical context: since the end of World War II, for a highly indebted country, growing its way out of a large debt overhang has almost never worked. There is almost always a debt restructuring and financial repression, sometimes taking the form of capital controls.

In Ireland, moves are being made to free up the country’s arcane insolvency laws while the number of residential mortgages in arrears has climbed to over 10% of total outstanding mortgages. Spain is already in worse shape. Spain can, and should, do better, if it learns from Ireland’s mistakes. If it fails to do so and follows the same path, the results will be too big to bear.

So you say global finance can’t be regulated in developing countries

10 Jul

By Kevin P. Gallagher (FT, July 10)

The development process can quickly unravel when a herd of speculative investors steers into a country. Brazil boldly attempted to regulate such speculation in 2010 and 2011. Their efforts were a modest success, but developing countries can’t bear the full burden of regulating cross-border capital flows.

“Hot money” in the form of short-term debt, currency trading, stock market, real estate speculation, all stampeded into emerging market developing countries in 2010 and 2011. Low interest rates in the developed world and higher rates in emerging markets triggered such financial flows. The fact that developing countries were growing faster than crisis-plagued industrial nations played a role as well. Via the carry trade, investors borrow dollars and buy Brazilian real. Then they short the dollar and go long on the real. Depend on the leverage factor an investor can make, well, a ‘killing.’

The massive inflow of foreign capital caused currency appreciation and asset bubbles. From 2009 through 2011 Brazil’s currency appreciated by over 40 percent. When a currency appreciates, exports get more expensive relative to those of other nations. Workers can be laid off and/or wages suppressed. Small and medium sized enterprises that sell to exporters lose key markets. Demand slows overall and puts a drag on growth. Indeed, excessive capital inflows and related problems are part of the reason why growth is slowing in Brazil.

Brazil attempted to cool such speculation by slapping taxes on foreign purchases of stocks, bonds, and currency derivatives numerous times over the past few years. Indeed, Brazil introduced real innovations to the world of capital account regulation. As other nations have, Brazil taxed non-resident equity and fixed income portfolio inflows—starting with a modest level of taxation and then ratcheting up as markets responded. However, Brazil also placed taxes on margin requirements of foreign exchange derivatives transactions. Moreover, Brazil required a non-interest reserve requirement for bank’s short dollar positions in the foreign exchange spot markets.

New research by Brittany Baumann and me shows that Brazil’s efforts were moderately successful. We performed a series of statistical analyses to examine the extent to which Brazil’s regulation of cross-border finance reduced exchange rate volatility and associated problems. We found that Brazil’s measures mitigated exchange rate volatility in Brazil, changed the composition of investment toward more longer run, productive investment, and gave Brazil more say over monetary policy.

We also examined Chile, who faced similar problems but chose to spend billions of dollars intervening in their foreign exchange markets rather than regulating global finance. In contrast with Brazil, we find that Chile’s efforts were not successful.

That said, we find that overall, Brazil’s regulations had a very small impact on cooling hot money flows and were not enough to significantly mitigate the harmful effects of speculation. For the regulations to be more successful they would have had to been much stronger on Brazil’s end, and coupled with regulations at the source of the hot money —namely in the United States.

Economists dating back to Keynes have long stressed that financial flows need to be governed on ‘both ends’ of a transaction. The source of footloose finance is in the United States where interest rates are low. Rates are low in the US to spur dragging growth and employment in that country. Yet, loose regulation makes it more profitable for financial firms to pull money from the US and invest it overseas. To avoid this problem the US had a tax on the outflow of finance in the 1960s and 1970s.

Measures in both the US and places like Brazil would presumably be win-win on many fronts. The US would have more liquidity for productive and employment- based growth at home. Developing countries would not be subject to disruptive investment from abroad.

The proposed Volker Rule would make it harder for US banks to speculate on foreign countries via the carry trade with US deposits. But the financial lobby will have nothing of it. Moreover, financial interests have snuck measures in US trade treaties that make it illegal for trading partners to regulate cross-border finance as well.

Until the US recognizes its interests more clearly, countries like Brazil, that does not have a trade treaty with the US, will have to bear the burden. Brazil has shown such measures can work, but they will have to be much more bold and the developed world will eventually have to come to their senses. The US economy, and development prospects will be all the better for it.

Kevin P. Gallagher is associate professor of international relations at Boston University and co-chair of the Task Force on Regulating Global Capital Flows for Long-Run Development. With Brittany Baumann he is the author of the new study “Navigating Capital Flows in Brazil and Chile.”

The Cluj School: Another Romanian Wave in High-End Art

1 Jul

So East European university training is not really worthless, as some local self-haters would tell you. At least when it comes to the world of galleries. You hear a lot about meth skills, maverick cinema, computer wizards but painting? And Cluj, Romania?

FT reports about an unheard of side of Romanian exports:

Both sides claim it is a happy incidence, but this week in London Christie’s-owned Haunch of Venison goes head-to-head with Blain|Southern, as both galleries inaugurate shows by painters from the Romanian Cluj School.

There has been a lot of buzz about Cluj, the “capital” of Transylvania: man-about-town Nicky Haslam has recently bought a house there, and its cultural centre, installed in a former brush factory, is a hotbed of artistic creation. Haunch is holding its second solo show of Cluj School painter Adrian Ghenie, and displaying the works in its original Haunch of Venison Yard premises, spiffily refitted by Annabelle Selldorf. Meanwhile Blain|Southern, whose directors founded Haunch but left last year to start their own gallery, are showing another Cluj painter, Marius Bercea.

So what makes these artists so popular? Jane Neal, curator of the Bercea show and a specialist in eastern European art, says that their training “has kept traditional techniques alive” and that they have “great technical skill”, while Ben Tufnell of Haunch says the artists’ work is also infused with a “very strong sense of philosophical and ideological engagement”. The market has followed: Ghenie’s first show at Haunch in 2009 was a sell-out, and the gallery tells me everything had already gone before this week’s opening at prices between €35,000 and €100,000. Work by Bercea is equally popular, and just one remained before Blain’s opening on Wednesday: his prices range from €4,000 to €50,000.”

Some of the money coming from the sales went to support Fabrica the Pensule (The Brush Factory), a collective where this ebullient art spirit has been cultuvated during the past few years.