Euro in Big Hedge Funds’ Crosshairs

The Wall Street Journal is not the first to comment on the magnitude of the wagers against the euro (the Financial Times took note nearly two weeks ago: “Speculators raise record bets against euro“). But the Journal offers a spectacle sure to inflame sentiment in Europe: that of major hedge funds feasting first on lemon-roasted chicken and filet mignon and later the euro:

During the dinner, hosted by a boutique investment bank at a private townhouse in Manhattan, a small group of all-star hedge-fund managers argued that the euro is likely to fall to “parity”—or equal on an exchange basis—with the dollar….

An SAC manager, Aaron Cowen, who pitched the group on the bearish bet, said he viewed all possible outcomes relating to the Greek debt crisis as negative for the euro.

Yves here. The article contains some comment that I consider to be misleading:

There is nothing improper about hedge funds jumping on the same trade unless it is deemed by regulators to be collusion. Regulators haven’t suggested that any trading has been improper.

Through small gatherings, hedge funds can discuss similar trades that can feed on each other, in moves similar to those criticized by some investors and bankers in 2008. Then, big hedge-fund managers, such as Greenlight Capital Inc. President David Einhorn, who also was at this month’s euro-dominated dinner, determined that the fortunes of Lehman Brothers Holdings and other firms were dim and bet heavily against their securities, accelerating their decline.

Yves again. The first paragraph gives the mistaken impression that foreign exchange markets are regulated. They aren’t. Spot and forward markets in foreign exchange in the major currencies are close to unsupervised (for instance, there is no mechanism for collecting transaction activity, which would be a critical way to look for odd transaction patterns and volumes), so the notion that there are growups that are supervising that trading or prepared to intervene is oversold. Now there are currency futures that trade on the IMM, Euronext, and ICE and these traders may well prefer to use exchange traded futures (options are largely traded OTC). Those trades would be subject to meaningful oversight.

Using Einhorn as an example in this context is also peculiar. First, Einhorn shorted Lehman’s stock, which meant he was operating in a highly regulated market, which is very different than some of the avenues open for wagering against the euro. Second, given his history (the SEC investigated Einhorn for possible market manipulation when he shorted Allied Capital, when Einhorn’s stance was ultimately vindicated, and the SEC later launched an internal probe in response to Einhorn’s charge that it mismanaged the situation, and appeared to discover some irregularities) my impression is Einhorn went to some lengths to make his case against Lehman in a highly public way. So while there is nothing inaccurate, narrowly speaking, about mentioning Einhorn, conflating his short of Lehman with a currency short is disingenuous. The standards for collusion in SEC-land are very different from those in the wild west of OTC markets.

But then we get to a more complicated dynamic. Truth be told, eurozone members should want a cheaper euro. A favorite crude measure, the Economist’s Big Mac index, suggests that fair value would be 1.1 versus the dollar, well below its current level of 1.35. Of course, the old nostrum that a cheaper currency is better for growth generally (by helping export competitiveness) does not mean that a shift would not be disruptive and leave many individuals worse off (particularly since energy imports in particular would become more pricey).

But a fall now, particularly a sudden one, would be seen a a repudiation of the euro. There is more at stake than just the level of the euro; many observers see this as a test that was inevitable when the euro was established, that a number of crucial issues were finessed and now have to be resolved. But some go further, and argue that while the eurozone will not break up, that it includes too many heterogeneous nation-stated to be viable. FT Alphaville (hat tip reader Richard Smith) quotes Paul Donovan of UBS:

That the Euro area is not an optimal currency area is generally agreed upon. The European economies are sufficiently diverse that external shocks hit different economies with differing degrees of severity. The asymmetrical nature of any shock is also likely to persist for longer. This is something that has been well understood for some time. Indeed, fourteen years ago UBS economists concluded that “a monetary union extending beyond the core six [European] economies would not work properly in economic terms.” The analysis identified those economies that could realistically be called an optimal currency area, those economies that could satisfy the Maastricht criteria (on a relatively liberal interpretation), and those economies for which there was a strong political will in favour of monetary union. The analysis suggested that Greece, Spain, Italy and Portugal failed to meet real economic or financial criteria. Ireland and Finland were felt to meet the financial and political criteria, but also failed to meet the real economic test. The Venn diagram UBS originally published is replicated [here], for the benefit of those with an interest in economic history….

The most optimistic scenario for the Euro probably lies in some kind of parallel to the experiences of the US in the 1930s. Then, a fragmented banking system, with powerful regional central banks, failed to deal properly with an asymmetric shock to the economy (and to the financial system). The problem fostered significant regional differences in economic performance. This motivated financial reform, and a greater fiscal transfer mechanism to turn a sub-optimal currency area into a sub-optimal currency area with the mechanisms to smooth the consequences of shocks.

Yves here. So see, it IS possible to be a “sub optimal currency area” if you can muddle through devising the right mechanisms. And the analogy to the US in the Great Depression is apt in another way: a complicating feature is that a sovereign default or restructuring will hit European banks, many of which have fragile balance sheets.

It is important to note that while the symptoms may show up as a “Greece problem” or a “Spain problem”, the root cause is a one-size fits all monetary policy (that is not to say that country-level monetary policy guaranteed good outcomes, individual governments can still make poor choices).

Reader Richard Kline’s remarks in comments yesterday illustrate the considerable variations among the eurozone members the top of most worry lists (and as some readers correctly point out, the UK also has a looming external debt problem, but is not in the firing line right now):

Protests: By whom and to achieve what? Those to me are the principle questions. It would appear that the protests were primarily organized by unions and in particular by public employee unions. That is understandable because theirs are the jobs most likely to be lost, but if they are protesting in isolation—and it would appear to be so—their cause is already lost. Without broader support in their countries, they can make a lot of sound and fury, but the flutter of a redundancy slip will have the final word. I take that as the undercurrent of some of the well-intentioned pushback in comments in this thread. Part of me wants to be sympathetic to part of the problem, but the fact is the context has changed, and strategy needs to change.

Greece’s problems aren’t a result of the financial crisis. Greece has run unsustainable deficits for decades, finally turning to accounting chicanery. Greece has had do-little public sector jobs as buy-offs for social peace, too many jobs, and these wealth-transfer posts can’t be funded, now. The political counterweight for those jobs was a tax system which more or less allowed there significant domestic wealthy elite to live in a domestic tax haven, paying virtually nothing. All of this was possible while phoney ‘growth’ was happening due to the credit bubble making Greece’s sovereign debt fundable on capital markets without qualm—once it was euro-denominated. (Greece had financial crises in the recent past before the currency union.) Greece’s problems have been, in fact, made in Greed. —So it would be a good thing if those who live in Greece got on the stick and came up with some solutions. The solutions at present appear to be, ‘Shaft the common man, and bill him for the surgery.’ That proposed VAT is brutal . . . but then that’s one of the few taxes which is relibably collected there. And the rise in the retirement age hits the poorest with particular force. What is not on the table are effective tax enforcement upon the wealthy, and at higher rates. This, too me, is what protestors should be protesting, not the evaporation of do-little jobs which the country can only afford if someone else is picking up the tab. Then too, another goal of a demonstration which would be reasonable would be to demand a ‘renegotiation’ of existing debt over longer terms at lower rates; ‘reasonable’ because the banks who snapped up Greek sovereign debt in the good times did it in full knowledge of the situation but were quite willing to leap in as ‘enablers’ as long as they got their money rent on it. French, Swiss, and German officials would find if hard to defend against a demand for renegotiation in a situation where they are insisting that the Greek citizenry work two, four, seven years more of their lives to pay that debt off. To me, the point is as you say, Yves, to keep the impacts of necessary changes from being excessively and unfairly taken out of the hides of the poorest.

Portugal’s problems are also not caused by the financial crisis. PJM above sums them up well. Portugal joined the euro, and this was both necessary and good as it brought cross-border investment from within Europe, gave increased access to markets there, and (in normal times) gave increased access to capital markets there. But the export sector, and overall productive sector there is too small yet to support services and government at a ‘European’ level, all efforts to expand them notwithstanding. Just as PJM says, remittances from abroad are still a very important part of the local financial system, a real indication of production imbalances. What has happened is not that Portugal has ‘overspent’ or ‘overborrowed’ but that the borrowing they have done was only possible at the excessivly low rates of the credit bubble: Portugal can’t afford a rate spike, and so services are squeezed with funding becoming dear. The alternative to that are long-term development funds from within the EU, but that was controversial (as a matter of competitive advantage) even before now, and will be very difficult if not impossible to get funded in present conditions. Portugal’s economy is small and weak relative to stresses around it, and is getting bruised. That is not their ‘fault,’ even if it is their pain.

