Felix Salmon

This is where the blogosphere comes into its own: Gerry Langeler, a venture capitalist, takes to Dealbook to try to defend the crazy way in which most of his income is taxed at the 15% capital gains rate. And then James Kwak reads his piece, comes down with an acute case of Siwoti, and delivers a textbook fisking of what passes for Langeler’s argument.

This might be the first point at which I’ve actually seen an MBA put to good use:

Langeler can’t tell the difference between a founder and an investor. To start off, what does it mean to say that founders are “leveraging our money”? The concept of leverage only applies to debt. VCs invest by buying convertible preferred shares, which are a form of equity, not debt.*** They are buying a share of the company, and they get all the upside on that share. That’s not leverage. Seen purely from the standpoint of the capital structure, VC investments dilute the founders. Granted, the company is getting something valuable — cash — in exchange for that dilution. But it’s giving up some of the upside. That’s the opposite of leverage.

There’s much, much more where that came from: go read the whole thing. It’s overwhelmingly probable that you agree with Kwak already: I have yet to find a non-VC who thinks that VC incomes should be taxed at 15%. But you’ll still learn a lot, both about the economics of financing startups, and about the art of putting together a great blog post.

While we’re still celebrating the passage of the finance bill through the Senate, I hear this morning that Litton, the mortgage servicer owned by Goldman Sachs, will no longer auction off that house Ohio and try to kick the occupants out. Litton’s law firm, Lerner, Sampson & Rothfuss, confirmed to me that the sheriff’s sale is being withdrawn, and Jorge Newberry of AHP, who’s trying to buy the house and lease it back to its current owners, says that although Litton has yet to approve the short sale, at least the Monday deadline is no longer looming.

I’ll keep you posted on how this case plays out, but so far, so good. I have no idea whether this development came as a result of pressure on Litton from its owners in New York — but if it did, then good for Goldman. Not only are they doing the right thing, but they also make more money this way, and they help to sidestep some very unpleasant PR. Everybody wins.

Update: I just spoke to the homeowner, who seems happy and optimistic, after having gone through two nightmare years with three different loan servicers, one of whom declared bankruptcy, leaving a large pile of unpaid taxes which had been included in the mortgage payments.

My commenters are right that a strategy of “make sure that your loan servicer is owned by an embattled investment bank, and then get a financial blogger on your side” doesn’t really scale. But the AHP model does scale, and so long as servicers act in their own best interest, there’s some hope that it can work more generally.

It’s almost enough to restore your faith in government. The details have yet to be worked out — and you can be sure that after letting the Senate deliver its own bill on its own terms, Treasury will be deeply involved in the reconciliation process, trying to marginalize any measures it doesn’t like. But the outlines of financial regulatory reform are now clear — the NYT has the best chart, I think — and I have to admit that it’s much, much better than anything I dared hope for even just a few weeks ago.

Amazingly, and wonderfully, the Volcker Rule has made it through the Senate, and will surely not be opposed by the House, which never got an opportunity to vote on it. While Treasury might weaken or abolish Blanche Lincoln’s amendment forcing banks to spin off their swap desks, it now seems very likely that there will be some kind of legislation attempting to reduce the amount of speculation and gambling that goes on at regulated, too-big-to-fail institutions. While that kind of activity didn’t cause the financial crisis, I like the idea of it taking place at hedge funds and other institutions which tend to be less leveraged than banks and more capable of failing without massive systemic side-effects.

Of course, there are always things we’d like to see and which won’t make it into the final bill: the greatly-lamented part of the consumer protection agency which would force banks to offer plain-vanilla financial products is one, and Treasury will ensure that any limits on size or capital or leverage come out of Basel rather than out of Washington. (Me, I’d like to see a couple of basic rules or principles be put into US legislation, which would serve to backstop Basel.)

But as David Herszenhorn says, with this financial regulation bill joining health-care reform in becoming law, the Obama administration has managed to bag a couple of truly enormous elephants in its first 18 months or so in power. Is there any hope, now, that some sort of climate-change legislation might be next?

