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February 27 2014

"How To Make EU Governance More Effective" by Jan Marinus Wiersma

Jan Marinus Wiersma, EU governance

Jan Marinus Wiersma

Recently I was asked to speak somewhere in The Netherlands about Croatia and the European democracy debate. Of course I did not get very far with writing my speech. What to say? The country has other priorities than discussing the balance between the community method and the intergovernmental approach or the fine tuning of the roles of the European Parliament and the national parliaments of the European Union. It just became EU member and has a hell of a job just coping with that.

The debate is of course a Dutch preoccupation and we are interested in finding out what others think of it. But it is not irrelevant. We are just a few months away from the European elections and the discussion about the pro’s and the con’s of European integration  – or cooperation as we call it now in The Hague – is heating up with arguments about more or less Europe and even talk about giving up the euro or leaving the EU altogether. It will certainly be a lively campaign and let us hope it will in general be about substance like jobs or banks.

But I do hope and expect that new member states will actively engage in what I see as one of the main battles to come right after the European elections. It is about new power sharing arrangements between the European Council, the European Parliament (EP) and the European Commission.

National Parliaments and EU Governance

The present Dutch government is campaigning for a greater role of national parliaments in deciding what Brussels should do and not do. It is part of the current debate about the principle of subsidiarity (in shorthand: what can be done nationally should remain at that level) that was started by Prime Minister Cameron at the beginning of last year but that has also been put on the political agenda – albeit in a different way – by The Netherlands with support of other EU governments. Whereas David Cameron is especially concerned about the position of the UK in the EU and the rising Euroscepticism in his own party and therefore demands a repatriation of EU competences, on the continent – where anti EU sentiments have also increased – a better functioning and more focussed EU and more effective democratic scrutiny have been cited as motives for doing so. This should help making the EU more acceptable to its citizens. For the moment it is somewhat silent in London, maybe because the British government did not hit the right tone last year and was not able to recruit ‘friendly nations‘ like the Netherlands for its far reaching ambitions. [1]

In the Dutch view – more  pragmatic and less radical than the British one – the new European Commission should, after consultation of the other EU institutions, present as part of its work programme a list of priorities with ‘do’s’ and ‘don’ts’ respecting the subsidiarity principle. As Foreign Minister Frans Timmermans (Labour) said on February 20th in a major Europe speech: “The EU must be modest and realize that the Union cannot exist without the Member States“. The EU should involve more national democratic institutions and national parliaments should become more engaged, he said. The EU should focus on the main challenges and stop putting too much energy into side issues, in creating more competences or adding new members, according to the minister. He wants a political agreement as soon as possible  after the end of May  and no Treaty change nor meddling with official EU competences.

The Dutch not only want to trim the EU in this way but also hope to compensate for or balance the growing influence of the European Parliament on the European Commission.

The European Parliament’s Ambition

The EP has stepped up its ambitions by claiming  a decisive voice in the nomination and election of the new Commission president and determining his or her legislative work programme. It also hopes to strengthen the community method after the European Council overlooked the EP and the European Commission when taking major decisions on the euro crisis. That allowed Germany and France to dictate outcomes and presented some governments with the alibi of not having transferred competences to Brussels since the use of the community method was avoided – Dutch Prime Minister Rutte has been keen to stress this. The EP, however, wants to go the other way and has even hinted at the establishment of a real European government and political union. No wonder some Member States get worried about reduced influence of the Council of Ministers.

In trying to tackle the ambitions of the EP, the Dutch for example want a greater role for national parliaments, who according to the Treaty are the guardians of subsidiarity,  by giving them more blocking power – the so-called yellow card should become in practice a red one – when the subsidiarity but also the proportionality of proposed EU measures are at stake. It is argued that the EP lacks the legitimacy to claim more power because it does not have the sovereign competences that national parliaments have and is plagued by very low turnouts. That may be true,  but in many countries the EP as such is more popular than the national parliament – the Netherlands being one of the exceptions. Higher turnouts in national elections are therefore not so much an expression of higher trust in national politicians; they are caused by the fact that those who turn up at the ballot boxes believe that their vote counts. This seems much less the case with European elections which people find more difficult to understand. So it is hard to say who would win a proper beauty contest: the EP or national parliaments. We should not let it come that far.

The European Council (also representing national parliaments) and the EP should opt instead for a ‘superdeal’. The Council should accept the candidate for the presidency of the European Commission of the EP in exchange for a governance pact which will allow the member states to have a say on the work programme of the Commission. The two institutions could also politically agree on turning the yellow card procedure into a red one. But the introduction of the red card should be coupled with better arrangements to  include national parliaments at earlier stages in the legislative process to avoid an unnecessary reliance on their blocking power. Both the EP and the national parliaments should stop denying one another. Effective and legitimate democratic scrutiny of the EU can only be achieved if they start to share their responsibility for maintaining democratic standards.

[1] See: “Britain and The Netherlands: Similar concerns but different approaches in reforming the EU”.  Jan Marinus Wiersma and Adriaan Schout. In: Adam Hug (ed), Renegotiation, Reform and Referendum: Does Britain have an EU future?. EPC. Londen, 2014

February 26 2014

"Death To Machines?" by Robert Skidelsky

Robert Skidelsky, machines

Robert Skidelsky

At the start of the Industrial Revolution, textile workers in the Midlands and the North of England, mainly weavers, staged a spontaneous revolt, smashing machinery and burning factories. Their complaint was that the newfangled machines were robbing them of their wages and jobs.

The rebels took their name, and inspiration, from the apocryphal Ned Ludd, supposedly an apprentice weaver who smashed two knitting frames in 1779 in a “fit of passion.” Robert Calvert wrote a ballad about him in 1985: “They said Ned Ludd was an idiot boy/ That all he could do was wreck and destroy,” the song begins. And then: “He turned to his workmates and said: ‘Death to Machines’/They tread on our future and stamp on our dreams.”

The Luddites’ rampage was at its height in 1811-12. An alarmed government sent in more troops to garrison the disturbed areas than were then available to Wellington in the Peninsular War against Napoleon. More than a hundred Luddites were hanged or transported to Australia. These measures restored peace. The machines won: the Luddites are a footnote in the history of the Industrial Revolution.

Historians tell us that the Luddites were victims of a temporary conjuncture of rising prices and falling wages that threatened them with starvation in a society with minimal welfare provision. The Luddites, however, blamed their misfortune on the machines themselves.

The new knitting frames and power looms could weave yarn into cloth much faster than the most skilled artisan weaver working in his own cottage. Caught between fixed costs (the hire and upkeep of their domestic appliances) and falling prices for their products, tens of thousands of families were doomed to become paupers.

Their plight evoked some sympathy (Lord Byron made a brilliant speech in their defense in the House of Lords); their arguments, however, did not. There could be no rejecting progress: the future lay with machine production, not with old-fashioned handicrafts. Trying to regulate trade, Adam Smith taught, was like trying to “regulate the wind.”

Thomas Paine spoke for middle-class radicalism when he said, “We know that every machine for the abridgment of labor is a blessing to the great family of which we are part.” There would, of course, be some temporary unemployment in the technologically advancing sectors; but, in the long run, machine-assisted production, by increasing the real wealth of the community, would enable full employment at higher wages.

That was the initial view of David Ricardo, the most influential economist of the nineteenth century. But in the third edition of his Principles of Political Economy (1817), he inserted a chapter on machinery that changed tack. He was now “convinced that the substitution of machines for human labor is often very injurious to the class of laborers,” that the “same cause which may increase the net revenue of the country, may at the same time render the population redundant.” As a result, “the opinion entertained by the laboring class, that the employment of machinery is frequently detrimental to their interests, is not founded on prejudice and error, but is conformable to the correct principles of political economy.”

Just consider: machinery “may render the population redundant”! A bleaker prospect is not to be found in economics. Ricardo’s orthodox followers took no notice of it, assuming it to be a rare lapse by the Master. But was it?

The pessimistic argument is as follows: If machines costing $5 an hour can produce the same amount as workers costing $10 an hour, employers have an incentive to substitute machines for labor up to the point that the costs are equal – that is, when the wages of the workers have fallen to $5 an hour. As machines become ever more productive, so wages tend to fall even more, toward zero, and the population becomes redundant.

Now, it did not work out like that. Labor’s share of GDP remained constant throughout the Industrial Age. The pessimistic argument ignored the fact that by lowering the cost of goods, machines increased workers’ real wages – enabling them to buy more – and that the rise in labor productivity enabled employers (often under pressure from trade unions) to pay more per worker. It also assumed that machines and workers were close substitutes, whereas more often than not workers could still do things that machines could not.

However, over the last 30 years, the share of wages in national income has been falling, owing to what MIT professors Erik Brynjolfsson and Andrew McAfee call the “second machine age.” Computerized technology has penetrated deeply into the service sector, taking over jobs for which the human factor and “cognitive functions” were hitherto deemed indispensable.

In retail, for example, Walmart and Amazon are prime examples of new technology driving down workers’ wages. Because computer programs and humans are close substitutes for such jobs, and given the predictable improvement in computing power, there seems to be no technical obstacle to the redundancy of workers across much of the service economy.

Yes, there will still be activities that require human skills, and these skills can be improved. But it is broadly true that the more computers can do, the less humans need to do. The prospect of the “abridgment of labor” should fill us with hope rather than foreboding. But, in our kind of society, there are no mechanisms for converting redundancy into leisure.

That brings me back to the Luddites. They claimed that because machines were cheaper than labor, their introduction would depress wages. They argued the case for skill against cheapness. The most thoughtful of them understood that consumption depends on real income, and that depressing real income destroys businesses. Above all, they understood that the solution to the problems created by machines would not be found in laissez-faire nostrums.

The Luddites were wrong on many points; but perhaps they deserve more than a footnote.

© Project Syndicate

Reposted by02mydafsoup-01 02mydafsoup-01

February 25 2014

"Raising The Bar For Participation? The German SPD Membership Ballot" by Felix Butzlaff

Felix Butzlaff, SPD Membership Ballot

Felix Butzlaff

It was an interesting and promising experiment: In December 2013 the German Social Democratic Party (SPD) asked its members to vote on the question of a possible grand coalition with the German Christian Democrats of Angela Merkel. And within as well as outside of the party many observers had been questioning if this procedure was such a good idea.

A broad and fundamental discussion arose about the planned party ballot and whether the mere 475.000 members of one political party should, in the end, be able to decide if a planned national government could materialize. And don’t forget about the question of wether the usual procedures of a parliamentary democracy can easily be extended with more direct and participatory forms of decision-making.

A big part of the guessing game on a possible outcome of the membership vote was due to the fact that any survey could only focus on people sympathizing with the SPD but not directly on the members themselves. Only the party leadership holds the address list of party members and running a poll over the whole population just to filter the voting SPD members out would have been far too costly. The result was that until the party ballot was held nobody really had an idea what the outcome would be and therefore about the consequences for the SPD, any new government run by Angela Merkel, and for German democracy in general.

Party conferences in the days and weeks prior to the vote received intense media coverage and therefore led to an impression of a truly pessimistic social democratic mood. A great part of the people speaking up at these party meetings or regional conferences were understandably those driven by a feeling of critique towards the party leaders and their proposition of a coalition with the German conservatives. But this led to an exaggeration of possible no-votes before the ballot.

In the end the party vote showed a clear approval of the proposed coalition project: Almost 370.000 of the currently 475.000 social democratic members participated in the ballot. This meant 78% of all members instead of the required minimum turnout of 20%. 75,96% had voted in favour of a grand coalition whereas 23,95% had voted against it. But the detailed reasons for the membership decision still remained unclear. Nevertheless the party ballot has had a motivating effect on the membership itself and furthermore on the other German political parties. Who wants to fall behind this new elevated bar of inner-party participation if the social democratic experience was entirely positive?

What Were The Reasons Behind The SPD Membership Ballot?

The Göttingen Institute for Democracy Research conducted an online survey together with the SPD headquarter asking for a more detailed insight into the decision-making and reasoning of social democratic party members on the issue. A german full text version of this study can be found here. 5000 party members were chosen by chance and received an online questionnaire via email. In total 855 completed the form which represents a 17% response rate – an acceptable rate for online polling.

One of the strongest results is that a big part of party members made their voting decision on a government involvement on the basis of strategic reasoning. Almost two thirds of those approving a coalition with the CDU/CSU said they did so because of the fact that a government involvement at least enables the SPD to realize some of its political goals. 46,1% declared they feared new general elections and an even worse result for the SPD in case the party members did not approve the proposed coalition. 30,6% said that they had their doubts about the project of a coalition with the CDU/CSU but nevertheless wanted to support the party leadership. Only 23% stated that they generally agreed with the draft of the coalition agreement, which was formally the issue of the vote.

Those who did not approve the coalition agreement also made their decision for reasons of the possible outcomes or consequences of a SPD in government. Two thirds of the no-votes feared a weak SPD in government would face a serious electoral downturn afterwards and 32,2% generally disliked the idea of a grand coalition with the Christian Democrats. Only one participant raised a plea with regard to contents of the coalition agreement.

There is one point on which almost all social democratic party members agreed. 92,2% found a membership vote on a coalition agreement to be a “very good idea”, as well the information policy of the party management which was praised by two thirds of the participants of the survey. Only 12,5% stated that the information policy of the party management on the issue of the coalition agreement was “bad” or “very bad”. This shows that the idea of the SPD to stimulate an intense debate within the party and to create a motivating discourse about the party’s future appears to have been a successful experiment in terms of membership perception.

How Do Party Members Inform Themselves?

Another positive outcome of the survey shows that social democratic members in Germany still rely on the party’s media publications when it comes to inner-party debates. The “Vorwärts”, the 1876 founded SPD membership journal, which published a special issue on the poll and the coalition agreement in late November, was mentioned as the most used information source for personal decision-making and was trusted by more than 85% who declared to find it “informative” or “very informative”. Other parts of SPD communication such as a regular email newsletter, regional conferences on the issue or the SPD homepage as an information source for party members received strong approval as well. This result shows that traditional channels of information spreading within political parties might still play a very important role for inner-party debates and discussions.

More than 60% of SPD members say they feel “satisfied” or “very satisfied” with their personal possibilities of participation within the SPD. Nevertheless the debate of opening up party decision-making to its members or even further afield has raised the level of expectation. More than two thirds of the social democrats asked stated they wish further influence and the opportunity of voting on SPD programmatic and policy content issues. Only 40% say the same about decision-making on candidates for public offices, campaigns or party leaders. This differs from the perception held hitherto that it would be the personalized decision on a candidate for presidency or the party leadership that would motivate the membership to vote – instead it appears to be the programmatic development of social democracy policy that lies at the core of membership concerns.