And so on, and so on. The points to me are: a) the immediate crises are by-products of lending squeezes, and b) stink of predatory instigation by third-parties speculating against the weak countries involved. If the poor in the affected countries aren’t to take the hit for everyone, they need to get out in front with solutions rather than just saying no. I think most in those countries know this better than I do.

Update 3:30 AM: From Eurointelligence:

FT Deutschland leads the paper with the story that leading German banks announced that they would not be buying Greek bonds at a forthcoming auction (very unhelpful such an announcement, but this is what happens once a panic starts). Eurohypo, Hypo Real Estate and Postbank are the banks mentioned in the article, and Deutsche Bank will only get involved in its role as an investment bank. The paper quoted sources from two Landesbanken as saying that investments in Greece are hardly thinkable. So, these banks are already distrusting any possible guarantees they might receive from the German government as part of a rescue package. Die Hypo Real Estate is the German bank most exposed to Greek debt, with about €10bn.

Jean Quatremer says in his blog that a monetary union with full fiscal independence is not going to be sustainable in the long run. He also writes that Athens is threatening to borrow unilaterally from the IMF if the euro area is not helping – or attaching further pre-conditions – which would a massive embarrassment for the EU.

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  1. HereWeGoAgain

    “The Wall Street Journal tonight is not the first to comment on the magnitude of the wagers against the euro (the Financial Times took note nearly two weeks ago: “Speculators raise record bets against euro“).”

    This sort of begs the question: Who is taking the other side of these bets?

  2. Thomas Barton, JD

    I am perplexed by the author’s prescription of action to the poor of Greece. What action besides violent refusal is available to them ? Will they band together and pull their cash en masse from every crevice and corner of the birthplace of democracy and negotiate their own bond sales with whom ? Your exhortation for them to provide solutions is like asking the enlisted men and women serving the US military in Afghanistan to come up with an effective counter-insurgency plan against a nation that is the ultimate expression of counter-countermeasures. I suppose you are hinting that they must adopt severe austerity measures but won’t these accelerate their economy’s inability to generate any semblance of growth and just send them into a death spiral of living to pay the grim reaper grinning in the guise of bond sales/payments ?

  3. Diego Méndez

    For those suggesting the eurozone is not an optimal currency area while its member states are, may I suggest you to take a look at the stats?

    Unemployment, per-capita income, manufacturing as a %GDP, are all very similar between different eurozone countries; differences are deeper from one region to another in a single state, than from one eurozone state to another.

    On average, it doesn’t matter economically if you live in Spain, France or Italy. The big gap is urban Spain vs. rural Spain; Northern Italy vs. Southern Italy; Paris vs. Corsica.

    1. Diego Méndez

      Moreover, economic differences are deeper between different US states than between different eurozone countries, which are fairly similar.

      Maybe they should ask themselves whether the US is an optimal currency area (in terms of labour mobility, policy benchmarking, infrastructure, economic development levels or even land area) or not.

      1. Kevin de Bruxelles

        Determining the optimal size of a currency union is as much a political question as it is economic. The Eurozone has to be large enough to protect itself on the world stage but at the same time cohesive enough to withstand a crisis. We will see in the coming months and years if the eurozone size is correct or not. I tend to think it is, and it will pull through the current struggles.

        1. Diego Méndez

          If by “cohesive enough”, you mean having instruments that relieve economic differences over the eurozone, here you have a nice surprise: the eurozone as a whole has a far lower Gini coefficient (0.30) than the US (0.45), despite having virtually no central budget.

          For all the talk about US superior labour mobility and other bla-bla-bla boring textbook stuff, the eurozone is *more* cohesive, *more* economically intertwined and integrated, *more* uniform and *more* solidarity-prone than the US.

          1. jake chase

            Sorry, but your statistics prove nothing. The EU is simply a corporatist wet dream. Greece is a wake up call. Hit the snooze button and try business as usual. The jig will be up soon enough. Are you among those buying Euros from those hedge funds at 135? Good luck with that.

      2. kstills

        The cost of living differences in the States makes up for any difference in economic output from one region to the next

        1. Diego Méndez

          Not at all. You’ve got states with 4% unemployment, and other states with 15% unemployment; this has nothing to do with price differences. Nor is it a short-term condition; Detroit’s been having huge unemployment rates for decades.

          Optimal labour mobility in the US is as much a dream as in the eurozone, and economic differences are even deeper in the US than in Europe.

      3. jdmckay

        Maybe they should ask themselves whether the US is an optimal currency area (in terms of labour mobility, policy benchmarking, infrastructure, economic development levels or even land area) or not.

        This is to me fundamental truth which, though media portion of this “screaming fire in the theatre” event, is obscured by all the smoke. And while it seems a lot of powerful/influential interests are giving their all to make the smoke blow this way & that, as it gradually clears a few more pieces are becoming visible here and there.

        The pieces have been there all along, but day of reckoning, it seems, is forcing some to acknowledge them for the first time.

        I have good portion of my retirement in EUROs, this is of significant interest to me (to say the least).

        I’m most interested in what decision/policy makers in ECB and Brussels decide… do they acknowledge flaws, consider them carefully, and maker corrections? Do they force clean accounting, take measure of realities (eg. as R. Kline describes above re: Greece), and end GS type alchemy/kick-the-can-down-the-road enabling of states cooking the books?

        I agree w/you completely… all this focus only distracts attention from US problems at home which have gone entirely unaddressed. And this issue is prime, just as you say.

        I’d like to see a whole lot more of “take a hard look here” before we embark on fixing the rest of the world. That example may spark a different trend… one good for everyone.

        I’m not holding by breath, however.

  4. Kevin de Bruxelles

    One factor not mentioned on the value of the euro is potential Chinese intervention. Will China sit by passively and let the Euro fall to parity against the dollar? This would mean the yuan has appreciated by 33% (from roughly 10.2 yuan per euro to 6.8) against the single currency and would hurt Chinese exports to Europe. With China sitting on tons of US dollar reserves, they would seem to be well-armed in any forex battle against a few hedge funds.

    1. Greg

      I’ve been wondering when China’s finally going to step up to its God- or Devil-given role as the Dirty Harry of FOREX markets.

      God alone knows the Japanese aren’t, and they’re the only ones with anything like China’s reserves.

    2. john bougearel

      My favorite way to view China is as the man behind the curtain, the Great OZ, we never quite know what lever or when they are going to act.

  5. M.G. in Progress

    We all know that the eurozone is not an optimal currency area. That’s why we need more integration not less or disintegration of the Euro.
    An immediate step would and strong signal to markets, particularly speculators would be a EU financial transaction tax which would raise a large sum of money painlessly (in the order of 100-200 Billions Euro), and would help to limit the sort of speculative attacks against the euro-zone. Moreover it would address the lack of regulation of foreign exchange markets. I prefer taxation to regulation of those.

    Moreover funds collected under a financial transaction tax (a kind of VAT at EU level with a Pigouvian character or own new own resource of the EU budget that is some 140 billions euro) could also, via a EU fund, cover the issuance of EU bonds. The common issuance of EU bonds would refinance gradually all the maturing debt of the PIGS. This would not only significantly reduce the cost of financing of PIGS debt, while creating a EU bond market, but it would replace any International Monetary Fund role and/or conditional loans.
    Too simple to happen? What’s wrong?

    1. Diego Méndez

      “We all know that the eurozone is not an optimal currency area.”

      I disbelieve any statement starting with “we all know”.

      Show me a similar-sized optimizal currency area with smaller economic differences between its regions/states than the eurozone.

      1. oldeuropean

        I’m afraid that “optimal currency area”, “optimal unemployment rate” and similar concepts are very interesting for hiding real economic and social values and practice high level economic masturbation.

        You know, the president of Spanish Central Bank supports firmly to prolong retirement age to 67 years, frozen wages and free-firing of workers, but don’t regulate the banks, while giving conferences with bankers talking about financial regulation, while bank stuffers have been retiring at 45 with the highest retirement wage, and so on.

        And in the anglo-saxon media, you know, in the euro goes up, Europe is doomed. If the euro goes down, Europe is doomed.

        I’m just waiting to see in the FT or WSJ, that Greek government has to slash all taxes to get competitive in the eurozone. It’s strange that when slashing taxes works all times, they don’t mention it this time.

