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Tuesday, December 24, 2013

Transcript: The Eurozone is Fragmenting

Europe is fragmenting. It is breaking apart along social and national lines, that is, by class and by country. It is not in the news because the bad markets are stabilized for the time being, and as with our own country, the illusion of peace is produced by happy financial markets. But also as in the US, the price of this peace is the impoverishment of millions. Decades of work have evaporated for some. For others only a decade. And an anxiety that is new has infected all, stemming from the subservience of the common good to the temporary well-being of the few but powerful.
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In fact, Europe is doomed to survive. I start with that as my opening context. Europe from 1789 and the fall of the Bastille to 1989 and the fall of the Berlin Wall has represented two hundred years of a bloody and very circuitous attempt to sustain the idea of democracy across the continent. By and large, that has largely now proved to be a success. Democracy can now be said to exist across Europe. But it is an imperfect democracy, and the ways in which it is imperfect are the foundations for what ought to be the political discussion going forward, and it is the political discussion that ought to frame the policy recommendations, rather than the other way around.

My great fear is that, after the experience of serving as an adviser to Prime Minister Papandreou, and actually serving on the Greek team that negotiated with the Troika and the Greek team that negotiated with the private banks ... and in fact was in a number of meetings with the bankers, and so have a very jaundiced view of the global financial system as a consequence ... that there is a deep dilemma at the heart of not only the Greek situation, but the European and in fact the global political situation, and let me describe it this way. I use the idea of matryoshka dolls, those wonderful Russian dolls of dolls within dolls.

Greece and Greece's fiscal crisis is the smallest of the dolls in this set of nested dolls. It is two percent of the European economy. Its deficit was one-tenth of that two percent. It should never have been the precipitant of the scale of crisis that we have today in Europe.

One step above that tiny doll is the euro doll and whether or not there was a misconfiguration in the design of the euro which created a central bank that lacked the power to act as a lender of last resort and also lacked a coordinate fiscal policy regime that covered Europe. But that's not the large doll for me, either.

One step above that is the deregulation of Anglo-American finance which has taken place over the last thirty years, which I think in some ways has been far more determinant of the problems of Europe than, in fact, the design or misdesign of the euro as such, although the misdesign of the euro as such, and in particular, not the coordination of fiscal policies, but the lack of immediate lender of last resort capacity for the ECB made the crisis in Europe worse.

But I want to step up two more levels to two larger dolls.

Beyond the Anglo-American financial architecture that has been put in place over the last thirty years is the realization that with the fall of Communism, the United States is pivoting toward Asia, and the world is being globalized at an extraordinarily rapid rate. Although I prefer to use the term Americanized rather than globalized. Because the degree to which American business practices and American financial practices and focus on American attributes of power are at the center of this globalization process cannot be underestimated. I think it is important to note that, because finally the largest of the dolls that I think should be at the heart of the discussion at a place like this is the decline in the values of democratic ideals, of the role of democratic parties, and in particular, left of center parties across the West, and indeed across the world today.

There is a deep intellectual crisis that is tied to that lack of focus, that lack of purpose, that would identify a left of center set of parties, whether in Europe or North America or the rest of the world. I believe deeply that the crisis that future generations would face is in no small part growing out of that inability to create a narrative that is on one hand national and on the other hand global that would broadly encompass what have traditionally been the values of the Left in that two hundred year struggle to create democracy in Europe.

Now the issue for me then is of trying to get get Greece back on its feet, but in the process to provoke a larger and deeper and longer discussion of the world that we want Greece to be able to return to, as a full partner. It is important to understand that in those two hundred years of Europe's struggle to create stable democracy across the continent, in the last sixty-five, since the end of the Second World War, the United States has had its hands all over Europe in one way or another, in the process of leading toward democratization. Europe seems not to be fully conscious of both the benefits and costs of that US role. The benefits are framed in terms of the Marshall plan. And one hears today of the need for a new Marshall Plan. One hears of the generosity of the Americans of the need for Europe, and in particular Germany, to show the kind of generosity that the US showed toward Europe in the immediate aftermath of the Second World War. The story was always a much more complicated one.

Along with the Marshall Plan came NATO. And along with NATO came anti-Communism. And if you don't know, you might be interested to know, that the very first order of the National Security Council -- the arm of the White House charged with overseeing US foreign policy -- the very first order of the National Security Council was to intervene covertly in Italian elections in 1946 to block the emergence of Left parties in Italy of achieving governance powers. The United States has in other words had multiple levels of intervention in European politics and economics throughout this sixty-five-year period. And if Europe thinks it can chart a direction for its member states, Greece or Germany, without full attentiveness to what the Americans think is important, in which this new world that is emerging and puts the G2 of Beijing an Washington replaces the old bilateral world of Moscow and Washington in terms of the Cold War, Europe had best think again. Because the fact of the matter is that the downward pressure operating on European wages and European welfare systems is the same pressure operating on the American side of the Atlantic as well.

