Tuesday, November 12, 2013

606 Euro crisis was foreseen by five Economists. Eurozone doesn't need to suffer neoliberal austerity - Michael Hudson

Euro crisis was foreseen by five Economists. Eurozone doesn't need to
suffer neoliberal austerity - Michael Hudson

Newsletter published on 23 July 2013

(1) The Premonitory Five: Godley, Wray, Forstater, Mosler and Bell
(3) Maastricht and All That, by Wynne Godley (1992)
(4) Germany Has Created An Accidental Empire
(5) Europe unites against Germany
(6) German Surplus caused asset bubbles & Euro crisis - Michael Pettis
(he's WRONG)
(7) Stephen Roach WRONG: Current Account Deficits came BEFORE Savings
shortfalls, and CAUSED them
(8) Eurozone doesn't need to suffer neoliberal austerity - Michael Hudson
(9) Europe's worst economic failure is not Greece but UK, Italy & Spain
- John Ross
(10) More than half of all young Germans complete an apprenticeship
(11) English-speaking countries should adopt German Apprenticeship Program

(1) The Premonitory Five: Godley, Wray, Forstater, Mosler and Bell


July 20, 2012

Edward Fullbrook

The neoclassical mainstream won infamy for remaining oblivious of the
impending Global Financial Collapse, whereas Keen, Roubini, Baker and
Hudson won fame for analytically foreseeing it and giving ample warning.
  Now a “policy note” from the Levy Economics Institute
<http://www.levyinstitute.org/pubs/pn_12_08.pdf> documents analytical
warnings of the European Union’s current debt crisis given separately a
decade or more ago by five economists:  Wynne Godley (1997), L. Randall
Wray (1998), Mathew Forstater (1999), Warren Mosler (2001) and Stephanie
Bell (2002).  Below are relevant passages from each of the five.  These
two huge examples illustrate how economics could serve, rather than
dis-serve, society if the profession were to become in the main
science-based rather than faith-based.

Wynne Godley (1997):

[I]f a government stops having its own currency, it doesn’t just give up
“control over monetary policy” as normally understood; its spending
powers also become constrained in an entirely new way. If a government
does not have its own central bank on which it can draw cheques freely,
its expenditures can be financed only by borrowing in the open market in
competition with businesses, and this may prove excessively expensive or
even impossible, particularly under “conditions of extreme emergency.” .
. . [I]f Europe is not to have a full-scale budget of its own under the
new arrangements it will still have, by default, a fiscal stance of its
own made up of the individual budgets of component states. The danger,
then, is that the budgetary restraint to which governments are
individually committed will impart a disinflationary bias that locks
Europe as a whole into a depression it is powerless to lift.

- Godley, W. 1997. “Curried Emu—The Meal that Fails to Nourish.”
Observer (London), August 31.

L. Randall Wray (1998, pp. 91–92):

Under the EMU, monetary policy is supposed to be divorced from fiscal
policy, with a great degree of monetary policy independence in order to
focus on the primary objective of price stability. Fiscal policy, in
turn will be tightly constrained by criteria which dictate maximum
deficit-to-GDP and debt-to-deficit ratios. . . . Most importantly, as
Goodhart recognizes, this will be the world’s first modern experiment on
a wide scale that would attempt to break the link between a government
and its currency. . . .

As currently designed, the EMU will have a central bank (the ECB) but it
will not have any fiscal branch. This would be much like a US which
operated with a Fed, but with only individual state treasuries. It will
be as if each EMU member country were to attempt to operate fiscal
policy in a foreign currency; deficit spending will require borrowing in
that foreign currency according to the dictates of private markets.

- Wray, L. R. 1998. Understanding Modern Money: The Key to Full
Employment and Price Stability. Northampton, Mass.: Edward Elgar Publishing.

  Mathew Forstater (1999, p. 33):

Under the EMU, if investors are at all hesitant about any one member’s
debt, they can buy another member’s debt without incurring currency
risk, since there is no exchange rate variability among the currencies
of member countries. Because member nations now are dependent on
investors for funding their expenditure, failure to attract investors
results in an inability to spend. Furthermore, should a member’s
revenues fail to keep pace with expenditures due to an economic
slowdown, investors will likely demand a budget that is balanced, most
likely through spending cuts. In other words, market forces can demand
pro-cyclical fiscal policy during a recession, compounding recessionary

- Forstater, M. 1999. “The European Economic and Monetary Union:
Introduction.” Eastern Economic Journal 25, no. 1 (Winter).

  Warren Mosler (2001):

History and logic dictate that the credit sensitive euro-12 national
governments and banking system will be tested. The market’s arrows will
inflict an initially narrow liquidity crisis, which will immediately
infect and rapidly arrest the entire euro payments system. Only the
inevitable, currently prohibited, direct intervention of the ECB will be
capable of performing the resurrection, and from the ashes of that
fallen flaming star an immortal sovereign currency will no doubt emerge.

- Mosler, W. 2001. “Rites of Passage.” Epicoalition.org, May 1.

  Stephanie Bell (2002):

Countries that wish to compete for benchmark status, or to improve the
terms on which they borrow, will have an incentive to reduce fiscal
deficits or strive for budget surpluses. In countries where this becomes
the overriding policy objective, we should not be surprised to find
relatively little attention paid to the stabilization of output and
employment. In contrast, countries that attempt to eschew the principles
of “sound” finance may find that they are unable to run large,
countercyclical deficits, as lenders refuse to provide sufficient credit
on desirable terms. Until something is done to enable member states to
avert these financial constraints (e.g., political union and the
establishment of a federal [EU] budget or the establishment of a new
lending institution, designed to aid member states in pursuing a broad
set of policy objectives), the prospects for stabilization in the
Eurozone appear grim.

- Bell, S. 2002. “Convergence Going In, Divergence Coming Out: Default
Risk Premiums and the Prospects for Stabilization in the
Eurozone.”Working Paper No. 24. Kansas City, Mo.: Center for Full
Employment and Price Stability. April.




