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Greece: The One Solution They All Ignore
From The Daily Capitalist
The eurozone is those countries in the EU that use the euro as their currency and have given up francs, marks, drachmas, pesos and the like. They also gave up a certain amount of independence because the money supply is now controlled by the European Central Bank (ECB), which, while representing all countries in the eurozone, are "influenced" more by the big guys: Germany, France, Italy, and Germany (not a typo).
When member governments run into economic problems, say, for example they run big deficits to fund social program, they borrow the money from banks, mostly French and German banks, to pay for it rather than raise taxes. Greece has this problem and its deficit (13.6% of GDP) and government debt (150% of GDP) is too high for a sluggish little country. Especially since its GDP declined 3% in the first quarter.
If they default on the debt, the debt is either wiped out or restructured into something more manageable for them, and they are cut off from further access to the credit markets. This is difficult, but economically better for them because it forces them to put their house in order.
Governments would rather inflate than default, that is, print money, which devalues the debt relative to the price of their currency and pay off the debt in inflated fiat money.
Greece has defaulted before and they came back. Lots of countries do this: Russia, Argentina are two that come to mind. Everyone is poor for a while, they stop inflating, and issue new money for old money, banks forget, and off they go. Unless there are fundamental economic changes, the cycle repeats itself.
I think you can see the problem here: Greece can't inflate because they use the euro and they don't control the printing presses. So they must pay the debts or default. The cost of money for Greece went up substantially: the bund spread (the premium over German debt) reached 1000 basis points and they couldn't afford to roll the debt over.
This is the flaw in the European Monetary Union: the inability to enforce fiscal discipline on member states.
The fear of default created a panic in the eurozone sovereign debt markets. Countries like Italy, Ireland, Portugal, and Spain were in the same boat as Greece (the PIIGS), just not as bad. But they too have to finance their debt and if the spreads get too high and the cost of money too great, then perhaps, investors and bankers thought, all the PIIGS could go down.
What would happen then? Banks would perhaps collapse, credit would freeze up, and the collective economies of the EU would slow down. Think riots in PIIGS streets as public servants protest wage cuts and new legions of the unemployed agitate for change they can believe in, private wages decline, and more leftist governments come to power resulting in permanent high unemployment.
The Germans reluctantly went along with the bailout and the eurozone countries and the IMF (the U.S. funds about 20% of this) decided to kick in a total package of €750 billion, plus ECB liquidity facilities and a cheap ECB funds rate (Quantitative Easing). Add to that the Fed swap window which allows the ECB to exchange an unlimited amount of euros for dollars. This swap arrangement allows the ECB to provide enough dollars to those wishing to get rid of EU debt and buy US bonds without crashing that market. As Brodsky and Quaintance said, the EU will do anything to prevent a decline of financial assets in nominal terms.
Both the ECB and the Fed will print money to cover this. All the money they are providing to prop up the debt markets is ultimately being created out of thin air and they are in effect monetizing sovereign debt and private debt. Do not believe the ECB's or the Fed's claims that they can "drain the pond," that is, suck this paper money back out of the system. In fact they want inflation to occur since that's the only way they can bail out this debt.
Everyone uses this term, so I will too: all politicians want to "kick the can down the road." Put off today that which you may be able to put off forever. The problem is that forever is getting very close.
Greece is one of the world's worst serial taxpayer abusers. Don't expect a miraculous change in behavior. They have been run by socialists and communist unions for so many years that any attempted changes will cause major disruption in their economy and society. I am especially skeptical of their attempts to raise taxes. Greeks, for good reason, are famous tax cheaters. The problem in such countries is that attempts to collect higher taxes causes greater tax evasion and drives much of the economy underground. I read that some 25% of Greece's economy is already beyond the reach of tax authorities. Furthermore, corruption is a huge problem to new business formation.
This doesn't look good for the euro or the dollar. This entire scheme is inflationary at best and very destructive to capital and future growth. My guess is that fundamental changes required of Greece won't be achieved by the several deadlines in the bailout plan (2012 and 2014). This will ultimately lead to a further bailout, which will entail more printing of money and resulting inflation. I doubt the EU will let Greece default.
I have been reading a lot of commentary on this and several things stand out:
1. The European Monetary Union (eurozone) is a mistake. It was ill conceived and poorly executed. It will survive for the near future but this bailout it engineered will be the anchor dragging on economic growth as higher taxes, slower growth, more debt, and higher inflation takes its toll.
2. Inflation can't solve everything, and it is impossible for the ECB to print enough money to bail all the PIIGS and their bankers out. This will lead to a credit contraction unless the troubled banks are quickly nationalized and reorganized. I'm not suggesting this as a policy, but it is something that they will do.
3. The world has not recovered from the current boom-bust cycle and more fiat money will only further distort economic decisions and cause more destruction of real wealth and real capital. This may be the next cycle merging into the present one which will not be met with so much of a boom as it will stagflation. Yes, you can have inflation and a sluggish economy.
