Category Archives: political economy

A False Premise

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It’s being widely reported that a continued, or accelerated, EU economic crisis could threaten President Obama’s reelection.

It’s certainly true that, in this increasingly globalized world (!?), the European crisis could impact the American economy, and through that, President Obama’s reelection.

But that’s an outcome, not a cause.  The cause is Obama’s mishandling of our economy in the first place, to the point that it’s so enormously vulnerable to the European downturn.

That mishandling is a…misunderstanding…of the type of growth that’s needed.  What President Obama and many of his EU counterparts pushed for at the just-concluded G-8 summit is growth in government spending and borrowing—and in Obama’s case, growth in tax rates—under the rubric of stimulating an economy.

On the other hand, we have Christina Romer (that Christima Romer) and David Romer demonstrating in a 2010 American Economic Review article (login required; sorry) the powerful effect of increasing tax rates on economic growth: an increase in taxes of 1% of GDP lowers GDP by nearly 3%.

And we have Swedish economists Andreas Bergh and Magnus Henrekson in a 2011 Journal of Economic Surveys article (again, login required; sorry again) concluding that a 10% increase in government size (relative to GDP) is associated with a 0.5%-1.0% lower annual growth rate in the economy.

Plainly, the answer, as I’ve been arguing lately, is smaller government and lower tax rates, to produce economic growth.

Economic, not government, growth.  Now that’s growth we can believe in.

Europe Can Spend Its Way to Growth

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That’s the claim made by Hannes Swoboda, an Austrian MEP and President of the Progressive Alliance of Socialists and Democrats in that European Parliament, in a recent Wall Street Journal op-ed.

Mr Swoboda said about German reluctance to support continued excessive government borrowing:

Should companies that seek to grow not be allowed to take out loans anymore?  Should states, in order to fight recession and unemployment, not assume debt?

The first, of course, is little more than a disingenuous red herring.  Companies are not governments.  When a company (spends and) borrows too much and cannot repay, only the company’s investors and creditors, and in the most extreme cases the company’s employees, lose.  When governments (spend and) borrow too much, it is that polity’s taxpayers…well, we’re seeing the results of this sort of government irresponsibility play out today in Greece, California, Illinois, the United States as a whole.

…austerity politics and…their antisocial character, proven by record unemployment figures.  The collapse of some governments…notably in France and Greece…further demonstrate the political danger.

Of course generations of dependency on, and addiction to, government handouts don’t have anything to do with the pain of the forced withdrawal that results from these governments’ having run out of OPM.  Not a bit of it.  In fact, though, the only real, long-lasting political danger is to the political incumbents who find at risk their ability to keep the handouts coming and the capacity of the resulting dependency to preserve their power.

Then Swoboda (to coin a phrase) doubled down.

The fact that the current recession was preceded by a decrease of public investment in measures and policies that produce growth and employment clearly indicates that these must be the starting point of an alternative strategy.  In the evaluation of national budgets,…[e]xpenditures for these purposes should not be integrated in calculations of structural deficits….

Italian Prime Minister Mario Monti has already called for policies that favor targeted public investments in growth and employment.…

We actually need to go a step even further. … The European institutions should enact legislation that requires all members to make public investments in growth and employment.

Those public investment measures are nothing more than the repeatedly failed Keynesian policy of “stimulus” spending at the expense of necessary fiscal discipline.  In fact, the current European recession also was not preceded by an increase in private investment—because the money wasn’t available due to excessive taxes and high government spending and borrowing for those dysfunctional spending and borrowing efforts.

Moreover, any remaining government expenditures, including any Keynesian “stimulus” (is there any serious economist who still thinks stuff is sound economics?), must strictly be on the books and in the public’s view.  If Swoboda thinks his policies are so wonderful, why does he demand to hide them behind locked doors and in the secrecy of off the books crony deals?

Finally, Mr Swoboda, not trusting the people to make their own personal and business decisions, demanded to codify in international law a permanent government interference with the market place.

No.  The answer to Europe’s—and the United States’—problems are for government to get out of the way of the private economy.  To get out of the way of the flower of individual ingenuity and out of the way of the collective wisdom of private citizens.

