According to BBC News and the UK Guardian, it appears German Chancellor Angela Merkel is still keen on supporting the UK Government’s long held desire to remain in the European Union but not by dispensing with the founding principles of the entire project. Looks like British PM Cameron’s tight rope walk with UKIP + eurosceptic backbenchers on one side and those pesky but somewhat more vital EU allies on the other, is starting to enter some strong headwinds.
A very highly timely forum was held in Dublin City University (DCU) on June 12 with experts from across the academic world on the subject of politics/economics of sovereign debt – mainly, the eurozone. The blurb was as follows: “The debt crises in Ireland and Europe require a combination of political and economic analysis. This conference includes cutting-edge papers from leading international scholars.”
Key papers presented were as follows (well worth a read):
- Michael Bechtel (University of St .Gallen), Jens Hainmueller (Massachusetts Institute of Technology) and Yotam Margalit (Columbia University) ‘Studying Public Opinion on the Eurozone Bailouts‘
- Roman Goldach and Christian Fahrholz (Friedrich Schiller University, Jena) ‘The Euro Area’s Common Default Risk: Evidence on the Commission’s Effect on Uncertainty‘
- Iain McMenamin, Michael Breen, Juan Muñoz-Portillo (Dublin City University) ‘Elections, Institutions and Sovereign Debt‘
- James Alt (Harvard University), David Lassen (University of Copenhagen) and Joachim Wehner ‘Moral Hazard in an Economic Union: Domestic Politics, Transparency, and Fiscal Gimmickry in Europe‘
- Marc Flandreau (Graduate Institute of International and Development Studies) ‘Collective Action Clauses before they had Airplanes: Bondholder Committees and the London Stock Exchange in the 19th Century (1827-1868)‘
- Lauren M. Phillips (London School of Economics and Political Science) ‘Politics, Policy and Financial Market Volatility in Advanced Economies‘
A very busy few days for European Movement International which has just held its Federal Assembly in Dublin, in association with the (nearly complete…) Irish Presidency of the Council of the EU (Council of Ministers).
Delegates agreed resolutions on a huge and impressive range of issues including:
- European political parties
- A new European Convention in 2015
- EU-Ukraine association agreement
- Civil society in Greece
- The Multi-annual Financial Framework (MFF)
- Agreeing new members including European Movement Azerbaijan, SOLIDAR, Erasmus Students’ Network and the College of Europe.
More detail is available here from European Movement International’s website
Part 3 of the PIIGSty analysis based on Matthew Feeney’s article of Reason.com continues with an insight into the European Central Bank (ECB) President, Mario Draghi.
3. Mario Draghi ECB President
Draghi is a relatively fresh addition to the European saga. The colourful choice of former Bank of Italy ( Italian central bank) governor to succeed the shrewd Frenchman Jean-Claude Trichet has managed to stir things up, not least considering the ECB – a bank built on the inflation averse German bundesbank model – is now led by an Italian. Considering the current crisis in Italy with Mr. Monti’s technocratic government desperately trying to piece the country back together after decades of political instability, corruption and fiscal irresponsibility, Draghi is unfairly battling prejudice from day 1. After his recent London pledge in late July to do ‘whatever it takes’ to protect the euro, Draghi has since failed to accurately outline what ‘whatever it takes’ means (because this means very different things to each key player).
In early August, with Draghi alluding to expanding the scale of bond buying using undeniably direct language, the ECB appears set for a showdown with reluctant member states (and a good thing too!) There are signs that the cold German approach is facing a thaw and warming to the idea of the ECB strengthening its bond buying effort to cover the big 2 – Italy and Spain but this isn’t without its domestic detractors. To placate these, government rebels have demanded ECB operating procedures be changed to provide for a German veto (effectively neutering Draghi by politicising the independence of the ECB – so very unlikely to happen). In the meantime, accusations of ECB “mutating into a state financier and a ‘bad bank’” are being thrown about.”
While most of the this is typical political chest pounding without substance or particular importance, the reality is that an ECB which unilaterally chooses to dish out bail-outs using mostly German funds could be (pretty fairly) accused of doing this at the expense of Germany’s own best interests. Hence, questions arise as to why Germans would pay in the first place. ECB ‘independence’ remains factually correct as far as any offspring is ‘independent’ of its watchful parent.
A fuzzy ECB is no help when signs of EU solidarity aren’t too convincing. PIIGSty has long said that a collective comprehensive plan to ‘save the eurozone’ is the real Holy Grail eluding European leaders. While Draghi and others continue to drag their feet while promising the sun, moon and stars (yet not a single cent), his words inevitably just adds to uncertainty and inertia as member states publicly argue and the markets bounce around unconvinced. Plans such as ‘fiscal’ or ‘banking’ union – despite German support – remain completely undefined as the powers that be pray for growth. Without a plan, investors become convinced that messy defaults are just around the corner. Would you invest your savings in Italy or Spanish debt right now?