Long PHYS short GLD is earning >25% annualized — Yahoo

Are you human? Try deciphering CAPTCHA graffiti — Vimeo

When RSS feeds commit libel — VF

A Smoking Gun in BP’s Deep Horizon Mess — Thom Hartmann; See also

Sen. Ben Nelson: ‘I’ve never used an ATM, so I don’t know what the fees are’ — World-Herald

This interview with Johannesburg’s mayor just gets better as it goes on. “Every October or so, we use public transport” — Imgur

“We are DONE FOR THE FORESEEABLE FUTURE INVESTING IN LARGE, COMPLICATED FINANCIAL INSTITUTIONS” — FT

Mark Beauchamp, following up from yesterday, provides some eye-popping numbers:

In the U.S. finance and insurance sector, we estimate that in 2008, 34% of the workers are not covered by unemployment insurance…

Sub-sectors like Central Banks, Commercial Banks, Savings Institutions all had low, single-digit percentages of non-covered workers. However, when we get into sub-sectors like Securities, Commodity contracts and Investments, the majority of workers in the field (66%) are not covered by unemployment insurance.

The further we push into more esoteric forms of finance, the higher the percentage of non-covered workers: Miscellaneous Intermediation (84%); Portfolio Management (80%); Trust, Fiduciary, and Custody activities (81%), and so on. We’ve included the full breakout in .xls here.

So our theory runs like this — in the finance and insurance industry, there was likely a widespread use of the 1099 status, evidenced by the high rate of non-covered employees in the sector nationally. When the financial crisis hit, independent contractors were “laid off” from companies, but because they weren’t employees of the firms, they would not show up as a decline in the Quarterly Census of Employment and Wages.

This is a bit like the way in which construction-sector employment didn’t fall nearly as much as everybody thought it would when the housing bubble burst: because a large proportion of the people working in that sector were undocumented all along, they weren’t counted when they lost their jobs.

The financiers aren’t necessarily illegal, of course, although paying people on a freelance/1099 basis is of dubious legality when they’re working for you full time. But this does help to explain a large chunk of Mike Mandel’s chart, I think.

Allison Schrager takes up the question of the equity premium today:

The return equities generate in excess of the risk-free rate (which is normally short-term Treasuries), is often assumed to be between 5% to 8%. In my experience risk managers go silent when asked where exactly this number comes from.

Schrager herself isn’t much more exact, concluding that “for now it remains a difficult question”. But I think even so she’s a bit too optimistic about the outlook for equities:

A zero long-term equity premium assumes firms in most industries will not be very productive or profitable for decades.

I don’t think this is true at all. For one thing, stock prices tend to have some kind of productivity and/or profitability gains priced in to them: especially in the technology sector, it’s perfectly commonplace for a company to see rising profits which still disappoint the market so much that the stock price falls. Rising profitability or productivity do not by any means mean rising stock prices.

More to the point, improvements in productivity can end up either as returns to labor or as returns to capital; and returns to capital can end up either with bondholders or with stockholders. If productivity improvements end up flowing overwhelmingly to employees and to creditors, then there might well be very little left for shareholders, even if the company is becoming much more efficient over time.

Schrager then continues her argument with this:

Equities are inherently riskier than Treasuries. Equity prices must ultimately reflect and compensate investors for that risk or no one would hold them in their portfolio.

I’m not sure where that “must” comes from: maybe it’s some kind of corollary of the efficient markets hypothesis. Investors certainly hope that returns on equities will be commensurate with the risk that they’re taking. But there’s no rule saying that any given asset class will “ultimately reflect and compensate” those hopes. After all, if there were such a rule, then really there wouldn’t be any risk at all!

