Plato's academy mosaic
Should the Greeks have a referendum on whether they want to stay in the euro? Are the upcoming elections such a referendum? Would it be better for the Greeks if they left the euro? – Are you, like me, sick and tired of hearing these questions and then the answers based on the same stale and superficial logic?
Most commentators assume that it was a mistake of ‘the Greeks’ to enter European Monetary Union and that they would do better outside of it. I suspect some undue generalization behind such verdicts. For who do these observers talk about when they say ‘the Greeks’? It seems evident, for example, that to the extent that the Greeks are savers they do not believe that exiting the euro and having again a depreciating local currency is in their interest. In fact, they expect to get hurt by such a move. These savers – the forgotten men and women of the crisis – are already holding their own referendum. They are shipping their savings to Germany, the Netherlands and Finland in an attempt to protect them from confiscation through devaluation and inflation. They want their savings to stay in the Euro Zone. Such ‘voting’ could be characterized as ‘Germanic’, although I would say it simply serves to show that the interests of those who save are very similar, regardless of which country’s passport they hold.
Savers play an important role in the market economy. Capitalism is based on capital, and capital is generated through saving and not money-printing, contrary to what many economists and central bankers want us to believe. Prosperous societies have always been built on hard money, which encourages saving and the expansion of the capital stock, and in turn increases the productivity of human labour. Greek savers are no different from American savers or German savers, and the role of money, saving and capital is no different in Greece from that in any other country. The laws of economics change as little from one place to another as the laws of physics. And sacrificing the interests of your savers for some short-term boost to growth will have the same adverse long-run effects in Greece as it has anywhere else.
It is often said that Germany can afford to live with a harder currency than her European ‘partners’ because she has a strong industrial base and a high personal savings rate. This confuses cause with effect. Germany has a strong industrial base and a high personal savings rate because she has had a relatively hard currency for so long. The absence (at least in relative terms) of inflation and currency depreciation has encouraged saving, capital accumulation and efficient, competitive corporate management. The de-industrialization of Britain, to take just one example, may have been the result of militant unionism in the 1950s to 1970s, and of the craze for nationalization of industry but the ongoing policy of currency debasement by the Bank of England certainly played its part, too.
We should therefore be very suspicious if we are told that it would be in the interest of ‘the Greeks’ if they adopted a weaker currency. It has never been in the interest of any country to adopt a weak currency.
Politics versus economics
The political urge to superimpose some unifying ‘national interest’ on all citizens runs counter to everything the decentralized spontaneous market order stands for. The whole point of a market economy is that it is based on private property and voluntary, contractual exchange. And voluntary, contractual exchange works so well because two parties frequently have different interests or tastes or preferences. If I sell you one of my old vinyl LPs for $2, it doesn’t mean we agree that this record is worth $2. We disagree. You value the LP more than $2, I value $2 more than the LP; otherwise we wouldn’t trade. By trading we have both improved our position. Extended human cooperation based on private property and free, non-aggressive and voluntary exchange improves the position of everybody participating in such a society. In the market economy, not everybody will be rich and not everybody will necessarily be happy. But for those who prefer a larger supply of things to a smaller supply of things, there is no better way to achieve this than by participating in a private-property economy.
The market economy is precisely so powerful because it is a highly efficient way of human cooperation that does not require ‘common interests’ or ‘single goals’. To the contrary, it thrives on differences and still achieves peaceful cooperation. That is precisely its strength, and that is also what sets it apart from politics. The diversity of human talents, interests and preferences that is simply a fact of life does not have to be suppressed and curtailed to fit into the dumb tribalism of politics, which is always about ‘the Greeks’ need this but ‘the Germans’ want that.
All we need for this cooperation on markets to work is the rule of law and hard money as a medium of exchange and store of value. Other than providing these two things, there is no legitimate role for politics in the economy (and by the way, it can be argued that even money and the rule of law are best provided outside the state but this is a different topic). In that sense, there is indeed a common interest that everybody shares, but not only all ‘Greeks’ but equally ‘the Japanese’ and ‘the Congolese’: That is a common interest in a framework that allows human cooperation on markets, and that framework is simply the protection of property rights (the rule of law) plus hard and apolitical money. The rest you can safely leave to the people – laissez faire!