The Euro-jitters continue…
It hasn’t helped matters that the Finnish Foreign Minister has been speaking frankly to the British Daily Telegraph about the oncoming currency crisis and the necessity to prepare for just the possibility of a break-up. Mr. Tuomioja spoke awkwardly frankly against the changing of current bailout (ESM) rules and the writing of blank cheques for further bailouts and (damningly) voiced a personal distrust for Mr. Draghi (among others). Although rebuffed later by other Finnish ministers, the consequences of prolonged inaction in Europe are becoming graver as whispers of a managed mechanism for ejecting weak links from the euro resonates across the EU-27.
The inscrutable Angela Merkel is the one certainly on which the European project precariously sits and, as a result, is feeling heat and wrath in equal measure. With her own Bundesbank sounding the alarm over Draghi’s new August announcement of a Italian-Spanish bond buying campaign, her task to thread a very delicate needle at home and abroad is a near impossible one. Eventually though, sanity must prevail and difficult decisions made regardless of the political cost which PIIGSty believes will be forthcoming from her government, when the dust truly settles – possibly this Autumn.
EU Debt Seniority
In the meantime, until a comprehensive plan is published, issues like the seniority of EU bailout debts remain contentious. Under current ESM (European Stability Mechanism – the main bailout fund) rules, seniority means the order of repayment of debt by borrowers in the case of default. When you throw into the mix a Spanish bank (not sovereign/country) bailout of over €100bn, then the waters become murky.
Ultimately (which will surprise no one) it will take a greater crisis to really give Draghi sufficient cover to deliver a politically acceptable plan – something he has made clear himself. A more interventionist ECB is the last thing Germany will accept and so member states must request a bailout (of whatever form). Small wonder investors are cashing in their Italian and Spanish bonds and preparing for the worst. Draghi must remember – actions do speak louder than words, not least to the markets he needs to tame or a least calm. Like the EU politicians, Draghi should stop waffling about wanting to ‘save the euro’ and actually do it.
Part 2 of the PIIGSty analysis based on Matthew Feeney’s article of Reason.com continues with an insight into the Bank of England Governor Mervyn King.
2. Sir Mervyn King Governor of the Bank of England (BoE)
The British have historically enjoyed their splendid isolation from European entanglements. The Euro-crisis is no exception. With UK growth forecasts set to be slashed, the UK is now staring directly into a double (or even triple) dip recession. The key player here is Bank of England Governor Sir. Mervyn King. A skilled technocrat, King has – on paper – a purely independent economic job. In reality, King’s job is infused with politics. Despite what 10 Downing Street tends to say, as recipient of 50% of UK trade, Europe remains a major worry for King.
The job of BoE governor has been bolstered substantially since the New Labour government effectively privatised the bank in 1997 jettisoning it from from the reach of greasy fingered MPs. Not only does the BoE control monetary policy – it has recently supplemented its role as chief banking supervisor under the Tory-Liberal Democrat government’s plans to ‘get tough’ on the unpopular banking sector. King often has his finger on the populist pulse. His desire to see a full split between bank investment and high street activities as well as greater competition between banks is right from the street smart political handbook. King has is in good company with this view. The 2010-11 Independent Commission on Banking (ICB or ‘Vickers’ Commission) under BoE Chief Economist Sir John Vickers, recommended this separation, to remove the ‘casino’ speculative one-upmanship of modern British banks. This was undermined significantly by the softer 2012 UK Treasury white paper which featured watered down Vickers proposals. Again, politics prevail over smart economics – meaning the government (again) wins over the BoE.
Monetary independence meant keeping the pound, allowing the BoE to print money (quantitative easing) as a tool to stimulate the economy. This hasn’t exactly been a roaring success – production is stagnant, inflation is gradually increasing and the economy continues to shrink and expand in a haphazard wave. Critics lament King’s use of ‘fiscal activism’ which only shocks the spluttering economic engine rather than seeks to get the real tools out and fix anything.
Further measures to stimulate growth seem inevitable. With another £50bn likely toward the end of 2012, this brings the total pumped in by the BoE to £425bn – to possibly over £500bn in 2013.
Quantitative easing (QE – aka printing money or ‘asset purchase programme’ in British speak) is an unproven and expensive medicine – buts its pretty much the only course any globalised industrial economy can realistically take (For a PIIGSty explanation on QE – see here and here). No one really can know if the patient improved because the fever broke naturally or if the medicine has cut the suffering short. Sure, QE helps finance the deficit by flooding the economy with pounds to spur growth and demand (and preserving current demand) without inflicting the full pain of austerity on the (voting) public. Although austerity or ‘necessary deficit reduction’ is unavoidable, King’s actions mean the Tory led government can avoid the tougher actions forced down the throats of the PIIGS by the ECB-EU-IMF troika. Hence, QE translates into funding the deficit by any other means.
