Counterparties: Austerity bites

February 22, 2013

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How long is Europe going to stay in recession, despite its experiment with austerity coming to an end some eight months ago? The European Commission today projected that the continent’s economy will shrink by 0.3% in 2013, its second straight year of contraction. In Spain and Greece unemployment will remain around 27% in 2013, with unemployment in the Eurozone as a whole rising to 12.2% from 11.4%.

Hale Stewart, diving into Europe’s dreadful manufacturing data, finds only one bright spot: Germany. “The bottom line is that all the ‘good news’ coming out of Europe right now is projection”, he writes.

Things are no sunnier in Italy, whose presidential election this weekend takes place against a backdrop of “stagnating economy, corruption, organised crime, political apathy, misogyny, youth unemployment”. Intrade gives current prime minister Mario Monti just 2.2% odds of holding onto his job. Joe Weisenthal notes another problem: Beppe Grillo, a comedian-turned-politician who wants to give every Italian an iPad, may get enough votes to prevent Italy from forming a coalition. “It’s hard to see Grillo’s movement as a source of stability,” one unnamed diplomat told Reuters.

So how did we get here? Paul Krugman spots a new paper from Paul De Grauwe and Yumei Ji that’s worth unpacking. Europe’s austerity movement started, in large part, because of worries around widening credit spreads in countries like Greece. Those worries, in some cases, were exaggerated: “Market sentiments of fear and panic first drove the spreads away from their fundamentals.” (The opposite effect happened when the ECB announced it’d do anything to save the Euro).

The sovereign debt market, it turns out, can be just as irrational and panic-driven as the stock market. This, the authors write, led to unnecessarily harsh budget cuts from Europe’s policymakers. Which of course only made matters worse. “The more intense the austerity, the larger is the subsequent increase in the debt-to-GDP ratio,” the authors find. — Ryan McCarthy

On to today’s links:

MF Doom
Financial industry group tries to ban Jon Corzine for life — only to find out he’s not a member – Dealbook

China
Chinese regulators think it’s better if fraud-riddled companies don’t have successful IPOs – WSJ

EU Mess
“Free trade is the closest thing economics has to magic, but it won’t save Europe” – Matt O’Brien

Housing
The national mortgage settlement lets banks fix second mortgages — but ignore first mortgages – NYT

The Fed
It’s time for the Fed to realize that “there are worse things in life than moderate inflation” – Bloomberg
The world’s central banks have brave new words (if not brave new policy) – Economist

Aggregation
The logical conclusion to Steve Brill’s healthcare article is the one he doesn’t propose – Matt Yglesias

Remunration
Jack Lew’s contract with Citi seems to have included a payout for leaving for a government job – Jonathan Weil

Stimulus
Can Japan spend $100 billion in 15 months? It’s harder than you think – Reuters

Investigations
A Goldman private wealth client is at the center of an investigation into Heinz insider trading – Reuters

The Oracle
Warren Buffett is transforming Heinz into the most-leveraged food company in America – Bloomberg

Syntax
To boldly decry the grammar lies up with which we will not put – Smithsonian

Wonks
Efficiency, not growth, is the basis of capitalism – Noah Smith

One comment

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“The more intense the austerity, the larger is the subsequent increase in the debt-to-GDP ratio,”

Hardly rocket science, but amazing how many voices are still in favour of more and more austerity – even if it costs them their AAA credit rating as has happened today to the UK.

I’ve been saying for a couple of years now that when liquidity is low, it won’t get better by taking more money out of people’s pockets by reducing spending, or by scaring them silly so they keep it unspent in their bank accounts.

But I’m a pragmatist – and I read about the mistakes they made in the 1926 crash and later Great Depression. No doubt many theoreticians and ideologues will “put me right” on this point but their predecessors in the 1930s eventually saw sense and reversed the policies that had kept things worse for longer. Let’s hope these people start to wake up and smell the coffee soon.

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