Macroeconomics as politicized economics
Sadly, however, there is a branch of economics that has been all too happy to look at the world through the prism of politics, and this branch is modern macroeconomics with its focus on national account statistics. The macroeconomist, believing that the statistical aggregates he can measure and observe are also the driving forces of the economy, happily subscribes to the political fiction of the ‘national economy’. Such an economy is assumed to be congruous with areas of political jurisdiction, so the macroeconomist can talk to the politician about ‘the Greek economy’, which is, we are to believe, a clearly distinguishable economic entity and neatly ends where the neighbouring countries begin. And he can then ascertain what special needs this specific ‘national economy’ might have; what its unique requirements are; and what would be beneficial for everybody living within the borders of this ‘national economy’. With this dubious intellectual sleight of hand, the spontaneous interaction of all those people with all their different, divergent and often conflicting ideas, preferences and tastes who make up the essentially borderless, increasingly global market economy disappears and is, conveniently for the political mind, replaced with national objectives and clear goals. ‘The Greeks’ need a weaker currency. ‘The Greeks’ need lower interest rates. ‘The Greeks’ need higher inflation. — All of them? — Tribalism as the currency of politics is restored. And – bingo! – the economist has a role as policy adviser.
The mirage of manageable capitalism
If you want to get an idea of how the bureaucratic elite perceives the world, you only have to open the Financial Times. Take last week’s edition of May 23. There is the IMF bureaucracy telling the UK bureaucracy that ‘the Brits’ need lower interest rates and more government spending. Martin Wolf tells us that ‘the Greeks’ can be helped if ‘the Germans’ accept higher inflation. (Hint: Martin Wolf is almost always in favour of easy money and a bit more debt to ‘stimulate’ the economy). Then there is Professor Jeremy Siegel of the Wharton School of the University of Pennsylvania, who tells us that what everybody in the Euro Zone needs is a proper devaluation of the euro. It is, of course, no coincidence that all this advice from the IMF’s Lagarde to the Wharton School’s Siegel points in the same direction: toward lower interest rates, more money printing and currency devaluation. The debasement of money is the cure-all of economic problems, according to our policy elite.
Of course, the logic of Lagarde, Wolf and Siegel is roughly equivalent to suggesting that you and I would benefit in our little exchange of old records for dollars if the bureaucrats kept debasing the dollars or otherwise intervened to artificially prop up the prices of old vinyl records. Of course, their interventions may occasionally help one party to the trade at the cost of the other, but they cannot improve the mutual benefit that you and I derive from this commercial transaction and that is its true raison d’etre. Most important, however, is that the mere fact that they are intervening at all – and keep intervening – will raise our uncertainty about the value of dollars and the prices of records in the future. The whole idea that their currency manipulations will make our co-operation better or more beneficial is entirely preposterous.
Helping Greece through monetary debasement?
Of course, I am not denying that Greece as a political entity has some specific problems. This is how Professor Siegel in his article on euro devaluation describes the three key problems:
First, the flight of deposits out of fear of euro exit. Second, the unsustainable budget deficit. Third, high Greek labour costs that make Greece uncompetitive, in particular versus Germany.
I think the answers to these problems are straightforward in a market economy. You can only keep your savers if you are committed to hard money. For Greece that means, first and foremost, not leaving the euro. If the budget deficit is too big, which it certainly is, you have to rein in spending. As I said repeatedly, Greece should not only have defaulted on some of its privately held debt but also on its loans from official lenders. Greece should then not have accepted additional official loans and should now drastically cut public spending. This is hard, for sure, but it is the only cure for a deficit and debt problem. You cannot cure debt with more debt. And if labour costs are too high, they have to be reduced. If wages are too high – and they have risen much faster than in other Euro Zone countries – wages have to be allowed to fall. For this to happen, the labour market needs to be liberalized.