One important part of the debate on party membership participation over the last two decades has been the non-member-participation from the Spanish PSOE organizaciones sectoriales to the French PS open referendum on the candidate for presidency. Especially the French example has always been taken as a kind of lighthouse example for the German SPD. Not only do the numbers show that it is the programmatic discussion which motivates social democratic members much more but, furthermore, that non-member-participation in binding decision-making is rejected by more than 70% of social democratic members. Only a small minority wishes a further involvement of non-members.

And one more outcome of the survey might be interesting to look at: Despite the positive evaluation of the own party leaders and management barely 20% of SPD members said that they feel “optimistic” or “very optimistic” when thinking of the party’s future in government. Membership participation in inner-party decision-making might motivate strongly and promote further encouraging debates. But it cannot rapidly regain the trust once lost. Furthermore, it raises an expectation of future party behaviour that can easily cause frustration and even more losses if the path of a new social democratic culture of inner-party participation is not followed.

February 24 2014

"Now The Real Battle For Ukraine Begins" by Mick Antoniw

Mick Antoniw, Ukraine

Mick Antoniw

As I write this article, the situation in Ukraine continues to develop. Last week the death toll increased to around 100, predominantly protestors, many of whom were picked off by snipers from the roof tops.

Medical evidence confirms that many were killed instantaneously by professional snipers of the Berkut, aiming for the head and heart. At one stage it seemed the Maidan was doomed to annihilation as the militia gradually took over more and more territory. The Maidan movement knew they had to hold the square until morning when civilian reinforcements would arrive from around Kiev and the rest of the country.

Closing down the rails system and blockading the city may have seemed a clever move by the government, but it backfired as the protest movement spread to areas on the outskirt of the city. The government, it seems, also failed to anticipate the scale of protest around the rest of the country, particularly in the west but also in the East in Kharkhiv, Dnipropetrovsk, Zaporizhia, Poltava and Odessa. In the West there was virtually a declaration of independence from the Yanukovich government. What probably was even more concerning was the sizure of weaponry and grenades from police and militia depots in places like Ivano Frankivsk, Lviv and Ternopil. These weapons were undoubtedly heading towards Kiev.

As members of his Party of the Regions defected in increasing numbers, Yanukovich was being deserted by his allies and lost his majority in Parliament. A counter attack by protestors, reinforced by thousands of Ukrainian citizens pouring into the city and the disappearing political support for the Berkut led them to pull back. As the protestors seized more and more territory, the beleaguered Yanukovich was forced into all night talks with foreign ministers from the EU. A deal was then done which would lead to early Presidential elections and constitutional reform.

Yet even at this stage, it was likely the Maidan would not accept any deal which left Yanukovich in power. Had he remained, had his security services been prepared to back him, it is likely he would have stayed in position ready to declare marshall law. Whether this would have succeeded and whether the military forces would have followed him is doubtfu, but it could have triggered civil war and fragmentation of the country.

As some hardline members of the Ukrainian Rada (parliament) ran for cover to their heartlands it was clear the game was up. As we now know, Yanukovich put in place an escape plan and began destroying documents and records and then fled. Since then, the Rada has set about reforming Ukrainian governance. Restoring the constitution to the 2004 model of parliamentary democratic primacy, new and early elections for President, new electoral laws to guarantee independence of the electoral system and pulling together a government of national unity.

This is the relative easy part. Three major challenges now face the new government and will test the international community to the maximum.

The first is to put together a new package of financial support to rescue the Ukrainian economy. This is likely to require a package at least as large as the $15 billion promised by the  Putin. This needs to be done urgently as it is anticipated that by May or June the country is likely to default on its international debts. The international community needs to work progressively with the new Ukrainian government over economic transition which will inevitably look at state subsidies particularly in the energy sector. Reform of the Ukrainian economy is essential but needs to be handled sensitively as part of a longer term plan rather than a short sharp shock.

Secondly, the international community needs to ensure there is pressure on Putin to desist from his own discreet sanctions to destabilise the economy. This will require the highest level of diplomacy and pressure. Russia did not sign up to the Yanukovich deal and now describe events in Kiev as a fascist coup, the same words used by Yanukovich in his last television address.

Russia can cause Ukraine considerable economic distress by increasing the price of gas, by pressing for loan repayments and by provoking anti Kiev sentiment in parts of the East and Crimea. Just as he did in Georgia, Putin may wish to portray Russia as the protector of the ethnic Russian population many of whom hold dual nationality, something which has been encouraged by Russia over the past few years. He may even go so far as to press for a referendum on the return of the autonomous region of Crimea to Russia. This would secure his current arrangements for the Black Sea Fleet and also put him in a dangerously strong geographical and political position from which to destabilise the Ukrainian government with a view to fracturing the country.

Thirdly will be the conduct of an inquiry which is to be set up to look into past corruption and the events of the past three months. In particular the use of the security services and militia to attack and kidnap civilians, the decisions to use live ammunition against the protestors and the likelihood of a trial of the former President. Of these, the examination of the assets and the role of the main oligarchs may prove the most challenging. Unravelling the corrupt mess that is the Ukrainian economy will not be easy. Many of these assets are based in Europe and will require the utmost commitment from the European Union.

In the meantime, the EU has to start showing goodwill by supporting a new trade agreement and coming forward with proposals to liberalise visa restrictions. The pro-European sentiment that sparked the Maidan movement could just as easily disappear if the EU is not seen to be trustworthy and genuinely committed to  the development of a  partnership which has the possibility of leading to EU membership.

"The Economics Of Social Democracy" by John Weeks

John Weeks, Economics Of Social Democracy

John Weeks

In a recent article in the Social Europe Journal Shayn McCallum develops in some detail his interpretation of the “political economy” of social democracy. Central to his approach is the work of Karl Polanyi, and specially the famous Chapter 6 of The Great Transformation, “The Self-regulating Market and the Fictitious Commodities: Labor, Land, and Money”. This chapter, obviously influenced by Karl Marx who is not cited, provides the basis for developing the “economics” of social democracy.

I specifically seek to distinguish the economic policy framework of social democracy from that of “liberalism” as that term is used in the United States (for a longer discussion see Chapter 10 of my new book, The Economics of the 1%). US-style Liberalism under different names has characterized the policies of the left of center parties in most of Western Europe.

The economics of Liberalism at its core assesses capitalism as suffering from imperfections and distortions, but an essentially stable, effective and even efficient organizer of production and distribution. A society’s economic framework involves designing and implementing policies to correct or eliminate the imperfections and distortions. At the macroeconomic level policy seeks to correct the tendency for capitalist economies to operate at less than full employment. A clear example of this policy is the US Full Employment Act of 1946, which mandated Congress to “promote maximum employment”, as well as creating the presidential Council of Economic Advisors. Complementary to fostering employment in the Liberal framework is the use of the tax structure to prevent extreme differences across the income distribution.

At the sectoral level the Liberal economic policy seeks to enforce or establish market competition. This policy derives from an analysis that views competition as an effective regulator of business behavior. Its antithesis, monopoly (or more generally monopolistic competition), results in misallocation of resources and abuses derivative from market power. Of particular importance is close regulation of the financial sector, which characterized both the United States and Western European countries during the thirty years following World War II. I would argue that the enthusiasm for financial deregulation beginning in the 1970s disqualifies as Liberal all US presidents as well as Tony Blair and Gordon Brown in the United Kingdom.

To summarize, the Liberal economic framework rest on the presumption that capitalism tends to stability, and the task of policy is to correct its inefficiencies and excesses. In contrast, the economics of social democracy derives from an assessment that capitalism is inherently unstable and competition the basic cause of that instability. Writing in the foremost economic publication of the time, The Economic Journal, in 1946 the British economist K. W. Rothschild summarized the social democratic view of competition succinctly,

…[W]hen we enter the field of rivalry between [corporate] giants, the traditional separation of the political from the economic can no longer be maintained. Once we have recognised that the desire for a strong position ranks equally with the desire for immediate maximum profits we must follow this new dual approach to its logical end.

Fascism… has been largely brought into power by this very struggle in an attempt of the most powerful oligopolists to strengthen, through political action, their position in the labour market and vis-à-vis their smaller competitors, and finally to strike out in order to change the world market situation in their favour.

How is the Economics of Social Democracy different?

To state the social democratic argument simply, competition among great corporations generates the instability and anti-social tendencies in capitalist society, leading to dictatorship not freedom. If competition is the essential flaw in capitalist economies rather than its stabilizing force, this implies a fundamentally different approach to regulation. To use the dichotomy made popular by the Occupy Movement, the malign effects on competition imply that in markets the 99% confront the overwhelming power of the 1%. To use more traditional language, in markets capital is strong and labor is weak.

The overwhelming strength of capital in markets sets the social democratic agenda for the economy – restrict the role of markets in society. This has taken two forms: 1) replacing private enterprise with public sector institutions, and 2) ending the commodity status of labor and also of important elements of basic human needs.

With regard to the first, the vast majority counters the combined strength of capital by collective action implemented through public sector institutions. Controlling the power of capital has two parts. Collective action by the majority restrains the power of capital by severely restricting the role of wealth in the political process, including regulation and/or public ownership of the media (e.g., public sector radio, television and in the current era the internet). These restrictions can take the form of strict regulation of private enterprise, direct public ownership, or converting private profit-making enterprise into non-profit institutions (such as the British Broadcasting Corporation).

Following the deregulation of banking in the United States and Europe, economic activity has increasingly come under the control of finance capital. Essential to the social democratic project will be to neutralize the power of finance. As for the media, collective action can achieve this neutralization through direct public ownership or converting financial institutions into non-profit enterprises.

Introducing a guaranteed minimum income for all citizens would severely limit the commodity status of labor. This would in effect eliminate unemployment as a method of disciplining labor. Working people would have a real choice among employers and types of work, rather that forced to take whatever might be offered. Health care, education and basic transport are not items of consumption. Rather, they are activities to maintain the productivity of the labor force and facilitate a decent life lived with dignity. A social democratic society ensures universal provision of these without regard to ability to pay.

This core agenda, replacing destabilizing private sector enterprise with public institutions and insolating labor from the misery of unemployment, is consistent with an economy in which production is overwhelmingly in the hands of capital. However, the power of capital to dominate markets and the political process would end.

To summarize in a sentence, Liberalism seeks to tame capitalism, while social democracy aims to restrict capitalism. While some policies apply to both, such as countercyclical fiscal and monetary policy, the economic frameworks of Liberalism and social democracy are quite different. Forty years ago the economics of social democracy to varying degrees characterized countries in Europe, most obviously the Nordic states, West Germany and the United Kingdom. The defeat of social democracy required the dismantling of the regulations that constrained the power of capital.

From the point of view of the vast majority, the countries of Europe and much of the rest of the world have gone down a cul de sac of deregulation and liberation of capital. We shall escape this cul de sac of dominance by financial capital by turning around and going back the way we came in. We shall achieve a more permanent exit with a social democratic economic agenda rather than Liberal re-regulation.

February 20 2014

"The Outcome Of The People’s Initiative In Switzerland – A Huge Setback!" by Paul Rechsteiner, Andreas Rieger and Renzo Ambrosetti

Paul Rechsteiner, People's Initiative

Paul Rechsteiner

On 9 February a narrow majority of Swiss voters voted in favour of an initiative by the Swiss People’s Party (SVP) calling for the re-introduction of quotas for immigrants from the EU. This decision is a huge setback for immigrants to Switzerland, for trade unions and for all progressive forces, and leads Switzerland unavoidably up a blind alley.

The Background

Switzerland has been a country of immigration since the beginning of the 20th century. Already in the 1970s, people with other passports accounted for more than 20% of the population. At that time, immigration was governed by a system of quotas and special statuses which left migrants completely without rights: Seasonal workers were only entitled to fixed-term residence permits which in addition were valid only for a specific employer. Moreover, migrant’s families were not permitted to join them under any circumstances. In the late 1980s, however, the statute governing seasonal workers came under increased pressure from Swiss trade unions that succeeded in organising a very large number of migrant workers and  European states alike.

Andreas Rieger, People's Initiative

Andreas Rieger

In 1992 Switzerland’s accession to the European Economic Area or EEA (with Norway, Iceland and Liechtenstein) came up for discussion. The aim was to introduce free movement of people as defined by the European Community at that time, i.e. to abolish quotas and discriminating regulations. Swiss trade unions supported this as well as membership of the EEA. But in 1992 50.3% of Swiss voters voted against the EEA. One of the main reasons behind the No-vote was the desire of national conservative right-wing parties to keep their distance from the European Community. But another reason was the fact that blue- and white-collar workers feared that free movement of workers would undermine the Swiss wages and labour standards.

The government responded by launching negotiations on bilateral accords with the EU. It was now prepared to negotiate with the trade unions on flanking measures on free movement of people in order to protect wages and working conditions. Among other things, this resulted in a Posted Workers Act and the installation of tripartite committees to monitor developments. In 2000 a large majority of voters (67.2%) voted in favour of the package of bilateral accords with the EU, accompanied by flanking measures, which is still applicable.

Enzo Ambrosetti, People's Initiative

Enzo Ambrosetti

In the years following this vote, the flanking measures were implemented. However, both foreign and Swiss employers repeatedly exploited loopholes in the flanking measures legislation. But the unions succeeded in turn on several occasions to close several loopholes in negotiations with the government and employer associations ahead of the extension of the bilateral accords to the EU’s new member states. In the 2005 referendum on extending free movement of people to the new EU member states (enlargement to the East), 56% of voters voted Yes, contrary to the SVP’s position. In the 2009 referendum on extending free movement to Bulgaria and Romania, 59.6% of voters voted Yes.

The Referendum of 9 February 2014

In 2011 the right-wing, anti-foreigner SVP decided to launch a new people’s initiative essentially opposing free movement of people and thus immigration. The initiative clearly opposed the flanking measures which, in the SVP’s opinion, strengthen the trade unions. The bilateral accords with the EU were not directly attacked – the SVP claimed that free movement of people could be questioned without risking the bilateral argeements, and it was only a matter of negotiating effectively with the EU.

For a long time the government, leading figures in the business world as well as progressive groups did not take the initiative seriously in the belief that the majority of voters would once more vote “sensibly”. Despite warnings from the trade unions, employers and authorities baulked at any further tightening of the flanking measures even though this was urgently needed. The trade unions as well as the social democratic and green parties came out clearly against the SVP initiative: because it ran roughshod over the rights of migrants; because it weakened measures to protect wages and employment conditions; and because it essentially cast doubt on the bilateral accords with the EU. In keeping with this the SGB and Unia have been waging a campaign against the SVP initiative in recent months – regrettably without success.

