Tuesday, December 4, 2012

The European Financial Crisis : A Can of Worms


The European Financial Crisis: A Can of Worms

Nicholas Fourikis

1 - INTRODUCTION

 

Before exploring the European financial crisis it’s worth remembering the historic exchange that took place between Chou En-Lai1 and President Nixon in the walled garden of the Forbidden City after Kissinger’s visit to China in 1972.

The President asked Chou what the impact of the French Revolution had been on the Western civilization and Chou replied, “it’s too early to tell,” after considering the question for a few moments. 

Armed with that valuable insight, it would have been unwise to consider the impact of the European financial crisis on the Europeans and on the rest of the world at this point in time. What is unfolding in Europe however warrants an urgent consideration because what started as a financial crisis is developing into a social crisis that threatens the very fabric of the continent that was once the hub of culture, innovation and progress. Moreover the rest of the financial world is threatened by these developments.

In summary German and French banks lent excessive amounts of money to Portugal, Italy, Ireland, Greece, and Spain, the group that is euphemistically abbreviated as PIIGS. Greece’s public debt, for instance, is 170.6 % of GDP. As the governments of the PIIGS countries could not service their excessive loans, the banks imposed strict austerity measures on the citizens of the PIIGS countries; these measures were so harsh some commentators labeled them draconian or barbaric.

The tragedy is widespread because millions of Europeans lost their jobs and pensions were reduced by 25% - typically. The overall unemployment figure for the PIIGS countries, for instance, rose to 20-25% but for the young population it reached the 50% mark. Typically the overall unemployment figure for Greece in August 2012 was 25.4%.  More importantly the employees, who are lucky to have a job, lost several entitlements / bonuses they won over many years.   

The number of suicides increased in the PIIGS countries, and some parents abandoned their children because they could not feed them. Before the crisis, Greece had one of the lowest suicide rates in Europe, just over 300 a year. In 2009, the police recorded 507 suicides; in 2010, 622; and last year, 598.

Dimitris Christoulas2, a 77 -year old retired pharmacist, blew his brains in Syntagma Square – the main square in Athens - because he could not face the prospect of scavenging through garbage bins for food and becoming a burden to his child. He wasn’t a criminal, he was a tertiary educated pharmacist; he was no parasite but a valuable member of the European community. 

No wonder unrest and demonstrations became common. People in the streets have been shouting, “we’ve done nothing wrong, why are we being punished so severely?” while the German politicians have been shouting back, “you have to learn to live within your means,” echoing no doubt the sentiments of the bankers.

What happens with monotonous regularity is worth noting here: every so often the representatives of one member of the PIIGS family would visit the EU, cap in hand, to re-negotiate the loan of their country. The loan is re-negotiated provided the government of that country increases the austerity measures already in place and some “haircut” to the amount of money due is attained. Then another member of the PIIGS family visits the EU, cap in hand and the tragedy which started in 2009, continues.

It is worth noting here that each member of the PIIGS family confronts the EU officials separately.

2 – TAKING STOCK
Several questions fly onto our collective faces.
(i)                 For how long are we to tolerate the continuation of this tragedy in the 21st century? Surely there must be a point beyond which we have to say enough is enough. Many commentators hinted that the current German government is trying to revive the Fourth Reich from the ashes. Are we waiting for the widespread demonstrations to develop into wars before we review what is happening?  

(ii)               Where is the economic theory which stipulates that money to pay the debt of a country can be generated by throwing millions of workers into long unemployment queues and by drastically reducing the pensions of workers who dutifully paid their taxes over a lifetime? These reductions typically amount to 25% of the pension a pensioner usually earns.

(iii)             Is there empathy for the tragedy millions of workers / professionals are experiencing in Europe? Do Europeans still remember that if one person hurts, everyone hurts? Where is the solidarity among unionists, in say Germany or Sweden, for their fellow unionists residing in the PIIGS countries? Where is the solidarity among professional associations, in say Germany or Denmark, for their fellow professionals residing in the PIIGS countries?