4. No one involved understands economics. If they did, we would not be having all these problems. All these economists and commentators do is express their dismay that fiscal tightening (higher taxes, less spending by governments) will cause economies to slow. Nothing could be farther from the truth. Government spending does not create growth. But, a reduction of spending and lower taxes will lead to economic growth. When are they going to learn how wealth is created?
5. No politician or economist involved in the bailout, nor any major media commentator, has suggested more capitalism as a solution to their problems. Greece could liberalize its economy, end its barriers to business, reduce the power of the unions, and lower taxes. That would solve most of their problems. GDP would rise, tax receipts would rise, wealth would be created, the private sector would create jobs, wages would gradually increase, and real savings would be generated thus providing the capital necessary for more real, organic growth.
Instead our leaders are doomed to repeat their mistakes.
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GBG-Bund spread is *still* at 400 bp, higher than it was at any time except April.
Mr. Market farts in the ECB's general direction.
"I think you can see the problem here: Greece can't inflate because they use the euro and they don't control the printing presses. So they must pay the debts or default. The cost of money for Greece went up substantially: the bund spread (the premium over German debt) reached 1000 basis points and they couldn't afford to roll the debt over."
"I see now when it is too late what we are up against" (The Ticket That Exploded 1962 Willian S. Burroughs)
The only problem with the solution here is that it addresses a economic problem. The real problem is one of power. Specifically, power is being syphoned from the many and concentrated into the hands of the few. Anything that would serve to stop or (God forbid) reverse that flow of power would be dealt with most severely. So looking for an economic solution is really nothing more than a thought experiment.
I agree Xmarine with you and think the author's missing some of the puzzle.
Like this - No one involved understands economics.
I think Timmy and the guys have a real good handle on economics. The issue is where are they going with this knowledge. I see someone mention resources and this is true, but the wack is double when the disruptions due to the rising cost of inputs due to scarcity is gamed by the banks and the government for the benefit of the few.
Does the author believe that no one saw we were in a housing bubble for the duration of the '00s?
1. If Timmy and the "guys" have such a good grasp of economics then why do we keep having boom-bust cycles, high unemployment and a sluggish economy?
2. I have no idea what Xmarine and you are talking about. Sorry. Is this some kind of conspiracy theory?
3. Well, no one running things had a clue: Greenspan, Rubin, Paulson, Bernanke, etc. The only ones that saw it coming: Roubini, Taleb, Schiff, Rosenberg, and a bunch of Austrian School economists.
"All popular and well-mixed governments [republics] . . . are ever established by wise and good men, and can never be upheld otherwise than by virtue: The worst men always conspiring against them, they must fall, if the best have not power to preserve them. . ."
Algernon Sidney
The Fed has used only one tool to postpone the day of reckoning i.e inflation. So what we are seeing is still the same ineffective solution i.e. inflation and money printing that is sold to the "economics challenged" public as a solution. Those who understand that govt does not create wealth and wealth cannot be printed, can see through the smoke.
What we will end up with first is DEFLATION. We are seeing its power right now as the Fed is pumping furiously but nothing happens. A dollar of debt only produces 5c of good therefore the debt must collapse. First we will see an equity collapse and defaults will follow. The bond holders will not allow the Fed to monetize it all. They will dump bonds effectively shutting off credit and the Fed must know this.
Exactly. There is a widespread mythology among many amateur economists that governments are 'free' to inflate. They are, but only up to a point. Then the bond market -- which is the 'strong force' in this equation -- kicks in and insures monetary contraction.
We shall see Popo. We shall see.
To paraphrase someone talking about the speed with which Goldman can create naked shorts on Greek debt ... The Fed can print money to buy down rates faster than you can spend it.
When Volker pulled his interest rate magic in the early '80s, he had large fields of low cost energy coming online in the North Sea and the North Slope. Business were not all crushed due to the jump in the cost of capital because of the coincident drop in the cost of energy.
I bet that won't happen this time.
personally, I think someone will always be in charge...no govt, someone still in charge...the questions is it a few with power or is it the many with power, hence the idea of democratic control.
But really to get to the source, the real problem is selfishness...
Anything that would serve to stop or (God forbid) reverse that flow of power would be dealt with most severely.
Ooh, how scary. What are they going to do foreclose on everyone's house, live in it and tell all their friends via your credit report that they shouldn't put you in debt ever again?
They would be doing everyone a favor and themselves a disservice. They can't live or eat without the working class borrowing and paying interest. When debt service goes, so goes the hands of the "concentrated few". They will have to part with their gold to keep their grounds manicured and lifestyles maintained just like everyone else.
Consumers/Debtors are the richest people in the world.
The real problem is one of resources (which manifests as one of power).