Why did a narrow majority of voters (50.3%, as in 1992!) vote Yes to the SVP initiative, unlike earlier referenda on enlargement to the East?

  • The Swiss employment market has enjoyed robust growth since 2010: Within only four years it has grown by around 8% i.e. 2% per year. Three-quarters of this growth is due to recruiting foreign workers. This fuelled a growth-averse discussion.
  • The new wave of immigrants increased the proportion of foreigners in the resident population to 23%, and their share of work performed to 31%. This proved fertile ground for the anti-foreigner debates which repeatedly flare up in Switzerland.
  • More and more highly skilled individuals have been recruited from abroad since 2002. Unlike traditional migration, which provided the “substratum” of the employment structure in Switzerland, many companies now had an “upper stratum” of foreigners. This explains that the willingness of middle-income groups to vote in favour of the SVP initiative.
  • While increased immigration has not generally resulted in lower salaries (the trade unions have been able to negotiate real wage rises of approximately 1% per year in recent years), wages for new hires have come under pressure in several sectors. Certain professions have seen devastating drops in salaries for new hires, e.g. the IT sector, journalism, home care workers etc.  Moreover, cases of out-and-out wage dumping are on the increase, particularly in the construction sector. And in the canton of Ticino an actual criminal system has evolved: While posted workers are given correct contracts of employment and receive the correct salary, they must immediately hand over half of their pay to their “capi”.
  • This trend has largely been driven not by immigrants who have simply moved to Switzerland to seek work; but by employers in Switzerland seeking to exploit the large and cheap supply of labour in Europe. Whether by hiring workers more cheaply. Or by contracting work out to cheap foreign companies, well aware that they would not keep to the Swiss pay level given such low prices.

The SVP initiative skilfully exploited this situation. It fuelled anti-foreigner sentiments and conservative attitudes to growth; it kindled middle-class anxieties; and it blamed immigration on rising rents and overcrowded trains. Over the last few weeks before the vote, it attracted an amalgam of opponents of all types and culminated in a 50.3% Yes vote.

If we look at a map of the voting results, the first thing that strikes us is the town-country divide: Most of the YES votes were in very rural regions of German-speaking Switzerland, where the proportion of foreigners is minimal and growth is negative. By contrast, in the larger cities from Geneva to Bern, Zurich and Basel, the SVP initiative was rejected by a majority of between 60 and 70%, even though the proportion of foreigners is well above 30% in these areas. It is here that the left-wing, left-liberal and labour/trade union interpretation of the problems held sway.

Secondly, we see Switzerland split into three linguistic regions: Despite the No from larger cities, German-speaking Switzerland accepted the SVP initiative and French-speaking Switzerland rejected it. The No from French-speaking Switzerland has nothing to do with lower numbers of foreigners or less wage dumping, but the stronger powers of interpretation by progressive groups, including the trade unions. The Ticino is a special case: More than 70% of voters voted YES, many due to the worsening job market situation.

Finally, the results clearly show a left-right divide. Cities and even smaller communities with a traditionally high proportion of left-wing and green voters said NO. In other words, the aforementioned amalgam attracted only a small proportion of grass-roots left-wing and Green voters. The grass-roots FDP (Liberal Party) and CVP (Christian People’s Party) show a completely different picture, as they have moved inexorably closer to the SVP in recent years.

What next?

The outcome of the vote cuts deep. The consequences will be far-reaching. The Swiss Constitution now dictates that immigration shall be “restricted by limits on numbers and by quotas”. This is not just any old safety valve. The SVP wants Switzerland to revert to the former limits and caps on permits, which are for a fixed term only and do not permit families to follow. Some SVP politicians openly demand the reintroduction of the statute on seasonal workers. At the same time, if the SVP has its way the flanking measures introduced to control salary and employment conditions will be abolished, since such control would be exercised in future as part of the quota system for granting permits to work.

All of this is a slap in the face for the more than one million EU citizens currently living in Switzerland, and ushers in massive discrimination against all who enter Switzerland in future. It is a blow for the trade unions, which had gradually enjoyed greater influence on the job market through the flanking measures. And, needless to say, it also represents a threat to the economy since free movement of people is connected to other EU accords (abolition of various trade barriers; accords on education and research; etc.).

Clearly the trade unions are opposed to all these setbacks:

  • We will campaign against all discriminatory legislation on residence permits. We will use all our powers to advocate the rights of migrants. The new forms of discrimination necessitate new laws, which we will oppose with all our might.
  • As always where immigration is regulated, salaries and employment conditions need to be protected in keeping with the principle of equal pay for equal work at the same location. This protection must be strengthened, not weakened. We will therefore continue to fight for these protective measures.
  • We will oppose any risk to the bilateral accords and any measures that threaten to push Switzerland into total isolation. The bilateral accords are the minimum expression of a comprehensive set of agreements with Europe, reflecting our proximity with our neighbours and our most important partners for trading, knowledge and culture. For us it is absolutely clear that the EU cannot allow Switzerland to abandon free movement for people yet hold onto all the other accords that work to our advantage. The European Trade Union Confederation said as much in its initial response to the vote.

The referendum has created a chaotic situation for Swiss policy and has ultimately led it down a blind alley. It will not be the last people’s referendum on the issue. Despite this setback, Swiss trade unions will continue to fight for the rights of workers – with or without a Swiss passport – and campaign against all forms of discrimination. The trade unions are also committed to upholding our good relations with our European neighbours and the European Community. The Swiss Federation of Trade Unions sees itself as part of the European trade union movement, which is committed to social progress rather than regression. One important joint battle in this war is the campaign to implement the principle of “equal pay for equal work at the same location” throughout Europe.

February 19 2014

"In Praise of Capital Market Fragmentation" by Adair Turner

Adair Turner, Capital Market

Adair Turner

Emerging markets are back in the spotlight. Investors and banks are suddenly unwilling to finance current-account deficits with short-term debt. South Africa, for example, has had to increase interest rates, despite slow economic growth, to attract the funding it needs. Turkey’s rate increase has been dramatic. For these and other emerging countries, 2014 may prove to be a turbulent year.

If volatility becomes extreme, some countries may consider imposing constraints on capital outflows, which the International Monetary Fund now agrees might be useful in specific circumstances. But the fundamental question is how to manage the impact of short-term capital inflows.

Until recently, economic orthodoxy considered that question invalid. Financial liberalization was lauded because it enabled capital to flow to where it would be used most productively, increasing national and global growth.

But empirical support for the benefits of capital-account liberalization is weak. The most successful development stories in economic history – Japan and South Korea – featured significant domestic financial repression and capital controls, which accompanied several decades of rapid growth.

Likewise, most cross-country studies have found no evidence that capital-account liberalization is good for growth. As the economist Jagdish Bhagwati pointed out 16 years ago in his article “The Capital Myth,” there are fundamental differences between trade in widgets and trade in dollars. The case for liberalizing trade in goods and services is strong; the case for complete capital-account liberalization is not.

One reason is that many modern financial flows do not play the useful role in capital allocation that economic theory assumes. Before World War I, capital flowed in one direction: from rich countries with excess savings, such as the United Kingdom, to countries like Australia or Argentina, whose investment needs exceeded domestic savings.

But in today’s world, net capital flows are often from relatively poor countries to rich countries. Huge two-way gross capital flows are driven by transient changes in perception, with carry-trade opportunities (borrowing in low-yielding currencies to finance lending in high-yielding ones) replacing long-term capital investment. Moreover, capital inflows frequently finance consumption or unsustainable real-estate booms.

And yet, despite the growing evidence to the contrary, the assumption that all capital flows are beneficial has proved remarkably resilient. That reflects the power not only of vested interests but also of established ideas. Empirical falsification of a prevailing orthodoxy is disturbing. Even economists who find no evidence that capital-account liberalization boosts growth often feel obliged to stress that “further analysis” might at last reveal the benefits that free-market theory suggests must exist.

It is time to stop looking for these non-existent benefits, and to distinguish among different categories of capital flows. Some are valuable, but some are potentially harmful.

Foreign direct investment (FDI), for example, can aid growth, because it is long term, involves investment in the real economy, and is often accompanied by technology or skill transfers. Equity portfolio investment may involve price volatility as ownership positions change, but at least it implies a permanent commitment of capital to a business enterprise. Long-term debt finance of real capital investment can play a useful role as well.

By contrast, short-term capital flows, particularly if provided by banks that are themselves relying on short-term funding, can create instability risks, while bringing few benefits.

What is less clear is the best policy response. Capital controls are invariably porous, and we cannot gain the benefits of free trade and FDI without creating some opportunities for short-term investor positioning. China has not liberalized its capital account, but short-term inflows are now driving stronger upward pressure on the renminbi (and larger offsetting reserve accumulation by the People’s Bank of China) than can be explained by the current-account surplus and FDI flows. A case can thus be made for capital-account liberalization that is based on the impossibility of effective control, not on any supposed benefits.

But while perfect policy is unattainable, partly effective controls can still play a useful role if targeted at the interface between short-term inflows and domestic credit cycles. After all, capital inflows cause the greatest harm when they drive rapid increases in credit-financed consumption or real-estate speculation.

The required policy response should integrate domestic financial regulation with capital-account management. Tax instruments and reserve requirements that put sand in the wheels of short-term capital inflows should be combined with strong countercyclical measures, such as additional capital requirements, to slow domestic credit creation.

The effectiveness of such measures can be undermined if global banks operate in emerging countries in branch form, providing domestic credit financed by global funding pools. But this danger can be countered by requiring banks to operate as legally incorporated subsidiaries, with locally regulated capital and liquidity reserves, and strong regulatory limits on the maturity of their funding.

Such requirements would not prevent useful capital flows: global banking groups could invest equity in emerging markets and fund their subsidiaries’ balance sheets with long-term debt. In banking, as in other sectors, investment that combines long-term commitment with skill transfer can be highly beneficial, which implies that foreign banks should be free to compete on the same basis as domestic banks.

Neither mandatory subsidiarization nor tax- or regulation-based capital controls will solve all of the problems. But, taken together, they can stem the volatility implied by short-term flows and help to smooth out domestic credit cycles.

Much of the financial industry resists such measures, as do the many economists who remain wedded to the old orthodoxy. Renewed capital controls, they claim, would “fragment” the global financial market, undermining its ability to allocate capital efficiently.

In the past, policymakers have been at pains to stress that no such fragmentation will be allowed. But we need to be blunt: Free flows of short-term debt can result in capital misallocation and harmful instability. When it comes to global capital markets, fragmentation can be a good thing.

 © Project Syndicate

February 18 2014

"Tailspin Or Turbulence In Emerging Markets?" by Kemal Dervis

Kemal Dervis, Emerging Markets

Kemal Dervis

Since the beginning of the year, a new wave of doubt has engulfed emerging markets, driving down their asset prices. The initial wave struck in the spring of 2013, following the Federal Reserve’s announcement that it would begin “tapering” its monthly purchases of long-term assets, better known as quantitative easing (QE). Now that the taper has arrived, the emerging-market bears are ascendant once again.

Pressure has been strongest on the so-called “Fragile Five”: Brazil, India, Indonesia, South Africa, and Turkey (not counting Argentina, where January’s mini-crisis started). But worries have extended to other emerging economies, too. Will the Fed’s gradual reduction of QE bring with it more emerging-market problems this year? To what extent are today’s conditions comparable to those that triggered the Asian crisis of 1997 or other abrupt capital-flow reversals in recent decades?

Emerging-market bulls point out that most major middle-income countries have substantially lowered their public debt/GDP ratios, giving them fiscal space that they lacked in the past. But neither the Mexican “Tequila crisis” of 1994 nor the Asian crisis of 1997 was caused by large public deficits. In both cases, the effort to defend a fixed exchange rate in the face of capital-flow reversals was a major factor, as was true in Turkey in the year prior to its currency collapse in February 2001.

Today, most emerging countries not only have low public-debt burdens, but also seem committed to flexible exchange rates, and appear to have well-capitalized banks, regulated to limit foreign-exchange exposure. Why, then, has there been so much vulnerability?

To be sure, the weakest-looking emerging countries have large current-account deficits and low net central-bank reserves after deducting short-term debt from gross reserves. But one could argue that if there is a capital-flow reversal, the exchange rate would depreciate, causing exports of goods and services to increase and imports to decline; the resulting current-account adjustment would quickly reduce the need for capital inflows. Given fiscal space and solid banks, a new equilibrium would quickly be established.

Unfortunately, the real vulnerability of some countries is rooted in private-sector balance sheets, with high leverage accumulating in both the household sector and among non-financial firms. Moreover, in many cases, the corporate sector, having grown accustomed to taking advantage of cheap funds from abroad to finance domestic activities, has significant foreign-currency exposure.

Where that is the case, steep currency depreciation would bring with it serious balance-sheet problems, which, if large enough, would undermine the banking sector, despite strong capital cushions. Banking-sector problems would, in turn, require state intervention, causing the public-debt burden to rise. In an extreme case, a “Spanish” scenario could unfold (though without the constraint of a fixed exchange rate, as in the eurozone).

It is this danger that sets a practical and political limit to flexible exchange rates. Some depreciation can be managed by most of the deficit countries; but a vicious circle could be triggered if the domestic currency loses too much value too quickly. Private-sector balance-sheet problems would weaken the financial sector, and the resulting pressure on public finances would compel austerity, thereby constraining consumer demand – and causing further damage to firms’ balance sheets.

To prevent such a crisis, therefore, the exchange rate has to be managed – and in a manner that depends on a country’s specific circumstances. Large net central-bank reserves can help ease the process. Otherwise, a significant rise in interest rates must be used to retain short-term capital and allow more gradual real-sector adjustment. Higher interest rates will of course lead to slower growth and lower employment, but such costs are likely to be smaller than those of a full-blown crisis.

The challenge is more difficult for countries with very large current-account deficits. And it becomes harder still if political turmoil or tension is thrown into the mix, as has been the case recently in a surprisingly large number of countries.

Nonetheless, despite serious dangers for a few countries, an overall emerging-market crisis is unlikely in 2014. Actual capital-flow reversals have been very limited, and no advanced country will raise interest rates sharply; in fact, with the United States’ current-account deficit diminishing, net flows from the US have increased over the last 12 months.

