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Marshall Auerback: The European Monetary Union is the Titanic

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By Marshall Auerback, a portfolio strategist and hedge fund manager. Cross posted from New Deal 2.0

The Iceberg Cometh: An economic and financial crisis will soon be brought about by the collapse of the European Monetary Union. And everyone goes down with the ship!

In the past, I have called the euro zone a “roach motel”. But as usual, I’ve been outdone in the metaphor design department by the Italians: Guilio Tremonti, the Italian Finance Minister, last week compared Germany and its small-minded Chancellor Angela Merkel to a first-class passenger on the Titanic. The underlying message is the same: You can be sailing in coach or you can be in the 1st class compartment. But when the ship hits the iceberg, everybody goes down together — Germans, Italians, Greeks, Irish and French alike. All euro zone members have an institutional wide problem of not being able to fund deficits, given that the countries of the euro zone have all acceded to impose gold standard conditions on themselves by forfeiting their fiscal freedom.

To repeat: this is not a problem confined to the periphery. The sovereign risk problem applies to the central core countries, such as Germany and France, as it does to the Mediterranean “profligates”. Once a run on the currency starts and moves into the banking sector, then none of the governments will be able to do anything other than to oversee financial and economic collapse while the fiddlers in Brussels and Frankfurt try to spin some line about “special circumstances” or something without admitting the whole system they imposed on the area is the cause of this crisis.

In the words of Stephanie Kelton:

The risk for the fiscal authorities of any member country is that the ‘dismal arithmetic’ of the budget constraint leaves few palatable alternatives. If the yield on government securities demanded by markets exceeds a country’s nominal income growth, then interest expense on the outstanding debt must become a relatively larger burden (Jordan, 1997: 3).

In a country like the United States, this should never cause financial stress; the U.S. government can always meet any dollar-denominated commitment as it comes due. But markets clearly recognize that things work differently in the Eurozone, where governments are no longer able to ‘print money.’ As a result, the bonds issued by member governments now resemble those issued by state and local governments in the United States (or bonds issued by provinces in Canada or Australia), where yields often differ by a sizable amount.

The European Monetary Union has hitherto only survived because whenever push comes to shove, the ECB has stepped in as the “missing” fiscal agent and has kept the bond markets at bay. It continues to “write the check” whenever the markets seek to shut down the individual markets on the grounds of looming insolvency.

But Finance Minister Tremonti is right: the underlying logic of the monetary system will continue to ensure these on-going crises will spread across the union. Each successive “resolution” is merely a place-holding operation. The EU bosses are just buying time and kicking the can down the road. Ultimately, to survive the system has to add a unified fiscal authority and abandon the fiscal rules embodied in the Stability and Growth Pact or accept the experiment has failed and dissolve the union. The constant stop-gap measures being introduced on a seemingly ad hoc basis are leading toward a very unpleasant dissolution, the end result for which could be Europe’s “Lehman” event. Meanwhile, the iceberg is approaching rapidly.

Europe’s brokered marriage is in deep trouble. The partners have not grown together. For a long time, countries such as Greece and Portugal benefited from the illusion of economic convergence through the lower interest rates and stable currency that the euro brought with it. When the European economy was growing, the markets indulged the fantasy that there was little to choose between Greek and German debt. But that has now changed — and Greece has to pay a significant premium on its borrowing, as does Portugal and now Spain and Italy.

It is also now obvious that countries such as Greece, Spain, Italy, Ireland and Portugal are struggling to compete with the much more productive German economy. In a currency union they cannot devalue their way out of trouble. The only alternative solution on offer is a long and painful period of austerity to reduce their costs through cuts in wages and living standards, the so-called “internal devaluation” — in reality, a one-off coordinated reduction of wages and prices across the board. It is, as I have argued before, more like an “infernal devaluation.” It amounts to a domestic income deflation — as wages are crushed — in order to get the prices of tradable goods down enough so the current account balance increases sufficiently enough to carry the next wave of growth.

This lack of economic convergence has revealed the lack of political convergence around a shared European identity. There is a striking lack of sympathy for the Greeks or Italians from Germany. Berlin continues to fiddle while Rome and Athens burn. The German position seems to be that the weaker European economies are paying the price for not being as hard-working and skilled as Germans — and must now shape up or ultimately leave the euro.

Any suggestion that German under-consumption and export-addiction might have something to do with the crisis in the euro-area is brushed aside. Some Greek politicians have responded to German pressure with angry references to the Nazis’ brutal occupation of their country during the Second World War. So much for European solidarity.

In this context, it is interesting to see that former German Chancellor Helmut Kohl is now apparently speaking out against current Chancellor Merkel, who has proven herself to be a small-minded burger who should not be entrusted with the leadership of a great nation like Germany.

Merkel, of course, claims to be safeguarding the interests of German taxpayers. It is amusing to hear the Germans talk about the “cost” to them of staying in the euro zone as a result of “funding” so-called “profligates” such as Greece or Italy. First of all, the “funding” comes from the ECB which creates new net financial euro denominated assets at will, not the Germans.

In fact, there has been zero cost to the Germans. They’ve locked their export competitors into the European Monetary Union at hopelessly uncompetitive exchange rates. German taxes haven’t gone up, they haven’t had their generous social welfare provisions cut (which are much larger than Greece’s, contrary to popular perception). At the same time, the periphery countries have had their economies destroyed by enforced austerity, in exchange for which they get ongoing ECB funding which (wait for it) helps them to buy yet more German imports.

So the ECB keeps the game on the road to facilitate the continued expansion of German exports to the rest of Europe (although that strategy is, as Mr Tremonti amongst others, has started to notice, is becoming a touch self-defeating), and the Germans pay nothing for this privilege. No increased taxes, no austerity and no competitive threat to Berlin’s export base so long as the PIIGS are locked into the euro straitjacket.

A further sad irony is that if Greece, Spain or the other periphery nations genuinely succeeded in implementing a successful “internal devaluation” a number of German businesses would relocate, or force further downward pressure on German domestic wages.

