The Great Debate UK

from Felix Salmon:

Europe’s lethal uncertainty

As markets plunge again today, ostensibly on existential worries about the eurozone, you might want a plain-English explanation of what the root of the problem is. And John Lanchester is a great place to turn for such things:

On 16 August, Nicolas Sarkozy and Angela Merkel had an emergency meeting to decide what to do about the Eurozone crisis. After it, they gave a press conference at which they spoke in platitudes about the need for Europe to improve its ‘economic governance’, avoiding all specifics. They precisely and explicitly ruled out the only two things which would have helped: the creation of ‘eurobonds’, i.e. debts backed by the full economic weight of all the countries inside the eurozone; and the extension of the €440 billion European Financial Stability Facility. It’s easy to see why they did this, and their reasons are entirely to do with the domestic unpopularity of giving more aid to the indebted and severely struggling ‘Club Med’ countries of Southern Europe. Unfortunately, Merkel and Sarkozy’s inaction is a recipe for certain disaster. Everybody and his cat knows that the eurobond is the only way out of the crisis for the eurozone in the medium term; as for the necessary size of the short-term bailout facility, Gordon Brown’s guesstimate was €2 trillion. That ‘could have convinced the markets that Europe meant business’. Huge, sustained and manifestly undeflectable government intervention on that scale is the only thing which will cause the speculators and hedge-funders and ‘hot money’ types to back off. Instead, nothing.

Lanchester's full essay is well worth reading, and helps to put today's news in perspective. When Mario Draghi says that Europe needs to “make a quantum step up in economic and political integration,” he's basically agreeing with Christine Lagarde that Europe's nations need to stand together. And when elected leaders signally fail to say the same thing, markets fall.

Meanwhile, amazingly, the Greek bond exchange is still far from a done deal, and Landon Thomas does his best to try to explain how Europe's banks are being pushed to accept it:

Germany at the crossroads

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By Laurence Copeland. The opinions expressed are his own.

Baby-boomers like me, who grew up in the shadow of World War II, have to acknowledge with gratitude that the Germany which again dominates Europe is in most respects a model democracy – multiracial, prosperous and contented. However, there is one worrying aspect of the German mentality which seems to have survived intact from its unhappy history, and it is an aspect which is likely to be tested to the full in the coming weeks and months.

From the moment when the Maastricht Treaty was dreamed up in the early 1990s to the inception of the euro zone in 1998, Germany had any number of opportunities to kill the project off and indeed, time and again, policymakers in Bonn or Berlin or Frankfurt voiced their reservations in public. The Bundesbank, in particular, with its overwhelming prestige, spoke out forcefully against what it saw as the dangers of premature monetary union.

from Felix Salmon:

Lagarde leads from the front on Europe

Going into the Jackson Hole conference, everybody was breathlessly awaiting Friday's speech from Ben Bernanke, which turned out to be incredibly boring. The most important speech of the meeting, by far, came on Saturday, and came from the new head of the IMF, Christine Lagarde. In decidedly undiplomatic prose she came right out and said what needed to be done:

Two years ago, it became clear that resolving the crisis would require two key rebalancing acts—a domestic demand switch from the public to the private sector, and a global demand switch from external deficit to external surplus counties... the actual progress on rebalancing has been timid at best, while the downside risks to the global economy are increasing...

from Felix Salmon:

Larry Summers’s inadequate plan for Europe

Larry Summers reckons that "with last week’s tumult in Italian markets, the European financial crisis has entered a new and far more dangerous phase"; he's right about that. But his prescriptions for what must be done, laid out in the second half of his column, are a mess. For one thing, they're impossible to implement from a political perspective. For another, they contradict Summers's own diagnosis of what the problem is, as laid out in the first half of his column. And in any case they're a textbook case of too little, too late: even if implemented they wouldn't actually fix the problem.

Summers is quite right, in the first half of the column, to write this:

The approach of lending more and more from the official sector to countries that cannot access the market at premium rates of interest is unsustainable. The debts incurred will in large part never be repaid, even as their size discourages private capital flows and indeed any growth-creating initiative.

Units and unities: can currency change really resolve the Greek tragedy?

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As the Greek tragedy goes into what looks like its final act, there is increasing talk of the country leaving the euro zone and refloating the drachma. Perhaps the Athens street mobs favour this “solution”, but what would it involve, and would it work?

It is a bizarre situation, without precedent as far as I am aware (though I am no economic historian). Usually, new currencies are introduced to replace old ones which have become discredited (typically after hyperinflation), whereas here we are talking about the absolute opposite: abandoning the euro because it is too strong, in favour of a new drachma, which will be a weak currency by design – rather like launching a ship, in the hope it will sink!

from Felix Salmon:

Could the EFSF engineer a Greek restructuring?

We're now close enough to a Greek default that the likes of Daniel Gros are coming up with schemes for how to avoid such a thing:

The European rescue fund -- European Financial Stability Facility, or E.F.S.F. -- should offer holders of Greek paper an exchange into E.F.S.F. paper at the current market price. Banks could be "induced" by regulators to accept the offer.

The death of the euro is greatly exaggerated

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-Laurence Copeland is a professor of finance at Cardiff University Business School and a co-author of “Verdict on the Crash” published by the Institute of Economic Affairs. The opinions expressed are his own.-

The Governor of the ECB, Jean-Claude Trichet has raised interest rates by 0.25 percentage points – and quite right too. For us in the UK, blaming rising prices on temporary disturbances in the world’s commodity markets is a figleaf to hide the fact that we are actually embarking on a partial default-by-inflation. For Europe, it is a different story. For one thing, the Germany-Austria-Netherlands bloc is, if not booming, at least chugging along at a highly respectable rate, and as the ECB Governor said today in response to a question about the impact of the rate rise on Portugal, his job is to set interest rates for the Eurozone as a whole, not just for the benefit of one of its smallest and weakest members.

Would the euro solve Switzerland’s problems?

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By Kathleen Brooks. The opinions expressed are her own.

While some market commentators are questioning if the euro zone should even exist, authorities in Switzerland might be looking with envy at the 27-member currency bloc.

But why would a nation as renowned for political as well as financial stability like Switzerland desire the euro? The chief benefit is for its export sector.  Swiss companies including watch marker Hublot have complained recently about the strong Swiss franc weighing on their competitiveness. And watch markets are not alone. Exporters in sectors as diverse as cheese and chocolate to engineers, pharma companies and chemical firms are all suffering from the same problem: a strong franc.

from Felix Salmon:

Why Europe’s periphery should restructure their bonds

The drumbeat for debt restructurings on Europe's periphery is becoming too loud to ignore. The Economist has now come out strongly in favor; its leader gives the strongest case for biting the bullet now. And Mohamed El-Erian has now officially signed on:

You do not solve a debt problem by adding new debt on top of old debt. Yet it seems that European officials are fixated on this approach...

from Felix Salmon:

Restructuring European debt

Are we going to see debt defaults in Europe? Yes—and Barry Eichengreen has a positively crystalline explanation why. It's a first-rate example of economic concepts being explained in plain, easy-to-understand English:

The more that countries reduce wages and costs, the heavier their inherited debt loads become. And, as debt burdens become heavier, public spending must be cut further and taxes increased to service the government’s debt and that of its wards, like the banks. This, in turn, creates the need for more internal devaluation, further heightening the debt burden, and so on, in a vicious spiral downward into depression.

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