When I see people like David Merkel and Eric Falkenstein do the math and come to the conclusion that the equity premium is somewhere between 0% and 2%, I generally come away much more convinced than I am by the vague arguments of those who put it at 5% or higher — arguments which often boil down to “the future will be like the past, if you ignore the really bad bits of the past”. In any case, it’s pretty clear that the number of people with large stock-market investments is much greater than the number of people who really understand the full range of possible outcomes and are comfortable with how much they could lose in the markets if things go badly.

But I’m thinking that maybe the current bout of volatility is helping to bring that home, at least a little.

As the Dow started falling dramatically this morning, my colleague Frank Tantillo and I put together a Google spreadsheet comparing the Dow’s current level to what it looked like at the low point on the flash crash day of May 6.

It’s not all that easy to understand, especially now that the Dow seems to be rising again, but basically what I was trying to do was get a feeling for just how crazy the markets got on May 6. My intuition was that if the Dow today, near its May 6 lows, looked very much like the Dow actually looked on May 6, then the crash would be much more rational than if the Dow components today were trading at wildly different levels from where they were trading at the lows on May 6.

There’s a few weird bits and pieces in the spreadsheet. For one thing, because the Dow components’ low points didn’t all happen at the same time, the Dow didn’t fall quite as much as the spreadsheet makes it look. (The actual low point is in cell B2; the fake calculated one is in cell B34.) And what’s more, because there’s still a significant gap between the Dow’s actual level (in column C) and its low point (in column B), I created a new column (column F) which simply takes the current price and shrinks it so that the overall Dow works out to the May 6 low point.

The interesting stuff starts happening when you look at the difference between rational, real-world depressed stock prices today, and the crazy, flash-crash depressed stock prices of May 6: it turns out that there isn’t much of a difference at all. In fact, with the exception of 3M and Procter & Gamble, it seems that the Dow fell in a pretty rational manner on May 6. Those two companies overshot a lot, but everything else looks like it’s pretty much in the same ballpark today as it was at the height of the craziness.

If the flash crash was caused by liquidity completely drying up and computers doing insane things which make no rational sense, then it seems to me that the relative prices of the Dow’s 30 components wouldn’t have stayed as tightly correlated as they did: I don’t think there was a lot of relative-value Dow component arbitrage going on during those 15 minutes.

And clearly the absolute level that the Dow reached on May 6 wasn’t all that irrational either, since we got pretty close to that level today, just a couple of weeks later.

So while the volatility we saw on May 6 was crazy, and the speed of the drop was unprecedented, it seems to me that the stock market didn’t break, during those 15 minutes, quite as much as conventional wisdom says that it did. There were a few genuinely crazy individual prints, but overall, something seemed to be working.

The Economist’s Charlemagne was unimpressed by my euro fantasia this morning: apparently I was the BBC’s second choice for the spot, and was approached only after they had been turned down by more sober journalists.

There is enough noise out there about Anglo-Saxon newspapers talking down the euro without dragging The Economist into a spoof about the death of the single currency… the whole idea felt unworthy of the BBC. …

The British media is handling this crisis with unusual complacency, tinged with a certain glee.

Charlemagne even manages to call the Times (of London) “criminally irresponsible” for writing about a break-up of the euro.

All of which represents a level of hypocrisy in the Economist that I’d previously suspected, but not noticed due to highly evasive skills.

Exhibit A:

Everybody knows what happens to stocks when you try to ban short sales, right?

LONDON, May 20 (Reuters) – European shares were sharply lower at midday on Thursday, extending the previous session’s steep fall, on persistent concern other euro zone countries will follow Germany in banning short selling in certain instruments.

Except that’s not exactly what happened in September 2008:

LONDON, Sept 19 (Reuters) – European shares soared in afternoon trade on Friday, driven by a temporary ban on short sales of financial stocks in the United States and Britain.

So, if you ban short-selling, then stocks go down. Or else they might go up. Glad that’s cleared up.

I had a little three-minute fantasia this morning on Radio 4 in the UK; if you prefer text to audio, here you go. The idea was to give an idea of one way in which the euro might fall apart, but I had no idea, when I recorded it, that markets would plunge again today.