        1. Diego Méndez

          I agree. High-level economic masturbation is OK, but there’s nothing like an economic power fuck ;)

      2. M.G. in Progress

        “We all know” was meant to be for those who studied economics. In fact it’s a theoretical model. The fact that in reality things are different and can work, differently, is another story (which academics may not accept). Thus some economists should stop saying that since according to that model it does not work because it is not an optimal area, let’s destroy the Euro or let the Euro-zone disintegrate. It’s not because the Euro does not represent an optimal currency area that it should be abandoned or devalued to accommodate some current accounts problems. We should have more EU integration not less. And who cares about optimal currency areas, and its academic supporter, just make things that help it to work better not to destroy it. I think that if you start issue EU bonds with some kind of cross-guarantees and joint EU support, even the Euro would benefit. If then capitals continue to emigrate or speculation to attack just tax it on “exit”…But do remember that money is placed either in US$ treasuries or Euro-zone bonds. You cannot escape those. That’s why we need the EU bonds.

        1. Diego Méndez

          M.G. in Progress,

          it’s really telling that you couldn’t provide the currency-area example I requested.

          So much for the “we all know” because “we studied economics”.

          I agree that eurobonds would be helpful in the future, but make no mistake: Europe is benefiting from this crisis (via lower euro = increased net exports), that’s why they’re not trying to solve it immediately.

          Paradoxically, countries like Spain and Greece may be the ones taking more advantage from this crisis.

          1. M.G. in Progress

            You are probably misunderstanding. I did not provide the example because I can careless of those academic definitions. I have a more pragmatic approach to economics. If there is a problem let’s try to solve it not to say that it does not work because it’s not optimal. Who cares?
            lower euro = increased net exports I am not sure that it is the reason why they are not trying to solve the problem. Even because the problem is now and the J curve effect of a lower curve will be felt next year and the one who will benefit more is Germany not the PIGS.
            I tend more to think that the elite of bureacrats who contribute largely to the mess has no idea. On top of that if they continue to “protect” bankers who are buying the bonds they are selling…

          2. Diego Méndez

            M.G. in Progress,

            price elasticity in Southern European services and products is higher than for German products. According to a myriad of papers, Germany’s export “pain threshold” is around 1.50 dollar/euro, while Spain’s threshold is around 1.30.

            So it’s pretty obvious Southern Europe benefits more from a lower euro at this level.

          3. Richard Kline

            If the clubby Meds have products to export which can substitute for those Germany exports. Which largely they don’t, that’s the problem.

          4. Diego Méndez

            Richard Klein,

            “If the clubby Meds have products to export which can substitute for those Germany exports. Which largely they don’t, that’s the problem.”

            Not at all. The problem is Southern European products and services (tourism, chemicals, medium-tech cars and ships, food, textiles, etc.) have a higher price elasticity than German products and services (premium cars, high-end electronic equipment).

            So when the euro raises above 1.30$, it’s mainly Southern Europe which suffers and it’s China which benefits from it. When the euro raises above 1.50$, it’s mainly Germany which suffers and it’s Japan and the US which benefit from it.

            There are like dozens of papers supporting this conclusion, e.g.

  6. bb

    thanks for this 10,000ft view on the situation but all this is b#lls#1t. if you ever lived on the continent prior to the euro introduction and you dealt with cross border commerce or just traveled, you would know by now that the presence of 15 different currencies was a real nightmare. everyone, including ordinary citizens, were forced to be currency speculators, and the only beneficiaries were the banks that, leaving currency swings apart, were pinching hefty 4-5% commissions per round trip. the introduction of the euro de facto improved profit margins by at least that much on all commerce within the eurozone.
    how does this relate to mr. donovan’s theory of uselessness of the eurozone and other macroeconomic laboratory nonsense i do not want to comment further. we have seen enough keynesean failures the past couple of years.
    and on the parity theory. everyone is entitled to an opinion. i do not see how the euro will trade level with the usd unless there is real panic around the globe. the supply/demand for both currencies is such that the dollar will always be more abundant due to the highly inflationary policies pursued by the fed.
    as well i will reiterate what luxembourg’s PM said recently: the countries where those speculators betting against greece are domiciled have budget situations as dire as greece’s. to deliberately attack a small economy just to make a profit is lamentable.

    1. Eric

      This is ridiculous. It is seemingly well within the collective powers of the EU members to make the bets taken against Greek finances losing bets. Who cares about where the bettors are domiciled? What prevented the Luxembourg PM from announcing that his country would guarantee $500M or $1B of the next Greek debt sale? Let’s face it, the bets against Greece are more correctly viewed as bets on the likely action of the rest of the EU, or possibly the IMF or others. If Greece doesn’t get some practical support quite soon, “betting” against Greek finances should not even be considered gambling. They are busted and politically unable to do enough alone to change that.

      1. Eric

        But it isn’t just Greece. Italy is watching and cleaning up that balance sheet would require really noticeable sacrifices in Dortmund. Not helping Greece sends a message to Rome that will be hard to ignore….as would helping them. Throw in Spain and Portugal for good measure (although they have a bit more spirit against taking alms).

        1. bb

          it is neither Luxembourg’s nor any one else’s job to guarantee greek debt. you must be hardcore communist to state this. brave ireland cut public expenditures by 10%, greece is hardly willing to make a 5% cut, yet their government employee’s 14th salary is viewed as sacred and untouchable. there is alot that greece can and should do before anyone in the EU even considers helping them.

          1. Eric

            You’ve misunderstood me entirely. My point was that Luxembourg PM is deeply hypocritical to critize positions taken against Greek debt when his country, in conjunction with the rest of the EU members, has the power to punish these positions. Given the choice of doing something or just talking, so far Luxembourg (EU?) has just talked. Now, not doing anything is a perfectly reasonable position (which is the point of my comments on Italy), but don’t shoot your mouth off about people put real money at risk if that is going to be the case.

          2. bb

            governments shall not intervene in the markets. they have no interest in cds or currency markets. and responsible governments shall not encourage the behaviour of irresponsible ones. greece is in this situation because they figured it: they will piggy back on the german credit rating and borrow as much as they can, they will promise pensions and salaries without having any money to pay them. why? becuase they can borrow cheaply and in the currency germany uses. they are abusing the euro. spain as well pays huge unemployment benefits, they simply discourage employment. there are many immigrants who go there to work for 1,000 euro, but the spaniards would not touch such work, they are collecting just as much in unemployment benefits a month.
            scaling back on ‘free money’ handouts could and should easily fix the fiscal strains in southern europe.

      2. bb

        and if you are not closely following currency price action, i will tell you this: at every rumour that someone is going to bail out greece, the euro spikes. well, from a macroeconomic point of view, any guarantees to money bad debt (as greece’s) shall weaken the currency.
        but since we live in a world where one easily levers up to the hilt (20x for currencies and cds), any news of debt guarantees squeeze shorts and that makes the euro jump like there is no gravity on earth. this is our highly levered and illiquid market reality: the biggest price moves happen when someone steps on the toes of the most levered members of the investment herd.

  7. a

    Europe is quaking in its boots. Big American hedgies, wow. Big clueless American hedgies, that is. Who don’t know history, or geography, or well anything.

    From the WSJ article (“Hedge Funds Try ‘Career Trade’ Against Euro”)on the hedgie dinner in NY:

    “Few traders expect the value of the euro to totally collapse, the way the British pound did in 1992”


    “a small group of all-star hedge-fund managers argued that the euro is likely to fall to “parity”—or equal on an exchange basis—with the dollar”

    Since the euro is now trading at 1.35, a descent to 1 would be a little bigger than the “collapse” of the pound in 1992, from 2.9 to 2.4 (in terms of DEM).

    Sure the euro could go to 1. Why not, it’s been worse. Europe would welcome such a move. And you know what? The US economy would positively gag if the euro went back there any time soon. You’re talking 12-15% unemployment Stateside. With any luck some of these hedgies will be joining the line.

    1. Greg

      Ok, that’s largely *because* the Bundesbank refused to help out.

      Hell, that’s the biggest reason Soros and his merry men were able to make out like bandits, because they knew full well the Germans weren’t going to respond.

      The Euro isn’t – cannot be – in critical danger until the Germans decide the Euro should be free fall mode.

  8. Richard Kline

    Paul Donovan does start off the quoted text poorly, but his remarks are in fact cogent, most especially his concluding sentence.