Levy Economics Institute of Bard College

Policy Note 2012 / 8

DIMITRI B. PAPADIMITRIOU is president of the Levy Institute and
executive vice president and Jerome Levy Professor of Economics at Bard
College. Senior Scholar  L. RANDALL WRAY is professor of economics at
the University of Missouri–Kansas City. The Levy Economics Institute is
publishing this research with the conviction that it is a constructive
and positive contribution to the discussion on relevant policy issues.
Neither the Institute’s Board of Governors nor its advisers necessarily
endorse any proposal made by the authors. Copyright © 2012 Levy
Economics Institute of Bard College ISSN 2166-028X of Bard College Levy
Economics Institute

 From the very start, the European Monetary Union (EMU) was set up to
fail. The host of problems we are now witnessing, from the solvency
crises on the periphery to the bank runs in Spain, Greece, and Italy,
were built into the very structure of the EMU and its banking system.

Policymakers have admittedly responded to these various emergencies with
an uninspiring mix of delaying tactics and self-destructive policy
blunders, but the most fundamental mistake of all occurred well before
the buildup to the current crisis. What we are witnessing are the
results of a design flaw. When individual nations like Greece or Italy
joined the EMU, they essentially adopted a foreign currency—the euro—but
retained responsibility for their nation’s fiscal policy. This attempted
separation of fiscal policy from a sovereign currency is the fatal
defect that is tearing the eurozone apart.

For the past decade, many critics have focused on the policy of the
European Central Bank (ECB), arguing that monetary policy was too tight.
Others have argued that the Maastricht criteria, which ostensibly placed
limits on member-government deficits and debt, were too tight. While
both of these criticisms had some validity, they missed the main
problem: Italy had become the equivalent of a Louisiana, but without the
benefit of an Uncle Sam. The problem was not really that nations gave up
“monetary” policy (interest rate setting) or that they agreed to overly
tight constraints on budget deficits and debts. Over the past decade,
ECB monetary policy was actually no tighter on average than the policy
of the Federal Reserve (see Sardoni and Wray 2007).

And in an important sense, the Maastricht criteria were too loose, given
the ill-considered divorce of fiscal policy from monetary
sovereignty—which is to say, given that euro governments are spending
what is effectively a foreign currency. To the extent that they are
users, rather than issuers, of a currency, eurozone member-states are in
the same position as US states. But US states are held to deficit and
debt ratios that are far more strict than the Maastricht limits, and a
country like Italy cannot rely on a European version of an EU Treasury
in the same way that a Louisiana can rely on the US Treasury in the
event of a calamity. Given the setup of the EMU, it was inevitable that
individual euro nations would face two problems. First, if a deep
recession hit, their budgets would automatically move to deep deficits.
The problem would not be the Maastricht criteria (since, after all,
almost all euro nations persistently violated those criteria), nor even
just the cyclical process by which recessions shrink revenue and
increase safety net spending; but rather that markets would raise risk
premia on their debt, which would cause interest rates to explode in a
manner that would further increase deficits in a vicious cycle. With no
“Uncle Sam” to come to their rescue, they would have to rely on the
charity of the ECB to keep their interest rates down.

The second, much greater, problem was that individual nations had become
responsible for their own banking systems. There was no hope that they
would be able to bail them out without sinking their governments. This
was part of the design of the euro system: there was no Uncle Sam in
Brussels to come to the rescue of governments burdened by the debts run
up by private banks, debts that could easily be orders of magnitude
greater than total government spending or taxing (imagine a US state
being held responsible for resolving a run on a Bank of America or Wells
Fargo that happened to be headquartered within its borders).

One of the goals of European integration was to free up labor and
capital flows, removing barriers so that factors of production could
cross borders. Indeed, that was a primary reason for adopting the single
currency. Whether or not that was a good idea, and whether or not it
worked, is another matter. What is important in the context of the
crisis is that it enabled banks to buy assets and issue liabilities all
over Euroland— which they did with abandon. The icing on the cake was
the deregulation and desupervision of banking contained in the Basel
Accords, which allowed European banks to partake in the same dubious
schemes that Wall Street’s banks pursued.

This is, of course, what got Irish banks into trouble, as they ramped up
lending across Europe, growing their liabilities to multiples of Irish
GDP. Then, when their bets went bad, the Irish government had to bail
them out, boosting fiscal deficits and government debt into uncharted
territory. Again, this was a design feature of the EMU and the European
Union (EU) more generally: banks were freed to run up massive debts that
would ultimately need to be carried by governments that, because they
had abandoned currency sovereignty, were in no position to bear the
burden. Warren Mosler (2001) warned from the beginning that individual
EMU nations would not be able to deal with a financial crisis because of
the setup of the currency union (with no clear line of responsibility
back to the center).

Even more important to the current crisis in Euroland was the ability of
bank depositors to costlessly shift euro deposits from one bank to
another anywhere in the EMU. This is enabled by what’s known as the
“TARGET 2” facility (Trans- European Automated Real-time Gross
Settlement Express Transfer System). Any depositor of, let’s say, a
Spanish bank can move deposits to a German bank. Such a shift requires
that the central bank of Spain obtain reserves that get credited to the
central bank of Germany. If deposits tend to flow from the periphery
nations, their central banks go ever more deeply in hock to the ECB to
obtain reserves that accumulate in the account of the Bundesbank. In
1998, Peter Garber wrote that the yet-to-be-implemented TARGET system
and the structure of the ECB would create a “perfect mechanism to make
an explosive attack on the system”; that the entire setup provided only
the “costly illusion” of safety (Garber 1998).

That illusion is currently being dispelled before our very eyes.
Euroland is now in the midst of a massive run on periphery bank
deposits. Moving deposits to German banks is a sure bet: if Germany
leaves the EMU, depositors will get appreciating marks, and if Germany
remains in the EMU, depositors have the safest euro deposits available.
Why take a risk that Italy or Spain or Greece will leave the EMU,
default on euro-denominated deposits, and redenominate them in a
depreciating currency? Even in the best-case scenario, the country that
leaves the EMU will honor its euro debts only in domestic currency; in
the worst-case scenario, it might not honor them at all. And while it is
conceivable that Germany could refuse to honor euro deposits held in its
banks by citizens of nations that leave the EMU, that would seem to be a
low probability. After all, Germany will want buyers for its exports, so
why not honor the Levy Economics Institute of Bard College 3 deposits,
even if they must be converted to marks with the death of the EMU?