Guilio Tremonti is right: Germany is in the first class cabin of the Titanic. Another way of looking at it is that figures like Chancellor Merkel are leading the PIIGS to slaughter in the abattoir, not realizing that they are on the same conveyor belt. The tragedy ushered in by the current crisis is entering into its critical phase, and the small mindedness of the policy response could well spell the death of not just a currency but also a vision for a unified Europe. The essential problem is that the EU was founded as a political venture but quickly grew into a (promising) economic venture. The irony is that the lack of a true political union — which would have permitted a unified fiscal policy — is precisely what will kill the whole idea.

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68 comments

  1. anon

    ” the “funding” comes from the ECB which creates new net financial euro denominated assets at will”

    net financial assets?

    how so?

    its a central bank

  2. pigeon

    Dear Mr. Auerback,

    I agree with the main line of your post. But the following phrase is deeply flawed:

    “In fact, there has been zero cost to the Germans.”

    This is the same fallacy that the germans themselves are currently in. They believe that they _will_ have to bear tremendous costs while in reality they have long payed the price by unduly low wages, over-export and under-consumption. Germany has been in a period of continuous capital export and thus drained the wealth of its citizens. The only profiteers were the rich who now want to put the financial realignment of that capital export onto the taxpayers instead of writing off their undue profits of the last decade.

    1. Diego Méndez

      You are right that the rich have profited the most, while German wages have been kept artificially low.

      However, this has more to do with the current social/political/press system in Germany than with the EU. Ten years ago, Germany could have pushed for deficit spending and higher wages; its political system decided there was a huge competitiveness gap with Southern Europe, and Germany was dangerously wasting its creditworthiness.

      It sounds pretty absurd ten years later, doesn’t it?

      So I’d say, unless Germany changes its political system and its privileged caste of bankers, policians and exporters, the burden of the adjustment will always fall on its working classes. E.g. if the eurozone breaks up, German wages will shot up, but bankers and exporters will be rescued by the German taxpayer, and the burden of the adjustment will fall on the masses of unemployed (unemployment would shot upwards over the 20% range).

        1. Diego Méndez

          In hindsight, it’s obvious we [Spaniards] shouldn’t have entered the euro until our economy was ready to do so, and yes, we should have cooled our economy during the bubble years with large fiscal surpluses and wage restraint.

          But that doesn’t mean it’s OK for Germany to direct the Euro-Titanic into the iceberg now. There should have been a fair compromise between short-term pain and long-term efficiency.

          Now it’s too late for that, I suppose.

  3. RebelEconomist

    On the contrary, the present crisis has the potential to be the making of the eurozone. There is not, and never has been, any appetite for fiscal union in the countries that matter – the ones that would have to pay. What EMU was really about was German money. The other countries wanted partly to transplant the credibility of harder money that forced Germany to solve its real problems instead of fudging them by devaluation, and partly to reduce Germany’s advantage by softening its money. Ironically, it is precisely now, when the hard money constraint is actually binding, that it can have the transformation effect that so benefitted Germany.

    Germany, the Netherlands etc should tell Greece to either do what is necessary to meet their obligations or default, remaining within the EU and eurozone if they want, but receiving no more than the usual regional assistance for poor countries. Of course if Greece defaults, Germany and France may need to recapitalise their banks, but at least they would be spending their money fixing homegrown mistakes. I see no public understanding or willingness in countries like Greece to change in a way that would stop them becoming a permanent burden on the rest, so the bullet may as well be bitten now. The EU does not need Greece; there are many hungrier Eastern European countries which are willing to make the sacrfice to align themselves with Germany.

    1. Leverage

      Are you delusional? For Germany “to change its ways” it had to endure two world wars. And in any case, with serious financial help (from USA) and captive markets (a destroyed Europe).

      There was also a well-developed capitalist class and rich people there already. The hard-money myth it’s false, things were ‘set up’ around 300 years ago, since then most countries that wanted to develop their economies to be ‘competitive’ had to do under an umbrella of nationalism and protectionism, it happened in USA, it’s happening on developing nations like China or Brazil, it happened in Europe in the 70′s, etc.

      It has nothing to do with hard-money, or gold standard straitjackets, and a lot to do with internal policies. And in any case: this is NOT what the european core wants, you only need to check the history of economic policies within the EU and which favoured who in terms of capitalization, quotes, etc.

      1. RebelEconomist

        I am not sure quite what you mean by “capitalization, quotes, etc”, but I do agree WWII is relevant. It meant that Germany has always erred on the side of going along with European integration even at cost to itself. I suspect though that ordinary German’s (not to mention Dutch, Finns etc) patience is now wearing thin.

        1. Leverage

          What it means is: Germany and other central nations DON’T WANT a competitive south, they want a captive market for their capitalist class (exporters and bankers). Nothing more, nothing less.

          The EU is a failed construct because is not about the prosperity of the people, but about the prosperity of the elites and ‘king the can’. Which is a failed policy after all, as we are starting to see, and massive unemployment will go rampant on the whole EMU when it blows up, with an increase of nationalism in return.

          Let’s hope I’m wrong.

    2. Diego Méndez

      The economy is not a world apart from politics. You cannot have 15-20%+ unemployment and just do “structural reforms”, since these only work in the very long run, and you have millions of unemployed as of today.

      That’s what’s happening in Southern European countries. Democracy and peace are at stake.

      If the eurozone were to break up, Germany would face mass unemployment in a matter of months. Germany is living on an export bubble, and this is as dangerous as any other buble. And German democracy would lose its legitimacy if it didn’t solve mass unemployment soon (and structural reforms would not achieve that).

      Democracy and peace are at stake in the whole of Europe.

      1. RebelEconomist

        The Spanish may have to put up with 15-20% employment if core Europe is not willing to bail them out, and they cannot put their own house in order. I am sorry to be blunt, but Northern Europe was probably relatively better off when Spain (not to mention Greece) was a facist dictatorship; there is a limit to how much you can expect Northern Europe to sacrifice for democracy and peace in Southern Europe. And I doubt whether Germany’s economy would be that badly affected by a eurozone breakup, partly because I would expect Germany’s biggest European trade partners to go with it, and partly because the Germans make things that are in demand all round the world. No doubt the Germans’ new currency would appreciate, but Switzerland has managed.