August 18, 2010:

Markets around the world plunged on Wednesday, after Spain announced that the cost of bailing out its beleaguered mortgage lenders would amount to more than 250 billion euros. The country was immediately downgraded by both Standard & Poor’s and Moody’s, triggering fears of default or devaluation in both Spain and Portugal. Stocks fall by more than 5% in all major markets, including the US.

August 19, 2010:

Chancellor Angela Merkel of Germany, in an unprecedented joint public appearance with Jean-Claude Trichet, the head of the European Central Bank, railed against “speculators and hedge funds” who were damaging European unity and threatening the viability of the common currency. She said that Europe would provide up to 500 billion euros in support of Spain, Portugal, and Greece, to help them bail out their banks during a period when investors have simply stopped lending them any new money.

August 22, 2010:

In the largest set of coordinated demonstrations since the run-up to the war in Iraq, angry voters and opposition parties across Europe came out in their millions, protesting the hundreds of billions of dollars being spent on southern European countries, and the painful austerity measures being demanded of Greece, Spain, and Portugal by the IMF.

Opinion polls show that an overwhelming majority of Eurozone members oppose the current bailout plans, both in northern European countries like Germany, which don’t want to see their money spent abroad, and in southern European countries like Greece and Spain, which refuse to be told how to run their countries by Brussels bureaucrats and the IMF.

The riot photos from Greece are becoming depressingly familiar, but now we’re seeing riots across Germany, too.

August 23, 2010:

As markets continued to plunge around the world today on civil unrest across Europe, governing coalitions across the continent broke apart, with no parties seeing any political upside in supporting the most unpopular policy that has ever been implemented in European history. Even Angela Merkel started backtracking from her earlier statements, saying that no democracy could unilaterally act against its citizens’ wishes.

August 24, 2010:

A solution, of sorts, was found to the European crisis today, when the governments of Greece, Spain, Portugal and Italy announced that they would no longer accept EU or IMF funds as part of the bailout program, and would solve their problems on their own. The joint statement was taken by markets as tantamount to default, since none of the four countries has access to the liquidity needed to roll over their debts.

August 25, 2010::

Greece has announced a debt restructuring that will push back the maturity of its bonds by three years.

It will swap existing debt for new bonds denominated in New Drachmas, which the Greek government is introducing at a 1-to-1 exchange rate but which are already trading in the “grey market” at just 50 euro cents each.

September 13, 2010:

Markets were shocked once again today as France joined, at the last minute, the joint restructuring offer from Italy, Spain, and Portugal. All four countries are offering to swap their old euro-denominated debt for new obligations denominated in a currency they’re calling “neuros”. Other eurozone countries have indicated that they, too, will leave the euro for the neuro, cutting their debt at a stroke. In the grey market, the neuro is already trading at 75 euro cents, while the new drachma is holding steady at 45 euro cents.

Today was the last day of the euro as we knew it for a decade: Europe is returning to a system of multiple floating currencies. And that means that political ties are much weaker, too. With the death of the euro, the future of the European Union itself looks very uncertain.

This is not a prediction, it’s just one way of many in which things could go wrong. There’s always a worst-case scenario. And although I didn’t have time to spell things out here, this really is a worst-case scenario, and would cause legal chaos with respect to the redenomination of assets and liabilities in what might be called the neurozone.

Which means that questions like this one, which I got via email this morning, are simply unanswerable:

What happens to the euros which I have in my travel wallet (or under the mattress or where ever) if the euro splits into various neuros? More importantly, what happens to euros held by a British bank? Answer needed!

Most likely, in this kind of a scenario, the euros would transform themselves into the currency of whatever country they’re on deposit in. You can see where the flight-to-quality trade comes from: cash flows away from euro-periphery banks and into German banks, and away from euros and into dollars, lest it end up forcibly converted into something else. Physical euros should be pretty safe: you could probably convert them into neuros at an advantageous exchange rate, assuming that it’s the weaker countries which leave the eurozone, rather than Germany and a few others deciding that they’re going to create a smaller, stronger, super-euro.