The bank runs should accelerate in coming days, as remaining periphery
depositors decide to be neither fools nor philanthropists, and so
continue to take the safest bet by shifting deposits to German banks.
And if that does happen, TARGET 2 ensures that the ECB will be stuck
with trillions of euros in uncollectible debts due to all the reserves
it has been lending to central banks that have to finance the run to
German banks. It all essentially comes down to an inadequately designed
“reflux” system.

Part of the solution is to immediately adopt unlimited deposit insurance
for all euro deposits in all EMU banks. But Chancellor Angela Merkel has
declared that this would violate the German constitution. Deposit
insurance would place an essentially unlimited liability on the ECB,
which would be insolvent if Spain or Italy were to leave the EMU. And
with no Uncle Sam standing behind the ECB, Germany would presumably get
the bill. That’s a bill Germany will not accept; hence, probably no
deposit insurance and no future for the EMU.

It is important to stress once again that this is a matter of
institutional setup and political constraints. Governments whose fiscal
policy has not been divorced from currency sovereignty are, for
instance, not facing the same vicious cycles of exploding borrowing
costs. Modern Money Theory (MMT) helps us to understand why. For the
sake of simplification, and to separate genuinely economic from purely
institutional obstacles, we can begin our analysis by consolidating the
central bank and the treasury. This consolidated “government” spends by
crediting accounts (by simple keystrokes) and taxes by debiting them.
Deficit spending thus leads to net credits of bank deposits as well as
bank reserves. Bond sales offer an interest-earning alternative to
zero-earning (or low-earning) reserves.

This consolidated view of the government is not meant to deny the
“internal” operations that go on between the central bank and the
treasury, or the various operating constraints placed on the treasury.
We know, for example, that most modern treasuries cannot sell bonds
directly to their central banks; we know that the treasury must have
“money in its account” at its central bank before it can cut a check;
and we know that the US Congress, in its infinite wisdom, has imposed a
debt limit on the US Treasury. But the consolidation of the Fed and
Treasury balance sheets is a simplification that gives us a place to
start the analysis.

In a recent presentation at the Levy Institute, Paul McCulley (until
recently, senior managing director of PIMCO) observed that no one
objects to consolidating the balance sheets of husband and wife. The
“family balance sheet” is consolidated in the same way that we
consolidate the “government balance sheet.” As with the government,
there may be some preapproved hoops one family member needs to jump
through before the money can be spent. McCulley called these hoops
“prenuptials.” The central bank and treasury have entered into a variety
of prenuptials, some of which are probably a good idea. But by mutual
agreement, they can be changed. Both the US Treasury and the Federal
Reserve are “creatures of Congress,” subject to the laws drafted by
elected representatives and signed by the president. If the prenuptials
get in the way of good public policy, they can be eliminated or changed.

This is why a United States or a Japan can run huge budget deficits that
accumulate to high debt-to-GDP ratios with near-zero interest rates on
short-term government debt and nearly historic lows on long-term
government bonds. The market understands that there is no risk of
involuntary default—Japan and the United States will continue to credit
interest to their respective government debts. There is a very slight
chance of a purely political voluntary default—for example, Congress
could refuse to increase the debt limit, as it threatened to do last
time around—but that risk is understood to be quite small because it
requires entirely irrational behavior on the part of a democratically
elected body. How long will US and Japanese rates remain close to zero?
As long as their central banks want to keep them low. This is strictly a
policy decision—and will continue until policy changes.

But given the way the EMU was set up, this is not a policy decision
available to eurozone nations, some of whose borrowing costs are
spiraling out of control even though their government debt ratios are
much smaller than those of Japan. This problem was entirely
foreseeable—and foreseen.1 The EMU bank runs and the cascading solvency
crises are all undergirded by a flawed banking structure compounded by a
separation between fiscal policy and monetary sovereignty. EMU-wide
deposit insurance, backed by the creation of a strong European federal
treasury, would end the bank runs that are afflicting the periphery.
Only a thorough reformation to unify fiscal policy and currency
sovereignty will save the project of European integration.

The June 29 agreement that emerged from the EU summit does not go far
enough in this direction. The agreement involves using funds from the
European Financial Stability Facility (EFSF) and the soon-to-be-created
European Stability Mechanism (ESM) to directly bail out banks. The bank
bailouts for Spain and Italy will not be added to each country’s
sovereign debt loads, but will be liabilities of the banking system and
assets of the EFSF or ESM. In the case of Greece, however, the 48.8
billion euros for bailing out Greek banks were added to Greece’s
sovereign debt obligations. If it had received treatment similar to that
of Spain and Italy, Greece’s debt-to-GDP ratio would be improved (though
still not serviceable); not to mention the fact that it would not be
laboring under the crippling austerity conditions attached to its
bailouts (conditions not included in the more recent rescue package for
Spain and Italy). The discrepancy in treatment on display here can be
attributed to the fact that Italy and Spain, because of their size, can
blow the eurozone apart.

But Chancellor Merkel seems oblivious to the message that is being
transmitted by the markets regarding the instability generated by these
inconsistent policy measures.

And beyond the inconsistency, the latest plan remains inadequate.
EFSF-ESM funds are finite. Experience shows that anything less than a
100 percent guarantee of deposits will not stop a bank run; this is why
it takes a sovereign currency issuer to stand behind deposits. No US
state could offer a plausible guarantee of deposits (indeed, we
experimented with such state insurance schemes in the United States,
until the thrift crisis wiped them all out). No EMU member can guarantee
bank deposits for this reason. And any limited funding source will not
be seen as sufficient. What is needed is an open-ended, unlimited
deposit insurance system from the center to back up all euro deposits in
the banks of all EMU members. Unless the June 29 agreement represents
the first step on the way to such a system, the EMU will be left with
the same defective structure that doomed it from the start.