(iv)             Why and how the EU representatives lent outrageous loans to so many countries when they knew the GDP of each country? My bank manager will kill himself laughing if I was to request a sum of money he knew I could not pay back. In a similar vein the EU with all its resources should have blocked any requests for outrageous loans.

(v)               Why is it that the EU reps that approved the massive loans and the reps of the PIIGS countries that negotiated these loans are not brought to justice? As we will see these criminal transactions took place year after year from1998 to 2009! Here we are dealing with massive loans the EU reps approved over 11 long years!

(vi)             What astounds me is that the bankers have been successful in beating the citizens of the PIIGS countries into submission one at the time for many years. Many commentators write and speak as if this is the first time in history we are seeing all powerful bankers eager, extremely eager to have their pound of flesh from the poor citizens. This is simply not the case and we have learnt a lot from recent history.  

(vii)           PIIGS is a derogatory acronym of describing the citizens of the poor southern European countries.

(viii)         The bankers demand their money now, come hell or high water. They simply do not care if their demands have created and continue to create bad blood between the Southern and Northern Europeans. Can the EU survive when there is so much bad blood within the Union? And if it survives that calamity what sort of union would it be?

(ix)             Membership in the EU is under the spotlight. Most Greeks, for instance, would prefer to stay in the EU without realizing that the prosperity they have enjoyed in the past was due to the excessive amounts of money their governments borrowed; moreover they have to pay the borrowed money through their collective noses over many painful years. Was the membership in the EU a tender trap?

(x)               Was it wise for the EU to adopt a single currency for countries that have radically different economies and when no EU country can readily devalue its currency? and

(xi)             Was it prudent to have a financial union without having a political union in place?

3 – THE MAIN PLAYERS AND AUSTERITY MEASURES
Germany with its industrial might is the main banker of the EU closely followed by France. Dr Angela Merkel, the Chancellor, and her Finance Minister Wolfgang Schäuble are therefore the major players.

Dr Merkel is a brilliant physicist who enjoys considerable support of her people. It is not however clear whether she would continue to enjoy the same level of support next year, when the German elections are due. The main problem is that the austerity measures her government imposed on the citizens of the PIIGS countries did not yield the desired results; indeed the economies of many countries have contracted.  While some belt tightening is necessary for a nation eager to pay back its debt, prolonged austerity measures are counter-productive.
Paul Krugman,3 the  2008 Nobel laureate for economics, argued that Germany's support for austerity measures will lead Europe onto a death trip and that prosperity through pain is a fantasy. He also reminded us many times what John Maynard Keynes postulated: "It's the boom, not the slump that is the time for austerity."

Lastly he labelled the austerity measures “a zombie” economic policy because zombies keep on champing forward no matter how many times you have killed them. More to the point after two and a half years of imposing austerity measures the European bankers still support the same policies despite all the evidence that the measures are not working.

Paul Krugman explained that a government is not like a household. Across an economy, one person's spending is another person's income. If everyone is trying to reduce their spending, the economy can be trapped in what economists call the paradox of thrift, worsening the recession as GDP falls. If the private sector is unable or unwilling to consume at a level that increases GDP and employment sufficiently, he argued, the government should be spending more.
John Maynard Keynes and Krugman are not alone; here is what Mike Whitney4 wrote.

“Austerity measures have led to a decline in personal consumption, an erosion of confidence, and a more generalized slowdown across all sectors. Still, intractable bankers and bureaucrats in Brussels and Frankfurt have not veered one bit from the original policy. They remain steadfast in their commitment to austerity.”
…. “Austerity is just the euro-version of “starve the beast”; and W Munchau5 echoes the same truths.

Coming back to the German Chancellor, an ability to comprehend physical phenomena, which are by and large linear in nature, by a brilliant physicist, is not necessarily useful to comprehend the non-linear phenomena we encounter in modern economies. One could even argue that the bad blood created between the southern and northern European nations is enough to preclude reconciliation within the EU for several years.   

