Thursday, March 18, 2010

Deutschland Über Alles

Now that the European Monetary Fund has been ruled out as it would require a new treaty and the agreement of all member states, there are not so many options left for EU action. We should however take the proposals put forward by W. Schäuble, the German Finance Minister seriously. His proposals are the following: any emergency aid for countries with excessive fiscal deficits should be combined with sanctions; suspending voting rights of badly behaving members within the eurogroup; and allowing a member to exit the monetary union, while remaining inside the European Union.

After weeks of discussions on various possible options, Germany has expressed once again an orthodox view on economic policy in the Euro area. There is no other option than reduce fiscal deficits, no matter what this would imply.

M.Wolf (FT 18/03) has provided a thorough analysis of the economic implications for the global economy. He developed three arguments: " first, it will have an overwhelmingly deflationary impact; second, it is unworkable; and, third, it might pave the way for Germany’s exit from the eurozone."I agree with the first two arguments, not the last one.

If weaker countries are forced to reduce sharply their fiscal deficits, this will weaken the entire euro area. But the result would also be fiscal deterioration in Germany and France because of the high degree of economic integration in Europe. France already has a deficit forecast close to 9 per cent of gross domestic product this year. Does Mr Schäuble imagine France could be fined? Surely not. Yet it is not Greek public finances that threaten the stability of the eurozone. The threat is the public finances of big countries. But Germany could not force such countries to reduce their deficits and has no chance of expelling any member it disapproves of from the eurozone. Will the Germany leave the euro area? This is very unlikely: Germany belongs to a currency area with some of its main trade partners.

A disruption of the euro area would indeed be very bad for German manufacturing, and eventually would weaken the German position in the world economy. Perhaps, it is still time to look for other cooperative solutions within the euro area. Greece has threatened to use the IMF as a means of putting pressure on euro area governments -as the Finance ministers agreed on 15 March on the possibility that individual governments would supply Greece with direct, bilateral loans if necessary. European governments are divided on the IMF and on its forms of intervention, but they should, however, show courage and wisdom in proposing genuine European solutions.

Wednesday, March 17, 2010

Why are American jobless?

A dear friend has sent me a message circulating on the Internet. It is presented as a joke, but it might have some truth in it.

"John Smith started the day early having set his alarm clock (MADE IN JAPAN ) for 6 a.m.
While his coffeepot (MADE IN CHINA ) was perking, he shaved with his electric razor (MADE IN PHILIPPINES ) . He put on a dress shirt (MADE IN SRI LANKA ), designer jeans (MADE IN SINGAPORE ) and tennis shoes (MADE IN VIETNAM). After cooking his breakfast in his new electric skillet (MADE IN INDIA ), then he sat down with his calculator (MADE IN MEXICO ) to see how much he could spend today.
After setting his watch (MADE IN TAIWAN ) to the radio (MADE IN INDIA ), he got in his car (MADE IN GERMANY ) filled it with GAS (from Saudi Arabia ) and continued his search for a good paying AMERICAN JOB.
At the end of yet another discouraging and fruitless day checking his computer (MADE IN MALAYSIA ), John decided to relax for a while. He put on his sandals (MADE IN BRAZIL ) poured himself a glass of wine (MADE IN FRANCE ) and turned on his TV (MADE IN KOREA ), and then wondered why he can't find a good paying job in AMERICA .

If we just skip the last sentence, the message is that the average American consumer is a global one. Globalization has brought some benefits in terms of cheaper products for low-middle income Americans, but on the other hand it has de-structured the US productive system as many jobs have been displaced to exporting countries. This is mainly true for consumer goods, including cars, TVs and also computers, but the US has strengthened at the same time its leadership in high-tech industries. So where are the jobs? They are in the so-called 'knowledge economy' and require higher education and skills than in traditional industries. Investing in education and research is the key to the future as we need to prepare future generations to the next technologies and build the cutting edge industries which will create jobs tomorrow.

Saturday, March 6, 2010

An exit strategy for the euro crisis

The Italian Finance minister (Corriere Sera 6 March) is right to say that there is no exit strategy at the moment, but only a crisis management. The Greek debt crisis has highlighted the limits of the eurozone governance and the need for a durable solution to the euro crisis. The measures taken by certain governments like Latvia, Portugal, Spain and Greece to cut wages to restore fiscal consolidation are unpopular and may also have some deflationary consequences. Soaring budgets deficits in almost all European countries are not the cause, but the consequence of the crisis. The situation might also be different in other more developed countries: for example in the United Kingdom, the government has increased public investment because private investment has declined. The experience of Japan deflation in the 90s confirms that if private sector is de-leveraging- reducing spending to reduce its debts- then public sector cutting its deficit will deepen, not lighten recession. This is what Keynes called the 'paradox of thrift'.

The debate between 'laxist' countries (the so-called 'Pigs') and those defending financial rigor is a sterile one. It is evident that the Greek issue has become an European one, but this is also the case for the other countries at risk such as Spain or Portugal. French and German banks hold more than 60% of debts in those countries, but why creditors are pushing them in the hands of speculation and eventually to a 'default' situation?

This means that European solidarity is inevitable to avoid a possible disaster and new forms of economic governance need to be invented. There has been a lot of hesitation about the idea of an European loan of 25 billion euro to provide liquidity to the Greek economy, but now the IMF seems in pole position to act as a last resort lender, undermining the foundations of the Economic and Monetary Union.

The Greek debt crisis is a serious one and the government has to act in a responsible way to restore its credibility. But what happens in Greece is in fact a massive speculative attack which might extend to the whole European continent. This is largely caused by the absence of measures to regulate financial markets after the financial crisis of August 2007 and the solvability crisis of September 2008 (with the collapse of Lehman Brothers). EU leaders cannot simply impose new austerity measures to the Greek government without any help. While the EU has helped non-eurozone states (Hungary, Latvia and Romania) struggling with balance of payments difficulties, it has no power to intervene when it comes to helping one of its 16 members. This means that Greece is less protected against speculation than a non member of the eurozone.

The Greek people cannot accept further sacrifice, while Goldman Sachs continues to sell CDS (Credit default swaps) without any transparency and scrutiny. This requires immediate action: the future EU authority in charge of financial regulation should bring this to an end and call for further investigations on conflict of interest of Goldman Sachs. The European Commission, the watchdog for competition matters, has the power to act against such illegal practices.

In terms of economic governance, the Lisbon treaty (art.122) provides the opportunity to set up a financial stability mechanism managed by the European Investment Bank 'EIB) in order to help member States victims of speculative attacks. The proposal put forward by the European socialists of the European Parliament is a step toward the construction of a European market of sovereign debt. Other recent proposals include the creation of an European debt Agency (Belgian PM), the emission of euro-obligations (Tremonti) and even a European Monetary Fund.

It is a time for radical reforms to regulate finance, so that 'creative finance' is brought to an end and does not generate transfers to those who gamble with the nations'resources. It is also a time to design an exit strategy that allows the public sector to serve the fundamental needs of the economy. We cannot return to the status quo ante.