We have to accept that until we can somehow negotiate global deals that somehow reverse that process, Europe is not going to be able to construct a picket fence around the continent that will protect its most vulnerable members from the enormous pressures that that global downward pressure of an Americanizing economic system across the planet is going to create, and has already begun to create. That, in turn, then places the Europeans a responsibility for energizing left of center parties in a way that once again moves away from the role in which they seem to have found themselves in the last quarter century which is as the happier social cost accounts than the dour austerity-minded social cost accountants of the right of center parties. It is not enough to be better managers as political parties in a democratic system. There is a need to provide a democratic explanation of why we are democracies to Democratic voters across the continent. In this I would call upon all of you at a conference like this to be attentive not only to what your professional roles are in providing policy recommendations, but to the absolute necessity of providing a language of democracy to the whole polis, and that convincing Democratic citizens that left of center parties are in fact differentiable from right of center parties, to trust that there is a vision to the left of the center in Europe and North America that can be built out across the world.

Because without that, you will find going on what we find in the United States and you find here, which is that voters don't trust left of center parties to make a difference. In the 1930's the kinds of crises engendered by the Great Depression led to the growth of unions, led to the growth of left of center parties. Roosevelt was able to accomplish so much because he won reelection time and again with more than 60% of the vote, and the Democratic Party controlled 75 percent of the seats in the Congress in the 1930's. There is no state in Europe and certainly it does not exist in Washington that can claim that kind of unilateral left of center support. I think it is not just a failure of policy, it is a failure of imagination.

So I credit Syriza and Mr. Tsipras with struggling in the context of Greece to find the words that would articulate democratic left of center policies that make sense going forward. A debt write-down of extraordinary proportions is absolutely at the center of this. Major investment funds, absolutely central. And solidarity around issues of human suffering -- absolutely essential. But Greek political leaders of the Left, like European leaders of the Left, owe their citizens and one another a larger vision than the reconstruction of a peaceable, small Europe at the periphery of history.
Richard Parker is a fellow at the Kennedy School of Government at Harvard. These remarks were recorded at a recent conference at the LBJ School at the University of Texas - Austin. We podcast the full, maybe ten twelve minutes as a separate podcast and provided a text of these remarks -- something we don't always do -- in their place in today's podcast transcript at DemandSideEconomics.net.

The problems of Europe are a mirror of the problems of the United States. Inadequate investment, to understate the matter, investment controlled by corporations producing salable goods rather than needed public goods, an abuse of democracy by corporate interests -- led by the financial sector, and the unnecessary misery of millions.

It is not true that the federal structure of the Eurozone and EU prevents delivering direct and immediate solutions. In the US we are prohibited only by political will from enacting tax and regulatory reform that would reduce the power of the financial sector and corporate oligarchy over government. The political frame has moved so far to the right that it can see only a silly morality play about federal debt and deficits and ... well, you've seen it. Investment in infrastructure and the beginnings of the redesign of the economy mandated by climate change are stalled for no good reason. The economics of austerity, the madness of austerity, is preferred because we think if we save the money, we will save the people. It is, of course, the reverse that is true. If we save the people, we will save the money. No country has ever recovered economic growth by austerity. The Tea Party is the Mad Hatter's Tea Party. Still, the camera has effectively been moved from the financial crisis and its children to the dog and pony show of deficit and debt. No matter that the intellectual rationale has proven to be a sham, see the Rogoff and Reinhart debacle.

What is the situation in Europe? A series of charts online shows that only Germany is a bump above pre-crisis GDP, that employment has tanked across the board, and that the debt-to-GDP ratios that were the objective of austerity have -- surprise -- gone in the opposite direction as predicted by the Troika -- ECB, IMF and EU -- when they demanded the austerity. And the first of the charts shows the extremely poor track record of those predictions. The confidence fairy never showed up, apparently. Official predictions every six months predicted an imminent recovery and saw instead continued decline. The only positive chart is that for interest rate spreads, which did moderate enormously following the ECB's commitment to buy sovereign debt, never used, on conditions, but so far effective in calming the markets.

Real investment and growth lie in the opposite direction of the madness of austerity, and only in that direction will we find social stability, as well. The dark sister of the confidence fairy blocks the way. TINA. There is no alternative. The official line is now that the necessary actions cannot be taken because the ECB and EU lack the institutional powers, because the level of solidarity between the nations, between the core and the periphery is not strong enough to allow Eurobonds, the mutualization of debt or significant streams of support to those in need. A recent paper by Varifoukis, Holland and Galbraith exposes the fact that TINA has no more substantial existence than the confidence fairy, and that there are indeed things that can be done in the immediate term through the ECB and other federal functions to address the crisis. And be sure, the crisis continues and continues to increase. Imagine 30 percent unemployment in the US and whether or not we would be wondering if the crisis was over. Europe is fragmenting, and the European experiment is considered a failure by more and more of its citizens.