Back in 2001, Warren Mosler wrote:

History and logic dictate that the credit sensitive euro-12 national
governments and banking system will be tested. The market’s arrows will
inflict an initially narrow liquidity crisis, which will immediately
infect and rapidly arrest the entire euro payments system. Only the
inevitable, currently prohibited, direct intervention of the ECB will be
capable of performing the resurrection, and from the ashes of that
fallen flaming star an immortal sovereign currency will no doubt emerge.
(Mosler 2001)

Note 1. This is not just ex post theorizing. Many affiliated with the
Levy Institute saw this coming from the very beginning.

Wynne Godley (1997):

[I]f a government stops having its own currency, it doesn’t just give up
“control over monetary policy” as normally understood; its spending
powers also become constrained in an entirely new way. If a government
does not have its own central bank on which it can draw cheques freely,
its expenditures can be financed only by borrowing in the open market in
competition with businesses, and this may prove excessively expensive or
even impossible, particularly under “conditions of extreme emergency.”
... [I]f Europe is not to have a full-scale budget of its own under the
new arrangements it will still have, by default, a fiscal stance of its
own made up of the individual budgets of component states. The danger,
then, is that the budgetary restraint to which governments are
individually committed will impart a disinflationary bias that locks
Europe as a whole into a depression it is powerless to lift.

L. Randall Wray (1998, pp. 91–92):

Under the EMU, monetary policy is supposed to be divorced from fiscal
policy, with a great degree of monetary policy independence in order to
focus on the primary objective of price stability. Fiscal policy, in
turn will be tightly constrained by criteria which dictate maximum
deficit-to-GDP and debt-to-deficit ratios. . . . Most importantly, as
Goodhart recognizes, this will be the world’s first modern experiment on
a wide scale that would attempt to break the link between a government
and its currency. . . . As currently designed, the EMU will have a
central bank (the ECB) but it will not have any fiscal branch. This
would be much like a US which operated with a Fed, but with only
individual state treasuries. It will be as if each EMU member country
were to attempt to operate fiscal policy in a foreign currency; deficit
spending will require borrowing in that foreign currency according to
the dictates of private markets. Levy Economics Institute of Bard College 5

Mathew Forstater (1999, p. 33):

Under the EMU, if investors are at all hesitant about any one member’s
debt, they can buy another member’s debt without incurring currency
risk, since there is no exchange rate variability among the currencies
of member countries. Because member nations now are dependent on
investors for funding their expenditure, failure to attract investors
results in an inability to spend. Furthermore, should a member’s
revenues fail to keep pace with expenditures due to an economic
slowdown, investors will likely demand a budget that is balanced, most
likely through spending cuts. In other words, market forces can demand
pro-cyclical fiscal policy during a recession, compounding recessionary

Stephanie Bell (2002):

Countries that wish to compete for benchmark status, or to improve the
terms on which they borrow, will have an incentive to reduce fiscal
deficits or strive for budget surpluses. In countries where this becomes
the overriding policy objective, we should not be surprised to find
relatively little attention paid to the stabilization of output and
employment. In contrast, countries that attempt to eschew the principles
of “sound” finance may find that they are unable to run large,
countercyclical deficits, as lenders refuse to provide sufficient credit
on desirable terms. Until something is done to enable member states to
avert these financial constraints (e.g., political union and the
establishment of a federal [EU] budget or the establishment of a new
lending institution, designed to aid member states in pursuing a broad
set of policy objectives), the prospects for stabilization in the
Eurozone appear grim.


Bell, S. 2002. “Convergence Going In, Divergence Coming Out: Default
Risk Premiums and the Prospects for Stabilization in the Eurozone.”
Working Paper No. 24. Kansas City, Mo.: Center for Full Employment and
Price Stability. April.

Forstater, M. 1999. “The European Economic and Monetary Union:
Introduction.” Eastern Economic Journal 25, no. 1 (Winter).

Garber, P. M. 1998. “Notes on the Role of TARGET in a Stage III Crisis.”
Working Paper 6619. Cambridge, Mass.: National Bureau of Economic
Research. June.

Godley, W. 1997. “Curried Emu—The Meal that Fails to Nourish.” Observer
(London), August 31.

Mosler, W. 2001. “Rites of Passage.” Epicoalition.org, May 1. Sardoni,
C., and L. R. Wray. 2007. “Fixed and Flexible Exchange Rates and
Currency Sovereignty.” Working Paper No. 489. Annandale-on-Hudson, N.Y.:
Levy Economics Institute of Bard College. January.

Wray, L. R. 1998. Understanding Modern Money: The Key to Full Employment
and Price Stability. Northampton, Mass.: Edward Elgar Publishing.

(3) Maastricht and All That, by Wynne Godley (1992)


Maastricht and All That

Wynne Godley

London Review of Books

Vol. 14 No. 19 · 8 October 1992
pages 3-4 | 1954 words

A lot of people throughout Europe have suddenly realised that they know
hardly anything about the Maastricht Treaty while rightly sensing that
it could make a huge difference to their lives. Their legitimate anxiety
has provoked Jacques Delors to make a statement to the effect that the
views of ordinary people should in future be more sensitively consulted.
He might have thought of that before.

Although I support the move towards political integration in Europe, I
think that the Maastricht proposals as they stand are seriously
defective, and also that public discussion of them has been curiously
impoverished. With a Danish rejection, a near-miss in France, and the
very existence of the ERM in question after the depredations by currency
markets, it is a good moment to take stock.

The central idea of the Maastricht Treaty is that the EC countries
should move towards an economic and monetary union, with a single
currency managed by an independent central bank. But how is the rest of
economic policy to be run? As the treaty proposes no new institutions
other than a European bank, its sponsors must suppose that nothing more
is needed. But this could only be correct if modern economies were
self-adjusting systems that didn’t need any management at all.