The suicide note Dimitris Christoulas left encapsulates public feeling in Greece6
“The Tsolakoglou (The collaborationist occupation government established after the Nazi Germany invasion of Greece during World war two) government has annihilated all traces for my survival, which was based on a very dignified pension that I alone paid for 35 years with no help from the state. And since my advanced age does not allow me a way of dynamically reacting (although if a fellow Greek were to grab a Kalashnikov, I would be right behind him), I see no other solution than this dignified end to my life, so I don’t find myself fishing through garbage cans for my sustenance. I believe that young people with no future will one day take up arms and hang the traitors of this country at Syntagma square, just like the Italians did to Mussolini in 1945.″

If I could hazard a guess, events would force Dr Merkel to lead an expansionist policy in Europe before the elections. If that takes place I do not expect to hear any expressions of regret from the good Doctor for the tragedies that followed the austerity measures her government imposed. Moreover there would be no compensation to the millions of Europeans who lost their jobs or a large chunk of their pensions; and you’ve guess it, there would be no mention of restoring the privileges / bonuses workers / professionals lost during the period when her government imposed the austerity measures.  And lastly the names of Professor Paul Krugman, Mike Whitney and Wolfgang Munchau – to cite only three astute observers - who reminded us what Keynes taught us many a time, would not be mentioned.

The following incident illustrates a deep-seated German belief Wolfgang Schäuble shared with the world.
In the interview with the PBS7, Paul Krugman recounted a story when he and his wife were attending a speech from Wolfgang Schäuble, the German finance minister: "My wife8 took off her headphones for the translation just to watch the body language...and then she turned to me and said, 'As we leave this room, we're going to be given scourges with which to whip ourselves.' Because it was all morality and debt is evil.

. . . “The question is whether the Europeans in general, and the Germans in particular, can accept the fact that this is not going to be about punishing the guilty, especially because in many cases the people suffering the most had nothing to do with creating this crisis.”
“We’ve done nothing wrong, why are we being punished so severely?” That is what the poor demonstrators shout in the streets Athens.
 

4 – SOME BROADSIDES AGAINST THE CITIZENS OF THE PIIGS COUNTRIES
A humanist would have expected empathy with the citizens of the PIIGS countries because he / she would believe that if one person hurts, everybody hurts. In the same vein he /she would have expected that the unions and professional associations of the northern countries would have shown solidarity with their fellow workers / professionals residing in the PIIGS countries. But No! There is no empathy and no solidarity because the bankers want their pound of flesh now and debt is evil.

Here’s what we’re told9

“Greece’s economy blew apart because a bunch of olive-spitting, ouzo-guzzling, lazy-arse Greeks refuse to put in a full day’s work, retire while they’re still teenagers, pocket pensions fit for a pasha, and they’ve gone on a social services spending spree using borrowed money.

“Now that the bill is due and the Greeks have to pay with higher taxes and cuts in their big, fat welfare state, they run riot, screaming in the streets, busting windows and burning banks.

I don’t buy it. I don’t buy it because of the document in my hand marked “Restricted distribution.”

“I’ll cut to the indictment – Greece is a crime scene. The people are victims of a fraud, a scam, a hustle and a flim-flam. And – cover the children’s ears when I say this – a bank named Goldman Sachs is holding the smoking gun.”

An evocative report that captured the essence of what happened; let’s us however complement that report by hearing from a trusted economist10.

“Greece has a lot of corruption and a lot of tax evasion; moreover the Greek government has had a habit of living beyond its means. Greek labour productivity is low by European standards - about 25 per cent below the European Union average. It's worth noting, however, that labour productivity in, say, Mississippi is similarly low by US standards - and by about the same margin.

“On the other hand, many things you hear about Greece just aren't true.
“The Greeks aren't lazy - on the contrary, they work longer hours than almost anyone else in Europe, and much longer hours than Germans in particular.

“Nor does Greece have a runaway welfare state, as conservatives like to claim; social expenditure as a percentage of gross domestic product, the standard measure of the size of the welfare state, is substantially lower in Greece than in, say, Sweden or Germany, countries that have so far weathered the European crisis pretty well.”

Goldman Sachs systematically helped the Greek government mask the true facts concerning its national debt from 1998 to 200911. The same bank and other US banks helped the other PIIGS countries to mask the true facts concerning their national debts.