Mr Swoboda had more fanciful claptrap, but you get the idea.  One can only hope that we get the idea this fall.

Housing Foreclosures and Government Involvement

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Here are some interesting contrasts, courtesy of The Wall Street Journal.  Against a background of 4.4% of mortgages, generally, being in some stage of foreclosure as of March, which is down a tad from a year ago’s 4.5% and so still at historic highs, we have the following.

The foreclosure rate remains high largely because of states that require banks to process foreclosures by going to court. In those so-called judicial states, banks and their lawyers have moved to take back homes very slowly….

Thus,

…the foreclosure rate in judicial states stands near 6.9%, and it has been flat or rising over the past year.

On the other hand,

…nonjudicial states have a significantly lower foreclosure rate, at about 2.8%, which has been falling over the past year.

Another way of looking at the data:

Of the 11 states that have foreclosure rates above the national average, ten of them have judicial foreclosure processes. The top three are all judicial states: Florida had a foreclosure rate of 14.3% at the end of March, followed by New Jersey (8.4%) and Illinois (7.5%).

While

…nonjudicial states that had severe housing problems, such as California and Arizona, have seen their foreclosure rates drop below the national average.

Hmm….

A Contrast between Progressive and Conservative Fiscal Policies

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William McGurn had some thoughts on this in a Wall Street Journal op-ed earlier this week.  A couple of highlights, then RTWT.

When the Obama administration’s Transportation Department called on California to cough up billions for a high-speed bullet train or lose federal dollars, [California Governor, Jerry, D] Brown went along.  In sharp contrast, when the feds delivered a similar ultimatum to [New jersey Governor, Chris, R] Christie over a proposed commuter rail tunnel between New York and New Jersey, he nixed the project, saying his state just couldn’t afford it.

And

On the “millionaire’s” tax, Mr. Brown says that California desperately needs to approve one if the state is to recover.  The one on California’s November ballot kicks in at income of $250,000 and would raise the top rate to 13.3% from 10.3% on incomes above $1 million.  Again in sharp contrast, when New Jersey Democrats attempted to embarrass Mr. Christie by sending a millionaire’s tax to his desk, he called their bluff and promptly vetoed it.

There are other examples:

…Illinois, where Democratic Gov. Pat Quinn and his Democratic legislature pushed through a tax increase on their heavily indebted state.

Now ask yourself this.  Can anyone look at Illinois and say to himself: I have seen the future and it works?

Indiana’s Mitch Daniels, a Republican, is probably the only governor who can truly claim to have turned around a failing state [other than, perhaps, Governor Christie].  Louisiana’s Bobby Jindal, also a Republican, may be another challenger for the title, having just succeeded in pushing through arguably the most far-reaching reform of any state public-school system in America.

What he said.

A Greek Exit

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This is beginning to look possible.  Moreover, it would be beneficial for the remainder of the euro zone, the remainder of the European Union, and for Greece.  The Greeks have an entirely different set of social mores, economic goals, purpose of money, and purpose of government from, say, northern Europe, and the shotgun wedding that tried to meld the two sets was doomed from the start.

A Greek departure, aside from the benefits to all, is a theoretically simple thing to achieve.  There is no mechanism in the EU governance documents for handling—or preventing—a nation’s departure, and there is no mechanism in the euro zone governance documents for handling—or preventing—a nation’s departure, either from the euro zone while remaining in the EU, or from both the euro zone and the EU.  There is only for Greece, as an ironically named shoemaker’s ad has it, to just do it.

No, the departure would be an engineering task.  But like all engineering tasks, the devil is in the details, and a departure could be smooth and quickly done, or it could be a clumsy affair, stumbling on at great cost for years.

The Wall Street Journal has one set of possibilities for effecting a Greek withdrawal from the euro zone, but there are additional details that need consideration, also.

How does Greece leave the euro?
In one scenario, a Greek authority would have to agree on a date with the rest of the euro zone for its departure and for the introduction of a new currency (let’s call it the new drachma). It would say that from that date, all public salaries, contracts and pensions would be paid in drachma. Bank deposits would also be redenominated. The authority would likely decide an initial conversion rate on domestic contracts from euros to new drachma—say one-to-one—then it would likely let the exchange rate of the new drachma be decided by the currency market.