    There is no single macroeconomic strategy which works optimally for large populations with disparate sectors of production and urbanization. This is something much studied and well-understood in historical economics. American history is a very good context to review the history in point of fact. There is not now, _nor has there ever been_, a single strategy which works for New Jersey, Illinois, and Wyoming, for California and Alabama. This was a significant political and economic conundrum since BEFORE the Colonies were independent and constituted themselves as a common country. Much of the reason why no functional central government was established immediately after independence is because the political forumlas to finesse disparate economic strategies hadn’t been made yet: it took a crisis to hammer such strategies out, the severe deflation and financial system collapse and other problems of the post-War of Independence years. The incompatability of local and regional economic strategies was an enormous factor in the discord leading to the American Civil War, which history-illiterate Americans mostly have forgotten. The tariff and currency policies which were favorable for Northeastern money (and the foreign lenders with whom they were in league) and the railroads were inimical to the commodity export strategies of the South and numbers of other places. The incompatability of what was good for Wall Street and industrial development with what was good for the rural majority of the country was a huge contributing factor to the actual Populist movement and the labor action of the IWW and convergent, _non-urban_ groups of the turn of the 20th century. The rural parts of the country profited as never before from WW I, then suffered as seldom before from the bust (for them) of the 1920s while Wall Street stole the rest of the country blind. Through all of these times, Wall Street won. Only when Wall Street sank into the sewer of its own devise after 1929 and 1932 was something done about this.

    A central part of Franklin D. Roosevelt’s success was that he used transfer of funds at the Federal level to cushion economic imbalances at the local level, something repeatedly proposed throught the later 19th century if to lesser extent, but never before possible of enactment: everyone knew what had to be done, but Big Money and sectional differences were too strong before then. Those farm subsidy payments and crop loan guarantees passed in his Administrations were absolutely critical for buffering the rural population. Then too, to that point when Wall Street had a panic of a collapse, credit shrank and many who had work in totally unrelated areas became unemployed, leading to an exacerbation of demand collapse. Much of the transfer of payments through things like unemployment insurance, welfare, and social security (to keep elder poor from dragging down cash-strapped rural states among other things) were all used to both buffer demand collapse and transfer funds from areas which benefited from industrial development and profitable exports to areas which were on the losing end of a too-strong currency and often too high interest rates. The _Federally guaranteed_ 30 year home mortgate was again designed to make affordable credit available to many who would otherwise have been unable to finance purchase locally because of inadequate local capital and disinterest by money center capital. After WW II, to great political harm but considerable economic success, the policy of keeping open numerous military bases in many rural areas, and spreading military contracts around as form of wealth transfer also, via the central government, brought serious money into areas which had little industrial development.

    The lesson is that transfer payment and appropriate regulatory regimes at the Federal level was used to ameliorate regional imbalances. It is not a coincidence, not at all, that the forty plus years of American history after this web of Federal balancing payments was woven together had the least regional political strife in the country’s history: the plan was overt, it worked, and it worked well. (Civil rights was another issue, but not one whose driver was principally economic. And it is no coincidence that civil rights was not taken on by the Federal Government until the time it was, as sectional differences would have made this program far more difficult to achieve without the profitable economic web in place at the time.) I have watched with horror, I may say, at the push through the last thirty years to end farm subsidies, eliminate Welfare, cut off college students from inexpensive loans, and all the rest, because the very web of transfers which made up for a regionally and a class imbalanced economic system which has benefited some urban regions while making things more difficult in many other places was severely impaired in the processs. The entire process has been an exercise in political demolition—deliberately so by some who have backed it—and it is no surprise that in the wake of this stupidity Americans are more divided than at any time since the 1920s. The web of transfer funds which provided some economic justice and common cause has been slashed, and the end result is discord. It isn’t even as simple, now, as asking, “Who profits?” Sometimes humanity IS just this cussed stupid.

    How is this relevant for the EU and the euro? Just as Donovan describes. There is no macro economic policy which will work optimally for both Germany and Latvia, France and Portugal. There is not, frankly a macro-economic strategy which works optimally for both Flanders and Walloonia, for North Italy and the Mezzogiorno, as plenty in the ‘countries’ involved have loudly expressed with mustard on it. In Greece, there is no macroeconomic strategy which works for both the internationalist rich and the rural poor. Some former countries, now EU members, were more successful at setting up internal transfer funding systems than others. Germany has done better, but it took the collapse of total defeat to force a space for such reforms, just as Britian in the collapse of Pyrrhic victory got to a similar place. Smaller and more homogenous countries such as Denmark have had better luck with this, but most forget it took a revolution to get to something like commonality in the Netherlands. Breaking down one set of economic conditions to replace it with another usually takes a crisis, and typically is accompanied by violence. I don’t say that because I like it, I just look at the facts.

    In good times, no one worries too much about unresolved imbalances. Why?: Money’s cheap, so borrow some and feel yourself rich. For political reasons, getting at ‘federal mechanisms’ has been a v-e-r-y gradual process in Europe. Everyone involved in the real negotiations has understood everything I just described, or that Donovan alluded too: it was European political economists on the left side of the spectrum who have done much of the work on development economics behind these observations. In good times, growth percolates, and development gets spread around. In bad times, you muddle through. In a crisis, though . . . credit runs out, and that’s when those who’ve had to have easy money to iron out the differences of economic imbalances get into trouble. And the obvious conclusion is that what is needed is a mechanism for transfer funding at the ‘federal level.’

    Well, the mechanisms aren’t there for such transfers and guarantees, that’s the rub. Negotiation emergency bailouts and fiscal work-overs in public in real time is not only the worst possible road to a successful outcome but very much NOT ‘the European way.’ One can sympathize with German voters who are resistant to sending ‘their’ money to keep ‘slackers in the South’ on work—only it’s not so simple. Because those in Germany benefit from rates, export policies, and a currency which, for example, mean that Portugal has had to borrow heavily _on the open markets_ to fund its development. [And for those who didn’t read yesterday’s post by Yves on Greece, I suggest that they do so. Commenter PJM made a very good summary of the issue facing Portugal, a far more relevant country for considering these problems than Greece.] And here in the US, too, voters in, say, Tennessee or Ohio would be similarly resistant to their state governments lending or giving money to California to bail _that_ locale out, and with reasons at least as justifiable as those in Germany with regard to Greece. Which is why these things need to be handled by _COMMON INSTITUTIONS AT A FEDERAL LEVEL_, exactly because they take the pressure of decision away from local governments and put them in the hands of shared governance. And it is the remark of NO commentator that we see that the US Federal government has refused any formal bailout of California, but told that state, in effect, to ‘adopt austerity measures and increase revenue.’ While using Federal transfer payments such as unemployment insurance and Federally backed mortgage guarantees and securitization to keep California’s economy from collapsing in the process (with mixed success, one might add).

    An optimal situation for a currency union? Sud America, where Brazil, Uruguay, Argentina, and to lesser extents Paraguay and Bolivia are much nearer to common problem sets. They’ve got a great chance if they have the political will. East Asia could make this work, thought the fact that China is so much larger than everyone else combinde will make balancing very, very difficult. The EU is in a much better situation than, say, the US was of the India is. But Anglo-American commentators need to get over it, and here’s the reason why: European economic integration has two generations of negotiations and success. Their record on this is better, far better, than such negotiations _in the US_ over the same time. I’m of the view that Europe will use this crisis constructively, because that is their recent track record, much pissing and moaning in various national presses, on Continent and off, to the contrary. None of this present political theater has anything to do with ‘the viability of the euro.’ If anyone thinks Greece would be doing better shut out of an economic union of just the most profitable and developed portions of Europe, that person obviously hasn’t familiarized themselves with the last two hundred years of Hellenic history. And again, don’t think that _any_ of this is news to Sarkozy, Merkel, the EU el Presidente, or those who advise them on macroeconomics. But they’ve run out of luck to finesse this because the good times have run out on them.

    —But as I alluded yesterday, the whole things stinks to me of an intentional, unethical, and speculative bet against the euro by a handful of financial criminals who hope to profit from the disruption. Sovereign governments are far more powerful than any individuals of such kind, so it is an amazing experience in political theater to watch said the officials of sovereign governments repeately kissing the financial system’s ass thrust in their faces in hopes that the money guys will let up. Ugly.

    As a final note, consider the kind of global imbalances which the neoliberal program _as devised_ would create: just the kind of problems that a unified American or European economy creates without deliberate balances, only far moreso because existing disparities between Malawi and Manhattan are orders of magnitude [yes, that’s plural] greater. If we are to have an economically interconnected world, and it is likely that we will only have one moreso barring massive collapse (with attendant high mortality, don’t doubt it), than we must have a system of balancing. The idea that other small countries will throw their economy open to massivley larger and richer economies has prototypal example: Haiti. And that is why we, the US, are militarily occupying them now. Because the endstate of _that kind_ of imbalance is serfdom and institutionalized poverty, in the face of which those so disfavored turn to redistributive political parties, and where necessary insurgencies to regain control over their own lives. We aren’t in Haiti to ‘save them;’ we’re there to keep them from saving themselves from us. . . . Personally, I think that a set of balancing intitiatives is more just, much safer, and far less expensive.