Staying in the euro, cutting spending and implementing structural reforms in order to make the labour market flexible and operable – that sounds a lot like what the much reviled ‘austerity camp’ prescribes, and I have to admit that it has economic logic more on its side than the ‘stimulus camp’. These prescriptions also have the advantage that they directly address what is wrong rather than try to shift the pain to others, for example to taxpayers in other Euro Zone countries or to euro-savers throughout the Euro Zone.
But Professor Siegel does not recommend ‘austerity’. He recommends devaluation for the entire Euro Zone, one assumes via aggressive money printing from the ECB and foreign exchange intervention. His belief is that this will address the competitiveness problem in particular. But uncompetitive wages in Greece are a relative-price problem, and furthermore a local one, and not a general purchasing power problem. Many Greek wages are too high in relation to what consumers – whether in Greece or outside Greece – are willing to pay for Greek goods and services. By debasing the euro Siegel does not directly impact the relative prices that are out of whack but he would inevitably set off numerous secondary and largely unforeseeable relative price effects throughout the Euro Zone. The good professor is willing to debase the euro internationally and by doing so disrupt the entire Euro Zone price structure in order to maintain the illusion among parts of the Greek population that their wages are sustainable.
As do most inflationists and currency-debasers, Professor Siegel only considers the immediate inflationary impact of his policy, the direct impact on the statistical average of euro prices, which he believes to be minor. That may or may not be the case, but the aggressive easing from the ECB that would be required to properly debase the euro would have many other effects, in particular on relative prices and on capital allocation, and this throughout the Euro Zone. At a minimum it would discourage saving and disrupt the process of deleveraging and bank balance sheet repair. Professor Siegel expressed about capital flight from the Euro Zone periphery (his first point above) but happily risks it for the entire Euro Zone as his policy would affect savers throughout the single currency area. And what about the deficit problem? Does he really think aggressive easing would provide incentives for fiscal consolidation anywhere in the Euro Zone?
Currency debasement creates a fleeting illusion of competiveness but would leave the Euro Zone ultimately with more debt, less saving and less true capital formation, and thus a less well-functioning economy. Professor Siegel himself states the following:
“Historically, overpriced labour markets have been cured, albeit painfully, by currency devaluation – an option which is not open to euro-based economies.”
It was precisely the recognition that this historical option of the quick fix had too many painful side-effects and that it was not really a cure to begin with, that made a currency union so attractive, in particular for countries with a history of currency debasement. By taking the placebo of currency devaluation away from local politicians in places such as Italy and Greece, it was hoped that they would finally address the real structural issues in their economies and stop robbing their savers and thus impairing domestic capital formation. They have not done so during the first 10 years of European Monetary Union as the global credit boom was in full swing and simply allowed them to borrow more. The time for change has finally arrived.
But our most prominent policy advisers seem to have learnt nothing. After we severed the last link to gold, we have had forty years of relentless fiat money debasement and debt accumulation to cover up the rigidities of the modern welfare state. Today, around the world, central banks have reached near zero policy rates and are resorting to employing their own balance sheets to keep the overstretched credit edifice from collapsing. Yet, the chorus of ‘experts’ still thinks that what we need is another devaluation, another round of QE and another rate cut, if at all possible. Their ideology has brought about the present mess. It is time we stop listening to them.
In the meantime, the debasement of paper money continues.
16 Responses to Thoughts on the Greek crisis and the politicization of economics
Leave a Reply
Schlichter Book
Schlichter Videos
Recent Comments
{ You raise some very good points that go slightly beyond what I was trying to... } – May 20, 9:47 AM
{ Interesting post. That said, and I don't mean to be disrespectful, I don't think it... } – May 20, 12:49 AM
{ How's that prediction turn out for ya? } – May 17, 4:53 PM
{ It is simple. Everyone should be free to choose as money whatever they want. No... } – May 11, 2:11 PM
[...] Schlichter explains why and how. Share [...]