        1. Diego Méndez

          The idea that authoritarian regimes and nationalistic rhetoric in Southern Europe wouldn’t affect Northern European politics is as absurd now as it was when Mussolini created the first fascist European state, from which Hitler took example.

          Regarding a euro breakup, I can’t see how a default in Spain and Italy wouldn’t create the largest financial crisis EVER, a Lehman effect on steroids sending global demand through the floor. And since France would need to rescue its own banks at a time when it would be perceived to be the next in the devaluing line, it is either Franco-German fiscal union or euro dissolution.

          In both events, the new competitors in Southern Europe would take a greater share of the greatly diminished global demand, since most of French and German production can be replicated (in fact, it *is* replicated) in their Southern neighbours.

          No one in China or Saudi Arabia will notice any difference between a Volkswagen made in Pamplona, Spain, or an Audi made in Barcelona, Spain, or those brands’ cars made in Germany.

          Still worse, no one in China or Saudi Arabia will have money to buy them since their own bubbles (export/investment bubble in China and oil bubble in Saudi A.) will explode as soon as Southern Europe defaults.

          So I can definitely see 20% unemployment in Germany at a time when social networking is changing dramatically the way people perceive politics. Look at Tahrir Square or the Indignant movement in Spain.

          And after some time of mass unemployment and social pain, I can see many Germans turning to radical solutions. It’s like when Inquisition tortured (another small feature of Southern European politics to remind you the rest of Europe is never safe): If you feel enough pain, you embrace the first truth you are offered.

          Anyway, the time for solutions is long past. It’s all over now. Welcome to the NWO.

  4. William Young

    I attended an economics conference in Dublin in 1989, a month after the Berlin Wall fell. One of the speakers said that European union would not be successful, because Europe has always been governed by tribalism and most likely always would be. Nothing that Marshall Auerback has written above suggests that much has changed since then.

  5. Linus Huber

    I agree with the above statement issued by Auerbach however, the political sphere is left out. The German chancellor is under political pressure in Germany, loosing her support step by step due to the mounting costs of the bail-outs. It, of course, is nonsensical to say that the costs are with the ECB and not with Germany. Whatever actions the ECB takes, their rather stupid actions are/will be very costly and has to be covered by the member countries of which Germany is the largest. Anyway, it is time the politician get finally into the hot seat and change will come as a result of elections. Debt has to be written off and those that are holding those claims have to accept haircuts. The ECB should not buy any of them at all, as this will be another moral hazard where banks got out of the mess scott free and the bill is going to be placed on the tax payer down the road. If banks do not get their act together, it really would be better to simply nationalize them, clean out the management (including putting some of them on trial) and start with reasonal compensation anew. The Bank business should be boring as it was 40 years ago!

    1. Ming

      I am 100% certain that average the German citizen did not know of the dealings of the German bankers and German politiciians, and I am also certain that the Greek citizen did not know of the dealings of the Greek banker and the Greek politicians. Hence neither people are response for this disaster, nor did foist or agree to any of the deceptions; hence in no way are either group of citiizens responsible. The players, institututions and indivduals who had a say in this crisis, should be fully investigated and ether punished for the problems they have created or punished for their negligence of the brewing situation, or punished for willful ignorance. Ignorance and negligence should never be an allowable defense if one is in a position of wealth and power and information access.

      When these individuals are jailed and stripped of their assets, and there are many of them, this will provde the proper market disciplne to future players to not ‘game the market’. Therafter, the ECB should demand institutional ‘haircuts’ to just prior insolvency, therafter it can ‘print’ the rest.

      Never punish the innocent.

  6. Frank Powers

    I have to support pigeon and set some things straight about Germany and “ze Germans”:

    “German taxes haven’t gone up, they haven’t had their generous social welfare provisions cut (which are much larger than Greece’s, contrary to popular perception).”

    German progressive taxes have indeed gone up quite some time ago, but unfortunately only for those taxpayers with low to medium incomes. High-income taxpayers have indeed been spared during the last decade and are able to legally deduct sizable amounts via loopholes from their tax liabilities.

    At the same time, the once renowned German “welfare state” has been significantly eroded, condemning a significant portion of the population to scrape through on mere subsistance called “Hartz IV”. Also, job security in Germany has at teh same time been strongly reduced, most newly created jobs being in the “Zeitarbeit” sector of the economy, i.e. provided for a fixed amount of time only and payed for significantly worse than “normal” jobs in the same profession, even in the same enterprise.

    That being said, the German population is methodically and deliberately led astray in fiscal matters. This applies to the whole German media landscape, once renown newspapers like DER SPIEGEL included, and it certainly is no exaggeration to say that German economists and economic media are even dumber and more deceptive than anywhere else in Europe. In fact, the whole public discourse about the current EURO crisis is indeed framed in the way Auerback states: Germany is said to have to “bail out” weak and lazy member states like Greece or Italy, the operation being paid for by German tax money. But noone talks about German under-consumption and export-addiction – it is simply ignored and denied. A large number of Germans (especially those getting their daily dose of information from the mainstream media only) believe all of this, simply because everyone tells them so.
    Greece, Spain and all the other PIIGS are simply convenient scape goats for Germany’s political actors. They’ve impoverished the population, handed out tax cuts to the rich, suffocated German consumption and bailed-out German banks (especially Deutsche Bank) and degraded and privatized German infrastracture, from hospitals to schools to public services – and now, look! Those evil, lazy Greeks and Spanish, that’s where your money’s gone!

    So, if you want to judge ze Germans, always remember: a fish rots from the head down.