    I think this is all well-understood where it matters in Europe. But they don’t have a good interventionary toolkit, so we are having a public viewing of sausage getting killed, and that’s never pretty.

    1. attempter

      One thing you left out is that the period of:

      the least regional political strife in the country’s history: the plan was overt, it worked, and it worked well

      coincided with the heyday of cheap, plentiful oil with America as swing producer, while the “political demolition” commenced following the global discovery Peak in 1964 and the American production Peak in 1970.

      While I’m sure there are several determinants, I don’t think things are too overdetermined to say that the relatively stable mid-century social contract (and the malevolent car/suburbia model of “civilization”) was a luxury afforded by the oil production surge, and that the system started demolishing the contract while substituting the debt delusion for it as it became clear that oil production would not exponentially increase forever.

      1. Richard Kline

        So attempter, there are many things I left out. Any comprehensive analysis is book length. But I wouldn’t say that cheap oil would make the top half dozen relevant factors for the Era of Prosperity, or whatever you want to call it. Why? Well, the US would have been prosperous without it, that’s why. We had concentrated urban environments with generally good public transit systems. We had the world’s most extensive railroad network, which might very well have been _cheaper_ to use for bulk transport than building a superhighway and truck transport industry to replace them. Somethings would have been more expensive, which means that the notable overconsumption of consumer nondurables in the country might have been braked a bit. So what. Now, major fortunes in the US were made through land speculation as a function of urban sprawl; we would have had notably less of that. Those fortunes, which have gone a long way to buying our political system subsequently, and putting the financial system on green steroids. I’d have happily missed the era of cheap oil.

        A factor of far more relevance that you don’t mention is that we have significant unionization of our industrial sector, which sent a notably larger share of the profit stream from those industries into the real economy rather than the speculative economy. That’s a far greater difference before/then/now then the one you mention, to me.

        Why do I mention these two factors? Europe, now, has a concentrated urban environment, a well developed public transport system, long-distance haulage significantly on railroads, and still a substantial unionization of their industrial (and public governmental) sectors. Europe is in a much better position to cope with the end of cheap oil than the US. Which is good, since they produce not so much of it. Which is bad for us by contrast, since we are producing ever less of it while our infrastructure, economy, and way of life are totally dependant upon cheap oil.

        Europe is far better positioned than the US to roll with the changes of the global macroeconomy that are underway. It’s not going to be a good thirty years, here. And yes, it looks like we’re going to go kicking and screaming. . . . Pity.

        1. Siggy

          Very good take on the differentials between the US, Europe, Latin America and Asia.

          What Greece reveals is the inherent vulnerability of the European Union. The Grecian problem is straight forward, more debt than can reasonably be serviced. I say reasonably in the sense that tax revenues fall short of required debt service and government operating expenses. The difficulty is that the debt is denominated in a currency that Greece cannot directly devalue. It’s a common problem. We have it here in the US as well except that Fed and the Treasury collude with the Congress to achieve a solution by inflation which is a form of devaluation, albeit unstated.

          The cure for all of this is the recognition that fiat currencies fail as money because they seldom preserve purchasing power. The failure of fiat currencies is exacerbated by fractional reserve banking.

          As currently constituted, the European Union is closer to addressing the foregoing two critical factors than is the US, or any other trade entity or alignment.

          As to the hedge funds. They will kick on any sick dog in sight. They will feed enfeebling garbage to any dog in sight.

          There may well be an apprently profitable exchange arbitrage against the Euro versus the Dollar and several other currencies. For the hedge funds who make the trade, what do the take the profit in? What will that profit buy?

        2. jake chase


          Some of your analysis is very good but much of your New Deal history is bunk. You have glossed over the fundamental reason for Roosevelt’s “success”, the Americanization of WWII, which he neatly engineered by provoking Japan. Well, alls well that ends well. Among today’s fundamental problems are excess industrial capacity, ruthless competition, bottomless corruption, withdrawal of elites from the social contract. Is Europe better prepared to survive these problems? I doubt it. Have 20 years of common currency purged ages of ethnic hatred? The common enemy of both Americans and Europeans is a new fascism, the friendly corporatist variety, enabled by amoral politicians whose abiding interest is an elite future for themselves. This problem is not so much economic as political, and I do not see any country facing it squarely. I imagine the hedge funds will sell you as may Euros as you care to own.

          1. Dan Duncan

            Jake Chase writes: “…the Americanization of WWII, which he neatly engineered by provoking Japan.”

            What a ridiculous statement. Clearly drivel spawned straight from some 1st year social science class…or even worse, a Naomi Klein book.

            “Americanization”…first off, the term refers to the influence of American culture.

            “The Americanization of WWII.” What does that even mean? At first, the countries all got together to fight an epic war…and by the end, soldiers from Japan and Germany were donning denim jeans and leather jackets and listening to Pat Boone? [Oh yeah, and in between soldiers on both sides managed to slaughter 25 million people.]

            And then you hit us with “Roosevelt engineered the whole thing! See, he provoked the Japs. And he did it so he could Americanize the war. It’s true. Seriously, my 2nd year social studies teacher told us all about it…just before telling us that the US Congress is really just a front for the Knights of the Templar.”

            Damn, Jake…Can’t wait to hear about the pyramid and that creepy eye on the back of The Dollar Bill!

          2. Richard Kline

            So jake, you completely misread my remarks in your haste to another agenda (regarding most of which I’m in agreement and sympathetic). I suggest you go back and re-read what I said. I’m discussing ‘social engineering’ not ‘economic engineering to end the Depression.’ The two goals were largely pursued by different trajectories of intervention in the Thirties, even if sometimes individual interventions had multiple purposes. As an example, the WPA was both social engineering—don’t leave idle hands lying around for the Reds—and financial engineering—demand support via subsistence wages to the otherwise unemployed.

            Did FDR provoke the Japanese? Damn betcha. But insofar as the historical record reflects the realpolitickal calculus involved, in 1937, 1939, and indeed even earlier from his first taking office, economic support for the US domestic economy was a tertiary concern in that policy, if it entered into it at all which I doubt. If was far from sure that FDR could even get the Congress to support major increases in the production of war material, this really only happened after the Fall of France, so the economic multiplier effects of such production which followed from 1941 were not rationally part of the equation of earlier decisions. Squeezing Japan economically was a long-term American policy, pursued for its own reasons (China: winner takes all . . . oops, guess the indigenes had their own ideas). Any attempt to project the _results_ of post-1940 into policy actions prior to that time is fallacious anachronism. I don’t recommend that, btw.

            The withdrawal of the elites from the social contract, and the pernicous social flesh-eating infection which is corporatism, are both major concerns, I agree—but in the US far more than in the EU which was the subject of my comments. In the US, yes, we face a political problem even more than an economic one. But in the EU, they face a political problem in the guise of an economic one, but an entirely different problem. That is my view.

        3. DownSouth

          Richard Kline,

          You say “I wouldn’t say that cheap oil would make the top half dozen relevant factors for the Era of Prosperity.”

          This comment strikes me as coming dangerously close to asserting a dominance of the spiritual over the material/physical. I would argue that the spiritual is indeed quite important. But to argue that America’s rise to world prominence wasn’t largely predicated on huge abundances of physical resources, petroleum by far being the most important of these in the first part of the 20th century, gives the spiritual entirely too much credit.

          You claim that “the US would have been prosperous without it.” But the domain of “would have” and “could have” is the domain of demagogues and preachers. attempter is dealing in the world of is or did, not the world of would have.

          Reinhold Niebuhr puts it this way:

          For it is certainly the character of our particular democracy, founded on a vast continent, expanding as a culture with its expanding frontier and creating new frontiers of opportunity when the old geographic frontiers were ended, that every ethical and social problem of a just distribution of the privileges of life is solved by so enlarging the privileges that either an equitable distribution is made easier, or a lack of equity is rendered less noticeable.


          Yet the price which American culture has paid for this amelioration of social tensions through constantly expanding production has been considerable. It has created moral illusions about the ease with which the adjustment of interests to interests can be made in human society. These have imparted a quality of sentimentality to both our religious and our secular, social and political theories.


