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Archive for the ‘Capitalist Fools’ Category

Pelo menos num aspecto tiro o chapéu aos talibãs neoliberais: conseguiram construir uma narrativa imune a qualquer evidência histórica.

A austeridade afinal não é expansionista? Não interessa, é para aplicar. A dívida é insustentável? Não interessa, é para pagar. Os gregos são dos povos da europa que mais horas trabalham? Não interessa, são malandros. O endividamento privado é muitíssimo maior do que endividamento público? Não interessa, o endividamento público é que mau. Toda a periferia está em crise? Não interessa, o problema de Portugal resulta do despesismo do Socas. A crise da periferia acentuou-se com a explosão da bolha de crédito de 2007/8 em resultado da especulação financeira do sub-prime com origem nos EUA? Não interessa, em Portugal o Socas tem a culpa, caso contrário por que estaria preso? O Euro não funciona? Não interessa, as suas regras são para cumprir. Os superavites de uns são por definição os deficits de outros? Não interessa, a culpa é dos devedores. Não há devedor irresponsável sem credor imprudente? Não interessa, a culpa é do devedor. A competitividade custo é um conceito relativo? Não interessa, é de todo aceitável que a Alemanha tenha mantido salários praticamente congelados durante 14 anos. E por aí fora. Sempre com a mesma convicção. Sempre com a teoria certa e resguardada da evidência empírica. Digam-me lá se não é de lhes tirar o chapéu.

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“Nada ilustra melhor as encruzilhadas políticas, os interesses particulares e a miopia da Economia neste momento dominante na Europa do que o debate acerca da restruturação da dívida soberana Grega. A Alemanha insiste numa reestruturação profunda – pelo menos 50% de perdas para credores obrigacionistas – enquanto o Banco Central Europeu insiste que qualquer restruturação da dívida deve ser voluntária. […] 

O comportamento do BCE não deve surpreender: como temos visto noutros lados, as instituições que não são democraticamente escrutináveis tendem a ser capturadas por interesses particulares. Isto foi verdade antes de 2008; infelizmente para a Europa – e para a economia global – o problema não foi adequadamente tratado desde então.”

Tradução de excerto do texto Capturing the ECB de Joseph E. Stiglitz.

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Ferguson illustration

The biggest question in any debt crisis is whether a credible path back to solvency can be found. For Greece, this now seems very unlikely. The same is true, to a lesser extent, for Ireland and Portugal. This raises three further questions. First, how big is any required restructuring? Second, who should bear the cost? Finally, is restructuring enough? If the answer to the last question is No, then one has to ask whether the currency union will last in its current form.

On the first of these questions, an analysis by Citigroup provides a negative answer. According to this analysis, by 2014 the ratio of gross debt to gross domestic product will have risen to 180 per cent in Greece, 145 per cent in Ireland and 135 per cent in Portugal. In none of these cases will the debt ratio start moving downwards over this horizon. Spain looks far better, with a debt ratio at about 90 per cent of GDP in 2014, though its path, too, will not have turned down. (See chart.)

The assumptions behind these forecasts are: a cumulative fiscal tightening between 2011 and 2014, inclusive, of 10.8 per cent of GDP in Greece, 8.3 per cent in Portugal, 7.3 per cent in Ireland and 5.7 per cent in Spain; interest cost of new funding rising from close to 5 per cent to 5.6 per cent in 2014 for Greece, Portugal and Ireland (determined by a weighted average of rates from the International Monetary Fund and the European Financial Stability Fund) and higher rates for Spain, since the latter will rely on the market; and, finally, privatisations and bail-outs. The analysis also assumes that a percentage point of fiscal tightening would lower growth by half as much.

Assume that these countries could borrow affordably in private markets at a gross debt ratio of 80 per cent of GDP. Assume, too, that European governments ensure that the IMF takes no losses. Then, the reduction in value of the rest of the debt would need to be as much as 65 per cent of GDP for Greece, 50 per cent for Ireland and 45 per cent for Portugal. The total “haircut” would be €423bn: €224bn for Greece, €107bn for Ireland and €92bn for Portugal.