This is fine for internal matters, but Greece—its government entities, its private businesses, and lots of individual citizens—have international dealings, not least with Europe.  An initial exchange rate (and a pegging schedule, or timing for letting the “new drachma” float freely) with the EU, with Turkey, with China, with the US, et al., all would have to be worked out: the “Greek authority” would be in no position to impose its domestic exchange rate externally.  This negotiation will be no easy matter, either, especially in light of an expected free fall, but to unknown depths, in market value of the “new drachma.”

Among the things to be handled, for instance: euro-denominated Greek bonds, sovereign and corporate, held by the European Central Bank, by member nation central banks, by private enterprises external to Greece.   Also in the mix would be cross-border private enterprise contracts for delivery of goods and services to be paid for in euros.

Nor, after all, can we dismiss domestic private enterprise questions: the “Greek authority” can announce an exchange rate to its heart’s content; many of these domestic businesses still will feel sufficiently put upon—or will consider that they no longer have anything to lose, anyway—that they will sue.

A major new litigation industry will be spawned.

Moreover, the euro, as a “sound currency,” likely will still circulate widely in Greece; although any influx in euros would necessarily be dependent on actual commerce—just as the US$ circulates with some ease in Mexico and the Philippines (or did when I last was there some years ago), for instance.  The Greek government’s problem here is to manage the domestic exchange rate in this grey market, rather than to attempt to ban that market altogether.  The best way to eliminate that grey market is to better manage the Greek economy—which is to say, to get out of the way of the economy—so that it can recover and the “new drachma” can take its place as a usable currency.

What would the ECB do?
The ECB probably would no longer be able to lend to banks against Greek government debt as collateral.  With no euros available, this would be the moment when the government would have to distribute another currency as a means of exchange.

Timing is everything, but this is simply an exercise in clock watching—there’s no rocket science here.

What would happen to the debt [emphasis added]?
The debt would largely fall into two categories: money that the government owes to its bondholders and official creditors, and money that the banking system owes to the ECB.  As both of these types of debts are under international law, they would have to be restructured by negotiation. Domestic debt would likely be redenominated in new drachmas.

Here is the other nub of the problem.  The Greek bailout “negotiations” are exactly about how to deal with this debt.  After having left the euro zone, and especially after having left the EU, should it come to that, it would be far easier for the Greeks simply to repudiate that debt and walk away.  This is what Alexis Tsipras, head of the SYRIZA party (now Greece’s second most powerful party), wants to do.  However, such an outright repudiation would cause damage to perceptions of Greek reliability that would take decades—a rollover of generations—to redress.

No doubt, the transition period surrounding a departure will get ugly.  The Institute of International Finance thinks it would cost…somebody…€1 trillion ($1.29 trillion) for the Greeks to quit the euro zone.  Moreover, until things settle out, Greek businesses and banks will find it very difficult to obtain funds for cash flow—the sort of short term borrowing that is a part of the normal operation of businesses.  It’s in this period that the grey market of euros for “new drachmas” and euros for Greek goods and services—entirely within Greece, mind you—will get started.

The rest of the euro zone and of the EU have their own fears of a Greek departure: contagion and a run on the banks of many of the other nations—not stopping in southern Europe, but heavily damaging France, Netherlands, Belgium, even Germany, all of whom (and others) have loaded up on Greek sovereign debt in an effort to prop them up.  This fear of contagion is overblown.  Yes, there would be a brief run on the banking institutions of the rest of the PIIGS—mostly Spain, Italy, and Portugal—and of France, Netherlands, and Belgium because investors are cautious sheep.  Yes, actual losses, and sharp ones, will occur.

But the best way to get  a sheep caught in a fence out of that fence is to try to push it deeper in.  Walk now, and the storm will be harsh, but brief, and those other PIIGS, and the rest of Europe, will weather it.  Nor the euro zone nor the EU are at risk—although, as I’ve written elsewhere, a real fragmentation would benefit everyone.