This means the BoE under King effectively causes inflation, to force growth of a sustainable level (2-3%) to ensure the actual pain is dissipated by growth. Seems like a handy solution? Nope – QE has downsides and as growth forecasts are slashed, the UK cant avoid the facts. Aside from being more a delaying mechanism for inducing painful but necessary long term reform of the economy by avoiding inducing tax rises and spending cuts in the hope that recovery will be swift and make these reforms unnecessary, QE risks devaluing the pound (which helps British exporters) and escalating inflation – two reasons not many would relish Mervyn King’s job.
King as Puppet-master
The British public (reasonably fairly) see King as a puppet master pulling the strings to keep profligate British banks afloat after years of making a balls of things (never mind the inconvenient truth that Northern Rock is set to make an £11bn+ profit over 10-15 years from the original government investment of £37bn in 2007. Of course that has nothing to do with the independent BoE but it is worth noting.) Another factor is that stimulus through a major public works/infrastructure project would be a more bog standard (and potentially far more successful) Keynesian option. A second option would be a direct fixed ‘free money’ to each citizen but this would be a behemoth to administer.
King isn’t afraid of strong statements. In relation to American support for EU political union, he brusquely retorted “Some of our American colleagues take the view it’s easy to solve the Europe crisis. Too many people assume Europe is one country, but we’re not one country, we’re several countries.”
King’s reputation has taken a knock recently with the LIBOR (London Inter-bank Offered Interest Rate) – a rate set in London by 16 key banks acting in consortium – in a scandal where Barclays bank under CEO Bob Diamond was found illegally manipulating the rate over a 4 year period between 2005 and 2009. This scandal has tainted the obvious successor to Mervyn King, Deputy Governor Paul Tucker – as King’s chummy relationship with Diamond turned destructive.
Feeney sums King’s role up, saying “Although the British government has embarked on a so-called austerity program, the fact is that there has only been a decrease against projected spending while nominal spending continues to increase. It is only thanks to the inflation created by the Bank of England that Britain is enjoying modest real terms cuts of what will probably be between 3 to 4 percent over the next five years.” A fair enough synopsis. With growth collapsing – there will be trouble ahead and political pressure on the BoE will be enormous (independence be damned!) King’s action over the next few months may have a huge impact on the EU economy thanks to the size of its British component.
Matthew Feeney of Reason.com – the rightwing libertarian e-magazine – has penned a particularly thought provoking article that merits some analysis. Feeney identified 5 individuals lurking in the shadows (somewhat…) who might just hold the future of Europe in their hands. PIIGSty will supplement Feeney with its own analysis to give an enhanced overview.
1. Pierre Moscovici French Minister for Finance
The French electorate proved quite the predicable bunch. Francois Hollande as prospective (and ultimately, nominated) Socialist Party (PS) Presidential candidate, led incumbent Nicolas Sarkozy of the Gaullist Union for a Popular Movement (UMP) in the run off opinion polling since August 2010. Hollande won in May 2012 and his PS won the companion legislative election in June. Leftist parties, including the Greens and Radical Party won over 300 seats in the 577 seat French parliament.
During the election, the PS sought a mandate with a policy platform which bucked the ‘deficit reduction’ and ‘reform’ agenda which Europe has assiduously followed since 2009. With the Merkozy ‘austerity consensus’ shattered by the ballot box (those pesky voters!) Hollande sought to promote his plan for ‘growth’ over austerity i.e. an end to cuts for sake of cutting and a halt to pulling money out of European economies for the sake of ‘building confidence’ by returning to sustainable economies. But France after all, was not one of the unruly PIIGS and as the second largest EU economy refused to rustle in the same trough to be thrown scraps by the master. The new French government, under PM Jean-Marc Ayrault, would have a tightrope to walk to protect the welfare state while maintaining growth and stability.
Without cuts , the alternatives to balance the books are always the same – shifting the debt burden onto those who can ‘well afford to pay’ i.e. the upper crust. Financial gymnastics is never easy. Luckily for Ayrault, the burden for action falls on the Finance Minister Pierre Moscovici. As promised, the election tax plans were realised in July when the new government outlined plans to tax incomes greater than €1m at 75% and incomes up to €1m (over €150,000) as high as 45%.
But with Hollande and Ayrault sticking to their election promises, there are already accusations of watering down and compromise with deficit reduction measures. Raising the minimum wage by 2% has been met with scathing criticism from the left for being too low.