Moreover, most emerging-market countries have strong enough fiscal positions and can afford flexible enough exchange rates to manage a non-disruptive adjustment to moderately higher global interest rates. Much of the recent turmoil reflects the growing realization that financial-asset prices worldwide have been inflated by extraordinarily expansionary monetary policies. As a result, many financial assets have become vulnerable to even minor shifts in sentiment, and this will continue until real interest rates approach more “normal” long-run levels.

In the medium term, however, the potential for technological catch-up growth and secular convergence remains strong in most emerging countries. The pace of a country’s convergence will depend, even more than in the past, on the quality of governance and the pace of structural reforms.

© Project Syndicate

"What You Ought To Know About The ECB And Unemployment" by Charles Wyplosz

Charles Wyplosz, ECB

Charles Wyplosz

This column was first published in the Journal For A Progressive Economy.

The unemployment rate in the Euro area has increased by more than 50% since 2007, starting from an already unacceptably high level. The financial crisis that hit the world in 2007-8 is of historical proportions and explains some of this increase, of course. Figure 1 shows that the decline has been much worse in the Eurozone than in other developed countries that suffered from the financial shock. It is not surprising, therefore, that citizens are asking who is responsible for this unmitigated disaster? The disaster can be measured in the number of job losses; any amount will conceal the distress experienced by individuals and families which will inevitably have deep and long-lasting political consequences. Moreover, the impact of the financial crisis can be captured by lost revenues which will most likely never be recovered. Essentially we are witnessing a massive theft that dwarfs the biggest criminal operations.

Figure 1. Rates of unemployment in 2007 and 2013

p1, ECB

Source: OECD

The answer involves two separate questions. First, why did the crisis happen? Second, why were its effects so deep and long lasting? The list of potential culprits includes economists, governments and central bankers. My answer to both questions is that governments have failed their people, nowhere as badly as in the Eurozone.

Economists can be blamed for a poor understanding of economic mechanisms. I have no doubt that, one century from now, future economists will look with scorn at our current level of knowledge, but this is how progress works. Still, we have enough knowledge to understand the crisis and some (including the latest Nobel Prize recipient Robert Shiller) actually described it quite precisely before it occurred. This does exonerate the profession at large, which collectively failed to issue strong warning signals. At least, once the crisis erupted, the profession did suggest policy responses, but disagreements were – and remain – present and made for confusion.

Governments were in charge of banking regulation and supervision. They failed. They were in charge of policy responses and they equally failed, to varying degrees. The situation has been worse in the Euro Area where the financial crisis morphed into a debt crisis, which remains poorly managed. Central banks were also in charge of policy responses. The rest of the paper offers an evaluation of their actions, focusing on the ECB.

Central banks during the crisis

As is well known, central banks have taken extraordinary measures during the crisis. They rapidly reduced their interest rate policies down to the zero lower bound, in an effort to alleviate the contractionary impact of the bank crisis.[1] They also provided ample liquidity to banks in an effort to restart the interbank market, which is where banks borrow from each other to be able to grant loans to households and firms. When this proved insufficient, the central banks lent directly to individual banks; the ECB even committed to provide any amount to banks at a preannounced and very low interest rate. The amounts injected in the economy have been enormous, beyond anything previously done. Figure 2 shows the “size” of the ECB and of the Federal Reserve (the size of their balance sheets) and draws attention to these extraordinary actions.

Figure 2 also shows some important differences between the ECB and the Federal Reserve. While the sizes of liquidity injections are broadly of the same order of magnitude, the timing has been different. The Federal Reserve moved faster and more decisively in September 2008 as Lehman Brothers collapsed. The fact that the crisis originated in Wall Street probably explains the difference. Afterwards, however, the Federal Reserve continued to expand liquidity – a process that it dubbed Quantitative Easing or QE – while the ECB compensated any support to banks by an equal amount of liquidity withdrawal. The ECB explicitly rejected any QE-type policy, even though the economic recovery in the Eurozone lagged behind the US recovery. The onset of the sovereign debt crisis did not elicit a change in the ECB policy, even though the Euro area went into a second recession. It is only when the crisis reached alarming proportions in the second half of 2011 that the ECB started again to expand its liquidity provision programme.

In the US, QE was explicitly designed to support the economic recovery and to bring unemployment back down. The ECB, on the other hand, has always considered that its policy stance was expansionary enough. Its liquidity provision operations were explicitly designed to support banks in 2008 and to alleviate pressure on public debts in 2011-12. This is why the ECB has always asserted that its actions were not of the QE type. This means that the ECB was, officially at least, not concerned, or much less concerned about rising unemployment than the Federal Reserve.

This interpretation is confirmed by the fact that, after June 2012, the ECB has reduced its size, meaning it has reabsorbed about €500 billion. This is the month when the President of the ECB announced the Open Market Transactions (OMT) program, whereby the central bank indicated that it would do “whatever it takes” to limit the interest rates faced by the member countries in crisis. The OMT program is a commitment to backstop public debts with unlimited purchases. It has reduced massively the fears that had dominated the financial markets since early 2010 when the Greek crisis started. Markets reacted immediately. This mere announcement, so far not backed by any action, has proved sufficient to remove the edge of the crisis, at least up to the time of writing. Even though unemployment has continued to rise after June 2012, the ECB has withdrawn some of its liquidity support.

Figure 2. Size of the central banks (Total assets in billions of respective currencies)

p2, ECB

Sources: ECB and Federal Reserve Bank

The Mandate of the ECB

How to explain this difference in policy actions between the ECB and the Federal Reserve? The usual interpretation refers to the different mandates of the two central banks. The Federal Reserve’s mandate, set by the US Congress, is dual: the central bank is formally required to help achieve “maximum employment” and “stable prices”. The ECB’s mandate, spelled out in the Maastricht Treaty, is different. It sets price stability as the main objective while “supporting the economic policies of the union” is a secondary aim, which can only be considered when price stability is not jeopardised. In that sense, the ECB does not have to act against unemployment if it considers that inflation is a threat.

This interpretation is not fully convincing, however. Early studies, e.g. Ullrich (2003), which have examined the actual behaviour of both central banks before the crisis suggest that they did not act very differently. The ECB was found to react to both inflation and the level of activity. A more recent study that encompasses the financial crisis period (Belke and Klose, 2010) confirms the similarity of behaviour before the crisis but a divergence once the crisis started. The Federal Reserve is found to have become more reactive to the level of activity while the ECB seems to have grown more concerned about inflation. Importantly, the ECB is found to be concerned about credit, which is related to the size of its balance sheet.

These are just initial results, which may not be confirmed by further studies. Yet, they refer to what the ECB calls its monetary policy “two-pillar” strategy. From the start, the ECB has inherited the Bundesbank tradition of concern with inflation, the first pillar, and with the money stock, the second pillar. This strategy, which has been highly controversial (Wyplosz, 2000), can explain Figure 2: the ECB has expanded liquidity as a matter of necessity to contain the crisis, but it is uncomfortable with it. The role of liquidity has been the subject of acute doctrinal debates and the ECB is unique in retaining this pillar.


The rise in Eurozone unemployment is first and foremost driven by the austere fiscal policies adopted since 2010, but the ECB’s rejection of QE can be seen as a limitation to its actions toward activity and employment stabilisation. In a way, this is consistent with its mandate, but its pre-crisis behaviour suggests that the ECB has acted de facto like many other central banks, in effect caring about employment. Its actions during the crisis could well be better explained by its stated two-pillar strategy.

This distinction matters greatly. It is most unlikely that the formal mandate of the ECB can be changed, since it would require a new treaty. On the other hand, the two-pillar strategy is purely an internal matter within the ECB and it can be modified without further challenges. This strategy has been heavily criticised and can be seen as reflecting the ancient tradition of the Bundesbank, which has itself increasingly paid less attention to the second pillar. The main obstacle to the adoption of a more up-to-date strategy is that it would explicitly repudiate the intellectual inheritance from the Bundesbank.

Yet the crisis has shown that another pillar, long disregarded by the ECB, is essential. Central banks can no longer underplay their responsibility for financial stability.[2] In fact, the ECB is now in charge of the Single Supervision Mechanism. This calls for a redefinition by the ECB of its monetary policy strategy. It offers a unique opportunity to remove what may have been an internal obstacle to QE and a policy stance more favourable to employment. Experience around the world has shown that this does not have to come at the expense of price stability.


Belke, Ansgar and Jens Klose (2010) “(How) Do the ECB and the Fed React to Financial Market Uncertainty? The Taylor Rule in Times of Crisis”, Discussion Paper 972, DIW, Berlin.

Ullrich, Katrin (2003) “A Comparison Between the Fed and the ECB: Taylor Rules” Discussion Paper No. 03-19, ZEW, Mannheim.

Wyplosz, Charles (2000) “Briefing Paper for the Committee of Economic and Monetary Affairs”, European Parliament.

[1] The former president of the ECB, Jean-Claude Trichet has repeatedly asserted that “the best contribution of the ECB to financial stability is price stability”.

[2] The ECB inopportunely raised its interest rate in June 2008 before realising – but not acknowledging – its mistake.


February 17 2014

"Why Cameron’s ‘Red Card’ Plan For National Parliaments Won’t Work" by Andrew Duff

Andrew Duff, red card

Andrew Duff

David Cameron has committed the UK to renegotiating its membership of the European Union if he wins a majority at the next British general election. As Andrew Duff writes, one of the key elements of this reform package will likely be to elevate the role of national parliaments in the EU’s legislative process. He argues that such a proposal should be rejected on both theoretical and practical grounds, given that the current subsidiarity early warning mechanism is already working well.

As the UK stumbles towards the referendum on its renegotiated terms of EU membership, the demands David Cameron is about to make on his partners become clearer. One of those, of which much noise will be made, concerns the role of national parliaments in the scheme of things. Put simplistically, and in football jargon, the Conservatives are gearing up to demand that the House of Commons should gain the power to wave a ‘red card’ against EU laws it deems not to like.

It is worth, then, examining the current system of national parliamentary involvement in EU affairs, introduced under the Treaty of Lisbon, in both theory and practice. By way of pre-legislative scrutiny, each chamber of a national parliament has eight weeks in which to raise a reasoned opinion stating why the draft in question does not comply with the principle of subsidiarity. Originally a feature of Christian theology, transmogrified into Europe’s federal constitutional order subsidiarity means that the Union must choose to act in the areas where its competences are shared with its states ‘only if and in so far as the objectives of the proposed action cannot be sufficiently achieved by the Member States … but can rather, by reason of the scale or effects of the proposed action, be better achieved at Union level’.

To check compliance with subsidiarity, each parliament has two ‘votes’ (divided in eleven bicameral parliaments between the two chambers). The European Commission must review the draft law if, as a general rule, there are a third of the votes (19) against it, and must then explain why it decides to maintain, amend or withdraw the draft. This is known colloquially as the ‘yellow card’. Where half the votes (28) are cast against the proposal, the Commission, if it maintains the draft, must send to the legislature (Council and European Parliament) a formal justification of its compliance with the principle of subsidiarity which shall be considered and voted on before the first reading stage of the ordinary legislative procedure. In this case, the ‘orange card’, the measure can be scuppered in the Council by 55 per cent of the member states (16) or by a simple majority of MEPs. In the worst of all worlds, the ‘red card’, any national parliament may trigger an action in the European Court of Justice via its national government on grounds of infringement of the principle of subsidiarity.

The Tory proposal, it seems, will aim to deepen the tint of orange to red – or, as William Hague says, to provide a red card ‘to give national parliaments the right to block legislation that need not be agreed at European level’. But what would this achieve? To date, there have been very few formal objections by national parliaments to draft laws. In fact, since the entry into force of the Treaty of Lisbon in 2009, there have been 452 draft legislative acts, eliciting no more than 277 ‘reasoned opinions’ of objection from the 39 possible sources. The requisite majority for a yellow card has been reached only twice, and for an orange card never.

The first yellow card, in 2012, was on the Monti II proposals to regulate the relationship between the freedom to provide services and the fundamental right of workers to go on strike. Most of the objections from national parliaments questioned the competence of the EU to regulate the right to strike under the legal base of Article 352 TFEU when Article 153 would seem to prohibit such a thing. The Commission argued that it was seeking to codify judgments of the European Court of Justice which say that the EU can act to ensure that collective action does not impede the operation of the single market. The Commission insisted that EU regulation is necessary according to the principle of subsidiarity where member states cannot agree to settle a cross-border dispute. Nevertheless, faced with political opposition in both Council and Parliament, the Commission withdrew the Monti II proposal – thereby, unfortunately, leaving the deliberation of the matter entirely in the hands of the courts.

The other yellow card, last year, was raised against the establishment of the European Public Prosecutor, despite the fact that specific provision is made for just such a thing in the Lisbon treaty. (In this case, because the measure concerns sensitive justice policy, the quota needed was one quarter instead of one third of the votes.) In a lengthy riposte, which national parliaments would do very well to digest, the Commission argues robustly that not only is national state action against financial crime indeed insufficient, but also that EU level action promises real added value.

The Commission points to a lack of continuity, equivalence and efficacy in enforcement action taken among member states and to the absence of a common EU prosecution policy. It insists that OLAF, the EU’s anti-fraud office, is limited to administrative and not criminal investigation and in any case is not a prosecution authority. Likewise, the agency powers of Europol and Eurojust are limited to coordinating national authorities, and lack the capacity to act directly against those who jeopardise the financial interests of the Union.

A draft EU directive proposed by the Commission to harmonise substantive criminal law in this area is a complement to, but not a substitute for the creation of the new mechanism of EU public prosecutor. A common EU policy, claims the Commission, will prevent criminals from exploiting loop-holes and reveal their cross-border links; it will expedite court procedures, raise judicial standards and encourage best practice. In short, the Commission demonstrates the Union’s competence and capability in the matter of protecting its own financial interests, and establishes convincingly why the proposed action is both proportionate to the nature of the problem and supportive of the subsidiarity principle.

Eurosceptics grumble that the Lisbon subsidiarity early warning mechanism is not working well because it has been so little used. They say that eight weeks is too short a time for national parliaments to take a view, that the thresholds are too high and that the large-scale use of delegated acts obscures the real nature of proposed legislation.

Others can make the point that, on the contrary, the system works well enough: neither the Commission nor the Council and European Parliament seem tempted to ignore subsidiarity. The current early warning mechanism acts as an effective deterrent. Indeed, it is because such pains are taken to ensure that subsidiarity is respected that there have been so few ‘reasoned opinions’. While questions can be and are raised about the quality, wisdom or direction of this or that EU law, there is no evidence that the EU institutions are acting ultra vires and that the Union is acting improperly.