Borrowing extensively in the following from the Varifoukis-Holland-Galbraith paper, what is the situation? (That paper is linked to in the transcript, or just Google "A Modest Proposal for Resolving the Eurozone Crisis.")

In the US and in Europe, there are really four crises: banking, debt, investment and social crises.

A banking crisis. And in this case it is worse in Europe than the US. Although the bailouts followed by no restructuring of the profligate banking institutions is the same in different clothes, there IS a move toward re-regulation in the US, although the political willingness to run the gauntlet of lobbyists is not all it needs to be. In Europe, there is "a central bank with no government, and national governments with no supportive central bank, arrayed against a global network of megabanks they cannot possibly supervise. Europe's response has been to propose a full Banking Union -- a bold measure in principle but one that threatens both delay and diversion from actions that are needed immediately."

The debt crisis continues in the US in the household sector and in public pensions. There is no federal debt crisis. Corporate debt issues have been settled by cheap refinancing sponsored by the Fed, but the household sector saw its bet on the housing market turn tragically sour. Its debts remain. Its equity has dwindled.

In Europe, "the credit crunch of 2008 revealed the Eurozone’s principle of perfectly separable public debts to be unworkable. Forced to create a bailout fund that did not violate the no-bailout clauses of the ECB charter and Lisbon Treaty, Europe created the temporary European Financial Stability Facility (EFSF) and then the permanent European Stability Mechanism (ESM). ...

The ECB came up with another approach in the summer of 2012 to stem a market attack on the credit of several Eurozone members, including Spain and Italy. The Outright Monetary Transactions’ Programme (OMT) succeeded in calming the bond markets, but it fails as a solution to the crisis, because its threat against bond markets cannot remain credible over time. And while it puts the public debt crisis on hold, it fails to reverse it; ECB bond purchases cannot restore the lending power of failed markets or the borrowing power of failing governments.

The third is the investment crisis. Which is also the jobs crisis that we have been on about here at Demand Side. In principle there is no obstacle to public investment in infrastructure, education or addressing that looming climate catastrophe, and such investment would resolve the depression in employment. Useful, cost-effective productive investment is everywhere to be seen. Just not in salable goods.

Only Germany ran trade surpluses after 2000, the resulting trade deficits of others ensured that when crisis hit in 2008, the deficit zones would collapse. Then the burden of adjustment fell exactly on the deficit zones, which could not bear it. Nor could it be offset by devaluation, since everybody used the euro, so the scene was set for disinvestment in the regions that needed investment the most. Europe ended up with both low total investment and an even more uneven distribution of that investment between its surplus and deficit regions.

The fourth is the social crisis. The price of happy markets is apparently the loss of a generation in the US. In Europe, three years of harsh austerity have taken their toll on the people from Athens to Dublin and from Lisbon to Eastern Germany. Millions of Europeans have lost access to basic goods and dignity. Unemployment is rampant. Homelessness and hunger are rising. Pensions have been cut; taxes on necessities meanwhile continue to rise. For the first time in two generations, Europeans are questioning the European project, while nationalism, and even Nazi parties, are gaining strength.

The solutions? Immediate and practicable solutions?

Europe cannot wait until a banking union is formed. Prior to a banking union banks in need of recapitalisation from the ESM  can be turned over to the ESM directly – instead of having the national government locked in a death embrace with the nation's banks, the ESM, and not the national government, would control, then restructure, recapitalize and resolve the failing banks.

The Eurozone must eventually become a single banking area with a single banking authority. But this final goal has become the enemy of good current policy. At the June 2012 European Summit direct bank recapitalisation was agreed upon in principle, but was made conditional on the formation of a Banking Union. Since then, the difficulties of legislating, designing and implementing a Banking Union have meant delay and dithering. A year after that sensible decision, the deadly embrace between insolvent national banking systems and insolvent member-states continues.

A national government could have the option of waiving its right to supervise and resolve a failing bank. The ESM and the ECB can supervise the workout. Once the bank has been restructured and recapitalised, the ESM could sell its shares and recoup its costs. The process of making sovereigns pay for the misdeeds of banks is unfair and unwarranted.

To deal with sovereign debt, a new facility could be offered through the ECB to convert debt up to 60 percent of GDP, which is the Maastricht Treaty limit, convert it to low-interest debt. The ECB can sell bonds probably at less than 2% that are completely safe, and pass the low interest on to sovereigns, make them super-senior to other debt, and even insure the loans. thus go one long step to making nations' economies viable.