    1. Philip Pilkington

      I think Marshall’s key point is that there hasn’t been a ‘bailout tax’ on the German people. Any other changes to German fiscal policy are political decisions. If they use the crisis to do X, Y and Z that’s their prerogative. The PIIGS — contrary to popular perception — have not been at the root of a ‘bailout tax’ on the German people. Nor will they, if I were to guess.

      From a political standpoint this is a massively important point that is often ignored.

  7. skippy

    So many slaves and not enough work, no place cheap to ship them, next their husbandry starts to cut into profits…what will the gods of economics do.

    Skippy…pay slaves to go bowling[?], around here their starting to pay them to go to the country side, live a better life…out of sight out of mind…eh.

  8. KFritz

    “Small minded” Unfortunately, I’ve yet to see anyone come up with a description or turn of phrase that completely encompasses Frau Merkel’s utter unsuitability for the task at hand as leader of Germany. She may be so short of the mark that it’s impossible to encompass.

  9. Ignim Brites

    I don’t get why the EU has to have a unified fiscal authority. Why cannot the ECB just keep printing Euros? All the taxes in Euroland are paid in Euros. What properties does a central, unified “fiscal” authority bring to the table that the ECB lacks?

    1. Marshall Auerback

      Ignim,

      You’re right. The ECB does today have a quasi-fiscal function. While the ECB can, operationally, write any size check required to fund the entire region, it doesn’t want to do that, and can be expected to wait until things deteriorate sufficiently to the point were there is no other choice.
      There’s also the question as to whether a bunch of unelected Eurocrats should be making these kinds of decisions on behalf of the entire euro zone. This means their current solvency and funding issues further deteriorate as the entire euro zone could experience a funding barrier and general default.

      But I guess if one liked Charlemagne and the Holy Roman Empire, that concept could be appealing to some.

      1. anon

        “The ECB does today have a quasi-fiscal function. While the ECB can, operationally, write any size check required to fund the entire region, it doesn’t want to do that…”

        No more quasi-fiscal in principle than the Fed, and no more or less operationally capable.

        Where’s the MMT platinum coin for the ECB?

        1. Philip Pilkington

          Different political setup for the ECB. No Treasury Secretary to order minting — at least, as far as I know.

          The ECB is subject to far more political pressure than the Fed when it comes to, to use Bernanke’s words, the ‘fiscal component of monetary policy’. Any sort of monetisation or QE would send the Bundesbank and their creepy inflation-hawk brethren into fits of hysterics — especially if they perceived ‘inflationary pressures’ (quote-unquote) being used to facilitate the dirty Paddys and the greasy Greeks.

  10. yetagain

    Kohl has denied making these making these statements, and they appear to be mostly hearsay.

    Here is a translation of the SPIEGEL article.

    Note the disclaimer at the bottom:

    Editor’s note: Helmut Kohl has declared in the “Bild”-Zeitung that the statements attributed to him in SPIEGEL are fictitious. SPIEGEL stands by its account.

    This rag is just another Establishment Left propaganda organ. It is like relying on Time Magazine or the NYT for truth. They are incapable of it.

    I doubt that Merkel is a “Thatcher”, but for the sake of the German people, one hopes that she is.

    Also, it is a comically inaccurate claim that it is somehow the ECB that accrues cost and not in any way the German taxpayer.

    here is a the shortest of primers on how central banking works in the EU.

    The German “key” is slightly over 27% and increasing. See here.

    This is like saying the Federal reserve bears the “cost” and not the US taxpayer.

    In any event, is is just pure sophistry, by way of casuistry, to limit the discussion merely to ECB policy when discussing German opinion about the EU. For a broader set of inputs to the EU, see here.

    It always amazes that you have such strong opinions and are so prone to wander off into some pseudo-technical discussion, and yet understand so little about the real world.

    Again, you show that your ideology trumps rational thought and mature reflection. You “augments” are based mostly on obscuring jargon, group think and false premises.

    1. Philip Pilkington

      “This is like saying the Federal reserve bears the “cost” and not the US taxpayer.”

      Yeah… hahahaha! What a bunch of stoopidz! That’s like saying that QE didn’t cost any money… it was just creating new reserves that didn’t cost the taxpayers a penny… oh wait… damn, that’s exactly how QE worked.

      As for bond issuance and debt expenditure. Well, that’s a little more complex. Let’s not go into it right now. For your own sake…

    2. Marshall Auerback

      Kohl may have denied it, but it appears that many of the other members of Germany’s old guard are coming out and criticising Merkel. From the Handelsblatt (thanks to Ed Harrison for pointing this out to me):

      “Former Defense Minister Volker Rühe (CDU) has harshly criticised Chancellor Angela Merkel. “The long-term perspective is missing from government policy; it lacks strategic thinking,” the former Deputy National Chairman and Secretary General of the CDU said to the “Flensburger Tageblatt”. Merkel is pursuing a mere “moment-to-moment” policy. For Rühe, her management of the current European debt crisis is “wanting”.

      “Germany is not fulfilling its leadership role,” Rühe said to the newspaper. “We must ensure that the German reputation of reliability and predictability is not damaged.” He also accused the Chancellor and her cabinet of foreign policy shortcomings, serious mistakes and a lack of communication. Rühe was defense minister from 1992 to 1998.”

      I guess the Handelsblatt is another irresponsible, left wing rag, isn’t it?

  11. yetagain

    This lack of economic convergence has revealed the lack of political convergence around a shared European identity.

    and


    Ultimately, to survive the system has to add a unified fiscal authority and abandon the fiscal rules embodied in the Stability and Growth Pact or accept the experiment has failed and dissolve the union.

    Do tell. This os the real point of the “crisis”: to overturn the sovereignty of the Nations of Europe and with it overturn the last shreds of (classically) liberal democracy and society. It is the Tranzi’s dream of a new Acien Regime. It is also a betrayal of the people of Europe. Those peoples, partcualrly the Germans, were sold the “Stability and Growth Pact” as a pact that would retain their national sovereignty. As the wise new at the time, including M. Thatcher, this was just a lie. Now it this s being proved true.

    But in reality is was immediately thrown out the window by the winking approval of dubious data used to allow entry to the EU by just such countries and Greece.