One can quibble over the figures: these may be too pessimistic. But, without a big restructuring, these countries are now most unlikely to be able to finance themselves in the market on bearable terms. That is also what markets are saying: spreads on 10-year bonds over yields on German Bunds are 1,340 basis points, or 13.4 percentage points for Greece, 875 basis points for Ireland and 818 basis points for Portugal. This is why they are all now in official programmes. Worryingly, spreads for Spain are also now uncomfortably high, at 240 basis points, while those for Italy have reached 190 points. The eurozone, in short, is confronting a frightening sovereign debt challenge, aggravated by the dependence of its banks on support from its states and of its states on finance from its banks.

Now turn to the second question: who should bear the losses? If all the haircuts were to fall on private creditors, their losses in 2014 would be 97 per cent of their holdings of Greek debt, 63 per cent of their Irish debt and 60 per cent of their Portuguese debt. Official creditors would, by then, have to bear a substantial part of the total losses. Since governments would also need to bail out some of the holders of the restructured debt, particularly the banks, the eurozone would be revealed as a “transfer union”. Note, moreover, that this would occur despite a big fiscal effort in the affected countries. But even that would be insufficient to reverse the unfavourable debt dynamics in the medium term, partly because GDP growth is likely to remain so weak.

Against this background, proposals for rollovers by the banks, whether or not deemed technically a default, are neither here nor there. Much more to the point would be debt buy-backs at levels close to current market prices, as discussed in last week’s statement on Greece of the Institute for International Finance, which brings together the biggest international banks. That would crystallise losses. So be it. Let reality be recognised. As the Financial Times has also argued this week, the case for offering a menu of options with partial guarantees, similar to those under the 1989 Brady plan for Latin American debt, is powerful.

The question is whether such voluntary debt reductions would be enough, particularly for Greece. The answer is No. Governments would also have to play a part, by either accepting losses on the face value of their loans or ensuring lower interest rates, as proposed by Jeff Sachs of Columbia University. These are just two ways of achieving a lower net present value of debt service.

The dangers of debt relief are great. But the chances of success with denial are close to zero. True, it is possible for an ever greater share of the debt to be assumed by governments, so bailing out private creditors. Yet, ultimately, the cost of the debt owed to official sources will have to be cut by lowering interest rates or reducing sums outstanding.

It is not a question of whether such adjustments will have to be made, but of when. The history of such crises strongly suggests that it should be done sooner rather than later. Only after debt is on a sustainable path is confidence likely to return. Allowing foolish lenders, incompetent regulators and sloppy policymakers to hide past mistakes is a bad excuse for endless delays.

The doubt, in truth, is not over whether relief on the present value of the debt service is required. The real questions are elsewhere. One is over how to manage a co-operative debt restructuring. The other is over competitiveness and the return to growth. Some point to the success of Latvia in managing its so-called internal devaluation. But its GDP is 23 per cent below its pre-crisis peak. That is a depression. Moreover, the more successful a country turns out to be in cutting its costs, the worse the debt burden becomes. Thus, debt restructuring is merely a necessary condition for an exit. It is unlikely, in all cases, to be enough. Some economies may just wither away.

Alternatively, politicians may pull their countries out of the eurozone regardless of short-run costs. It is far too early to assume this will be the outcome, though some already do. But if there is to be any chance of avoiding this outcome, realism is required. At some point, the present value of the cost of debt must be drastically lowered. This does not have to happen today. But it has to happen soon enough to give people hope. In its absence, failure is not just likely. It is close to a certainty.

Moment of truth for the eurozone, Financial TimesBy Martin Wolf.