          [I]t can hardly be denied that the fluidity of our class structure, derived from the opulence of economic opportunity, saved us from the acrimony of the class struggle in Europe, and avoided the class rebellion, which Marx could prompt in Europe but not in America. When the frontier ceased to provide for the expansion of opportunities, our superior technology created ever new frontiers for the ambitious and adventurous. In one sense the opulence of American life has served to perpetuate Jeffersonian illusions about human nature. For we have thus far sought to solve all our problems by the expansion of our economy. This expansion cannot go on forever and ultimately we must face some vexatious issues of social justice in terms which will not differ too greatly from those which the wisest nations of Europe have been forced to use.
          –Reinhold Niebuhr, The Irony of American History

          1. Richard Kline

            DownSouth: “But to argue that America’s rise to world prominence wasn’t largely predicated on huge abundances of physical resources, petroleum by far being the most important of these in the first part of the 20th century, gives the spiritual entirely too much credit.

            You claim that “the US would have been prosperous without it.” But the domain of “would have” and “could have” is the domain of demagogues and preachers.”

            I haven’t at all argued that material resources weren’t of great importance in the rise of America as in industrial power, and hence salient factors in the shaping of American society. You are inferring something I did not say. Domestic oil supplies in quantity were of considerable importance in the first half of the 20th century. But the USA was _the_ major industrial power in the world by 1900, before oil really became a major factor. The industrial revolution in the US began, if you follow the facts, as a result of abundant _hydro-mechanical power_ locally in the NE US. And coal, abundant in the NE US, was vastly more important than oil in the industrialization of the US. Something you may not know is that the US was the world’s largest iron producer _before the American Revolution_. We had enormous volumes of domestic cotton, wool, and timber even before the American Civil War. No European nation could match our that supply matrix; all had to buy some or all of that on the international market. But a factor greater than any of those, really the most important single factor if one could be established, was the great abundance of cheap calories in the US. We had our urban poor who didn’t eat well, no question, but the US was far, far more than self-sufficient in grain and meat production: people ate well here, it’s a significant reason in why immigrants came here. None of these are ‘spiritual’ evaluations; they aren’t even sociological ones.

            I don’t have to ponder hypotheticals, DownSouth, since the US was the largest industrial force in the world before oil became a predominant factor. How the US would have fare internationally in the absence of an oil-based transportation economy is harder to assess. We are very far away from many of the places we have projected power to in the 20th century, and oil-fueled transport was, and remains, very important to the force projection. But that’s another question, isn’t it.

            Formally, historians claim that they don’t consider ‘would haves’ and ‘could haves.’ But a) they should once they’ve gauged the facts, and b) I do theory of history rather than archival history. Where historical comparisons are to be made, my concern overall and in this comment thread both, one has to reckon with potentials. Not wildly, but by modeling contexts and the range of outcomes they have the most probability of generating. Even without oil, the US would have been prosperous because we already were _very_ prosperous before oil was a major factor. What would have most likely derailed American prosperity would have been the secession of the wealthy elite from society, to maintain the control of the political system which ‘trusts’ had c. 1900 to the loss of the rest of the citizenry. It is not entirely clear why the trusts lost ground even before the Great Depression; that is a question worth pondering. Because we face EXACTLY the same problem today, but in a less favorable context.

            We are used to discussing the present financial crisis as an economic problem, and discussing it so ourselves, but in my view this is and incomplete evaluation: the present financial crisis in the context of the US is a _political_ problem first, only manifesting itself as an economic problem. The deliberate excision of transfer payments from American governance was a political process. The deliberate evisceration of regulation over corporate actions, in the financial system yes but in many other contexts as well, was a political process. The purchase of both major political parties by the wealthy 1% of the country was a political process. The abdication of substantive reportage by the major media was a political process for politial ends. The replacement of political dealmaking by code-word spin was a political process. And so on. We’ve had a sucession of increasingly severe financial/economic crashes over thirty years, but neither the political class, the media, nor to be frank the citizenry have had any desire to see them as the natural outcome of the secession of the corporate and the wealthy from any stake in a common society. The reason we get no ‘financial or economic reform’ is because we aren’t bothering ourselves with doing the political reform necessary to get it. And that’s a problem.

            But in Europe, specifically in the ‘crisis’ of the euro balanced on Mt. Olympus, we are told it’s a political crisis, when really it’s an economic crisis. The poor have printed money because they control their own fiscs, still, but we’ve reached a point where that just won’t fly anymore. And at the same time, Europe doesn’t have a system of transfer payments in place _amongst_ the formerly sovereign states, nor a common Eurobond mechanism to use as a ‘governor’ against bad fiscal policy at the ‘state’ level. What looks like a political problem is really the long-term imalances of disparate development and less than compatible macro-economic strategies finally come to a head. The larger states have a similar policy, and they are going to win, but the weaker states are going to raise a ruckus as they go down. From Yves update: “Jean Quatremer says in his blog that a monetary union with full fiscal independence is not going to be sustainable in the long run. He also writes that Athens is threatening to borrow unilaterally from the IMF if the euro area is not helping – or attaching further pre-conditions – which would a massive embarrassment for the EU.” I completely agree with Mon. Quatremer. Fiscal autonomy IS incompatible with a unified currency. This has been known for sixty years by those pushing European unification, but is of course the most difficult issue to resolve. Local governments are not going to voluntarily surrender their former ‘right’ to print as much money as they felt they needed, not in most cases anyway. But it is obvious that this needs to happen. One result of this crisis is that the caps on debt issuance by Greece or Italy (or Germany) which have been soft are likely to become hard—and they need to. The crash in Argentina in the 1990s, and most American bubbles before the Civil War, were the result of regional and local banks issuing colossal amounts of credit for which they had no reserves, effectively printing money by selling debt. It isn’t viable for regional governments to do that now withing the Eurozone. But the compensation for giving that up shouldn’t be second-class lifestyles but rather balancing transfers of investment and the like. And regarding Greece turning to the IMF, I won’t even bother to laugh at that. The most probable outcome if those in charge of the Greek government chose to do so is that the IMF would turn them down _flat_, and tell them to work it out with their partners in Europe. And if the IMF gave Greece terms, they would be considerably LESS FAVORABLE THAN THOSE THAT EU PARTNERS WOULD OFFER. I don’t think that Greece’s profligacy should be paid off on the backs of their poor (alone), no, but that is up to the citizenry of Greece to work out _amongst themselves_.

            It’s clear that Greece’s Dutch uncle is done picking up the check (and taking a fee for doing so). Those German banks which said ‘count us out’ have taken losses in the 100m euros on their existing double digit billion worth positions. No subsequent guarantees of any government will make good their existing mark to market losses there, and the banks in question would have to be nuts to buy any further Greek debt, whatever the guarantee, until the situation is clearly stabilized and said debt can be stably valued for the long term. And consider: the executives of those German bond-holders (and the Swiss and French holders of Greek euro-debt also) have some ‘xplainin’ to do to their boards, shareholders, and regulators because of their present mark to market losses, like when did they know the Greek government was cooking its books and why weren’t those banks better hedged for losses.

            But to me, much of this is political theater. The ECB or larger eurozone governments could really put a squeeze on those speculating against the euro by niggling at Greek debt (with Italian debt to follow one supposes, as mentioned by other commenters here). So why is nothing being done? The spec hedgies are the bad cop and the ECB is the good cop, is how I read this. The market will force movement from the Greek government which favors the end of fiscal irresponsibility without other eurozone members having to do all the dirty work. Is this a dangerous methodology considering the euro value is in play? You mean, is this a dangerous methodology when the euro might decline which is just what many of the larger export-oriented economies in Europe most desire but don’t want to take the geopolitical ire to move to overtly? *ho-hum* Wake me when the fix is formalized, because it assuredly looks to be in, to me.

        4. attempter

          I think I’d place the temporary good times for unionization on the opposite side of the cause and effect ledger than you. I think that too is part of the effect of the elites’ temporarily calculating that it was cheaper to co-opt some of the workers, using some of the surplus afforded by cheap oil.

          I suppose no one will ever be able to prove correlation is causality where it comes to historical trends, but the correlation of the temporary success of progressive causes, and of mass democracy itself, and then their rapid deteriorations since the 70s, is pretty well correlated with the rise of America as the world’s #1 oil producer, and then its losing the swing position to OPEC, and the growing doubts about the future of the West’s supply ever since.