There is more widespread criticism that the force of EU legislation is disproportionate to the scale of the problems addressed, but here the wide variety of national legislative practice confronts the EU legislators with the need to take complex judgements about the size of the sledgehammer relative to that of the nut to crack. While harmonising law across the EU in the interests of maintaining the single market may be an irrelevance to one member state, it will be vital to another. Setting norms, lifting standards, improving monitoring and transparency, replacing 28 disparate national laws with one coherent regime is what the EU is for – and, on the whole, does well. Delegation of executive powers to the Commission to implement EU law lightens the overall legislative burden. And to build more delay into EU law making, which is seldom quick, would be in nobody’s best interest. Certainly the system can still be improved at all levels: if national parliaments were to pay more attention to the Commission’s consultative processes – green papers and the like – they would be more influential and less frustrated by the inalienable fact that they are not and can never become a formal part of the EU legislature.

Waving subsidiarity cards is only one, and possibly the least important of the functions of national parliaments in the context of the European Union. The main job of national MPs is to scrutinise and hold to account their national government ministers and officials for their performance in the Council, the second chamber of the EU legislature, and also their prime ministers in the institution of the European Council. Moreover, national parliaments are now heavily engaged in a whole raft of cooperation with the European Parliament, the first chamber of the EU legislature. Specific arrangements for joint parliamentary dialogue have been put in place for foreign and security policy, for internal security issues, and for the ‘European semester’ on economic and monetary affairs. These interparliamentary activities take time, resources and energy: most national parliaments are already stretched to cope at all with the growing EU dimension of their work.

The proposal of the Eurosceptics that national parliaments should be given an even larger role in EU affairs is as outrageous in theory as it is unworkable in practice. The direct affront to the powers of the European Parliament, and the deliberate undermining of its legitimacy, are obvious. Grandstanding at Westminster against an overweening Brussels is all very well on ideological grounds, but completely spurious in terms of making the EU work better for British interests.

The UK government may sometimes regret the loss of its veto power in the Council, but it would be foolish to engineer its reintroduction through the backdoor in the hands of the House of Commons. A veto by one national parliament would certainly lead to retaliatory vetoes being wielded by another national parliament. And how could the Council of the European Union work as a more efficient legislator if its decisions were to be countermanded by the very same national MPs to whom it is already responsible? What system of parliamentary government could have three legislative chambers?

These Tory card tricks are spurious, and need to be exposed.

This column was first published by EUROPP@LSE

February 13 2014

"TTIP: It’s Not About Trade!" by Dean Baker

Dean Baker, TTIP

Dean Baker

With TTIP, not all is as it seems. Officials from the EU and US would have citizens believe the promotion of trade is the impetus behind free trade negotiations. But slashing already-low tariffs is hardly worth the effort. Instead, the real goal is the implementation of a new regulatory structure. The result: an international policing mechanism unlikely to have been approved via the normal political processes in each country. This is bad news for Europe. 

The most important fact to know about the Transatlantic Trade and Investment Partnership (TTIP) is that promoting trade is not really the purpose of the deal. With few exceptions, traditional trade barriers, in the form of tariffs or quotas, between the United States and European Union (EU) are already low. No one would devote a great deal of effort to bringing them down further, there is not much to be gained.

The pursuit of free trade is just a cover for the real agenda of the TTIP. The deal is about imposing a regulatory structure to be enforced through an international policing mechanism that likely would not be approved through the normal political processes in each country. The rules that will be put in place as a result of the deal are likely to be more friendly to corporations and less friendly to the environment and consumers than current rules. And, they will likely impede economic growth.

In a wide variety of areas the EU has much stronger protections for consumers and the environment than in the United States. For example, the United States has a highly concentrated mobile phone industry that is allowed to charge consumers whatever they like. The same is true for internet access. As a result, people in the United States pay far more for these services.

Fracking for oil and natural gas has advanced much more in the United States than in Europe. It is part of TTIP because it is largely unregulated. In fact, the industry got a special exemption from laws on clean drinking water, so that they don’t even have to disclose the chemicals they are using in the fracking process. As a result, if they end up contaminating ground water and drinking water in areas near a fracking site it will be almost impossible for the victims to prove their case.

These are the sorts of regulatory changes that industry will be seeking in the TTIP. It is unlikely the governments of individual European countries or the EU as a body would support the gutting of consumer and environmental regulations. Therefore the industry groups want to use a “free-trade” agreement to circumvent the democratic process.

However the worst part of the TTIP is likely to be in its rules on patents and copyright. The United States has a notoriously corrupt patent system. A major food manufacturer once patented a peanut butter sandwich and of course Amazon was able to get a patent on “1-click shopping.” These frivolous patents, which are common in the United States, raise prices and impede competition. Europeans will likely see more of such patents as a result of the TTIP.

The deal is likely to have even more consequences for the cost and availability of prescription drugs. The United States pays roughly twice as much for its drugs as Europeans. This is due to the unchecked patent monopolies granted to our drug companies. A major goal of the pharmaceutical industry is to be able to get similar rules imposed in the EU so that they can charge higher prices.

Just to be clear, this part of the TTIP is 180 degrees at odds with free trade. The pharmaceutical industry will be seeking to make its patents stronger, longer, and more far-reaching, for example by applying protection to the data used to register drugs so that generic competitors cannot enter the market.

There is an enormous amount of money at stake in this battle. The United States spends close to $350 billion a year on drugs that would sell for around one-tenth this price in a free market. The difference is almost 2 percent of GDP or more than 25 percent of after-tax corporate profits. This amounts to a huge transfer from the public at large to the pharmaceutical industry.

The enormous gap between the patent-protected price and production costs gives drug companies an incentive to mislead the public about the safety and effectiveness of their drugs, which they do with considerable regularity. In short, an outcome of the deal can be much higher drug prices and lower quality health care.

None of the models used to project economic gains from a TTIP even try to estimate the economic losses that would result from higher drug prices or other negative consequences of stronger patent protection. For this reason these models do not provide a useful guide to the likely economic impact of a TTIP.

The notion that a TTIP will provide some quick boost to the economies of the EU and the United States is absurd on its face. The public should scrutinize whatever comes out of the negotiating process very carefully. If politicians demand a quick yes or no answer, then the obvious answer must be “no.”

This column was first published by

Reposted by02mydafsoup-01cheg00

"The Fed, The Dollar And The Damage Done" by Barry Eichengreen

Barry Eichengreen, Fed

Barry Eichengreen

The US Federal Reserve is being widely blamed for the recent eruption of volatility in emerging markets. But is the Fed just a convenient whipping boy?

It is easier to blame the Fed for today’s global economic problems than it is to blame China’s secular slowdown, which reflects Chinese officials’ laudable efforts to rebalance their economy. Likewise, though Japan’s “Abenomics,” by depressing the yen, complicates policymaking for the country’s neighbors, it also constitutes a commendable effort to bring deflation to a long-overdue end. So, again, it is easier to blame the Fed.

And, for the affected emerging economies, the Fed’s tapering of its massive monthly purchases of long-term assets – so-called quantitative easing (QE) – is certainly easier to blame than their own failure to move faster on economic reform.

Still, the Fed should not be absolved of all guilt. The prospect of higher interest rates in the US weakens the incentive for investors to pour capital into emerging economies indiscriminately. Though a confluence of factors may have combined to upset the emerging-market applecart, Fed tapering is certainly one of them.

It is striking, therefore, that the Fed has made no effort to take into account the impact of its policies on emerging economies or the blowback from emerging markets on the US. Emerging markets comprise more than a third of global GDP. They have contributed considerably more than a third of global growth in recent years. What happens in emerging markets does not stay in emerging markets. Increasingly, what happens there has the capacity to affect the US.

Yet Fed officials, while commenting copiously about their motives for tapering QE, have said nothing about the impact of doing so on emerging markets. They have given no indication of being aware that US monetary policy can affect events outside of their narrow corner of the world.

This silence is all the more remarkable in view of two other recent developments in Washington, DC. First, the US Congress, as part of the government’s recent budget deal, refused to authorize an increase in America’s quota subscription to the International Monetary Fund. The financial commitment was essentially symbolic, but it was part of a larger agreement reached at the Seoul Summit of G-20 leaders to regularize the IMF’s resources and enhance the representation of emerging economies.

This failure to follow through reopens old wounds and raises troubling questions about the legitimacy of an institution that, reflecting the long shadow of history, is dominated by a handful of advanced countries. Emerging-market officials have been increasingly reluctant to turn to the IMF for advice and assistance, undermining its ability to play an effective global role.

The other development was the decision to make permanent the dollar swap arrangements put in place during the financial crisis by the Fed, the European Central Bank, and the central banks of Canada, the United Kingdom, Switzerland, and Japan. Under these arrangements, the Fed stands ready to provide dollars to this handful of favored foreign central banks – an acknowledgment of the dollar’s unique role in international financial markets. Because international banks, wherever they are located, tend to borrow in dollars, the swap arrangements allow foreign central banks to lend dollars to their local banks in times of emergency.

Put these three events – the tapering of QE, the torpedoing of IMF reform, and the entrenchment of dollar swaps – together and what you get is a US that has renationalized the international lender-of-last-resort function. Simply put, the Fed is the only emergency source of dollar liquidity still standing.

But the US has offered to provide dollars only to a privileged few. And in its policy statements and actions, it has refused to acknowledge its broader responsibility for the stability of the world economy.

So what should the Fed do differently? First, it should immediately negotiate permanent dollar swap lines with countries such as South Korea, Chile, Mexico, India, and Brazil.

Second, the Fed should adjust its rhetoric and, if necessary, its policies to reflect the fact that its actions disproportionately affect other countries, with repercussions on the US economy. Might this mean that the Fed should slow the pace of its tapering of QE? Yes, it might.

The Fed may hesitate to extend additional swap lines, because to do so could expose it to losses on foreign currencies. Moreover, it may worry about antagonizing countries that are not offered such facilities; and it may fear criticism from Congress for overstepping the bounds of its mandate if its talk and policies acknowledge its global responsibilities.

If US policymakers are worried about these issues, their only option is to agree to quota increases for the IMF, thereby allowing responsibility for international financial stability to migrate back to where it belongs: the hands of a legitimate international organization.

© Project Syndicate

Reposted by02mydafsoup-01 02mydafsoup-01

February 11 2014

"Karlsruhe’s Underappreciated Threat To The Euro" by Andrew Watt

Andrew Watt

Andrew Watt

The euro area once again faces a potentially existential threat, following Friday’s decision by the German Constitutional Court in Karlsruhe. The funny thing is, hardly anyone seems to realise it.

To see why this is the case it is helpful to separate the procedural from the substantive issues, before bringing them together again.

The procedure: court vs. court

The GCC has taken the view – on a 6-2 majority verdict – that a key element of the monetary policy of the ECB, the Outright Monetary Transactions (OMT) programme, is incompatible with European treaty and other legal provisions. It has sought clarification of a number of issues from the European Court of Justice (ECJ). The GCC does not have jurisdiction over the ECB, of course. But it can rule that actions by German institutions (notably the Bundesbank but also the German government) in support of acts by the ECB that it has deemed illegal are themselves unconstitutional under German law and thus verboten. This is because the German constitution only permits the transfer of national powers to the European level under specific conditions, and this includes that European institutions play by the rules, as interpreted by a majority among Karlsruhe judges.

Commentators and the financial markets seem relatively unperturbed by this news. This seems to be because they believe that the GCC, by apparently passing over the matter to the ECJ, has agreed to defer to a higher court. And it is widely believed that the ECB’s policies will receive a far more favourable hearing from the judges in Luxembourg than those in Karlsruhe. While the latter supposition is almost certainly true, the basic presumption is incorrect. The GCC is not asking for a higher court’s opinion in order to stand corrected by the ECJ. Unlike a lower-level court in a national system, it is not saying: “our verdict is A, but if you say it is B, then B it is”.

Rather, it is calling on the ECJ itself to make a restrictive judgement on ECB policies (i.e. corroborate verdict A, or at least pronounce something rather close to it) to enforce changes that would render OMT constitutional once again in the view of the German court. But if, as expected, the ECJ does not do so, then the GCC ruling will still stand. Given that in Friday’s judgement it has rejected the ECB’s own defence of its policies – essentially that OMT is necessary to make monetary policy effective – Karlsruhe will not revise its stance unless the ECJ were to come up with persuasive new arguments. But this is rather unlikely. That is not the Court’s job, which is to decide which of the competing sets of arguments it considers plausible or of overriding legal importance.

Thus, and this is the crucial point, whatever the ECJ decides, the GCC’s ruling will in all probability remain binding for German authorities. The Bundesbank and the German government will be lastingly prohibited from participating in the OMT programme, or, at least, they will be highly reticent to do so fearing legal challenges.

The substance: OMT

To see why this could potentially be a major threat, we need to turn to the substance. Here the key points are as follows.

The GCC’s central contention is that by announcing the OMT programme the ECB has acted ultra vires – i.e. has gone beyond its allotted monetary policy powers – and/or that it has contravened the treaty ban on monetary financing of government debt. (Monetary financing means that governments do not sell the bonds they need to run deficits on the open market, but rather they are bought and held by the central bank, which merely “prints” the required money.) The OMT is correctly identified by the GCC as a programme that seeks to reduce the rate of interest paid by benefiting states on government bonds that is ex ante unlimited in scope, but subject to political conditionality. In the eyes of the Court the OMT provides financial aid, and this goes beyond monetary policy and enters the field of economic policy. This, however, is the prerogative of the member states. The ECB is only allowed to support the general economic policy of the Union.

The problem: euro area extremely vulnerable again

I will examine the specifics of the GCCs arguments in a separate post. Suffice it to say here: they are very weak. However, as indicated above, this does not actually matter. The problem can now be baldly stated: In the current context, and for the foreseeable future, the OMT is what stands between the euro area steadily, if much too slowly, pulling out of the crisis, and it descending back into chaos. But without the participation of the Bundesbank and the German government the operation of the programme lacks the credibility essential to its effectiveness.

Early and/or mid-2012 had seen huge spikes in sovereign interest rates for a number of euro area countries (see fig. 3, p.10 here). Ten-year sovereign bond rates touched 40% and 30% in Greece at the start and in the spring of that year; in Portugal around 17%. More worrying still, interest rates were at an unsustainable 7% in two large economies, Spain and Italy. Last but not least, a substantial interest-rate spread on German bunds had even opened up for French government bonds. Given the limited fiscal back-up facilities in place, such high rates, for so many and such important countries, quite simply threatened the viability of the entire monetary union. It was at this point that Mario Draghi, ECB President, announced his willingness to “do all it takes” to save the euro, and then, in early September, backed this up by announcing OMT. Rates fell rapidly, substantially and lastingly: they are now around 8% in Greece, 6% in Portugal and substantially under 5% in the other crisis countries. In short, OMT saved the monetary union.