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Why does the Spanish government pay significantly more to borrow than the UK government – despite having a smaller deficit and lower overall debt? This column argues that the reason lies in the Eurozone’s fragility. Its members lose their ability to issue debt in a currency over which they have full control. The column discusses ways to deal with this weakness.

A monetary union is more than just a single currency and a single central bank. Countries that join a monetary union lose more than one instrument of economic policy. They lose their capacity to issue debt in a currency over which they have full control.

This separation of decisions – debt issuance on the one hand and monetary control on the other – creates a critical vulnerability; a loss of market confidence can unleash a self-fulfilling spiral that drives the country into default (see Kopf 2011). The economic logic of this is straightforward.

Suppose that investors begin to fear a default by, say, Spain. They sell Spanish government bonds and this raises the interest rate. If this goes far enough, the Spanish government will experience a liquidity crisis, i.e. it cannot obtain funds to roll over its debt at reasonable interest rates.1 The Spanish government cannot force the Bank of Spain to buy government debt and although the ECB could provide all the liquidity in the world, the Spanish government does not control that institution. This can be self-fulfilling since if investors think that the Spanish government might reach this end point, they’ll sell Spanish bonds in a way that turns their fears into a reality.

It doesn’t work like this for countries capable of issuing debt in their own currency. To see this, re-run the Spanish example for the UK. If investors began to fear that the UK government might default on its debt, they would sell their UK government bonds and this would drive up the interest rate.

After selling these bonds, these investors would have pounds that most probably they would want to get rid of by selling them in the foreign-exchange market. The price of the pound would drop until somebody else would be willing to buy these pounds. The effect of this mechanism is that the pounds would remain bottled up in the UK money market to be invested in UK assets.

Put differently, the UK money stock would remain unchanged. Part of that stock of money would probably be re-invested in UK government securities. But even if that were not the case so that the UK government cannot find the funds to roll over its debt at reasonable interest rates, it would certainly force the Bank of England to buy up the government securities. Thus the UK government is ensured that the liquidity is around to fund its debt. This means that investors cannot precipitate a liquidity crisis in the UK that could force the UK government into default. There is a superior force of last resort, the Bank of England.

This different mechanism explains why the Spanish government now pays 200 basis points more on its ten-year bonds than the UK government despite the fact that its debt and deficit are significantly lower than the UK ones. This contrast is shown vividly in Figures 1 and 2.

Figure 1. Gross government debt (% of GDP) – Spain and UK

Source: AMECO

Figure 2. 10-year government bond rates Spain and UK

Source: Datastream

Because of the liquidity flows triggered by changing market sentiments, member countries of a monetary union become vulnerable to these market sentiments. These can lead to “sudden stops” in the funding of the government debt (Calvo 1988), setting in motion a devilish interaction between liquidity and solvency crises. For the liquidity crisis raises the interest rate which in turn leads to a solvency crisis. This problem is not unique for members of a monetary union. It has been found to be very important in emerging economies that cannot issue debt in their own currencies. (See Eichengreen, et al. 2005 who have analysed these problems in great detail).

There are important further implications of the increased vulnerability of member-countries of a monetary union. (In De Grauwe 2011 these implications are developed in greater detail; see also Wolf 2011). One of these is that members of a monetary union loose much of their capacity to apply counter-cyclical budgetary policies. When during a recession the budget deficits increase, this risks creating a loss of confidence of investors in the capacity of the sovereign to service the debt. This has the effect of raising the interest rate, making the recession worse, and leading to even higher budget deficits. As a result, countries in a monetary union can be forced into a bad equilibrium, characterised by deflation, high interest rates, high budget deficits and a banking crisis (see De Grauwe 2011 for a more formal analysis).

These systemic features of a monetary union have not sufficiently been taken into account in the new design of the economic governance of the Eurozone. Too much of this new design has been influenced by the notion (based on moral hazard thinking) that when a country experiences budget deficits and increasing debts, it should be punished by high interest rates and tough austerity programmes. This approach is usually not helpful in restoring budgetary balance.