I am driven to the conclusion that such a view – that economies are
self-righting organisms which never under any circumstances need
management at all – did indeed determine the way in which the Maastricht
Treaty was framed. It is a crude and extreme version of the view which
for some time now has constituted Europe’s conventional wisdom (though
not that of the US or Japan) that governments are unable, and therefore
should not try, to achieve any of the traditional goals of economic
policy, such as growth and full employment. All that can legitimately be
done, according to this view, is to control the money supply and balance
the budget. It took a group largely composed of bankers (the Delors
Committee) to reach the conclusion that an independent central bank was
the only supra-national institution necessary to run an integrated,
supra-national Europe.

But there is much more to it all. It needs to be emphasised at the start
that the establishment of a single currency in the EC would indeed bring
to an end the sovereignty of its component nations and their power to
take independent action on major issues. As Mr Tim Congdon has argued
very cogently, the power to issue its own money, to make drafts on its
own central bank, is the main thing which defines national independence.
If a country gives up or loses this power, it acquires the status of a
local authority or colony. Local authorities and regions obviously
cannot devalue. But they also lose the power to finance deficits through
money creation while other methods of raising finance are subject to
central regulation. Nor can they change interest rates. As local
authorities possess none of the instruments of macro-economic policy,
their political choice is confined to relatively minor matters of
emphasis – a bit more education here, a bit less infrastructure there. I
think that when Jacques Delors lays new emphasis on the principle of
‘subsidiarity’, he is really only telling us we will be allowed to make
decisions about a larger number of relatively unimportant matters than
we might previously have supposed. Perhaps he will let us have curly
cucumbers after all. Big deal!

Let me express a different view. I think that the central government of
any sovereign state ought to be striving all the time to determine the
optimum overall level of public provision, the correct overall burden of
taxation, the correct allocation of total expenditures between competing
requirements and the just distribution of the tax burden. It must also
determine the extent to which any gap between expenditure and taxation
is financed by making a draft on the central bank and how much it is
financed by borrowing and on what terms. The way in which governments
decide all these (and some other) issues, and the quality of leadership
which they can deploy, will, in interaction with the decisions of
individuals, corporations and foreigners, determine such things as
interest rates, the exchange rate, the inflation rate, the growth rate
and the unemployment rate. It will also profoundly influence the
distribution of income and wealth not only between individuals but
between whole regions, assisting, one hopes, those adversely affected by
structural change.

Almost nothing simple can be said about the use of these instruments,
with all their inter-dependencies, to promote the well-being of a nation
and protect it as well as may be from the shocks of various kinds to
which it will inevitably be subjected. It only has limited meaning, for
instance, to say that budgets should always be balanced when a balanced
budget with expenditure and taxation both running at 40 per cent of GDP
would have an entirely different (and much more expansionary) impact
than a balanced budget at 10 per cent. To imagine the complexity and
importance of a government’s macro-economic decisions, one has only to
ask what would be the appropriate response, in terms of fiscal, monetary
and exchange rate policy, for a country about to produce large
quantities of oil, of a fourfold increase in the price of oil. Would it
have been right to do nothing at all? And it should never be forgotten
that in periods of very great crisis, it may even be appropriate for a
central government to sin against the Holy Ghost of all central banks
and invoke the ‘inflation tax’ – deliberately appropriating resources by
reducing, through inflation, the real value of a nation’s paper wealth.
It was, after all, by means of the inflation tax that Keynes proposed
that we should pay for the war.

I recite all this to suggest, not that sovereignty should not be given
up in the noble cause of European integration, but that if all these
functions are renounced by individual governments they simply have to be
taken on by some other authority. The incredible lacuna in the
Maastricht programme is that, while it contains a blueprint for the
establishment and modus operandi of an independent central bank, there
is no blueprint whatever of the analogue, in Community terms, of a
central government. Yet there would simply have to be a system of
institutions which fulfils all those functions at a Community level
which are at present exercised by the central governments of individual
member countries.

The counterpart of giving up sovereignty should be that the component
nations are constituted into a federation to whom their sovereignty is
entrusted. And the federal system, or government, as it had better be
called, would have to exercise all those functions in relation to its
members and to the outside world which I have briefly outlined above.

Consider two important examples of what a federal government, in charge
of a federal budget, should be doing.

European countries are at present locked into a severe recession. As
things stand, particularly as the economies of the USA and Japan are
also faltering, it is very unclear when any significant recovery will
take place. The political implications of this are becoming frightening.
Yet the interdependence of the European economies is already so great
that no individual country, with the theoretical exception of Germany,
feels able to pursue expansionary policies on its own, because any
country that did try to expand on its own would soon encounter a
balance-of-payments constraint. The present situation is screaming aloud
for co-ordinated reflation, but there exist neither the institutions nor
an agreed framework of thought which will bring about this obviously
desirable result. It should be frankly recognised that if the depression
really were to take a serious turn for the worse – for instance, if the
unemployment rate went back permanently to the 20-25 per cent
characteristic of the Thirties – individual countries would sooner or
later exercise their sovereign right to declare the entire movement
towards integration a disaster and resort to exchange controls and
protection – a siege economy if you will. This would amount to a re-run
of the inter-war period.

If there were an economic and monetary union, in which the power to act
independently had actually been abolished, ‘co-ordinated’ reflation of
the kind which is so urgently needed now could only be undertaken by a
federal European government. Without such an institution, EMU would
prevent effective action by individual countries and put nothing in its

Another important role which any central government must perform is to
put a safety net under the livelihood of component regions which are in
distress for structural reasons – because of the decline of some
industry, say, or because of some economically-adverse demographic
change. At present this happens in the natural course of events, without
anyone really noticing, because common standards of public provision
(for instance, health, education, pensions and rates of unemployment
benefit) and a common (it is to be hoped, progressive) burden of
taxation are both generally instituted throughout individual realms. As
a consequence, if one region suffers an unusual degree of structural
decline, the fiscal system automatically generates net transfers in
favour of it. In extremis, a region which could produce nothing at all
would not starve because it would be in receipt of pensions,
unemployment benefit and the incomes of public servants.