Returning back to reality, the euro itself could still fall further, especially if questions over its long-term survival continue to be raised. And all this uncertainty is bad for assets generally around the world. Expect lots more volatility going forwards.

Otto has the full JPM World Cup analysis. England apparently does very well on penalty shoot-outs. Ha — Inca Kola

Paddling five miles across a lake in a bouncy castle — NatGeo

From the you couldn’t make it up department: Greek central bank faces short selling claims — FT

“Allen Stanford’s pretrial incarceration has reduced him to a wreck of a man” who keeps on firing lawyers — Reuters

Bordeaux Loses Prestige Among Younger Wine Lovers — NYT

When Matt Taibbi published his famous “vampire squid” article about Goldman Sachs, people accused him of throwing everything and the kitchen sink at the company; today’s broadside from the NYT feels similar. It’s basically the same story, repeated many times: Goldman had clients who were invested in X going up, and yet at the same time Goldman had investments which would benefit from X going down.

The fact is that Goldman Sachs is an intermediary which hedges its positions and which, as a broker-dealer, will naturally be taking long and short positions in all manner of different securities at different times. This should not be a scandal at all.

On the other hand, it really would be a scandal if Goldman Sachs was deliberately and unnecessarily kicking people out of their homes, even when doing so would lose it money. And that seems to be what it’s doing in one case in Ohio.

You might recall American Homeowner Preservation, a company I wrote about last month. The idea behind their business is that they negotiate a short-sale with the bank holding a mortgage, find an investor to buy the house in question, and then lease the house back to the original homeowner, who has an option to buy it back, at a fraction of the original mortgage payments.

It’s an idea which makes a lot of sense — but which Goldman Sachs seems to have problems with. AHP’s principal, Jorge Newberry, explains:

Struggling to stay in their home of 18-years, a Windham, Ohio family is desperately trying to solve their crisis before a May 24th sheriff’s sale. Suffering from reduced income and an ever-escalating adjustable payment, the family contacted their servicer Litton Loan Servicing to obtain a loan modification, which was eventually denied. The family then contacted American Homeowner Preservation, who made an offer to purchase the home at the appraised value of $43,000. With AHP, the family would receive an affordable 5-year lease to stay in the home, plus a favorable 5-year option to repurchase…

Last week, Litton indicated that they will approve the Windham, Ohio family’s short sale, but only if the family vacates the home due to an internal policy which restricts short sales in which the purchaser provides leases and/or options to the selling families.

Litton, of course, is owned by Goldman Sachs. And right now it seems that the house will go to auction on Monday with an opening bid of $45,300, and there will almost certainly be no bids at that level. Litton will then buy the house for $45,300, and, following the standard loan-servicer playbook, will start eviction proceedings against the family in question. Once the family is homeless and the home is vacant, Litton will try to sell the home — but there are lots of vacant homes in this particular part of Ohio, and the home is realistically just going to deteriorate steadily in terms of its condition and its value. Litton, if it ends up being able to sell the home at all, will surely get less than $43,000 for it — and will have to pay a large amount of money in legal fees on top.

So why isn’t Litton accepting AHP’s offer? In a bull market, it makes sense to be wary of short sales which aren’t bona fide arm’s-length transactions, but right now it’s undeniably better for all concerned to keep the current occupants in their home. And indeed AHP has dealt successfully with Litton in the past. What’s more, Goldman Sachs spokesman Michael DuVally told me that “Litton has no such policy that requires borrowers to vacate”.

It’s true that under the latest iteration of the Home Affordable Foreclosure Alternative Program, or HAFA, short sales must be arm’s-length transactions. But this isn’t a HAFA sale, and in any case the servicer always has the option of deleting the bit of the arm’s-length language which prevents the seller from renting their home back from the buyer.