I agree with the reasoning. it is very good and pragmatic. But in reality I believe in hyperinflation in the West just like we had it here at the beginning of the 1990s. For Western politicians it is next to impossible to tell the people – straighten your belts by 20%. Greece is only a small part of the problem. The entire Western world is in danger due to the overcrediting, the demand is low and will be still lower because it cannot be raised artificially any longer. Hyperinflation can help to bring down the level of life gradually which is not so painful. Whenever a deflatioany compression occurs the FED will respond with trillions
There is no other way. Nobody knows exactly when the reserves in the West are exhausted completely. May be 1,3,5 years, may be tomorrow.
Hi Detlev
I recently finished reading your book. Thank you! I really feel that the perspective you represent gets closer to the truth. That is, taking the point of view of the individual economic actor, instead of using statistics to describe an economy.
I’m interested in hearing your view on the crisis Japan has experienced – the “Lost Decade(s)” – in particular how you think this may reflect a possible pathway for the current crisis of the Western economies. Do you think we in the West may be in for 10 years of slow economic growth (if growth at all) all while public debt increases further? Fitch Ratings projects that Japan’s public debt will reach 240% of GDP by the end of 2012. Seemingly, investors are willing to support this, and if their willingness extends to the US as well, the impending monetary doom seems like it could be many years – or decades – into the future. What are your thoughts on this?
[...] This article was previously published at Paper Money Collapse. [...]
Thank you for the article. I think the policy of internal devaluation in a “hard currency” like the Euro is being brought into question. It quite clearly hasn’t worked – it’s just a self-feeding cycle of recession.
What if the Greek government defaulted on all the debt, reintroduced the Drachma with a limit on new money creation (requiring help from the IMF/EU) so as to execute a controlled devaluation of 40-50%, as the commentators tell us is necessary.
One or two years after that, the government sticks to a ‘strong drachma’ policy, perhaps with a euro peg or a gold peg as you suggest (even though that is unlikely).
Such a move would be similar to what the Greek government did in 1953. There was a sharp devaluation of the drachma and it was then admitted into Bretton Woods. Greece then enjoyed 15 years of strong GDP and wage growth (roughly on a par with West Germany and Japan – it was one of the best performing economies of the postwar era) and low inflation (1-2% annually).
What do you think, Detlev?
First apologies for the slow response. Maybe another devaluation (via euro exit and drachma reintroduction) is now inevitable if ‘only’ for political reasons and to stave off social unrest, although whether this will be avoided by euro exit I am not so sure. As an economist, I remain skeptical. To me the strategy sounds a bit like admitting that one has a drinking problem and that one has to face the withdrawal symptoms sooner or later but before that is the case, let’s just take another sip from the bottle first. Let’s devalue once more but then we will be a reformed country running a hard drachma policy, promise. — I am not saying it cannot work but I remain skeptical.
I have to agree with all of this in principle. A few questions though:
1. What happens if reducing labour costs is impossible in practice because of the riots and civil unrest it causes. Besides the dodgy keynesian stimulus reasons for devaluation, there is a feeling surely that devaluation is an easier way of reducing wages when people turn to violence any other way.
2. Is having the ECB set interest rates really any better than Greece setting its own. All it managed before was to allow the greeks to ratchet up the debt like never before.
3. Ignoring just the economic arguments, is staying in the euro and the loss of democracy that the new fiscal union is suggesting really worth it. It is becoming an increasingly over regulated and centrally controlled system and I’m not sure the greeks would be any worse outside.
I agree with you that the greeks should just have defaulted. When you get into huge debt there is no solution if you can’t afford it but to go bankrupt and move on. The real austerity all over is surely in the private sector where high taxes and rising inflation to pay off the debt and killing off any chance of recovery. Plus, as you say, stopping people saving – I continually despair at the talk of banks not lending when there is no incentive to save. Where is the money to lend meant to come from?!