    (And commenters here think that this is a good thing, that it will create a”true euro zone”. What nonsense. It is tyranny. It is a soft version if the USSR, and one that will turn as “hard” as the USSR was soon enough. How little some understand the last century.)

    And as to this hogwash:


    Any suggestion that German under-consumption and export-addiction might have something to do with the crisis in the euro-area is brushed aside. Some Greek politicians have responded to German pressure with angry references to the Nazis’ brutal occupation of their country during the Second World War. So much for European solidarity.

    this is just standing reality on its head. It is an inversion of values and reality. Purely a case of blaming the victim. Greece is responsible for its corrupt socialist profligacy and not the Germans, and the Germans can not rightly by be called out for running a relatively adult, productive and responsible society or economy. The Germans are not responsible for how the Greek government and their Nomenklatura wasted that money on patronage and idiotic projects.

    It is so typical of Socialists to deny the reality of the actual results of their ideologies and to go casting about for external “villains”. Always do they slander and libel those they pillage.

    The Greek Crisis is a crisis of Socialism and not a creation of the German people.

    1. Marshall Auerback

      Dan Duncan,
      What you fail to understand is that changes in the government sector balance will have (opposite) consequences
      for the nongovernment sector balance. This is not a
      theory but a simple accounting identity based on double-entry bookkeeping. When the government sector goes into deficit,the shortfall equals the additional private sector saving (or reduction of private sector deficit), plus additional net imports.
      Greece has chronically run a current account deficit as well as a private sector deficit. During recessions, the private sector cuts spending and tries to increase savings, moving the government balance further into deficit territory as automatic stabilizers kick in. In the context of Greece’s high current account deficit, its private sector has been running a deficit for the past
      decade (from minus 6 percent of GDP in 2000 to minus 7.5
      percent in 2008). The household sector’s net saving declined
      much more over the same period, from minus 7 percent of
      GDP to minus 11 percent.
      The sectoral balances approach is a good tool for analyzing
      policy proposals. By adopting the euro, Greece abandoned the
      option of allowing its currency to depreciate as a means of
      improving its current account stance. Without this option, it is hard to imagine how Greece could boost its exports (and/or reduce its imports) to the point of achieving a balanced or surplus trade account—a swing of 10 percent of GDP. If the country is to lower its budget deficit to 3 percent of GDP to comply with the Stability and Growth Pact (SGP) limit, the private sector will need to run a deficit of minus 7 percent, provided there is no change in the current account balance.
      Without a massive adjustment in its current account balance,
      Greece must replace its public deficits with private ones
      for the austerity plan to succeed—a necessarily rapid buildup of private debt that would be unsustainable.
      By the same token, Germany’s highly extolled disciplined fiscal policy has been able to accomplish
      precisely this. Indeed, the “profligate” Greeks have
      less private debt than their neighbors do—which could put
      them in a better position to withstand this crisis.
      The problem is not that Greece has very high levels of debt
      and deficit because of a profligate “socialist” government or lazy workers. Its benefits, in fact, are significantly lower than Germany’s (even after the Hartz reforms that took place in Germany under the Schroeder administration).
      Most developed countries, including the United States, the
      UK, and Japan, are in a similar situation. The issue is that the SGP requirements are arbitrary, and they are not rooted in any sensible theoretical arguments or empirical evidence.
      Countries have different export profiles and private sector savings rates, and these will endogenously affect the public sector’s balance. In this piece, I tried to show how the nondiscretionary nature of the deficit leaves government few options in terms of cutting a deficit during a recession.
      If you have a better idea, by all means, enlighten us.

  12. Dan Duncan

    Auerback writes:

    “At the same time, the periphery countries have had their economies destroyed by enforced austerity…”

    C’mon, man. This is such garbage. And you know this. These peripheral economies were already very, very sick when the “medicine” of austerity “was forced” upon them.

    You could argue that enforced austerity was the wrong prescription. Fine. But you’re spewing nonsense that it was austerity that ruined these economies– It’s just not true.

    1. Philip Pilkington

      Counter-cyclical policy would be the solution. This cannot be undertaken due to austerity measures. That’s his point. Pretty obvious really. But if you want to find flaws, its not hard to run through semantics, is it?

  13. Dan Duncan

    What, exactly, do Spain and Greece make that Germans would want to buy?

    I ask, because Auerback laments that “Any suggestion that German under-consumption and export-addiction might have something to do with the crisis in the euro-area is brushed aside.

    So…addressing these mundane, real world issues consider Spain’s main export categories. They are:

    Machinery, motor vehicles, chemicals, shipbuilding, foodstuffs, electronic devices, pharmaceuticals and medicines, other consumer goods

    Machinery—I think we’d all agree: Buy German.

    Automobiles—SEAT SA or BMW? Hmmm…tough call there. Even setting aside for a moment that the “Spanish” automaker, SEAT, is actually a Volkswagen subsidiary, I think it’s safe to say…Buy German.

    Chemicals–Spain’s Uralita or BASF? Since you’ve never even heard of Uralita, I have graciously provided a link it’s sad looking website. http://www.uralita.com/es-ES/Paginas/default.aspx [If there's a more prominent Spanish Chemical Company, please advise. Uralita, though, comes from Wikipedia's entry on the largest Spanish companies. It seems this is the creme de la creme of Spanish Chemical concerns.] Either way…why on earth would Germans buy from Uralita over BASF, one of the most successful companies on the planet?

    Electronics. Spanish Electronics? Really? I think we can just move on….

    We’re left with foodstuffs.

    Is it Germany’s fault that the only thing its citizens would really want to buy from Spain is agriculture products? Because that’s what you seem to be suggesting.

    1. Leverage

      Clueless.

      The trade deficit is mostly due to poor energy policy. Exports are mostly in intermediate goods, not final products. The balance of trade gap has been closing fast (ie. non-energy deficit has been reduced 72%).

      Imports can be reduced pretty much in a lot of areas with the delusional fixed exchange rate gone too, and with it reduced unemployment.