    2. DownSouth

      Richard Kline,

      You say:

      And again, don’t think that _any_ of this is news to Sarkozy, Merkel, the EU el Presidente, or those who advise them on macroeconomics. But they’ve run out of luck to finesse this because the good times have run out on them.
      But as I alluded yesterday, the whole things stinks to me of an intentional, unethical, and speculative bet against the euro by a handful of financial criminals who hope to profit from the disruption. Sovereign governments are far more powerful than any individuals of such kind, so it is an amazing experience in political theater to watch said the officials of sovereign governments repeately kissing the financial system’s ass thrust in their faces in hopes that the money guys will let up. Ugly.

      What I see in these comments is a rather large dose of cognitive dissonance.

      The entire liberal economic model is based upon purging ethics and morality from the economic universe. In this regard classical economics involves little more than taking Luther’s theology and applying it to the world of economics. The similarities between Luther and Adam Smith are striking.

      Economics is such a superficial pursuit that its practitioners seldom scratch below the surface to explore the philosophies and theologies which underlie their belief structure. Perhaps no one put it better than Goethe:

      Like a big city, our moral and political world is undermined with subterranean roads, cellars, and sewers, about whose connection and dwelling conditions nobody seems to reflect or think; but those who know something of this will find it much more understandable if here or there, now or then, the earth crumbles away, smoke rises out of a crack, and strange voices are heard.

      I would therefore very much disagree with you. I would argue that “Sarkozy, Merkel, the EU el Presidente, or those who advise them on macroeconomics” are very much indoctrinated into classical economic dogma. That goes a long way in explaining the seeming contradictions you point out, their condoning of the “unethical” behavior of the “money guys”.

      I might just ad that many in Latin America many, if not most, don’t make the distinction between liberal and neoliberal economic theory. They suffered under the scourge of liberal economic dogma in the 19th century, and they are now suffering under the scourge of neoliberal economic dogma that began about 40 years ago. Liberal, neoliberal, what’s the difference?

      1. Richard Kline

        So DownSouth: “That goes a long way in explaining the seeming contradictions you point out, their condoning of the “unethical” behavior of the “money guys”.”

        It’s a bad cop, good cop routine, to me, see my remarks above, with the good cops of the eurozone and ECB letting the back cop hedgies work the perps over good. Realpolitick, in short, nuthin’ to do with ethics, morals, or that. I agree with you completely regarding liberal/nel in Sud America; that is very accurate. the Liberals of times past were working hard to sell the neoliberal agenda before it was renamed, while the Conservatives were damned if they were going to give up the neofeudal agenda they had going for them.

        I enjoy your peregrinations in philosophy immensely, let me say DS, without having any desire to inject them into historical analysis where in my experience of both the former have no purchase to speak of. Keep on keepin’ on, m’friend.

    3. craazyman

      I would just observe that another factor that drove the American Prosperity during the period was the destruction of global manufacturing capacity in WWII everywhere except in the U.S.

      Today’s problem is the exact opposite. Overcapacity virtually everywhere.

      The only hope is for the Chinese, Indians, Africans and everybody else to get on the stick and stop fighting amongst themselves with their insane tribal wars and religious wars and Hobbesian pradations on each other and start sublimating their violence into creative pursuits, such as NFL football.

      This will unlock a new world. But it may not be enough.

      In the meantime, I will try to contain my nausea at a townhouse full of hedge fund dudes charging 2 and 20 to lever 40 to 1 and go long the dollar and short the Euro. I’m sure there’s talent in their somewhere, but it may be in the kitchen. he he he. That’s who will pay, when the bill comes due if things go wrong, as they often do.

    4. bb

      this is a very long plethora of words. what you, and donovan are missing in the musings process, is that imbalances and macroeconomic policies are NOT a duty of the european governing body, but sole responsibility for the sovereigns. if you are familiar with the euro funding programmes, you would know by now that the EU supports the development of local governments and building expertise that should prevent such economic malaises. unfortunately, the workforce (and government) of most southern states is not very knowledgeable, they can work with a hammer under the sun for hours, but are not deep economic thinkers. thus they were building, building, overbuilding, overbuilding…

      now they are in a situation where they cannot get out of without admitting they never became rich states in the process. and those promises of generous pensions for lazy and not very bright government employees along with the promises for construction workers cannot equal those of the much more highly educated and skilled workforce further north who were prudent all those years and were not blowing real estate bubbles. the southerners have debts to repay and guess what, they are denominated in the currency of the northerners. not much has changed, before the PIGS were borrowing as well in DM and USD, but at much higher interest rates.

      1. Richard Kline

        So bb, your remarks smack of bigotry, the nuggets of truth within them notwithstanding. The UK and the Irish in ‘the north’ had bigger bubbles than those in the ‘the south,’ with Greece having no bubble at all to speak of, only a balloon. Those prudent, industrious, well-educated Swedes and Norwegians had big bubbles which burnt them badly in the recent past; they got religion, but first they god crazy. Your characterizations as a whole are, in a word, bogus.

        Regarding your characterization of the role of the ECB and other common European institutions relative to local governments, fundamentally you are mistaken. And I say that knowing that ‘formally’ this was what was said. But the reality is that THERE ARE NO SOVEREIGNS IN THE EUROZONE. The pretense of sovereignty is the root of the problem, yes exactly. And the responsiblity of central powers is to stabilize local problems. Those in ‘the north,’ which ever more-profitable-than-thou locale you may choose to tie your comments or your person to, may wish to profit from a common currency and shared market for goods while shirking their responsibilities to spread growth and guarantee stability; that would be called oligarchy if we gave it comparable referrant. If you want to have truck with views that trend that way, you can go their alone, I’m not of such a persuasion.

        Sovereign governments are a thing of the past in Europe. Parochialism being what it is, some citizens are very, very attached to the illusion of a fading time, when they were free to kill their neighbors, annex their domains, and live on the rent. Most in Europe don’t want to go back to that, having suffered enough for their ruling classes over the last millennia. The alternative is common solutions, shared obligations, and mutual solutions. Europe is going that way, but the road is rocky. Well, it is what it is. My advice to the poor being squeezed in Greece and Spain is, “Trade the privileges of your elite to the ECB for the best deal you can get.” That would be something worth demonstrating for, to me.

        1. Skippy

          @RK, DS, Attempter,

          What an enjoyable experience.

          RK, the calorie thought is profound and often over looked.

          DS, well what can I say, if I or anybody I knew need help with their being, your the man I would point them too.

          Attempter, aways checking around all the corners and a nimble mind.

          Jake and DD, need some ice for that…eh.

          Thank you all, from the bottom of my ancestors heart!

          Skippy…Dan you used to at least support your arguments, where as of now, it’s just blatant refusal to observe supported theory’s and resort to classical truisms. Personally I would like to see you fight the good fight for your side and not turn into a McCain.

          PS. DD we did provoke Japan look into it k.

    5. Eric

      Richard, I can agree that the bets placed against the Euro are intentional. I can agree that they are speculative. But unethical? What ethics are you talking about? The Euro has strengths and weakness as all currencies do. It has a current value against other currencies and commodities. The choice to look into the future and be willing to put at risk a certain amount of resources that the future value of the Euro within a given time will be at or below a certain level does not have any obvious ethical content at all, let alone a manner of determining what violates those hypothetical ethics. The ECB and the member states of the EU have actions they could take to increase the chances that these bets are out of the money. I think that is the heart of the bet: that they either won’t take these actions or the actions will not be perceived as sufficient to maintain a certain high level of the Euro. This isn’t any kind of ethical breach that I’m familiar with.

    6. john bougearel

      You had me at the remark about expressing one’s views “loudly with mustard on it.”

      Glad to see you posting a bit more frequently. We all learn from you.

    7. MichaelC

      But I think it’s not well understood here in the states by those who matter. Thank you for an excellent read.

  9. gnv377

    Yves, re
    “A favorite crude measure, the Economist’s Big Mac index, suggests that fair value would be 1.1 versus the dollar, well below its current level of 1.35.”
    I spent couple of weeks in a Madrid suburb. Judging by McD salad index: includes spanish virgin oil, Jerez sherry vinegar, top quality veggies way superior to what you get in any posh DC suburb – The euro is undervalued by 50%.

    1. MarcoPolo

      You spent a couple of weeks in a Madrid suburb eating McDonnalds? Boy are you dumb! (Irony, Yves. Not ad hominem attack.)

    2. Yves Smith Post author

      I only have a small restaurant sample from a day in Barcelona in 2006, when euro was around 1.47, and the prices all in were not that different than in NYC. But the Big Mac index was for the “euro” so not clear what sites they used, and even more basic, whether McDonalds has one price across the eurozone (one would assume so, but perhaps not) or some variation depending on local labor costs.