It is important to note that the ECB broke the “death spiral” by which concerns about capital losses lead to higher interest rates which feed further fears of losses without firing a shot, or rather “spending” a single euro. And the reasons that this “miracle” was possible is that it was credible: markets took the view that given the ex ante unlimited nature of the programme, matched by the ECB’s unlimited resources, it was too risky to call Draghi’s bluff. Doubts expressed at the time, also by this author, related largely to the link with conditionality (i.e. austerity programmes). But the charm of the programme was that such doubts did not matter for as long as most market participants thought they did not matter.

But if the most important member state government and its central bank are banned by the country’s constitutional court from involvement, there must be doubts as to whether the OMT programme is really operational. After all, as Wolfgang Munchau points out, the German government has to approve any application by a member state for a programme with the European Stability Mechanism, which is an essential part of the OMT conditionality.  All it will take is a small shock, or an upward blip in interest rates followed by some real or perceived dithering by the ECB – understandable given the legal situation – and the whole edifice, until now held up by a sort of collective suspension of disbelief, could come crashing down as bondholders run for the exits.

To conclude, the decision by the GCC poses a substantial risk to the recovery of the euro area and arguably once again puts the currency area’s whole existence in question. Any shocks had better be positive ones. Given the centrality of OMT in the current context, the GCC has more or less said, presumably without realising it, that the continued existence of the euro violates the German constitution. That markets have for now seemingly shrugged this off is welcome, but unfortunately is, I suspect, because they have not understood all its implications, no surprise given that the text consists of more than 100 long, dense and jargon-written paragraphs available only in German.

Can we run Europe like this?

Let me close with a more general reflection, a concern which again I have not seen picked up in commentaries on this issue. There are currently 28 member states of the EU and 17 of the euro area. Many of them have constitutional courts. Can it be that right that policies that have been agreed, often in the face of a major crisis, by elected representatives of all the member states are under permanent threat from, in the extreme case, a small majority of a small number of unelected judges in the constitutional court of a single member state interpreting laws against an abstract legal text written decades before the economic crisis or indeed even before the European integration process began?

In Germany voices on both right and left have welcomed the GCC’s stand as a blow for (national) democracy against an out-of-control European technocracy. But imagine the uproar if – to construct an extreme,  hypothetical example – a European-wide plan to counter tax evasion were to gain unanimous support in the European institutions, but be rendered inoperable because the Luxembourg constitutional court, on a 5-4 verdict, considers it incompatible with the country’s constitution’s provisions on property rights. The Luxembourg Constitution dates from 1868.

I am not a legal expert, but it seems plain to me that Europe cannot function in this way.

"The Emerging Markets’ Death By Finance" by Dani Rodrik

Dani Rodrik, Finance, Emerging Markets

Dani Rodrik

How quickly emerging markets’ fortunes have turned. Not long ago, they were touted as the salvation of the world economy – the dynamic engines of growth that would take over as the economies of the United States and Europe sputtered. Economists at Citigroup, McKinsey, PricewaterhouseCoopers, and elsewhere were predicting an era of broad and sustained growth from Asia to Africa.

But now the emerging-market blues are back. The beating that these countries’ currencies have taken as the US Federal Reserve begins to tighten monetary policy is just the start; everywhere one looks, it seems, there are deep-seated problems.

Argentina and Venezuela have run out of heterodox policy tricks. Brazil and India need new growth models. Turkey and Thailand are mired in political crises that reflect long-simmering domestic conflicts. In Africa, concern is mounting about the lack of structural change and industrialization. And the main question concerning China is whether its economic slowdown will take the form of a soft or hard landing.

This is not the first time that developing countries have been hit hard by abrupt mood swings in global financial markets. The surprise is that we are surprised. Economists, in particular, should have learned a few fundamental lessons long ago.

First, emerging-market hype is just that. Economic miracles rarely occur, and for good reason. Governments that can intervene massively to restructure and diversify the economy, while preventing the state from becoming a mechanism of corruption and rent-seeking, are the exception. China and (in their heyday) South Korea, Taiwan, Japan, and a few others had such governments; but the rapid industrialization that they engineered has eluded most of Latin America, the Middle East, Africa, and South Asia.

Instead, emerging markets’ growth over the last two decades was based on a fortuitous (and temporary) set of external circumstances: high commodity prices, low interest rates, and seemingly endless buckets of foreign finance. Improved macroeconomic policy and overall governance helped, too, but these are growth enablers, not growth triggers.

Second, financial globalization has been greatly oversold. Openness to capital flows was supposed to boost domestic investment and reduce macroeconomic volatility. Instead, it has accomplished pretty much the opposite.

We have long known that portfolio and short-term inflows fuel consumption booms and real-estate bubbles, with disastrous consequences when market sentiment inevitably sours and finance dries up. Governments that enjoyed the rollercoaster ride on the way up should not have been surprised by the plunge that inevitably follows.

Third, floating exchange rates are flawed shock absorbers. In theory, market-determined currency values are supposed to isolate the domestic economy from the vagaries of international finance, rising when money floods in and falling when the flows are reversed. In reality, few economies can bear the requisite currency alignments without pain.

Sharp currency revaluations wreak havoc on a country’s international competitiveness. And rapid depreciations are a central bank’s nightmare, given the inflationary consequences. Floating exchange rates may moderate the adjustment difficulties, but they do not eliminate them.

Fourth, faith in global economic-policy coordination is misplaced. America’s fiscal and monetary policies, for example, will always be driven by domestic considerations first (if not second and third as well). And European countries can barely look after their own common interests, let alone the world’s. It is naïve for emerging-market governments to expect major financial centers to adjust their policies in response to economic conditions elsewhere.

For the most part, that is not a bad thing. The Fed’s huge monthly purchases of long-term assets – so-called quantitative easing – have benefited the world as a whole by propping up demand and economic activity in the US. Without QE, which the Fed is now gradually tapering, world trade would have taken a much bigger hit. Similarly, the rest of the world will benefit when Europeans are able to get their policies right and boost their economies.

The rest is in the hands of officials in the developing world. They must resist the temptation to binge on foreign finance when it is cheap and plentiful. In the midst of a foreign-capital bonanza, stagnant levels of private investment in tradable goods are a particularly powerful danger signal that no amount of government mythmaking should be allowed to override. Officials face a simple choice: maintain strong prudential controls on capital flows, or be prepared to invest a large share of resources in self-insurance by accumulating large foreign reserves.

The deeper problem lies with the excessive financialization of the global economy that has occurred since the 1990’s. The policy dilemmas that have resulted – rising inequality, greater volatility, reduced room to manage the real economy – will continue to preoccupy policymakers in the decades ahead.

It is true, but unhelpful, to say that governments have only themselves to blame for having recklessly rushed into this wild ride. It is now time to think about how the world can create a saner balance between finance and the real economy.

© Project Syndicate

February 10 2014

"Europe, The European Union And European Identity" by David Held and Kyle McNally

David Held, European identity

David Held

The European Union can only be understood against the backdrop of the catastrophic history of Europe in the first half of the twentieth century. The two World Wars, and the Great Depression between them, shattered any assumptions of certainty and stability that Europeans might have once had. The rise of Nazism, fascism and Stalinism, in particular, turned the Enlightenment on its head making Europe the centre of barbarism and brutality. It was not Islamic extremists, China, or other non-Western powers that had so disrupted global peace. It was, above all, Europe. And the catastrophic consequences of this went to the heart of postwar European thinking.

The European Union is, at its core, a project of Kantian peace, an attempt to create a peaceful union of European states that had been at war with each other for many centuries, but whose orgy of violence in the first half of the twentieth century left Europe exhausted. The Marshall Plan had reawakened hope for European development and the formation of the European Community in the postwar years created a vision of a European ideal that had been eclipsed by the fire and ashes of war. This ideal remains fundamental to the European project even though the reality is fraught with the compromises of geopolitics.  The EU has been through turbulent cycles of deepening and broadening – first the core states, then Spain, Portugal Greece, then, after the fall of the Berlin Wall, membership was extended to central and Eastern European states. But behind all the turbulent transitions, European leaders like Chancellor Kohl were eager to move forward the European ideal through the policy and practice of extending and entrenching the Union.

Kyle McNally, European identity

Kyle McNally

The EU in its most robust form stands at the pinnacle of this vision – an integrated Europe with a single market subject to common rules and a shared framework of human rights and justice. The plurality of European nations could flourish within an overarching shared commitment to democratic rules and human rights standards. Power and authority could be remoulded upwards and downwards: cities, sub-national regions, nation states and the supra-national structure of the EU could all exist together in a cosmopolitan structure defined by not to my nation right or wrong, but by a shared political culture of democracy, markets and social justice.

Of course, the idea of a people, whether national or European, is a complex social construct. By drawing lines on maps, by conquest and by other ‘top-down’ processes, elites carved out bordered spaces in which a diversity of peoples lived. The creation of national cultures was often initiated by elites to bind people into common territories. However, national cultures were never merely the result of such initiatives.  Elites never invented nations on arid ground. Rather, nations were created upon deep legacies of history and culture, a sense of common rights and duties, and a shared recognition of overlapping fates. The struggle to create democracy, moreover, was not just a struggle against the autocratic elites that has shaped European history so significantly.  The idea of a democratic people, just like the idea of a national culture, was the result of interplay between elite developments and popular pressure. The demoi that emerged in the late nineteenth and twentieth centuries were both catalysed by great democratic reformers and constituted through struggle to claim a democratic right of membership in community. The democratic rights that followed were often hard won in bitter struggles of labour movements and later in the conflicts surrounding the right to vote for women and marginalized minorities.

While Europe benefitted from the postwar boom and the virtuous circle of institution building and economic growth that pervaded the postwar settlement, tensions in the European project could be put aside by the sheer evidence of success. All national boats in Europe could rise together in a European Union where common governing structures could trump national states in critical areas, and where sovereignty was pooled in significant ways. This period of self-reinforcing European interdependence produced the noble development of the EU as a common political structure which recognized diversity and difference under a shared rubric of law and regulation. In the 1990s, the Euro-barometer showed the highest levels of European identification. It seemed that European politicians could have their cake and eat it too – a strong Europe in a land of plural states.

The build-up of economic pressures at the turn of the 21st century was temporarily masked by the continuing efforts of the US, the EU and China to accelerate ever more down the road of economic growth. The crash was never far behind. The collapse of Lehman Brothers was the match that lit the global financial crisis which at first could be characterised, as the Chinese did, as the North Atlantic Financial Crisis. But as time went on it was clear enough that this was too easy a characterisation and that many of the countries of the European Union were deeply implicated in the malpractices and misadventures of investment banking, subprime mortgages, excessive leveraging, and complex and volatile financial instruments. Moreover, the European Union governing structures which were once seen as a fine balance between centre and nation looked suddenly weak. The EU, although far from alone in this, had allowed a regime of light touch regulation in financial matters, and had been built on the quick sand of a single currency without wider fiscal and monetary controls.

Against this background, the question of European identity is once more raised in stark form. It is possible that this question could be once again set aside if the EU manages to stabilise the European economy and the recent evidence of renewed growth is affirmed. However, the financial crisis has raised fundamental questions about identity and politics. European culture, like all cultures before it, cannot simply be the result of elite efforts. It has to be built on a foundation of common values and beliefs, which need nurturing over the long term. There were opportunities to set down these roots in the postwar period but they were rarely explored. It was easier for the leaders of Germany and France, along with their allies, to shape Europe in their own image and interest. European governance was always a compromise between the interests of its leading powers and rarely, if at all, the product of wide scale horizontal communication between peoples. The great projects of European cultural integration were above all projects of infrastructure, science and institution building. These are important, but they do not touch the fuzzy core of the complex patterns of national culture.

Today the EU is under strain. The financial crisis exacerbated underlying tensions among member states, which in turn were compounded by the weakening monetary and fiscal position of several of them. In addition, the crisis gave an enormous impetus to emerging regions, particularly China and South East Asia, which put further competitive pressure on Europe. Against this background, signs have emerged of increasing social disintegration and a resurgence of nationalist sentiment; anti-Semitism, racism and far-right politics are re-established as the dark side of European culture never entirely addressed. European identity was the negative construct of a Europe torn apart by World War. It was a negative outcome of an attempt to end German Europe and to forge a European identity in the Cold War, squeezed, as Europe was, by the rivalry of the USA and USSR. But negative cultural formation cannot carry the day when the driving forces – the geopolitical threats to Europe – disappear. The questions then arise: who are we Europeans? What does it mean to be European after the Cold War? Can European identity survive the global financial crisis?

It remains one of Europe’s greatest achievements to have created a Kantian peace where there was once only devastation and war. The attempt to create common political structures rooted in human rights and rule of law remains one of the most inspiring political projects in a global world fraught by the contradictory pressures of globalisation and nationalism. In an era where global bads pervade – global financial instability, global economic imbalances, the risk of pandemics and epidemics, climate change and so on – coming together in large political blocs to deal with common challenges can only be the right way ahead. Yet this right way has to be built on solving common problems, enjoying common governance in the face of common threats and on the commitment to principles and procedures that alone can create peace, unity and freedom in a diverse world; that is, the principles of democracy and human rights.

European identity cannot be based on an integrated European culture. It can only survive as a way of solving problems, united by a common political culture inspired by Kant and embodied in the rule of law, multilevel democracy, and human rights. This remains a Europe worth having.

This column was first published by OpenDemocracy

February 06 2014

"Economic Stagnation By Design" by Joseph Stiglitz

Joseph Stiglitz, economic stagnation

Joseph Stiglitz

Soon after the global financial crisis erupted in 2008, I warned that unless the right policies were adopted, Japanese-style malaise – slow growth and near-stagnant incomes for years to come – could set in. While leaders on both sides of the Atlantic claimed that they had learned the lessons of Japan, they promptly proceeded to repeat some of the same mistakes. Now, even a key former United States official, the economist Larry Summers, is warning of secular stagnation.

The basic point that I raised a half-decade ago was that, in a fundamental sense, the US economy was sick even before the crisis: it was only an asset-price bubble, created through lax regulation and low interest rates, that had made the economy seem robust. Beneath the surface, numerous problems were festering: growing inequality; an unmet need for structural reform (moving from a manufacturing-based economy to services and adapting to changing global comparative advantages); persistent global imbalances; and a financial system more attuned to speculating than to making investments that would create jobs, increase productivity, and redeploy surpluses to maximize social returns.