What is missing from the full picture of events is the fact that the EU did not have robust mechanisms to block the requests for outrageous loans from 1998 to 2009!

5 – DEBTS AND ODIOUS DEBTS

While we are familiar with debts of all kinds e.g. personal / national / international, etc. we need a definition for odious debts12. 
“In international law, odious debt is a legal theory that holds that the national debt incurred by a regime for purposes that do not serve the best interests of the nation, should not be enforceable. Such debts are, thus, considered by this doctrine to be personal debts of the regime that incurred them and not debts of the state. In some respects, the concept is analogous to the invalidity of contracts signed under coercion

The doctrine was formalized in a 1927 treatise by Alexander Nahum Sack, a Russian émigré legal theorist, based upon 19th-century precedents including Mexico's repudiation of debts incurred by Emperor Maximilian's regime, and the denial by the United States of Cuban liability for debts incurred by the Spanish colonial regime. While historical flashbacks are useful, I will review how Ecuador dealt with its debt in 2008.

Dr Rafael Correa13, an economist educated in Ecuador, Belgium and the United States, was elected President of the Republic of Ecuador in late 2006 and took office in January 2007. In December 2008, he declared Ecuador's national debt illegitimate, based on the argument that it was odious debt contracted by corrupt and despotic prior regimes. He announced that the country would default on over $3 billion worth of bonds, pledged to fight creditors in international courts and succeeded in reducing the price of outstanding bonds by more than 60%.

6 – FUTURE OPTIONS FOR THE GOVERNMENTS OF THE PIIGS COUNTRIES
While one member of the PIIGS family lacks the power to negotiate better outcomes with the EU bankers, an association of all PIIGS countries is worth considering. If all members of the PIIGS family speak with one voice the association can expect better outcomes for all member countries when negotiating with the bankers. Simply put there is strength in numbers.

The same association could fund teams of international lawyers to establish whether some or all debts are odious. Here there is ample room for negotiation.

Beyond these two useful approaches each member country of the PIIGS family has to consider its international competitiveness and take steps to increase it.

In Table 1 I summarized the global competitiveness of a number of countries.

 

Table 1 - Global Competitiveness Index 2011-2012 rankings+ of some

 countries and of the PIIGS countries compiled by the

World Economic Forum14

 

Switzerland++  1

Singapore++     2

 

Sweden           3

                                            Finland             
                   
                                            Germany         6

                                            Denmark         8

                                            UK                  10

                                            Belgium           15

                                            Norway           16
 
                                            France             18




Ireland             29

Spain               36

Italy                 43

Portugal           45

Greece             90

 

+the rankings are w.r.t.142 countries

++Switzerland and Singapore are not members of the European Union

 

It’s worth noting that the two most competitive countries of the world are not members of the EU. Good news for the Euro-skeptics!

The competitiveness of all the PIIGS countries is low and that of Greece is very low indeed.

In reference [15] the author observes that Greece is the least competitive country in the EU and suggests the following measures for improving Greece’s competitiveness:




(i)The recapitalization of the banking systems

(ii)The proper management of public finances

(iii)The promotion of structural reforms aimed at increasing productivity; and

(iv)Liberalizing markets and services, particularly in the domains of education, new technologies and innovation.

Was Greece uncompetitive over the recent past? Krugman16 who studied the historical data concluded:
"Yes, Greece was poor and relatively unproductive. But its famous lack of competitiveness is a recent development, caused by massive post-euro inflows of capital that raised costs and prices. And that’s the kind of thing that currency devaluations can cure.”

7 – THE WIDER ISSUES

 It’s important that the PIIGS countries form a strong alliance so that they can negotiate better outcomes from the EU. Studies also can be undertaken to assess whether all or some of the debts can be declared as odious debts. The same teams can ascertain whether one or more of the PIIGS countries would be financially better off outside the EU. Can the PIIGS countries improve their international competitiveness while they service their mammoth loans?  If that is not possible, what role would the PIIGS countries play in the EU? Would they be “client nations” who depend on the industrialized European nations to meet their   telecommunications, transportation . . . high tech needs?  