      Please, keep trolling forever, but next time check the data.

    2. Diego Méndez

      Much confusion in your head, man. One thing is national companies’ production, another thing is national production (which may or may not be produced by national brands).

      Spain’s main exports are cars and tourism. The Spaniards make as many cars per capita as the Germans. These cars have brands like Ford, Renault, Seat, Volkswagen or even Audi, among many others.

      So you may have bought a German-brand car and you didn’t even notice it was made in Spain.

      1. Dan Duncan

        Oh…OK.

        So it would make no difference if BMW, Mercedes, BASF, Siemens, etc., etc., etc were Spanish companies? Gimme a freaking break.

  14. Rodger Malcolm Mitchell

    As always, Mr. Auerback is right on target. The euro nations (not all the EU nations, some of which have kept their sovereign currency) voluntarily surrendered the single most valuable asset any nation can have: It’s Monetary Sovereignty.

    See: http://rodgermmitchell.wordpress.com/2010/08/13/monetarily-sovereign-the-key-to-understanding-economics/

    Those who do not understand Monetary Sovereignty do not understand economics. Mr. Auerback is one of the few who do.

    Rodger Malcolm Mitchell

    1. Augustus Octavianus

      People who talk about dictatorship in southern Europe and “democracy” in Northern Europe, are really paying attention to history and to what is really happenning in their “civilized” hanseatic countries? Haven’t they noticed the northern countries are ellecting and promoting to parliament more extreme rights MPs and parties than the southern countries? Do you know that, for example, in Portugal (a former dictatorship under Salazar Dictator for forty years!) since democracy was reinstated in 1974 extreme right parties haven’t been able to ellect a single deputy for more than 30 years of democracy (sensible citizens hã?)? What about Finland, France, Austria, or even Germany? Quite the contrary…

    2. RebelEconomist

      Does it ever occur to MMT people that accusing everyone who might disagree with them of not understanding the monetary system might not be the best way to win hearts and minds?

        1. Skippy

          Just remember how long it took *authority*_too acknowledge_his empirically verifiable observations…eh…and what was wrought, what was potentially extinguished, in the tween.

          Having said that, does MMT have any parallels with the Laws of the Universe, if it does, may someone point them out please. Not that what has come before it…is any better.

          Skippy…bandying about names of individuals whom observations are unarguable, as a cover for more questionable thesis, is_bad form_methinks.

    3. anon

      The ECB is just as capable operationally of making a deposit to Greece’s account as the Fed is of making a deposit to the US Treasury’s account.

      There’s no difference in the nature of the “surrender” of monetary sovereignty in principle.

      And apart from that, the US Treasury has to fund its obligations every bit as much as Greece does.

  15. MontanaMaven

    “In this context, it is interesting to see that former German Chancellor Helmut Kohl is now apparently speaking out against current Chancellor Merkel, who has proven herself to be a small-minded burger who should not be entrusted with the leadership of a great nation like Germany.”

    Hmmmm? Does this sound like anyone we know over here in the U.S. of A.?

  16. anon

    “In fact, there has been zero cost to the Germans.”

    But they’re substantially at risk through their ECB capital exposure.

    1. Philip Pilkington

      True. But what happens depends on their own policies. If they choose a ‘revenge war’ launched on the periphery its their own funeral.

      The death chant to which they march is one of “the periphery has stolen our money” and it is that that pushes them to risk it all.

  17. Bluffraise

    I for one have been trying to eat more. olives and feta cheese, although I do draw a line when it comes to Greek wine or ouzo. I hear they are exporting more worry beads to the north. This is a good start.

    1. Cedric Regula

      I’ve got two Greek restaurants within a mile (important because I’m trying to save on gas – part of my personal energy austerity program – the stuff is such a waste of money) and I travel there on occasion and try and help out.

      Agree about the ouzo and greek wine, however. We just pour a shot on the cheese appetizer, light it on fire, and shout “Oprah!”

      What Oprah has to do with Greece, I have no idea. Just some custom, I assume.

      We get our worry beads from Mexico, so I try and spread the around wealth a bit.

  18. b.

    The architect of the European disaster is Kohl. Just as he rushed into a “monetary” common currency re-union with East Germany at great expense to the common good on both sides, he rushed into a European monetary union. Just as he sabotaged the national convention demanded by the provisional Grundgesetz in West Germany, he and his proteges – Merkel prime among them – sabotaged any democratic political union. There is no mandate, no commons, and no prospect – ultimately because Kohl, Merkel and their fellow travellers do not subscribe to the idea of actual European democracy.

    1. b.

      Bah.

      Just as Kohl sabotaged the national convention demanded by the provisional Grundgesetz in West Germany in the event of re-unification of the two Germanies, he and his proteges – Merkel prime among them – sabotaged any European democratic political union from the conception of the monetary union onwards.

  19. kaj

    Criticism of Germany is both boring and infantile leftism. The Greeks, the Portugese, the Italians, etc. entered the currency union (EMU) at low domestic exchange rates vis-a-vis the Euro and which advantaged their citizens for too long a period. This illusory prosperity is now coming to haunt the peri-Med. The locals were able to purchase previously unaffordable French, English, Swiss and Northern European products, at much lower prices considering their previous wages. This destroyed local competition and led to misallocation of capital. Their benefit also arose from the value of the Euro vis-a-vis non-EMU currencies, eg, the Swiss Franc or the Swedish Krona. This temporary “wage-surplus” conferred on the peri-Med citizens led to the current German or Swedish or Danish export surpluses. But Germany’s exports today and for the last several years to China, and other Asian countries far exceed what they ship to the small economies of the Med.

    Lack of competitiveness on the part of the economies of the “peripherals.” as well as very poor tax collection there are the main issues and need to be addressed. The only sane way out of this situation is to leave the EMU voluntarily and devalue mightily while borrowing from the ECB at highly subsidized rates to invest into meaningful infrastructure for the future. Blaming Frau Merkel is not not going to solve the problem for the bleeding-hearts, eg, ex- Bundeskanzeler Helmut Kohl who created the problem of East Germany unification at awful D-Mark parity rates and was a main actor in the creation of the Euro.