I tried calling Ceci Oliveira, of the Litton short-sale department, the person who told Newberry about the Litton policy; she didn’t get back to me, so it’s all a bit unclear whether this Litton policy exists or not, and if it exists, why it exists.

My hope is that if Litton doesn’t see sense and agree to the short sale before Monday, at the very least they’ll hold off on eviction proceedings once they take title to the house. After all, there’s really no reason for them to evict: right now, in this part of Ohio, an empty home is not more valuable than one without people perfectly willing to make regular lease payments. Instead, it just falls in value over time.

I’m going to try to keep an eye on this case — and I have to admit to a tiny bit of hope that now it’s being publicized, Litton/Goldman is going to do the right thing, for themselves and for the owners of the home, and allow this family to stay where they are. But if they don’t, and choose instead to lose money by evicting the family in question, they deserve all the opprobrium that the NYT is trying to drum up today.

Many thanks to Mark Beauchamp of EMSI, who has provided a very granular breakdown (Excel file) of exactly where the job losses are in the finance and insurance industries. The numbers cover 2007, 2008, and 2009: so far the data for 2010 are too inaccurate to be useful. And interestingly the peak of the finance-and-insurance jobs market was 2008, with 8.88 million jobs, which then fell to 8.56 million in 2009: a fall of 3.6%.

If Mike Mandel’s theory is right, we ought to be seeing an uptick in the credit-related jobs. But “credit intermediation and related activities” saw job losses of 8% between 2007 and 2009. The gains were in things like commodity contracts dealing, which saw 7% more jobs; “trusts, estates, and agency accounts”, which saw 11% more jobs; and of course “miscellaneous financial investment activities”.

The insurance industry in general was flat from 2007 to 2009, while investment banking generally (“securities, commodity contracts, investments”) saw its total employment rise by 1% over that time.

In fact, the biggest job losses of all are exactly where Mandel expected to see gains. ” Nondepository credit intermediation” saw total jobs fall by 18%, while “Real estate credit” fell by 31%. “International trade financing” was exactly flat.

Beauchamp also broke out New York jobs — the investment banking world has been harder hit here, down 7% between 2007 and 2009, and even “Monetary authorities – central bank”, which I take to mean the New York Fed, saw its headcount fall by 8%.

In any case, enjoy playing with the spreadsheet yourself. But one part of Mandel’s theory does seem to have held up: Finance in general does seem to have lost many fewer jobs than manufacturing.

Update: Beauchamp adds, via email:

I just remembered a story that ties with this subject from New Jersey during the crash – I was working with their Department of Labor, and they told me that the unemployment offices in the north part of the state were reporting lots of financial products sales guys showing up in their offices, but because the sales guys were 1099′ers (on full commission as opposed to salary- W2′s) they were caught off guard with how many had been working in their area.

This is because the Quarterly Census of Employment and Wages derives its employment estimates off of unemployment insurance data.  Therefore, if you were on the sales side of the financial industry, you aren’t covered by unemp. data, and don’t show up in the employment estimates.

Numbers on this coming tomorrow!

Update 2: Here they are!

Mike Mandel has the chart of the day, asking why the finance industry has lost so many fewer jobs than much of the rest of the private-sector economy:

I don’t agree with Mandel’s theory, which is this:

As long as the U.S. is running a big trade deficit, financial sector jobs are going to do very well. The rest of the world has to lend large amounts of money to the U.S. to keep the global economy going, and all of that money has to be funnelled through Wall Street, which creates well paid jobs.

The US twin deficit is more weighted than ever towards the public sector these days, rather than the private sector, and the number of jobs on Wall Street involved in dealing in Treasury bonds is pretty constant, and pretty small. More generally, while Wall Street does do quite a lot of debt finance, I don’t think that activity explains big headcount trends nearly as well as Mandel thinks it does.