What can the EU architects / theorists learn from the successes of the United States of America, as a union of many states and the reasons the USSR disintegrated.

In the final analysis there are no tablets on which the words:

“The Third Reich will live for a thousand years,”

“The 15 Soviet republics will always form the USSR”; and

“The EU will succeed as a union of European nations,” are engraved.

On the other hand it is well known that the United States of America has been faring remarkably well as a union of fifty states and a federal district. Could it be that political union should precede the financial union?
It will be gratifying if the EU reps that approved the massive loans and the reps of the PIIGS countries that negotiated these loans are brought to justice, sooner rather later.

While financial issues are important, cohesion between the EU countries is as important. This not appreciated by the European bankers who demand their money now, come hell or high water. They simply do not care if their demands have created and continue to create bad blood between the Southern and Northern Europeans. Can the EU survive when there is so much bad blood within the Union? And if the EU survives that calamity what sort of union would it be?

While the residents of the PIIGS countries suffer, the rest of the Europeans are not particularly supportive of their fellow Europeans. The rest of Europe reads that Greek / Spanish . . . workers are unemployed and lose the bonuses / privileges they have gained over many years and don’t shed a tear. There is no solidarity among the EU countries.

There is no theory to support the financial austerity measures imposed on the PIIGS countries as a way out of the veritable economic mess. On the contrary expansion policies can end the calamity caused by the imposition of prolonged financial austerity measures.

Looking ahead the German election might force the leaders of the parties who win power to re-examine past policies. It is debatable that the Greek people would be able to suffer more austerity measures and if they force another election and the Syriza party wins a majority, the newly formed party will hopefully bring fresh ideas to the table. In brief17, 18 the party supports Greece’s membership in the EU but is against the austerity measures.


8 – CONCLUDING REMARKS

I have outlined many options for the EU and for the PIIGS countries to consider in the near and far future because I believe that the more options we consider the freer we become.

Lastly I would like to conclude that my thoughts are with the men and women of the poor European countries who lost their jobs, large chunks of their pensions and the many privileges / bonuses they have gained over a number of years. I empathize and stand by them because they are suffering so much but committed no crimes. 

 

9 – REFERENCES

1 Chou / Zhou En-Lai – was the first Premier of the People’s Republic of China.

2 Niki Kitsantonis. Pensioner’s suicide continues to shake Greece. NY Times April 5, 2012

3 Paul Krugman. Right now we need expansion. Der Spiegel interview. 23 May2012

4 Mike Whitney. Counter punch. The meaning of austerity measures. April 27-29, 2012

5 W Munchan. Relentless austerity will only deepen Greek woes. Financial Times Oct 7, 2012

6 Dimitris Christoulas. Wikipedia.

7Paul Krugman. ‘Solving Europe’s Crisis ‘Is not going to be about punishing the guilty.’ B. Kavoussi. Huff Post, 30 Nov 2012.

8Dr Robin Wells, also an economist, is married to Paul Krugman.

9Greg Palast, Morning Star, 07 November 2011 - Author of “Vultures’ Picnic: In Pursuit Of Petroleum Pigs, Power Pirates And High-Finance Carnivores.” Nov 14, 2011.

10 P Krugman. Greece as victim. NY Times. 17 June 2012

 11 Goldman Sachs. Wikipedia.

12 Odious debt. Wikipedia.

13 Rafael Correa. The President of Ecuador. Wikipedia.

14 World Economic Forum Report - 2011-2012

15N Chrysoloras. www.ekathimerini. +1'd this publicly. Undo

 5 Sep 2012

16P. Krugman. Long run Greek Competitiveness. The conscience of a Liberal. N Y Times June 2012.

17Costas Douzinas and Joanna Bourke. The Guardian Weekly. Sunday 17 June 2012. A Syriza victory will mark the beginning of the end of Greece's tragedy.

18Costas Douzinas. Greece is ripe for a radical change. The Guardian Weekly, 8 Nov 2012.

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