The current illusion of peace in the bond markets comes because of the OMT, but no country has taken advantage, because to do so would also commit that country to accepting the financial management of the Troika -- the ECB, EU, and IMF -- and any government which did such a thing would be out on its ear the next day. For god reason, because the policies of austerity propounded by the Troika continue to fail at every turn. Thus the OMT is a non-credible threat to bond dealers who will sooner or later test the ECB.

As to public investment. Public investment can be financed -- without Eurobonds which require more solidarity between EU members than exists even in the shadows. The paper identifies an Investment-Led Recovery and Convergence Programme. In principle the EU already has a recovery and convergence strategy in the European Economic Recovery Program 2020. In practice, this has been shredded by austerity. But a program could be co-financed by bonds issued jointly by the European Investment Bank (EIB) and the European Investment Fund (EIF). The EIB has a remit to invest in health, education, urban renewal, urban environment, green technology and green power generation. The EIF can both co-finance EIB investments and finance a European venture capital fund, which was part of its original design.

Borrowing for such investments should not count on national debt any more than US Treasury borrowing counts on the debt of California or Delaware. The under-recognised precedents for this are (1) that no major European member state counts EIB borrowing against national debt, and (2) that the EIB has successfully issued bonds since 1958 without national guarantees.

A European Venture Capital Fund financed by EIF bonds was backed unanimously by employers and trades unions on the Economic and Social Committee in their 2012 report Restarting Growth. Central European economies (Germany and Austria) already have excellent finance for small and medium firms through their Mittelstandpolitik. It is the peripheral economies that need this, to build new sectors, to foster convergence and cohesion and to address the growing imbalances of competitiveness within the Eurozone.

Notice that interest sponsored by the ECB is not generating private investment in Europe any more than the cheap interest sponsored by the Fed is generating private investment in the US. Large public investment is needed for its own sake and on a scale that would be large enough to work as a recovery lever. The paper goes into detail on that program and the alternatives.

The fourth crisis is the social crisis -- poverty, hunger, homelessness and the lack of basic energy. Basic needs are not being met. There is funding available via the so-called TARGET2 interest that could provide a European Food Stamp Program and a European Minimum Energy Program. While not in the paper, a European-wide social security program is also feasible. These three, particular the latter, could give citizens the sense of something working FOR them in the European experiment. These are simple, effective, decentralized and not susceptible to corruption. Young Europeans see themselves as Europeans first and nationalists second, more than we suspect. Just as we consider ourselves Americans first and Washingtonians or Floridians or Texans ... well, maybe not Texans ... second. This citizen buy-in is crucial to our stability and would likely help Europe as well.

The paper concludes:

Three years of crisis have culminated in a Europe that has lost legitimacy with its own citizens and credibility with the rest of the world. Europe is unnecessarily back in recession. While the bond markets were placated by the ECB's actions in the summer of 2012, the Eurozone remains on the road toward disintegration. While this process eats away at Europe's potential for shared prosperity, European governments are imprisoned by false choices:

  • between stability and growth 
  • between austerity and stimulus
  • between the deadly embrace of insolvent banks by insolvent governments, and an admirable but undefined and indefinitely delayed Banking Union
  • between the principle of perfectly separable country debts and the supposed need to persuade the surplus countries to bankroll the rest 
  • between national sovereignty and federalism. 

The bank program bypasses the impasse of Banking Union, decoupling stressed sovereign debt from banking recapitalisation, and allowing for a proper Banking Union to be designed at leisure. With the debt conversion program, nations' mountains of debt shrink. The Investment-led Recovery and Convergence Programme re-cycles global surpluses into European investments , and the so-called "Emergency Social Solidarity Programme" deploys funds created from the asymmetries that helped cause the crisis to meet basic human needs caused by the crisis itself.

The proposals maintain greater sovereignty for member-states than that implied by a federal structure, and reduces excess national debt without the need for national guarantees or fiscal transfers. The Modest Proposal suggests no new institutions and does not aim at redesigning the Eurozone. It needs no new rules, fiscal compacts, or troikas. It requires no prior agreement to move in a federal direction while allowing for consent through enhanced cooperation rather than imposition of austerity.

It is in this sense that this proposal is, indeed, modest.

It needs to be emphasized that only one of the steps is not enough. In particular, the banking program and conversion of debt by itself will not lead to the jobs and social improvement absolutely required. But again, as Richard Parker pointed out, all the beautiful policy inspiration in the world will not substitute for a political will. The policies are indeed at hand and practical, but the solutions will not come through logic and persuasion of current figures in power. The Troika marches to a drum that ignores the evidence. We trust that political will is not so far away, in Europe or in North America.

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