So what’s my theory? If you look at the chart, it turns out that the job losses in finance are put into two buckets. There’s “commercial banking”, on the one hand, which has had very small job losses: people have just as many checking accounts and bank loans as they always did. And then there’s “finance and insurance”, which is what we generally think of as Wall Street, but which also includes the enormous number of employees in the insurance industry. And just like commercial banking, the insurance industry is pretty steady, and is going to have seen very few job losses indeed. What’s more, it’s probably bigger, in terms of total headcount, than the investment-banking industry.

So assume that insurance has seen even fewer job losses than commercial banking, and that it accounts for most of the jobs in “finance and insurance” — in that case, the job losses on Wall Street alone could be very large indeed to get to that final 7.3% figure.

Before reading too much into these numbers, then, I’d like to see a bit more disaggregation. It might be true that Wall Street hasn’t seen condign punishment in terms of job losses. But on the other hand, it might not.

Note the circular reasoning in Martin Wolf’s latest column:

Greece is likely to restructure its debt at some point, as John Dizard has argued in the FT. That would not be the worst outcome. Once a country is in the “junk bond” category, no reputation is left.

Or, to put it another way, Greece got downgraded because it is likely to default, and it is likely to default because it got downgraded. This is yet another reason to start ignoring credit ratings.

The main point of Wolf’s column is a very good one:

European orthodoxy is that the crisis is, at root, fiscal. Marco Annunziata of UniCredit summarises it in a recent note: “In hindsight, it seems obvious that the flaw in the eurozone’s institutional setup is both extremely serious and extremely simple: first, a currency union cannot work without sufficient fiscal convergence or integration; second, the eurozone has been unable to create incentives for fiscal discipline.” Mr Annunziata’s chart shows that this view is wrong. Just consider the frequency of breaches of the rules requiring fiscal deficits of less than 3 per cent of gross domestic product. Greece is a bad boy. But Italy, France and Germany had far more breaches than Ireland and Spain. Yet it is the latter that are now in huge fiscal difficulties.

The fiscal rules failed to pick up the risks. This is no surprise. Asset price bubbles and associated financial excesses drove the Irish and Spanish economies. The collapse of the bubble economies then left fiscal ruins behind it.

It was the bubbles, stupid: in retrospect, the creation of the eurozone allowed a once-in-a-generation party.

This, in hindsight, was the biggest weakness of the Maastricht rules, capping debt at 60% of GDP and deficits at 3%. It’s not that the rules were broken: it’s that they were insufficient to prevent the kind of debt-fueled boom which leads inevitably to a fiscal crisis. As Wolf points out, the countries in fiscal trouble, like Spain, aren’t necessarily the ones with the highest sovereign debt ratios: they’re the ones with the highest debt ratios overall, including private debt. (Spain’s public debt is just 56% of GDP; its private debt, however, is 178% of GDP.) And private debt was never included in the Maastricht rules.

In a way, Greece has it easy: a sovereign default and devaluation solves a lot of its problems at a stroke. Spain, on the other hand, has a much tougher task ahead of it, since private-sector defaults won’t make the country any more competitive. And it’s already got unemployment over 20%. Only tough structural reforms have any chance of working, and those will take a long time, and face enormous political opposition. As Andrew Eatwell says:

Having squandered the opportunity to embark on unpopular economic, labour and pension reforms when his popularity ratings were relatively high after the 2008 general election –a period in which he fervently denied that Spain was facing an economic crisis– Zapatero now faces the prospect of tackling those issues while trailing the main opposition centre-right Popular Party in the polls and with a string of potentially tight regional elections around the corner. Necessary but unpopular measures may therefore be put on the backburner or at least kept to a minimum for fear of a voter backlash that could cost the governing Socialist Party dearly in regions such as Catalonia, where the Socialists lead a coalition government and elections are due this autumn. Zapatero also faces a general election in early 2012.

With regional governments accounting for 57 percent of total public spending in Spain, there is a serious risk that national interests and the economy as a whole may find itself subordinated to entrenched regional interests, crowd-pleasing promises and partisan politics.

All of which is different only in degree, not in kind, to what we’re seeing in the US right now.