    It is also surprising that no one is criticizing the Euro:USD rate for a substantial part of the problem. The US$1.41-$1.50 to the Euro is incredibly and totally unsustainable and madness. It greatly disadvantages these afflicted economies. ECB Governor Trichet has his head in the sand and keeps worrying about “inflation” when the problem in Euroland is no worse than in the U.S. Keeping interest rates high and moving them higher is going to exacerbate the problem of the EMU.

    1. Philip Pilkington

      “Criticism of Germany is both boring and infantile leftism.”

      Thanks for that, comrade. See you at the barricades, yeah?

      “Lack of competitiveness on the part of the economies of the “peripherals.” as well as very poor tax collection there are the main issues and need to be addressed.”

      Bull. Ireland has no problem with competitiveness or tax collection. Conspicuous by its absence. But then, I’m an infantile leftie for bring up such ‘empiricist’ nonsense, right Lenin? Better that I take a dialectically materialist view of things — then I will see those laws of history.

      1. Jake

        @Philip

        Ireland has no problem with competitiveness? What about the subsidized corporate tax rate that allows Brass Plate corporations and your major export, Viagra. Tax collections? How much do the Irish pay in real estate taxes, hell, they don’t even pay for water. Ireland is by far the most pathetic case of Euro opportunism. The Irish real estate bubble was beyond belief and only benefited the “Chieftain” class of oligarchy. The Irish have two choices, Canada or Australia.

  20. Hugh

    Good post. An interesting mix in the comments of recyclers of the myth of German (Northern) virtue and Southern shiftlessness and those who agree with Auerback. The invocation of this myth highlights the failure of the construction of Europe on the human level. On the upside of this bubble, Greeks and Germans, etc. were Europeans because they could afford to be. On the downside, nationalism and stereotyping are reasserting themselves.

    What I do not see is the sentiment that “We are all Europeans and we need to solve this together.” That is highly telling.

    I would also like to see the kleptocratic element included in the analysis. Some commenters alluded to this. Responsibility gets pushed off on to the ordinary people, but it should rest with Europe’s kleptocratic elites. They are the ones who foisted this unsustainable system on to the ordinary peoples of Europe, and have been enjoying its benefits. It’s important to remember that they have no interest in fixing this. They engage in extend and pretend to keep their looting going as long as possible and when things start to fall apart, they make no move to keep this from happening. Rather they make plans to loot the dissolution.

  21. kaj

    Further to my post of today.

    FT commentary, I believe of 15/7/2011: The number of bureaucrats in Greece is about the same as in Britain, while the population of Greece is about 1/6th that of Britain. That says something.

    From what little I have read about retirement age in Greece — some people were able to retire at the age of 45! I realize that that has been changed now, but it does relate to a fundamental problem there, that of unequal productivity in a hyper-competitive world. Greece, especially, has not invested in future capital formation via education.

    Again, there is lack of competitiveness on the part of capitalist enterprise in Greece to create jobs, which are then foisted on to the state in the form of votes by the political establishment. I believe there is general consensus on this blog about whom the political parties represent.

    1. Andrew P

      Are you bloody light headed? Greeks work longer hours and retire later than almost any other OECD country ya nit. Look at the freakin numbers. They work about 700 hours a year longer than Germany, and retire several years later. That 45 retirement age stat is a ginned up myth, based on a half pension retirement option for CERTAIN civil servants. Such options are pretty commonplace in a lot of civil service positions all over the developed world. Here in the US policemen and soldiers retire after 20 years all the time, nobody assumes that we all retire at 45 though, because that would be absurd. But with the greeks it “makes sense” because it fits this racist narrative of “austere, hard working, Protestant Europe” and the “lazy, profligate, Catholic/Orthodox South.”

      Also don’t be spouting nonsense about the EMU giving peripheral workers some kind of inflated wage premium. To be sure it lowered the cost of Core goods, but it also inflated the cost of everything else. Ask a working class Spaniard who remembers the “pavo’ and they’ll say how nice it was to pay 20 cents for a cup of coffee, which now costs a Euro plus in some cafes. The fact is, whatever gains they made from cheaper Core goods they more than lost in the general price inflation of everything else, like rent and food.

  22. Juan

    So why couldn’t the Spanish, Greeks etc keep their wages “artificially low” like the Germans?

    Different political dynamics and, may be wrong period, but contradiction beween German Metalworkers Union and European Metalworkers Federation [which I believe was trying to gain size/specific gravity] failed to stand strongly enough against the early neoliberal edge in continental Europe

    1. Juan

      From October 2010 -

      ETUC Resolution on Economic and Social Governance

      7. Workers to pay for the entire cost of the crisis.

      What the Commission’s proposals basically do is to present workers with all of the huge costs of the crisis. This is operated by questioning all institutions which provide economic security to workers. Wage cuts undermine the stability of incomes derived from wages; flexibility jeopardizes job stability and the protection offered by regular labour contracts, while cuts in unemployment benefits systems make workers feel totally insecure. All of this will substantially weaken the bargaining position of workers. Business will use this opportunity to force workers into accepting a further degradation of wages and working conditions. The overall result will be for inequalities to increase further. A rising number of workers will be experiencing difficulties to make ends meet while CEO’s and shareholders at the same time enjoy rising dividends and bonuses.

      8. Repeating the mistakes of the past. The Commission is exactly repeating the same type of policy mistakes which have contributed to the crisis in the first place:

      — By shifting even more income to wealthy households with high savings rates, the economy will face a demand deficit, making growth depend once again either on asset bubbles and rising private debt loads, or alternatively on huge export surpluses.

      — the Commission is forgetting the fact that public finances are the victim and not the cause of the crisis.

      — By introducing the debt criterion, the pro- cyclical bias of the Stability Pact becomes worse: It is much easier to reduce debt when the economy is growing but impossible to do so when the economy is in recession.