Despite low borrowing costs (bond yields) with French unemployment hovering at 10%, flat growth and weak consumer spending –the tripartite of Hollande, Ayrault and Moscovici are significantly constrained in their efforts at home and are likely to seek to front load cuts in public sector costs to give them more breathing room. They’re sugarcoatng this by striking an interventionalist tone with the private sector – throwing their oar in with the workers in rejecting Peugeot’s plan to cut 8,000 workers and using state owned financial providers to pump money into cash strapped local government.
Ultimately though, you can’t square a circle – something has to give.
With speculation abound that Moscovici and German Finance Minister Schaeuble could split the chairmanship of the Eurogroup upon the departure of Jean-Claude Juncker (although this is seen as unlikely), the French Finance Ministry’s say in European finance has rarely been so strong in recent years. The French, unlike the Germans, are warm to the idea of Eurobonds – while both are on the same page when it comes to growing the power of the ECB and enhanced fiscal union.
As Feeney sums it up “Because France wields a huge amount of influence in Europe, and with the eurozone collapsing, Moscovici’s influence will become more apparent and dominant in the coming months.” Dramatic American journalists…you gotta love ‘em.
Jeff Cox (CNBC) opines that the European debt crisis is likely to last a further 2 to 5 years as the dual effort to achieve both..
- Austerity in public spending
- A workable long term debt repayment (or forgiveness) plan for European sovereign debt
Both of these long term goals will inevitably require an adjustment phase. Italy, with its bond yield straddling 6-7% and its €1.9tn debt is a problem that won’t go away so long as the markets believe an Italian default is, at least, plausible. Sure, the disposal of Silvio “Bunga Bunga” Berlusconi as Italian PM and his replacement with the decisively less colourful, technocratic (and market friendly) two time European Commissioner Mario Monti, is certainly a stabilising factor (as Italy needs to pass a big reform package to reestablish credibility and lower its bond yield/financing costs to sustainable levels…around <5% from 6-7% currently).
However the problem is not financing, its solvency. The national debt of Italy might simply be a bridge too far to saddle on the average Italian citizen (as the Greek situation has shown). Volatility is caused by the uncertainty over the imponderables – those technical points that are being kicked down the road so as not to alarm the markets. Regardless, according to Cox, the ‘European Dilemma’ is being seen (perhaps simplistically) as a direct extension of the US financial crisis which begin in earnest with the collapse of Lehman Brothers in late 2008. The volatility we are seeing is because short term investors (traders) are very responsive to perceived changes in risk (and everyone seems to be dealing in the ‘short term’ at the minute). Right now, with the prospect Central Bankers intervening in markets (as the ECB does, buying Italian bonds) , a feared sovereign debt downgrade in France (and a Presidential election in April/May 2012) , a politically charged atmosphere in Washington DC (Presidential election in November 2012) coupled with the continuing austerity plans restricting growth, Europe will likely endure another “mild” recession in 2012.
According to an editorial in the Wall Street Journal (WSJ), the source of the European debt crisis lies in the failure of the European welfare state. With the PIIGS debt piles clearly undermining the sovereignty of each nation rather than bolstering it, European states have failed to grow fast enough to pay for their massive entitlement programs (and most decided to tax the hell out of its citizens for the privilege).
For Italy, with aging populations (20% of Italians or 12m people are 65+ ) and low birth rates (Italy ranks 207th of 221 territories/countries), pensions today cannot be fully funded by worker contributions at the entry level. The maths don’t work.
Italys failure was a political failure to tackle the low tax/high spend economy and the protected power of various trade ‘guilds.’ This was not helped by the ‘concertazione’ (concert) of Italian coalition politics which makes for unwieldly and shifting poliitcal blocs, making a cohesive and stable federal government next to impossible (hence the endorsement of ‘strong’ leaders instead such as that of Silvio Berlusconi (PM 1994-1995, 2001-2006, 2008-2011) with at least the appearance of control.
It boils down to this. The hard remedy to Europes problems lies in the reform or complete destruction of the European welfare state. But tough reforms requires strong leadership. The lesson? “Never to become a high-tax, slow growth entitlement state, because the inevitable reckoning is nasty, brutish and not short.”
Credit where credit is due, the Guardian’s (UK) Tom Meltzer has sought to address that burning capability question hanging over the head of New Italian PM Designate Mario Monti. Will Mario Monti really become a European ‘Super Mario’? His comparative analysis provides all the necessary relevant facts.
(Our favourite line: Mario Monti’s Antagonist: Silvio Berlusconi. Not a turtle)
BBC News has a really handy interactive graphic on the eurozone debt crisis. It has 4 sets of data based on Eurostat figures – Debt:GDP ratios, Budget Deficit, Economic Growth and Unemployment – from 1999 to Q1 2010 (not bang up to date but still useful to compare the PIIGS and others over the past 11 years). Use the indicators to compare all 17 eurozone countries (and the UK, as a bonus…)