Policymakers’ response to the crisis failed to address these issues; worse, it exacerbated some of them and created new ones – and not just in the US. The result has been increased indebtedness in many countries, as the collapse of GDP undermined government revenues. Moreover, underinvestment in both the public and private sector has created a generation of young people who have spent years idle and increasingly alienated at a point in their lives when they should have been honing their skills and increasing their productivity.

On both sides of the Atlantic, GDP is likely to grow considerably faster this year than in 2013. But, before leaders who embraced austerity policies open the champagne and toast themselves, they should examine where we are and consider the near-irreparable damage that these policies have caused.

Economic Stagnation And Austerity

Every downturn eventually comes to an end. The mark of a good policy is that it succeeds in making the downturn shallower and shorter than it otherwise would have been. The mark of the austerity policies that many governments embraced is that they made the downturn far deeper and longer than was necessary, with long-lasting consequences.

Real (inflation-adjusted) GDP per capita is lower in most of the North Atlantic than it was in 2007; in Greece, the economy has shrunk by an estimated 23%. Germany, the top-performing European country, has recorded miserly 0.7% average annual growth over the last six years. The US economy is still roughly 15% smaller than it would have been had growth continued even on the moderate pre-crisis trajectory.

But even these numbers do not tell the full story of how bad things are, because GDP is not a good measure of success. Far more relevant is what is happening to household incomes. Median real income in the US is below its level in 1989, a quarter-century ago; median income for full-time male workers is lower now than it was more than 40 years ago.

Some, like the economist Robert Gordon, have suggested that we should adjust to a new reality in which long-term productivity growth will be significantly below what it has been over the past century. Given economists’ miserable record – reflected in the run-up to the crisis – for even three-year predictions, no one should have much confidence in a crystal ball that forecasts decades into the future. But this much seems clear: unless government policies change, we are in for a long period of disappointment.

Markets are not self-correcting. The underlying fundamental problems that I outlined earlier could get worse – and many are. Inequality leads to weak demand; widening inequality weakens demand even more; and, in most countries, including the US, the crisis has only worsened inequality.

The trade surpluses of northern Europe have increased, even as China’s have moderated. Most important, markets have never been very good at achieving structural transformations quickly on their own; the transition from agriculture to manufacturing, for example, was anything but smooth; on the contrary, it was accompanied by significant social dislocation and the Great Depression.

This time is no different, but in some ways it could be worse: the sectors that should be growing, reflecting the needs and desires of citizens, are services like education and health, which traditionally have been publicly financed, and for good reason. But, rather than government facilitating the transition, austerity is inhibiting it.

Malaise is better than a recession, and a recession is better than a depression. But the difficulties that we are facing now are not the result of the inexorable laws of economics, to which we simply must adjust, as we would to a natural disaster, like an earthquake or tsunami. They are not even a kind of penance that we have to pay for past sins – though, to be sure, the neoliberal policies that have prevailed for the past three decades have much to do with our current predicament.

Instead, our current difficulties are the result of flawed policies. There are alternatives. But we will not find them in the self-satisfied complacency of the elites, whose incomes and stock portfolios are once again soaring. Only some people, it seems, must adjust to a permanently lower standard of living. Unfortunately, those people happen to be most people.

© Project Syndicate

February 05 2014

"How Mainstream Economics Failed To Grasp The Importance Of Inequality" by Jon D. Wisman

Jon Wisman (photo: American University), mainstream economics

Jon Wisman
(photo: American University)

The restricted focus of mainstream economists has meant that not much attention has been given to the economic and social consequences of changing income and wealth inequality. Jon D. Wisman critiques their restricted scope and contends that it impeded them from seeing how 30 years of wage stagnation and soaring inequality were generating excessive speculation, indebtedness, and political changes that set the underlying conditions for the financial crisis of 2008.

The financial crisis of 2008 launched the second most severe depression in capitalism’s history. Although its causes have been endlessly discussed, attention has remained fixed on surface reality or proximate causes such deregulation, inadequate oversight, low interest rates, “irrational exuberance,” and moral hazard. Ignored has been what was going on beneath the surface: 30 years of wage stagnation and exploding inequality—powerful forces that were churning up complex dynamics to make a financial crisis all but inevitable. During the 1920s, the same forces had set the stage for the crash of 1929, but the economics profession missed that one too.

The magnitude of exploding inequality since the mid-1970s is captured by the following: Between 1979 and 2007, inflation-adjusted income, including capital gains, increased $4.8 trillion — about $16,000 per person. Of this, 36 percent was captured by the richest 1 percent of income earners, representing a 232 percent increase in their per capita income. The richest 10 percent captured 64 percent, almost twice the amount collected by the 90 percent below. Between 1983 and 2007, total inflation-adjusted wealth in the U.S. increased by $27 trillion. If divided equally, every man woman and child would be almost $90,000 richer. But of course it wasn’t divided equally. Almost half of the $27 trillion (49 percent) was claimed by the richest one percent — $11.7 million more for each of their households. The top 10 percent grabbed almost $29 trillion, or 106 percent, more than the total because the bottom 90 percent suffered an average decline of just over $16,000 per household as their indebtedness increased.

This soaring inequality generated three dynamics that set the conditions for a financial crisis. The first resulted from limited investment potential in the real economy due to weak consumer demand as those who consume most or all their incomes received proportionately much less. Not being capable of spending all their increased income and wealth, the elite sought profitable investments increasingly in financial markets, fueling first a stock market boom, and then after the high tech bubble burst in 2001, a real estate boom.

As financial markets were flooded with credit, the profits and size of the financial sector exploded, helping keep interest rates low and encouraging the creation of new high-risk credit instruments. This enabled more of the elite’s increased income and wealth to be recycled as loans to workers. Financial institutions were so flush with funds that they undertook ever more risky loans, the most infamous being the predatory subprime mortgages that often were racially targeted. As the elite became ever richer, those below became ever more indebted to them. When this debt burden became unsustainable, the financial system collapsed and was bailed out by taxpayers.

The second dynamic resulting from wage stagnation and soaring inequality is that as the elite with ever more income and wealth ratcheted up their consumption on luxury goods in competition among themselves for the pinnacle of status, everyone below was pressured to consume more both to meet family needs and to maintain their relative status or social respectability. In effect, the elite’s dramatically larger shares of income and wealth led to a “consumption arms race.” Pressure was especially strong in housing, the most important asset and symbol of social status for most Americans. As a consequence, over the three decades building up to the crisis, the household saving rate plummeted from 10 percent of disposable income in the early 1980s to near zero by 2006, as Figure 1 illustrates. By 2007, the average married household worked 19 percent more hours than they did in 1979—the equivalent of over one extra work day per week, or an extra 14 work weeks per year—and household debt as a percent of disposable income doubled from about 62 percent in 1974 to 129 percent in late 2007.

Figure 1 – Personal savings rate 1980 – 2010

Wisman Fig 1

Source: Bureau of Economic Analysis National Income and Product Accounts 2012, Section 7.

The third dynamic is that as the rich took an ever-greater share of income and wealth, they and their corporate interests gained greater command over politics and ideology so as to further change the rules of the game in their favor. The proliferation of right-wing think tanks, corporate lobbyists and corporate campaign contributions leveraged their political influence. In their competition for status among themselves, they understandably supported self-interested economic and political measures that brought them yet greater shares of the nation’s income and wealth.

As the elite’s command over essentially everything grew, so too did their ability to craft self-serving ideology—especially supply-side economics, a variant of laissez faire economics—in a manner that made it be ever-more convincing to a majority of the electorate. Flowing out of this ideology were tax cuts favoring the wealthy, a weakened safety net for the least fortunate, budget cuts for public services, freer trade, weaken unions, deregulation of the economy (especially the financial sector), and the failure to regulate newly evolving credit instruments.

How did the mainstream of economists not see the unstable financial conditions that soaring inequality was creating? Generally because economists have not viewed the distribution of income and wealth as an important domain of study. The 1995 recipient of the Nobel Memorial Prize in Economic Sciences even went so far as to declare that “Of the tendencies that are harmful to sound economics, the most seductive, and in my opinion the most poisonous, is to focus on questions of distribution.” Moreover, rising inequality has long been dismissed by economists as either irrelevant (if everyone is becoming materially better off, the size of shares is unimportant) or as missing the economic dynamism that inequality generates (which in fact it does not!!).

Mainstream economists were also blinded to the dynamics greater inequality set in motion by their tendency to focus narrowly on market phenomena, their refusal to study the manner in which humans as social beings react to the behavior of others, and their failure to address the nexus between economic and political power.

Economists might have stood a better chance of foreseeing the developing financial crisis had they thrown their nets far wider to catch the insights that have been harvested by a wide range of so-called heterodox economists. From the underconsumptionist tradition of Keynes, Kalecki, and Minsky they could have developed an understanding of how inequality affects aggregate demand, investment, and financial stability. From the institutionalist tradition of Thorstein Veblen they could have learned how consumption preferences are socially formed by humans who are as concerned with social status and respectability as with material well-being. And from the Marxist tradition they could have seen how economic power translates into political power. Economists have failed to grasp the wisdom of one of the foremost students of crises: “the economist who resorts to only one model is stunted. Economics is a toolbox from which the economist should select the appropriate tool or model for a particular problem.”

This article has been drawn from the paper Wage Stagnation, Rising Inequality, and the Financial Crisis of 2008,” which was published in the Cambridge Journal of Economics. It was first published by USAPP@LSE.

Reposted by02mydafsoup-01 02mydafsoup-01

February 04 2014

"Why We Need Basket Eurobonds" by Peter Bofinger

Peter Bofinger, Basket Eurobonds

Peter Bofinger

This column was first published in the Journal For A Progressive Economy.

The Euro area is suffering from insufficient macroeconomic stabilisation

At the end of 2009 the unemployment rates of the Euro area and the United States had reached a level of 10%. Since then, unemployment in the US has fallen to 7.3% while in the Euro area it has climbed to 12.0%. This is not surprising as the real GDP in the United States is now 9.0% above the level of 2009, but in the Euro area it has increased by only 2.4%.

These outcomes are very closely related to very different macroeconomic approaches. The US’s fiscal policy tried to stimulate the economy with very high deficits. On average in the years 2010 to 2013, the annual US fiscal deficit was 8.7% of GDP. This is more than twice the Euro area’s deficit, which was only 4.3% of GDP. Thus, unlike the United States which made ample use of their fiscal capacity, the Euro area – especially the member countries which were most affected by the economic downturn – was forced to pursue a restrictive policy which aggravated the recession.

Different approaches can also be identified in the field of monetary policy. Almost immediately after the Lehman collapse, the FED reduced interest rates to the zero lower bound. The ECB followed a much more cautious approach. After Lehman, the ECB did not go below 1% with its own interest rate – instead it raised it again in two steps to 1.50% in July 2011. It took almost two more years before the Eurozone rate was reduced to 0.50%. The more active approach of the FED is also reflected in its quantitative easing policy. Since Draghi’s strong statement on 26 July 2012, the ECB’s bond holdings have declined from 602 billion Euros to 600 billion Euros. At the same time the FED has increased its bond portfolio from 2,472 billion Dollars to 2,844 billion Dollars.

With this in mind, the weakness of the Euro area economy cannot only be explained through structural problems. Rather, it has more to do with an insufficient macroeconomic response to a severe macroeconomic crisis. This is also reflected by a comparison with the United Kingdom which according to all indicators is the EU country with the most flexible goods, service and labour markets. Nevertheless, in order to stabilise the UK economy in the years 2010 to 2013, an average fiscal deficit of 8.0% was needed and the bond purchases of the Bank of England were even more aggressive than the quantitative easing of the FED.

Of course, the rather weak macroeconomic stabilisation in the Eurozone to a large extent reflects the specific political and institutional framework of this currency area. In contrast to the United States and the United Kingdom, the member states of the Eurozone are indebted in a currency which they cannot print under their national autonomy. This exposes them to an insolvency risk which is not the case for other developed countries such as the US, the UK or Japan. As a consequence the weaker Eurozone members were confronted with “bond-runs” of global investors in the years 2010 to 2012, which in the case of Greece, Ireland and Portugal could only be stopped by a rescue programme which required very restrictive stabilisation under the aegis of the Troika.

As far as the ECB is concerned, its ability to engage in a comprehensive quantitative easing programme in the style of the FED or the Bank of England is limited by the fact that there is no integrated market for Eurobonds. Especially in Germany, ECB purchases of bonds from individual countries are criticised as a hidden form of government financing which is prohibited by European Treaties.

Basket Eurobonds: A way to overcome the German resistance to Eurobonds

Fundamental changes to the institutional framework of the Eurozone cannot be expected for the time being. Therefore, one has to ask how better macroeconomic management could be achieved within the present legal constraints.

In the last few years, several proposals for Eurobonds or quasi-Eurobonds, such as the debt redemption pact of the German Council of Economic Experts, have been developed. But so far it has not been possible to convince German politicians and the German public that joint and several liability for Eurozone debt is required to guarantee the survival of the Euro and that the risks of such a step can be controlled. In addition, any form of joint and several liability poses serious legal challenges.

A possible way out could be a synthetic Eurobond which is designed as a basket of national bonds where each country guarantees only for its share in the basket. While such a basket-Eurobond (BEB) would be issued and traded as a single debt instrument, each participant would be liable only for the interest payments and principal redemption corresponding to its share of the bond, and not for the debt of the other issuers (Favero and Missale 2010, p. 99). Proposals for such an instrument were made already by the Giovannini Group (2000), the European Primary Dealers Association, in 2008.

A decisive feature of such a basket-Eurobond is the share of the individual members. It could be either determined by the GDP weights of the member countries or by the share of their outstanding national government debt in total government debt of the Euro area. A basket according to debt weights would give Italy a share that is higher than its GDP share. A basket based on GDP shares would give Germany the strongest weight, while Italy’s share would be smaller than its debt share (Table 1). For the credibility of the basket-Eurobond a large German share would be more beneficial for the Eurozone. In addition, for the ECB only a Eurobond with GDP shares would avoid the criticism of implicit government financing.

Table 1: Shares of Euro area member countries in a Basket Eurobond (2012)

p2, basket eurobond

Basket-Eurobonds could be issued together with a sizeable issue of national bonds. Alternatively one could envisage a solution where almost all new bonds of the member states are issued as basket bonds. A large issue of basket bonds would have the advantage of a fluid market with correspondingly low interest rates. A fully developed BEB market would be much more fluid than each of the existing national markets. In addition, it would limit investor shifts from one national bond market to another, which has been a major source of instability in the last few years.

