Wall Street Journal Europe
September 5, 2011
by Irwin Stelzer
It should come as no surprise that the Finns are demanding collateral for the loans they are being asked to make to Greece. Almost five years ago Adam Cohen, then a reporter for this newspaper, reported that the Finns were more than a little annoyed that their painful and successful efforts to conform to euro-zone debt-limitation rules were being flaunted by other euro-zone countries to which the rules "are applied differently." They were even angrier that the eurocracy found time to regulate the Finns' treatment of flying monkeys, a rare species peculiar to Finland, rather than "handle large problems" that might emerge. All in all, by 2006 the eurocracy already ranked lower in the esteem of Finns than of any euroland country.
Now, other euro-zone countries are catching up with the Finns' euroskepticism as they realize how the zone's institutions fail them. The European Central Bank got things exactly wrong when it raised interest rates—twice—just as the euro-zone economies stopped growing. The ECB has temporarily prevented the Greek contagion from making Italy and Spain completely unacceptable to international investors by buying over €40 billion ($56.8 billion) of Italian and Spanish bonds, but it doesn't have the resources to continue that program indefinitely, which unfortunately makes it easier for those countries to postpone the reforms needed to restore growth. Jens Weidmann, president of the Bundesbank, is demanding that the ECB "scale back crisis measures," the precise opposite of what it is doing.
Nor can euro-zone members count on their bureaucrats to do more than create entertainment for serious observers and investors. The Greek rescue plan is unacceptable to many members, with Finland leading the demands for collateral, and German parliamentarians insisting that power follow money—that they have a say on the architecture and magnitude of any future bailout plans. That would prompt other parliaments to demand similar democratic controls on their leaders' ability to give away their money. Such creeping democracy is anathema to the eurocracy.
The donors are not the only ones unhappy with the latest bailout. The beneficiaries of this largesse are starting to realize that they are being prevented from doing the right thing—default—merely in order to spare Europe's bankers a great deal of pain, and to cater to the eurocracy's desire to obtain greater control of individual nations' economies.
Greece's economy is spinning downward out of control, as austerity imposes tight fiscal policy on a nation deep in recession. To little effect: If you are not risk averse, you can snap up Greek two-year bonds and earn a return in excess of 45%—that's 45%, not 4.5%. Two of the four largest Greek banks don't have sufficient collateral to access the ECB, and have had to draw on the Emergency Liquidity Assistance facility of the Greek central bank. That means they are paying 3.5% for help, rather than the 1.5% the ECB charges collateralized borrowers. And it is now clear that Greece will miss the deficit targets set out for it by the funders of its bailout.
Portugal must cut its deficit from 9.1% to 3% by 2013. It is raising sales and income taxes, and taxes on the wealthy, not exactly measures likely to reverse the contraction of the economy, which finance minister Vitor Gaspar reckons will shrink at a rate of 2.3% this year and 1.7% next year, when he is forecasting (hoping?) unemployment will peak at 13.2%.
Meanwhile, Italy lurches from one austerity plan to another, the latest count being four such programs mooted this summer. Within a few weeks Prime Minister Silvio Berlusconi announced and abandoned a plan to levy special 5% and 10% taxes on Italians earning more than €90,000 and €150,000, respectively. He then announced a plan to delay pension payments by barring the inclusion of time spent in college and the military in the 40-year service requirement. The unions said over their striking bodies, and the plan is said to have been abandoned, although the general strike the unions called for Tuesday still in workers' diaries.
Spain, another "beneficiary" of the generosity of its euro-zone partners, is doing its best to adhere to the terms of its bailout deal by, among other things, amending its constitution to limit borrowing. Result: Unemployment rose by 51,000 last month to 4.13 million, well over 20% of the work force.
In short, the euro-zone's policy makers seem incapable of accepting two hard facts. The first is that the overly indebted countries will have to default as Argentina did—that economy is growing at a rate of about 9% post-default—and as IMF economists are expecting Greece to do early in 2012. Successive austerity programs are producing recessions and, perversely, higher deficit to GDP ratios.
The second is that absent fundamental reforms such as Mr. Berlusconi is proving too timid to propose, and massive privatization such as Greece is resisting, Club Med economies will shrink. European unemployment will remain in double digits, its banks will remain undercapitalized, many countries will be unable to access loans at sustainable rates, and German voters will tell Chancellor Angela Merkel that, like the Finns, they don't want any more of their hard-earned money shipped south.
I asked one shrewd observer, "How long can the attempt to prevent defaults and postpone reform go on, with all its terrible consequences?" The answer, "How many years were there in the 1930s?" So if we take as our starting point Adam Cohen's 2006 report on Finland, we are about halfway through the period in which bad policies will be allowed to drive out good.
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.
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