An ungovernable slump: James Saft

May 8, 2012

By James Saft

(Reuters) – Received wisdom on Europe’s electoral results is that the throw-the-bums-out events in France and Greece represent a vote against austerity.

Here’s another possibility: it is an anti-reality vote.

That’s not to say that policies of austerity are helpful; they are not, especially when they are, as in the euro zone, taken as a futile means to support unsustainable debts in the financial system.

Rather, the elections illustrate a truth which will vex whatever policies are enacted next in all of the economies which are struggling with high amounts of total debt, be it corporate, banking, government or household. No one, no electorate, reacts well to the policies put in place during times when living standards are grinding slowly lower. Voters, just like investors, endow the things they can control, like who is in office and what they are doing, with far more power and ability to turn the course of events than they probably possess.

France voted in Socialist Francois Hollande over the weekend, opting for his ‘pro-growth’ stance over Nicolas Sarkozy. In Greece all of the parties which supported the current bailout, which features a program of deep austerity for Greece, were soundly thrashed, and the electorate made its will known by voting in such a way as to make any kind of coalition difficult to form and even harder to sustain.

The latest U.S. polls provide further evidence of the difficulty of governing in tough times; no sooner do the Republicans stop making a spectacle of themselves in primaries and the polls for the presidential election tighten to a dead heat. While President Obama is not advocating the kind of austerity now getting the thumbs down in Europe, he is presiding over an economy which is, as economies do when they carry too much debt, failing to thrive and to create jobs.

Local elections in Britain, in which coalition partners the Conservatives and Liberal Democrats did poorly, provide further evidence.

Austerity has made things in Europe worse, but that’s almost not the point. People don’t like to be governed during times when standards of living for the majority are declining. They react by voting against the prevailing policy, even though the prevailing policy is at best having an effect on the margins. That will prove to be as true for so-called policies of growth, if indeed they can be achieved, as it will be for policies of austerity.

In short, it is very tough to govern during times like these. The process of debt destruction is going to take years and during that time it’s best to expect, if not political paralysis, then a series of policy lurches interspaced with periods, however short, of high uncertainty.


Practically, all of this puts investors and businesses in a particularly difficult position. How do you plan for investment, be it in plant and equipment or in stocks and bonds, when it is very difficult to see where policy will be beyond the next scheduled election?

Not that markets are now reacting as if that is true. While Greek shares plummeted and the price of insurance against euro zone sovereign default rose after the elections, the most interesting reaction was from developed stock markets, which were relatively calm. That’s partly because there is still in stock markets a stubborn belief that central banks will ride to the rescue if risk assets falter in a serious way. It is also, probably, because it simply takes a very long time for investors to get to grips with regime change, and the idea that there may not be for a while any sustainable regimes is a big and new idea.

Even if, as some argue, higher levels of growth-oriented government spending are the right policy, it may well be that they won’t be given a sufficient chance to take effect before impatient and suffering electorates force a change of course.

This is not too different from the experience of Japan in the 1990s, which did after all give reflationary policy a pretty fair chance. After years, not months, of this Japan lost its nerve in 1998 and took its foot off the gas, a decision which was followed shortly by a relapse.

In the meantime, the euro zone will face a series of tests. Germany’s Angela Merkel has greeted the news from Greece and France with a prescription of more of the same. She’s called on Greece to stick to its commitments, something which may prove impossible. Citibank now puts the chances of Greece falling out of the euro at between 50 and 75 percent over the near term.

Even Merkel, perhaps, should be hearing footsteps; weekend elections handed her Christian Democratic Union its worst showing in Schleswig-Holstein since 1950.

Investors will be best served by making plans which are less dependent on stability, a forecast which argues for stepping back from risk.

(Editing by James Dalgleish)

(At the time of publication, Reuters columnist James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. For previous columns by James Saft, click on SAFT)

(James Saft is a Reuters columnist. The opinions expressed are his own)


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