What happens if a whole country – a potential ‘region’ in a fully
integrated community – suffers a structural setback? So long as it is a
sovereign state, it can devalue its currency. It can then trade
successfully at full employment provided its people accept the necessary
cut in their real incomes. With an economic and monetary union, this
recourse is obviously barred, and its prospect is grave indeed unless
federal budgeting arrangements are made which fulfil a redistributive
role. As was clearly recognised in the MacDougall Report which was
published in 1977, there has to be a quid pro quo for giving up the
devaluation option in the form of fiscal redistribution. Some writers
(such as Samuel Brittan and Sir Douglas Hague) have seriously suggested
that EMU, by abolishing the balance of payments problem in its present
form, would indeed abolish the problem, where it exists, of persistent
failure to compete successfully in world markets. But as Professor
Martin Feldstein pointed out in a major article in the Economist (13
June), this argument is very dangerously mistaken. If a country or
region has no power to devalue, and if it is not the beneficiary of a
system of fiscal equalisation, then there is nothing to stop it
suffering a process of cumulative and terminal decline leading, in the
end, to emigration as the only alternative to poverty or starvation. I
sympathise with the position of those (like Margaret Thatcher) who,
faced with the loss of sovereignty, wish to get off the EMU train
altogether. I also sympathise with those who seek integration under the
jurisdiction of some kind of federal constitution with a federal budget
very much larger than that of the Community budget. What I find totally
baffling is the position of those who are aiming for economic and
monetary union without the creation of new political institutions (apart
from a new central bank), and who raise their hands in horror at the
words ‘federal’ or ‘federalism’. This is the position currently adopted
by the Government and by most of those who take part in the public

Contact us for rights and issues enquiries.


Vol. 14 No. 20 · 22 October 1992

 From Terry O’Shaughnessy

Wynne Godley (LRB, 8 October) presents a strong case in favour of the
view that much more attention should be given to fiscal policy in the
debate over European integration. He points out that those who place all
the emphasis on the co-ordination of monetary policy often smuggle in
the assumption that the real economy will take care of itself and that
the only legitimate concern of government is (the rate of change of) the
price level.

However, he weakens his argument and gives ammunition to his enemies
when he claims Keynes’s support for an ‘inflation tax’ as a method to
pay for World War Two. In fact, How to pay for the war was a polemic
against inflationary war finance. Keynes advocated fiscal measures,
including a compulsory savings scheme, to reduce inflationary pressure
in a situation in which there were extraordinary demands on a fully
employed economy. Keynes argued that the inflationary financing of World
War One had proved to be inefficient and inequitable and had stored up
serious problems for the post-war period; his scheme was to be both
fairer and more efficient and make demand management easier.

The fact that the first practical application of Keynesian analysis was
in such a situation should not be forgotten, especially when
circumstances have again arisen in which there are extraordinary demands
on the output of the European economy following German reunification and
the need for reconstruction further east. If German consumers had been
prepared – or forced – to save more, or at least to pay more taxes,
reunification might not have put such a strain on German monetary
policy. This would have eased the pressure on countries like the UK,
France, Italy and Spain which have recently suffered more from high
interest rates and appreciating currencies vis-à-vis their non-European
markets than they have benefited from higher demand in Germany. Giving
in to inflationary pressures would not have helped. What was needed was
a temporary redistribution of consumption in time (from present to
future German consumers) and space (from German to non-German
consumers). Of course, this would have been much easier to achieve if
the institutional arrangements for fiscal co-ordination advocated by
Godley – and, before him, in a different context, by Keynes – had been
in place.

Terry O’Shaughnessy
St Anne’s College, Oxford

Vol. 14 No. 21 · 5 November 1992

 From Wynne Godley

Terry O’Shaughnessy rightly takes me to task concerning Keynes and the
‘inflation tax’ (Letters, 22 October). I transposed a course of action
which Keynes discussed into one which (I for a moment wrongly imagined)
he had advocated. But my mistake has no bearing on the substantial
points argued in my article and O’Shaughnessy is therefore wrong to say
that it weakened my case. He goes on to express a number of views about
economic policy in Germany which also have no direct bearing on the
merits or otherwise of the Maastricht Treaty.

Wynne Godley
Department of Applied Economics, Cambridge University

(4) Germany Has Created An Accidental Empire




Are we now living in a German Europe? In an interview with EUROPP
editors Stuart A Brown and Chris Gilson, Ulrich Beck discusses German
dominance of the European Union, the divisive effects of austerity
policies, and the relevance of his concept of the ‘risk society’ to the
current problems being experienced in the Eurozone.

How has Germany come to dominate the European Union?

Well it happened somehow by accident. Germany has actually created an
‘accidental empire’. There is no master plan; no intention to occupy
Europe. It doesn’t have a military basis, so all the talk about a
‘Fourth Reich’ is misplaced. Rather it has an economic basis – it’s
about economic power – and it’s interesting to see how in the
anticipation of a European catastrophe, with fears that the Eurozone and
maybe even the European Union might break down, the landscape of power
in Europe has changed fundamentally.

First of all there’s a split between the Eurozone countries and the
non-Eurozone countries. Suddenly for example the UK, which is only a
member of the EU and not a member of the Eurozone, is losing its veto
power. It’s a tragic comedy how the British Prime Minister is trying to
tell us that he is still the one who is in charge of changing the
European situation. The second split is that among the Eurozone
countries there is an important division of power between the lender
countries and the debtor countries. As a result Germany, the strongest
economic country, has become the most powerful EU state.

Are austerity policies dividing Europe?

Indeed they are, in many ways. First of all we have a new line of
division between northern European and southern European countries. Of
course this is very evident, but the background from a sociological
point of view is that we are experiencing the redistribution of risk
from the banks, through the states, to the poor, the unemployed and the
elderly. This is an amazing new inequality, but we are still thinking in
national terms and trying to locate this redistribution of risk in terms
of national categories.

At the same time there are two leading ideologies in relation to
austerity policies. The first is pretty much based on what I call the
‘Merkiavelli’ model – by this I mean a combination of Niccolò
Machiavelli and Angela Merkel. On a personal level, Merkel takes a long
time to make decisions: she’s always waiting until some kind of
consensus appears. But this kind of waiting makes the countries
depending on Germany’s decision realise that actually Germany holds the
power. This deliberate hesitation is quite an interesting strategy in
terms of the way that Germany has taken over economically.