In addition, a number of features of the design of financial assistance in the Eurozone as embodied in the European Stability Mechanism will have the effect of making countries even more sensitive to shifting market sentiments. In particular, the “collective action clauses” which will be imposed on the future issue of government debt in the Eurozone, will increase the nervousness of financial markets. With each recession government bondholders, fearing haircuts, will “run for cover”, i.e. selling government bonds, thereby making a default crisis more likely. All this is likely to increase the risk that countries in the Eurozone lose their capacity to let the automatic stabilisers in the budget play their necessary role of stabilising the economy.

A monetary union creates collective problems. When one government faces a debt crisis this is likely to lead to major financial repercussions in other member countries (see Arezki, et al. 2011 for evidence). This is so because a monetary union leads to intense financial integration. The externalities inherent in a monetary union lead to the need for collective action, in the form of a European Monetary Fund (Gros and Mayer 2010). This idea has been implemented when the European Financial Stability Facility was instituted (which will obtain a permanent character in 2013 when it is transformed into the European Stability Mechanism). Surely, when providing mutual financial assistance, it is important to create the right incentives for governments so as to avoid moral hazard. Discipline by the threat of punishment is part of such an incentive scheme. However, too much importance has been given to punishment and not enough to assistance in the new design of financial assistance in the Eurozone.

This excessive emphasis on punishment is also responsible for a refusal to introduce new institutions that will protect member countries from the vagaries of financial markets that can trap countries into a debt crisis and a bad equilibrium. One such an institution is the collective issue of government bonds (for recent proposals see Delpla and von Weizsäcker 2010, De Grauwe and Moesen 2009 and Juncker and Tremonti 2010). Such a common bond issue makes it possible to solve the coordination failure that arises when markets in a self-fulfilling way guide countries to a bad equilibrium. It is equivalent to setting up a collective defence system against the vagaries of euphoria and fears that regularly grip financial markets, and have the effect of leading to centrifugal forces in a monetary union.

A monetary union can only function if there is a collective mechanism of mutual support and control. Such a collective mechanism exists in a political union. In the absence of a political union, the member countries of the Eurozone are condemned to fill in the necessary pieces of such a collective mechanism. The debt crisis has made it possible to fill in a few of these pieces. What has been achieved, however, is still far from sufficient to guarantee the survival of the Eurozone.

Paul De Grauwe
10 May 2011

References

Arezki, R, B Candelon, and A Sy (2011), “Sovereign Rating News and Financial Markets Spillovers: Evidence from the European Debt Crisis”, IMF Working Paper, 11/69, March.
Calvo, Guillermo (1988), “Servicing the Public Debt: The Role of Expectations”, American Economic Review, 78(4):647-661
De Grauwe, P, and W Moesen (2009), “Gains for All: A Proposal for a Common Eurobond”, Intereconomics, May/June
De Grauwe, P, “The Governance of a Fragile Eurozone”,
Delpla, J, and J von Weizsäcker (2010), “The Blue Bond Proposal”, Bruegel Policy Brief, May.
Eichengreen, B, R Hausmann, U Panizza (2005), “The Pain of Original Sin”, in B Eichengreen, and R Hausmann, Other people’s money: Debt denomination and financial instability in emerging market economies, Chicago University Press.
Gros, D, and T Mayer (2010), “Towards a European Monetary Fund”, CEPS Policy Brief.
Juncker, J-C and G Tremonti (2010), “E-bonds would end the crisis”, The Financial Times, 5 December.
Kopf, Christian (2011), “Restoring financial stability in the euro area”, 15 March, CEPS Policy Briefs.
Wolf, M (2011), “Managing the Eurozone’s Fragility”, The Financial Times, 4 May.


 1. Additionally, the investors who have acquired euros are likely to decide to invest these euros elsewhere, say in German government bonds. As a result, the euros leave the Spanish banking system. Thus the total amount of liquidity (money supply) in Spain shrinks.

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