A strong expansion of the BEB market could be achieved if all new German bonds were issued as basket bonds. With a basket according to GDP shares, this would imply that countries with a debt share exceeding their GDP share (Italy, Ireland, Portugal and Greece) are forced in addition to issue a relatively small number of bonds as stand-alone national bonds. But as these countries are able to raise a very high share of the new issuance under the umbrella of the basket bond, the risk for the remaining bonds would be rather limited. In addition, if countries are obliged to issue bonds by themselves some  discipline exerted by financial markets could be maintained.

For countries with a debt-to-GDP ratio below the German ratio a GDP weighted basket implies that they would raise more funds from the capital market than their funding requirement. The difference could be invested by the issuing institution (Euro Debt Agency) in assets with the same rating as the corresponding countries.

From a German perspective the main problem of a basket bond could be higher financing costs. The interest rate for the basket bond would be higher than the interest rate for a traditional German bond. This problem could be solved by differentiating the interest payments for the participants according to their individual debt levels. For instance, for each percentage point of the national debt-to-GDP ratio below the Eurozone average, a certain discount on the interest rate of the basket bond could be made. For countries with above-average debt levels a corresponding surcharge would be applied. This mechanism would provide better incentives and disincentives than the bond markets which for many years did not react to the differences in debt levels and then overreacted after the crisis had started in 2010.

The ECB’s potential for quantitative easing

A well-developed market for Basket Eurobonds would facilitate the ECB to engage in a policy of quantitative easing in the same way as central banks of other major currency areas. With an explicit commitment by the ECB to purchase a certain number of basket bonds for an extended period of time, the average long-term interest rate of the Eurozone could be reduced. Since the outbreak of the financial crisis, this rate has been considerably higher than long-term bond yields of other major currency areas (see chart). Fundamentally this spread is not warranted as the average deficit of the Eurozone has been lower than the deficit of other major currency areas. At the same time, the Eurozone debt level has been more or less identical to the US and the UK level, but much lower than the Japanese level.

p1, Basket Eurobonds

Of course, since July 2012 the ECB’s Outright Monetary Transaction (OMT) announcement has already helped to reduce the average interest rate considerably. But there is a risk that this commitment could be tested and that the ECB’s purchases of national bonds could be limited by legal concerns. With purchases of BEBs the ECB could always argue this is a purely monetary operation as it does not favour individual countries.

At the moment the ECB’s bond holdings amount to 6.3% of the Eurozone’s GDP, the FED’s bond holding total 17.5% of GDP. The monthly gross issuance of government bonds of Eurozone member countries is about 200 billion Euros. Thus, after the establishment of BEBs the ECB could announce monthly purchases of 50 billion Euros for a 12 month period. The total amount of 600 billion Euros would be equivalent to about 6% of the Eurozone’s GDP. It would double the ECB’s bonds holdings and help reduce the average Eurozone bond rate, as it will take the same time until a major number of BEBs become available. The ECB could start its OMT programme by purchasing national bonds according to the GDP weights of the member states.

Of course, the implementation of a BEB would raise a host of technical questions, above all concerning the legal status of the Euro Debt Agency, the timing of issues and the maturity of the BEBs. Nevertheless, BEBs are the only form of Eurobond which do not require joint and several liability and they are therefore the only instrument that can be implemented within the current institutional framework.

Hope for the unemployed

In spite of some positive signals the overall economic situation of the Eurozone is still rather bleak. The HICP inflation rate is now only 1.1% which is almost in a deflationary terrain as it is below the ECB’s target of close to 2%. Although the IMF expects a return to growth in the Eurozone in 2014 and growth rates of about 1.5% in the following years, the Euro unemployment rate will increase to 12% in 2014 and will remain above 11% until 2017.

Of course, structural reforms can be helpful to improve the competiveness of the Euro area. But without a dynamic macroeconomic environment, improvements at the microeconomic level will not materialise. Under the current legal framework, the fiscal space of the Eurozone member states will remain very limited. Therefore, the ECB will remain the only powerful actor at the macro level. Its commitment to OMT has already shown a remarkable impact on financial markets. With the issuance of basket Eurobonds the ECB’s ability to engage in a policy of quantitative easing could be significantly improved. In addition purchases of such bonds could no longer be criticised as a form of implicit government financing.


European Primary Dealers Association, Securities Industry and Financial Market Association (2008), A Common European Government Bond, Discussion Paper, September 2008

Favero, C.A. and A. Missale (2010), EU Public Debt Management and Eurobonds, European Parliament Directorate General for Internal Policies

Giovannini Group (2000), Co-ordinated Public Debt Issuance in the Euro Area.


February 03 2014

"The Trouble with Emerging Markets" by Nouriel Roubini

Nouriel Roubini, emerging markets

Nouriel Roubini

The financial turmoil that hit emerging-market economies last spring, following the US Federal Reserve’s “taper tantrum” over its quantitative-easing (QE) policy, has returned with a vengeance. This time, the trigger was a confluence of several events: a currency crisis in Argentina, where the authorities stopped intervening in the forex markets to prevent the loss of foreign reserves; weaker economic data from China; and persistent political uncertainty and unrest in Turkey, Ukraine, and Thailand.

This mini perfect storm in emerging markets was soon transmitted, via international investors’ risk aversion, to advanced economies’ stock markets. But the immediate trigger for these pressures should not be confused with their deeper causes: Many emerging markets are in real trouble.

The list includes India, Indonesia, Brazil, Turkey, and South Africa – dubbed the “Fragile Five,” because all have twin fiscal and current-account deficits, falling growth rates, above-target inflation, and political uncertainty from upcoming legislative and/or presidential elections this year. But five other significant countries – Argentina, Venezuela, Ukraine, Hungary, and Thailand – are also vulnerable. Political and/or electoral risk can be found in all of them, loose fiscal policy in many of them, and rising external imbalances and sovereign risk in some of them.

Then, there are the over-hyped BRICS countries, now falling back to reality. Three of them (Brazil, Russia, and South Africa) will grow more slowly than the United States this year, with real (inflation-adjusted) GDP rising at less than 2.5%, while the economies of the other two (China and India) are slowing sharply. Indeed, Brazil, India, and South Africa are members of the Fragile Five, and demographic decline in China and Russia will undermine both countries’ potential growth.

The largest of the BRICS, China, faces additional risk stemming from a credit-fueled investment boom, with excessive borrowing by local governments, state-owned enterprises, and real-estate firms severely weakening the asset portfolios of banks and shadow banks. Most credit bubbles this large have ended up causing a hard economic landing, and China’s economy is unlikely to escape unscathed, particularly as reforms to rebalance growth from high savings and fixed investment to private consumption are likely to be implemented too slowly, given the powerful interests aligned against them.

Moreover, the deep causes of last year’s turmoil in emerging markets have not disappeared. For starters, the risk of a hard landing in China poses a serious threat to emerging Asia, commodity exporters around the world, and even advanced economies.

At the same time, the Fed’s tapering of its long-term asset purchases has begun in earnest, with interest rates set to rise. As a result, the capital that flowed to emerging markets in the years of high liquidity and low yields in advanced economies is now fleeing many countries where easy money caused fiscal, monetary, and credit policies to become too lax.

Another deep cause of current volatility is that the commodity super-cycle is over. This is not just because China is slowing; years of high prices have led to investment in new capacity and an increase in the supply of many commodities. Meanwhile, emerging-market commodity exporters failed to take advantage of the windfall and implement market-oriented structural reforms in the last decade; on the contrary, many of them embraced state capitalism, giving too large a role to state-owned enterprises and banks.

These risks will not wane anytime soon. Chinese growth is unlikely to accelerate and lift commodity prices; the Fed has increased the pace of its QE tapering; structural reforms are not likely until after elections; and incumbent governments have been similarly wary of the growth-depressing effects of tightening fiscal, monetary, and credit policies. Indeed, the failure of many emerging-market governments to tighten macroeconomic policy sufficiently has led to another round of currency depreciation, which risks feeding into higher inflation and jeopardizing these countries ability to finance twin fiscal and external deficits.

Nonetheless, the threat of a full-fledged currency, sovereign-debt, and banking crisis remains low, even in the Fragile Five, for several reasons. All have flexible exchange rates, a large war chest of reserves to shield against a run on their currencies and banks, and fewer currency mismatches (for example, heavy foreign-currency borrowing to finance investment in local-currency assets). Many also have sounder banking systems, while their public and private debt ratios, though rising, are still low, with little risk of insolvency.

Over time, optimism about emerging markets is probably correct. Many have sound macroeconomic, financial, and policy fundamentals. Moreover, some of the medium-term fundamentals for most emerging markets, including the fragile ones, remain strong: urbanization, industrialization, catch-up growth from low per capita income, a demographic dividend, the emergence of a more stable middle class, the rise of a consumer society, and the opportunities for faster output gains once structural reforms are implemented. So it is not fair to lump all emerging markets into one basket; differentiation is needed.

But the short-run policy tradeoffs that many of these countries face – damned if they tighten monetary and fiscal policy fast enough, and damned if they do not – remain ugly. The external risks and internal macroeconomic and structural vulnerabilities that they face will continue to cloud their immediate outlook. The next year or two will be a bumpy ride for many emerging markets, before more stable and market-oriented governments implement sounder policies.

 © Project Syndicate

"The Battle Lines For The European Elections Are Drawn" by Jan Marinus Wiersma

Jan Marinus Wiersma, European elections

Jan Marinus Wiersma

Recently, the Dutch Parliament has discussed a citizens’ initiative that calls upon the legislators to stop the creeping transfer of national powers to Brussels and demands a referendum on major EU decisions such as the ones taken in the framework of tackling the euro crisis. While not all the traditional parties are in principle against a popular vote, they rejected holding a plebiscite now. The left wing populist political group, the Socialist Party (SP), however wholeheartedly supported the initiative. The PVV (Party of Freedom) of Geert Wilders went even a step further by insisting that a referendum on EU membership as such should be held as soon as possible.

And it is exactly these two parties at the political fringes that are currently leading in the opinion polls and are expected to do very well in the upcoming European elections. For the time being, the referendum is off the table in the Netherlands, but soon new legislation will allow citizens to demand a corrective referendum (on laws and regulations already adopted) if they collect at least 300.000 signatures. This change in the constitution was initiated by the progressive parties and is supported by a majority in parliament. One shouldn’t forget that the EU debate in the Netherlands has become very much linked to referenda. The first time in 200 years that the Dutch citizens could directly give their opinion on a legislative proposal was in 2005 – the outcome was a rejection of the EU Constitutional Treaty by 61% of the voters.

While the traditional party families in a joint effort plan to make the upcoming European elections more attractive and democratic by fielding their own candidates for the presidency of the European Commission and to give faces to the their campaigns, things are also happening on the fringes. Support for right and left wing populist parties has grown all over Europe, as have referendum movements. Some predict that populist Eurosceptic groups will occupy 40% of the seats in the European Parliament after the May elections. This seems a wild exaggeration not based on facts – unless one would include in these ranks Euro-critical parties such as the British Tories or the Dutch conservative-liberals.

A snapshot of the present situation in the EU member states shows strong support for left wing, anti-EU parties in Greece (SYRIZA), The Netherlands (SP) and France (Radical Left) for example. Right-wing (and often xenophobic) anti-EU parties manifest themselves in The Netherlands (PVV), France (FN), Sweden (SD), Denmark (DP), Greece (Golden Dawn), Germany (AfD), Italy (LN), UK (UKIP), Austria (FPÖ) and in some new member states like Jobbik in Hungary and Ataka in Bulgaria. It is unlikely that all of them together would ever get near 40% of EP seats since opinion polls do not justify this figure and it is unclear how the predicted low turnout will in the end affect their results.

Moreover, they will certainly not join forces in the European Parliament given the substantive differences between and even among the right wing and left wing populists who will end up in different camps after the European elections. The suggestion that these parties will figure as the Brussels tea party is therefore also somewhat misleading. Consider the situation on the right flank: Geert Wilders and Marine Le Pen have the intention to form a joint fraction in the future EP but some important anti-EU parties like UKIP distance themselves from this initiative. Though they will not create a joint political bloc, the anti-Europeans will probably be a force to reckon with by having great nuisance power.

Traditional Parties Will Have a Difficult Time In The Upcoming European Elections

The traditional parties will have a difficult time during the upcoming election battle, as criticism of the EU will be louder and have more popular support than ever before. A sceptical electorate, blaming the EU for the social and economic crisis, might turn away from the parties that they hold responsible and vote for those that carry no responsibility at all. The battle ground is no longer exclusively defined by conservatives, liberals, social democrats or greens, but – more than in the past – also by the parties operating on their fringes exploiting anti-European sentiments.

There is a real risk that the debates will not be about what kind of Europe (eg. neoliberal versus social democratic model), but whether there should be an EU at all. This will force the traditional parties into the pro-European corner defending the status quo while the populist anti-EU politicians can call for abandoning the whole idea of European integration. Such a negative frame will put the traditional European political families exclusively on the defensive and hamper their efforts to highlight the substantive differences between them and their candidates for the presidency of the European Commission.

Besides the battle between the major parties now dominating the EP, and the contest between the pro’s and the con’s, there will be a third front: the struggle to overcome the differences within the political families. How to reconcile the Dutch conservative VVD with the liberal candidate for the presidency of the European Commission Guy Verhofstad, a man openly striving for the federalisation of the European Union; how to bridge the gap between left-wing PASOK leader and Greek deputy Prime Minister Evangelos Venizelos and Eurogroup chair Jeroen Dijsselbloem of the Dutch Labour party? The national parties belonging to the same political families are also divided about the question of how to confront the populist threat: total isolation, strong opposition or adopting elements of their agenda in order to lure away voters?

It is obvious that the last point will have to be dealt with first. A joint agenda and strategy will have to be developed by the traditional party families. This will demand some flexibility in order to allow for differences under the same general heading. The danger is of course that vague compromise texts will be produced instead of clear messages on where the European parties stand on major issues and how they want to confront the outright anti-Europeans. We have seen this in the past – certainly also in the case of the socialists and social democrats. Hopefully this time they feel the urgency to make a difference and produce a clear and concrete message instead of leaving the public with the feeling that the emperor wears no clothes, and that there is no real choice. Then Martin Schulz, the candidate of the PES, can do what he is good at: speak clear language as he has recently shown at the SPD conference.

Reposted by02mydafsoup-01 02mydafsoup-01
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