The second element is that Germany’s austerity policies are not based
simply on pragmatism, but also underlying values. The German objection
to countries spending more money than they have is a moral issue which,
from a sociological point of view, ties in with the ‘Protestant Ethic’.
It’s a perspective which has Martin Luther and Max Weber in the
background. But this is not seen as a moral issue in Germany, instead
it’s viewed as economic rationality. They don’t see it as a German way
of resolving the crisis; they see it as if they are the teachers
instructing southern European countries on how to manage their economies.

This creates another ideological split because the strategy doesn’t seem
to be working so far and we see many forms of protest, of which Cyprus
is the latest example. But on the other hand there is still a very
important and powerful neo-liberal faction in Europe which continues to
believe that austerity policies are the answer to the crisis.

Is the Eurozone crisis proof that we live in a risk society?

Yes, this is the way I see it. My idea of the risk society could easily
be misunderstood because the term ‘risk’ actually signifies that we are
in a situation to cope with uncertainty, but to me the risk society is a
situation in which we are not able to cope with the uncertainty and
consequences that we produce in society.

I make a distinction between ‘first modernity’ and our current
situation. First modernity, which lasted from around the 18th century
until perhaps the 1960s or 1970s, was a period where there was a great
deal of space for experimentation and we had a lot of answers for the
uncertainties that we produced: probability models, insurance
mechanisms, and so on. But then because of the success of modernity we
are now producing consequences for which we don’t have any answers, such
as climate change and the financial crisis. The financial crisis is an
example of the victory of a specific interpretation of modernity:
neo-liberal modernity after the breakdown of the Communist system, which
dictates that the market is the solution and that the more we increase
the role of the market, the better. But now we see that this model is
failing and we don’t have any answers.

We have to make a distinction between a risk society and a catastrophe
society. A catastrophe society would be one in which the motto is ‘too
late’: where we give in to the panic of desperation. A risk society in
contrast is about the anticipation of future catastrophes in order to
prevent them from happening. But because these potential catastrophes
are not supposed to happen – the financial system could collapse, or
nuclear technology could be a threat to the whole world – we don’t have
the basis for experimentation. The rationality of calculating risk
doesn’t work anymore. We are trying to anticipate something that is not
supposed to happen, which is an entirely new situation.

Take Germany as an example. If we look at Angela Merkel, a few years ago
she didn’t believe that Greece posed a major problem, or that she needed
to engage with it as an issue. Yet now we are in a completely different
situation because she has learned that if you look into the eyes of a
potential catastrophe, suddenly new things become possible. Suddenly you
think about new institutions, or about the fiscal compact, or about a
banking union, because you anticipate a catastrophe which is not
supposed to happen. This is a huge mobilising force, but it’s highly
ambivalent because it can be used in different ways. It could be used to
develop a new vision for Europe, or it could be used to justify leaving
the European Union.

How should Europe solve its problems?

I would say that the first thing we have to think about is what the
purpose of the European Union actually is. Is there any purpose? Why
Europe and not the whole world? Why not do it alone in Germany, or the
UK, or France?

I think there are four answers in this respect. First, the European
Union is about enemies becoming neighbours. In the context of European
history this actually constitutes something of a miracle. The second
purpose of the European Union is that it can prevent countries from
being lost in world politics. A post-European Britain, or a
post-European Germany, is a lost Britain, and a lost Germany. Europe is
part of what makes these countries important from a global perspective.

The third point is that we should not only think about a new Europe, we
also have to think about how the European nations have to change. They
are part of the process and I would say that Europe is about redefining
the national interest in a European way. Europe is not an obstacle to
national sovereignty; it is the necessary means to improve national
sovereignty. Nationalism is now the enemy of the nation because only
through the European Union can these countries have genuine sovereignty.

The fourth point is that European modernity, which has been distributed
all over the world, is a suicidal project. It’s producing all kinds of
basic problems, such as climate change and the financial crisis. It’s a
bit like if a car company created a car without any brakes and it
started to cause accidents: the company would take these cars back to
redesign them and that’s exactly what Europe should do with modernity.
Reinventing modernity could be a specific purpose for Europe.

Taken together these four points form what you could say is a grand
narrative of Europe, but one basic issue is missing in the whole design.
So far we’ve thought about things like institutions, law, and economics,
but we haven’t asked what the European Union means for individuals. What
do individuals gain from the European project? First of all I would say
that, particularly in terms of the younger generation, more Europe is
producing more freedom. It’s not only about the free movement of people
across Europe; it’s also about opening up your own perspective and
living in a space which is essentially grounded on law.

Second, European workers, but also students as well, are now confronted
with the kind of existential uncertainty which needs an answer. Half of
the best educated generation in Spanish and Greek history lack any
future prospects. So what we need is a vision for a social Europe in the
sense that the individual can see that there is not necessarily social
security, but that there is less uncertainty. Finally we need to
redefine democracy from the bottom up. We need to ask how an individual
can become engaged with the European project. In that respect I have
made a manifesto, along with Daniel Cohn-Bendit, called “We Are Europe”,
arguing that we need a free year for everyone to do a project in another
country with other Europeans in order to start a European civil society.

A more detailed discussion of the topics covered in this article is
available in Ulrich Beck’s latest book, German Europe (Polity 2013).
This interview was first published on EUROPP@LSE

(5) Europe unites against Germany


Sergei Vasilenkov



After the onset of the economic crisis and the events in Greece, it
became clear who really dominates in the EU. Germany has become the
undisputed leader of all decision-making processes within the EU. It
dictates its conditions and makes demands. Obviously, not everyone is
pleased with this state of affairs, and some EU members are dissatisfied.

In southern European countries affected by the crisis the number of
those disgruntled by German dominance in the EU is growing. The
Financial Times conducted a study that found that 82 percent of Italians
and 88 percent of Spanish considered the level of influence of Germany
in the European Union excessive. In 2011, these numbers were 53 percent
and 67 percent, respectively. Everyone understands that the dominance of
Germany in the European Union is growing, provoking a backlash in the
countries of southern Europe experiencing a profound crisis. The survey
results clearly demonstrate strong objections of Italy and Spain against
the austerity measures pursued by Germany. The residents of the UK and
France share their sentiment and believe that the EU headed by Germany
will cause them great damage. They believe that Germany had no right to
impose on them stringent requirements during the economic downturn.