      1. gnv377

        In my opinion the decent “word of mouth” restaurants in Majadahonda – Madrid suburb – are maybe 20% cheaper than in comparable restaurants around DC – primarily because the wine is way cheaper and better in and around Madrid. So this is somewhat consistent with your Barcelona observation.
        However, I got stuck in the area because of a medical emergency – a relative had a hospital stay there with an emergency burst appendicitis. So in a rush I had a choice between hospital cafeteria, McD, local supermarkets and always fruit, veggies, bread was high quality and roughly 25-50% cheaper than DC area.
        Now I wish someone would compile an HMO-index. An 8 day stay in the hospital cost us 2k euro. Professionally I visited quite a few big hospitals in North America and Europe so I could see that this particular hospital offered high quality medical care with the latest equipment etc. etc.
        So an equivalent stay, say in Fairfax hospital, near DC would cost conservatively – just the 20% co-pay – way over 15k. Based on this imaginary HMO-index the euro is undervalued by 1000%. Just couple of data points that cannot be really generalized, but simply I do not buy the “euro is overvalued” meme.

  10. Rickster

    Could we get the N.Y. Times to replace Casey Mulligan with Richard Kline on their Economix Blog? This is one of the analysis of the last 80 years that I have read. Anyone who has traveled through the interior of the U.S., the midwest as well as the south, will find a decaying infrastructure, abandon buildings (the phenomena of “dead malls,”) and that only low level service jobs being available. The exception to this are medical jobs, where of course Medicare and Medicaid is used to pay for treatment, services, and nursing homes. The American elite, being rather encapsulated in a New York – Boston – Washington – Los Angeles – San Francisco – Seattle bubble does not see this strain.

    A strengthing of the dollar right now, occuring at the same time as private credit is retrenching, the savings rate is increasing and the Government withdrawing its Fiscal stimulus definitely increases the odds of a second recession come the Autumn for the U.S. and China.

  11. Todd Enders

    All the hedge fund boys colluding around a consensus idea is exactly what get so much of our American nest eggs whacked in the crash of 2008. I think clubbish hedgie groupthink is something best approached with an entire lick of salt, instead of just ‘a grain’ of salt.

    1. DownSouth

      While your comment exudes a rather ugly strain of anti-intellectualism, it nevertheless does raise a rather important point.

      What you brand as “classic Illuminati” is more specifically the thought of Nietzsche and Heidegger.

      As Michael Allen Gillespie explains:

      In his inaugural lecture at the University of Freiburg in 1929, Martin Heidegger argued that human thought and action are propelled and guided by the experience of fundamental questions, that is, by the experience of profound aporia that call into question the meaning and nature of everything including the being of the questioner himself. These questions arise in moments in which the meaningfulness and legitimacy of all existing ways of thinking and being dissolve and the world seems to be transformed into chaos or nothingness. The experience of this abyss generates a profound anxiety that impels human beings to search for answers, to formulate new ways of thinking and being, and thus to radically reshape the world in which they live. Real historical change in Heidegger’s view occurs in these moments as the result of a confrontation with such epochal questions.


      In developing his argument, Heidegger drew heavily on Nietzsche, who also saw the advent of nihilism as a moment of epochal openness. Nietzsche believed that while the death of God and the consequent collapse of European values would throw humanity into an abyss of war and destruction, this even would also open up the world in a way unknown since the tragic age of the Greeks.

      The point totally lost on you is that it is the very “illuminati,” who you contemptuously dismiss with a blanket condemnation, who are the very ones who authored the criticism of Nietzsche and Heidegger which you parrot. As Gillespie goes on to explain:

      While Nietzsche and Heidegger were correct in seeing the decisive nature of such questions, they exaggerated the openness that they produced. In fact, the experience of these questions may propel humanity in new directions and toward new answers, but human beings always formulate these answers within prevailing conceptual structures that thus continue in many ways to shape our ways of thinking about things.
      –Michael Allen Gillespie, The Theological Origins of Modernity

      1. JTFaraday

        “While your comment exudes a rather ugly strain of anti-intellectualism, it nevertheless does raise a rather important point.”

        Sounds like classic illuminati to me.

          1. DownSouth

            Did I make any pretense to original thought?

            I ususally am quite careful to document where my thoughts come from. And if you read the reference I cited, Gillespie is careful to do the same. Or does that smack too much of the illuminatti for your tastes?

        1. DownSouth

          Ignorance is one thing. Willful ignorance is quite another.

          What never ceases to amaze is the broad appeal willful ignorance enjoys. And even though Europeans have behaved themselves pretty badly of late, I think the US takes the prize when it comes to willful ignorance.

          An interesting inquiry would be why willfull ignorance is so appealing to so many.

  12. IF

    “And the rise in the retirement age hits the poorest with particular force.” This is nonsense once you have unemployment hitting 20 percent or more. You can call them “long term unemployed” or “early retired”. Doesn’t make a difference. All that matters is the level of assistance provided by the government. Where I come from in East Germany people actually want to work till 67, assuming they don’t have a nasty job. And the government periodically tries to lull them out of the nice jobs into early retirement via some special offers, as young people could take the job at lower pay. Job security & deflation at work…

    I feel sorry for the Greek, but they better face reality and start competing with the Chinese soon.

  13. john bougearel

    Yes, it is easy for bigger players to manipulate mkts at small gatherings, but it is just as possible for conversations like these to be just expressions of viewpoints and not collusion. Here we have another example of media overstatement leading the reader to make a leap that something nefarious is afoot. Heck, those hedge fund players having dinner together might despise one another.

    Moreover, the view that the Euro might go to parity or even beyond against the dollar is not exactly rocket science and it is taking months after the Euro peaked above 150. But where in the article does it say that strategies were discussed to organize a campaign to drive the euro to parity? It doesn’t.

    Further, discussions at small gatherings of big players means you are competing indirectly with each other. Conversations such as this earlier in February will be nuanced. While the Euro has drifted slightly lower in subsequent weeks, it is as the month closes out trading above its Feb 5 low, indicating little change for the Euro. Being short the Euro since Feb 5 has not paid hedge funds well at all, and it is their monthly returns that is a big focus of their P&L. So short the Euro in February hasn’t been a home run at all. Mkts don’t travel linearly from point a to b no matter how organized support for directional trades may be.

    Organized support can not overwhelm mkt forces. Just ask any central banker that has been involved in currency interventions over the past 35 years or so.

    And yes, everyone in the EU wants a cheaper Euro, but again, it can’t accomplish that without the help of mkt forces be they structural or cyclical in nature. Sure the Euro region would love it if they could be sub-optimal in nature while they work through their sovereign debt crises, and that is what appears to be playing out on balance thus far in 2010.

    But they will need the US economy to stay strong. Fiscal stimulus from Obama’s ARRA is running out of steam, the consumer and private sector continues to founder, state and local govt’s spending continues and will continue to contract into 2012 and beyond perhaps.

    It is not exactly like the dollar won’t join the Euro in a currency race to zero as Obama’s stimulus runs out and the US economy hits a brick wall in 2011. So good luck keeping the Euro sub-optimal until it achieves its desired goals. The Euro region will soon face stiff competition in the sub-optimal currency race.

  14. Zvi

    Hedge funds, no matter how large they are or how much they collude, cannot manipulate the euro. They might move it in the short term, but never in the long term. Nobody has that kind of firepower.

    Greece’s problem is that it borrowed the money for consumption. The Greeks did not engage in the structural reforms necessary to compete within the euro-zone. Had they done so, they wouldn’t be about to default. Make no mistake about it, whatever it ends up being called, it will be a default. Having said that, they did live high off the hog for a decade plus.

    Had they not been allowed in the ezone to take advantage of the EUR’s low interest rates, their debts could not have built up to this level without a crisis occurring earlier in the game. The Latinos defaulted at much lower levels of debt to GDP.

    I have no sympathy for the Greeks; they knew what they were doing. Now they might have to reform as the Mexicans and Brazilians have successfully done.

    I just wonder why the various holders of Greek debt thought a pick up of 20 basis points was worth this kind of tail risk.

  15. kssong

    how can the state(euro) fight back?
    i.don’t fight with family with them later.the enemies are the banksters.
    ii.get ready to buy stock/asset back cheaply.(like Hong Kong in ’97&’08)
    iii.copy USA and print money.
    iv.peg euro to basket of currencies if necessary.
    v.create chaos for the crooks/bankester.(e.g. how Porsche caught them in VW.)
    vi.ban short short selling.(governments did it in ’07/’08) control.
    Somebody got to send them packing and do real work.
    The state can win.

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