      — By introducing the debt criterion, the pro- cyclical bias of the Stability Pact becomes worse: It is much easier to reduce debt when the economy is growing but impossible to do so when the economy is in recession.

      [ETUC Resolution: http://www.etuc.org/a/7769

  23. Viator

    This really is a load of leftist crap, no wonder the left is dying around the world. Are we to believe these poor benighted southern EU countries never indulged in crony statism, rampant vote buying with borrowed (OPM) money (Spanish cajas), government feather bedding, bureaucratic empire building, car loads of red tape, paper wealth creation, graft, tax evasion and loony leftist green projects (see the multi-billion Euro Spanish alternative energy bubble)?

    Meanwhile the left in Europe is desperately shoring up their crony banks (those are socialist and social democratic governments my friends) and their insolvent sovereigns. The EU is a socialist and Keynesian project.

    The EU is the Titanic but the boat builder, the captain and the officers were all socialists and social democrats.

  24. Eric

    Stephanie Kelton creates a fake problem. She claims EU states are in trouble because they can’t print money, just like US states can’t print money. But US states don’t need to print money, they have Washington and the FED who can bail them out and print money for them. In the EU it’s similar: Brussels and the ECB have plenty of the same tools to bail out the EU states IF they want to.
    If the EU states would suffer from a structural problem, than the USA states would have exactly the same problem. I know all the arguments about no central taxes, labor mobility, or lack of fiscal and political integration, but they can all be countered: labor mobility: isn’t it ironic there is a lot of complaining going on in several EU countries because there is too much immigration. In the US you have Joe the plumber, we have the polish plumber! no central taxes or fiscal integration: if the EU countries need to put money on the table like with this crisis, it will and can be done. No political integration: sure, it’s not (yet) like in the US, but isnt it again ironic that the EU citizens in most countries are complaining about too much power from Brussels. Aren’t the people in the US complaining about Washington too, and what’s being accomplished in Washington these days?
    And than there is the so called solution of devaluation. As if devaluation solves all economic trouble. Why don’t states like Florida want to devaluate if it’s such a great solution against economic busts? How is it possible the US still has such a huge trade deficit when it can devaluate? I tell you: because the US is so naive to believe in free trade. And this is why the argument of Mr Auerback that if countries like Spain had their own currency, they would be able to compete better with Germany is wrong: unlike the USA, the North of Europa does not believe in unlimited free trade. If the South would use devaluation as a tool to compete, the North would introduce trade barriers like import tariffs if this would threaten their export too much. Reintroduction of the old currencies would therefore mean the beginning of the end of the EU. Summarizing: the whole thing is much more complicated than the simple story that people like Mr Auerback tell us here almost daily.
    Among all the differences, I think it’s surprising how comparable the USA and EU, and in particular the problems they are having, are. Focusing on the euro is just a useless as complaining daily about the dollar. As if breaking up the dollar is going to solve the problems of the USA.

  25. Eric

    My problem with the devaluation mantra heard so often by anglo saxon commenters is this: it’s a construct, it’s economic theory is purely based upon the historic origin of different currencies in a not globalized world. If we all still used gold, or like Paul Volcker wants, we would have a global currency, the economic promotors of the idea of devaluation to compete would be left empty handed. It’s even worse: devaluation distorts the level playing field of fair and real competition. Advocating devaluation, is in fact advocating cheating. And that’s exactly how it’s being used by many countries. Not to mention the global imbalances that are being caused by the current sytem. The world with a global economy would be a better place with a global currency. So if Mr. Auerback criticizes Germany for locking competitors into a fixed exchange rate, this is the world upside down. In reality Germany accepted a level playing field for competition.

  26. Juan

    Hugh,

    Excellent July 20, 2011 at 3:05 pm Comment.

    [Excerpt] – What I do not see is the sentiment that “We are all Europeans and we need to solve this together.” That is highly telling.

    I would also like to see the kleptocratic element included in the analysis. Some commenters alluded to this. Responsibility gets pushed off on to the ordinary people, but it should rest with Europe’s kleptocratic elites.

    Nationalisms required centuries to build, strengthed during the 20th, and, particularly in cultural form, will no doubt take a long time to fuse — rapidity likely depends on the last part of excerpt, how strong the kleptocratic elements of society are, how soon they can be corrected.

    Daniel Kaufmann, formerly w/the WB, has spent years looking into this; you may find his writings re. ‘legal illegality’ in developed nations of interest.

  27. Juan

    Viator,

    Well ETUC may be leftist to you but to the Left it is barely liberal and generally criticized for its overly centrist position.
    Perhaps the European Left has weakened over the last decade but this has not been the case globally.

    AJS

    [I added the ETUC section as mere example, not a how to program]

  28. MarcoPolo

    Marshall, I take issue with the paragraph:

    It is also now obvious that countries such as Greece, Spain, Italy, Ireland and Portugal are struggling to compete with the much more productive German economy….. The only alternative solution on offer is a long and painful period of austerity to reduce their costs through cuts in wages and living standards, the so-called “internal devaluation”…. amounts to a domestic income deflation — as wages are crushed — in order to get the prices of tradable goods down enough so the current account balance increases sufficiently enough to carry the next wave of growth.

    Those economies never have competed directly with the more industrial Germans. How much more should wages drop in Spain (agriculture & formerly construction) to increase exports of cucumbers to Germany? The competition is elsewhere. Labor costs are a small part of the agricultural products that Spain exports. The larger costs are the capital costs of the tractors and equip0menjt they import FROM GERMANY!!

    It’s not a question of productivity. It’s a question of being in a less attrtactive business. Germans produce industrial equipment for developing economies – making them more productive. They are in the driver’s seat because as competition among Spanish (and world) producers requires lower and lower unit costs investment must continually be made to upgrade to newer and more expensive German equipment. And all the Germans have to do to maintain that position is to come out with new version NumberNext.One. The right solution would be to throw Germany out of the EMU, revalue the German Mark and force them to rebalance their economy without reliance on export earnings.

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