David, as to your point 2): I am not in favor of the ECB setting interest rates. I am against fiat money and central banks as a matter of principle. I want the market to set interest rates. Therefore, I am not defending the ECB (which, from 1999 to 2007, provided the easy monetary policy that set up the Euro Zone for the present disaster) or even EMU. But I think it is wrong, as many commentators argue, that individual countries do better if they can issue their own local paper monies and set interest rates and manipulate exchange rates to their hearts’ content. ‘National monies’ constitute economic regression, not progress, when compared to the international, stable and hard-money gold standard. The political points you raise are valid. I would be the last person to deny the power of politics. But at the end of the day the rules of economics are as immutable as the laws of physics, and politics ignores them at its peril.
Another great piece Detlev. You bring in some good issues here that are too easily forgotten with the traditional thinking we are all exposed to. Leaving the Euro would be moving to a weaker currency – never good as you say. And tribalism lives – what is a German or Greek, but an individual with specific concerns and circumstances. Our political masters encourage us to see ourselves as a monolithic group that must be dominated and shepherded by a strong ruling class – sigh.
You make it clear that leaving the Euro is not a good option for Greece. It seems like politicians in every country want to continue to outspend their tax revenues and will do anything to preserve that option. Is there any country out there who is being responsible? Is there any country who is taking or may take a hard currency approach? I understand that some in Switzerland have advocated a type of gold standard. Is progress being made there, or elsewhere?
Without some counter examples of the basket cases we have now, no one seems willing to sail ahead with any real change. The Keynesian economic map is a flat earth – hard currency? Here be dragons.
I don’t think we are going to see any real changes in this currency debasement until things really fall apart, unless one country can break out and show the rest of the world how it can be done. Who do you propose Detlev?
I recently attended a presentation by John Butler who makes a very intelligent case that some of the big ‘emerging’ nations, the BRICs in particular (Brazil, Russia, India and China), have a strong interest in moving away from using the dollar. Since 1971 the US has enjoyed the privilege of issuing the world’s reserve currency – and happily debasing it, with all other nations debasing their fiat monies on top of the dollar. As we know, this system is now safely in its endgame. The BRICs suffer a lot of the consequences of US inflationism and, so John argues, have an interest to come up with an alternative monetary system. But none of their paper monies has the international standing to replace the dollar. An international gold standard, however, could have credibility. It would be apolitical and outside the control of any one nation.
Thanks Detlev. Is it possible for a single country to move to a gold standard or at least avoid further debasing their currency and “harden” their currency? Is it possible for a country to somewhat inoculate itself against the coming storm? Or are we all inexorably tied to the United States?
The BRIC group does have a strong interest in moving away from US reserve currency, but are they showing any signs of doing that? Would that happen quickly or gradually do you believe? Are they likely to do this quietly or with great fanfare? Do we wake up one morning with an entirely different currency landscape?
I know I am asking for a great deal of speculation on your part, but I am trying to get a sense of the possible paths from here to the there, of an internationally recognized gold standard. I guess I am looking for the signs that may signal significant and real change.
short therm pain long therm gain.
http://www.youtube.com/watch?v=zdB9I79BQRI
[...] a weaker currency. It has never been in the interest of any country to adopt a weak currency.READ MORE May 30th, 2012 | Tags: "Euro-zone", crisis, Currency, depreciation, Economics, European Monetary [...]
Thanks for this; it is interesting to observe how hugely uninformed both sides are about each other views. It is disappointing that we have to “vote” on each other’s economic future. Here are a couple of points:
A. “Germany has a strong industrial base and a high personal savings rate because she has had a relatively hard currency for so long.”
I do not believe that the hard DM is to thank for the strong industrial base of the country; hyperinflation was experienced from times to times as well. Alternatively, I understand inverse causality to be into play. I hold that Germany is currently the only EMU country to have benefited out of the euro experiment (only country that saw its unemployment rate go down since January 2010, yesterday the 10-year Bund was brokered at historically low interest rates ~ 1.33, even the CESifo economic prospects index saw an improvement) because it now reaps the fruits of Schröder’s (!)low-key expansionary income policy. Productivity steadily increased throughout the years as firms captured market share by enhancing quality rather than cutting prices. Low inflation is the single objective of the Bundesbank which implies no currency debasement whatsoever. As the German central bank has established its credibility, this signal led to an increasingly harder currency; a safe-haven.
A by-product, the hard-currency constraint has been coped with the typical Germanic thrift to ultimate success as the country is the globe’s #1 exporter. Maybe an unintended consequence but currently it also enjoys the periphery’s flight to quality. Should “the Greeks” exit the Eurozone or would that hurt German exports?
B. That an EMU exit can ever help Greece is absolutely nonsense.
Greece exports less than it imports. More sadly, a devaluation is irrelevant in propping up Greek exports as the foremost exporting industry is maritime services (world’s largest commercial fleet) that trades in the greenback. However, the price of oil and other commodities will skyrocket as it will adjust to the drachma exchange rate. Aouchh.
–
Basis of Capitalism
“Capitalism is based on capital, and capital is generated through saving and not money-printing . . . ”
The true basis of what we describe as capitalism is – production.
The ability to produce surplus rather than “savings” (which are usually just deferred consumption) is the beginning of the system, which requires redeployment of the surplus(es) for expansion. That holds true for societies large and small and the civilizations which they form.
It has been true for almost 100 years now that credit extensions based on fractional reserve financing (mostly banks and central sources of credits) have displaced redeployments of surpluses as the major sources of “capital” that should be directed toward production or distribution. In the U S, as a result, the return on invested capital has declined over 25% from 1965 through 2010. It is now about 1.6% in a sunny year. The general rate of return on assets has had a similar fate.
Meanwhile, there are large un-deployed surpluses within the system of what has become managerial capitalism.
That was a well-noted result of the separation of control over capital due to the fragmentation of ownership (see, Berle & Means 1932;rev 1967).
Capital arises in a society as the accretion of assets, non-transient in character, transferable (in varying degrees) having “values” derived principally from utilities in production and distribution. Thus, capital is not monetary in nature.
Monetary aspects may affect the transfers, the selections among assets by marginal utility, and the forms, but not the sources, of accretions.
Due to its dispersions, deferred consumption (“savings”) requires intermediary functions for deployment into investment for production or distribution. That function is no longer as “profitable” (relative yield-to administrative costs) as is funding by leveraged credits. “Savings” cannot earn a risk-related return plus the intermediary charges. “Savings” are not the source of capital.
The intermediary functions have been disrupted. A good portion of them has been diverted through the “shadow banking” systems. Note the uses of private equity (and of hedge funds too) by the broader-based pension funds and other aggregating mechanisms.
A plausible case can be made that the “bubble” of credit used in funding investments (purchases of productive assets) was to some (perhaps very large) extent caused by the vacuum of the non-redeployment of surpluses held as retained earnings in large enterprises whose ownerships are fragmented and control over the dispositions of their capital is represented through layers of managements, each layer having its own motivations.
So far, the “tie” of the effects on basic capital formation to the uses of the printing presses is not all that definitive or determinative.
I think your rant against national sovereignty is hypocritical, especially when germany’s policy for having a low euro for her exports is acting for german interests alone.
i have written a thesis regarding the illusion about german productivity and german products can be just as inflationary as paper money. They have no inherent intrinsic need and use, but are marketed as a want or through monopolies.
germany by once having an inferiority complex now has a superiority complex build around the myth of the hard working superior german working for the marxist state.
the banking system that exploits the common person is ungreek and is the product of a old feudalistic medieval german system from the middle ages of which many roman commentators have called barbaric.
the greeks and romans never had an inflationary credit system that produced cheap money and debt and decreased the purchasing power of money, nor used it as a way to ciphone assets from the republic.
the degree to how much a civilisation is civilised depends upon the stability of a currency and the degree by which a government can regulate price for the benefit of the market and the people. eg constantinople.
anything else to these masters of civilisation was considered barbaric.
is this just another case of the barbarians attacking rome and calling a spade a spade?
First, the flight of deposits out of fear of euro exit. Second, the unsustainable budget deficit. Third, high Greek labour costs that make Greece uncompetitive, in particular versus Germany.