Even tiny Luxembourg expressed its dissatisfaction with the dominance of
Germany in the European Union. Jean Asselborn, Luxembourg Foreign
Minister, criticized the policies of Angela Merkel, and accused the
German authorities of a "quest for hegemony" in the EU and attempts to
impose on Cyprus their model of overcoming the crisis. The Minister said
that Germany could not be deciding what economic model other countries
in the EU should be choosing. However, residents of Germany support the
policies of Angela Merkel in combatting the crisis. In Germany only 13
percent of citizens believe that the work of Francois Hollande
(President of France) and David Cameron (British Prime Minister) is

Nearly 80 percent of Spanish citizens believe that Mariano Rajoy
(Spanish Prime Minister) is doing a poor job. There is an interesting
pattern in these countries - people want to give the reins of power to
Brussels that would be able to control national budgets. However, 69
percent of Germans and two thirds of Britons disagree. They believe that
the EU should not interfere in their budgets. Generally, the EU is
moving in two directions - growing importance of Germany as the dominant
member of the EU and the widening gap between the richer northern
countries and southern EU countries experiencing a deep recession.

Like it or not, Germany is by far the only leader in the European Union.
The previous union of Germany and France has fallen apart. France is
going through tough times, while German economy is on the rise. Germany
assumed the role of the leader of the EU and has to pull the economy of
Greece, Spain and Italy, solving the existing problems in these
countries. Perhaps these solutions look excessively tough, but against
the background of the crisis they are highly effective. Southern Europe
has painted itself into a corner, constantly growing its debt. Living in
debt cannot continue forever. Now, without the aid of Germany Greeks,
Spaniards and Italians simply cannot survive.

Any creditor imposes their own terms, and they can be pretty tough. But
without funding from outside it would have been even worse. Therefore,
the Southern countries have no one to blame other than themselves.
Germany seeks to impose fairly strict financial limitations on the
Eurozone countries and proposes the introduction of a three percent
budget deficit rule. Sanctions will be automatically applied to all
violators. The Court will observe whether each individual country
follows the three percent rule. Germany says that if 27 European Union
countries are not ready to accept the terms of this agreement, then this
version of the agreement will operate between the 17 members of the

However, not everyone is in support of Germany's plans. Many experts
believe that Germany's proposal implies a significant loss of
sovereignty for a number of countries forming the Eurozone. It is
noteworthy that the German proposal to "repair" Europe does not require
much sacrifice from Germany. The Government does not want to pay for the
salvation of other European countries, and is adamantly against the
creation of "Eurobonds" that would help spreading the risk of a default
among all countries of the Eurozone. Europe is losing its democratic
face, while Germany is increasingly expanding its leadership. Some even
believe that Germany purposefully uses the financial crisis to conquer
Europe, as it once was done by Hitler.

These are predictions of London Financial Times. The paper stated that
the process of the EU enlargement took place randomly and without a
clear concept of the European Union, which resulted in a crisis. The
Greek crisis has clearly demonstrated that the EU has two tiers: the
core that consists of the countries of the Eurozone where everything is
dictated by Germany, and the rest of the EU. The enlarged EU is now a
completely different league than it had previously been. The
Franco-German engine is no longer a two-stroke one, it is dominated by
only Germany led by Angela Merkel. She is obeyed and considered.

The recent European Union summits are a clear indication. Germany offers
certain programs, and all other countries adopt them without amendments.
The current economic situation in Germany is the result of ten years of
hard work of a number of governments of the country in order to increase
the efficiency of the German economy. In the beginning of the current
globalization, Germany was able to reach a strategic compromise within
the country, which in many ways explains today's special position of the
country in the Eurozone. The workers agreed to a freeze and reduction of
income, and businessmen pledged not to take their production abroad.

Since 1995, business and government have been adhering to specific
policies aimed at improving the competitiveness of the national economy.
This led to the fact that over the last ten years the competitiveness of
German goods has increased by 25 percent compared to other countries in
the Eurozone. From 1996 to 2008, the volume of German exports increased
two-fold. The increase in the efficiency of the German economy led to a
rise in the cost of production in other countries of the Eurozone. As a
result, other members of the Eurozone, especially Italy and France,
found themselves in a situation where they cannot establish foreign
trade balance.

Simply put, the highly competitive German goods displace national
products in other countries of the Eurozone. At the same time, the
Eurozone countries are unable to devaluate their national currency - the
most effective way to improve the competitiveness of their goods. After
the introduction of the euro they do not have such authority.

The modern Germany is not only the EU's largest economy, but also a
country that sets the rules for the domestic macroeconomic of the
Eurozone. The most likely scenario for the further development of the
Eurozone might be the following: the countries unable to get out of the
budget crisis will have to transfer some of their sovereign powers to
Germany, or they will have to leave the Eurozone. The Eurozone will
either be transformed into a "Greater Germany" or fall apart.

(6) German Surplus caused asset bubbles & Euro crisis - Michael Pettis
(he's WRONG)

{Pettis is WRONG. The Maastricht Treaty is inherently defective; it must
be rewritten, as argued by the five Economists who foresaw the Euro
crisis - Peter M.}


Excess German savings, not thrift, caused the European crisis

Posted by Michael Pettis on May 21, 2013

[...] In the 1990s Germany could be described as saving too little. It
often ran current account deficits during the decade, which means that
the country imported capital to fund domestic investment. A country’s
current account deficit is simply the difference between how much it
invests and how much it saves, and Germans in the 1990s did not always
save enough to fund local investment.

But this changed in the first years of the last decade. An agreement
among labor unions, businesses and the government to restrain wage
growth in Germany (which dropped from 3.2 percent in the decade before
2000 to 1.1 percent in the decade after) caused the household income
share of GDP to drop and, with it, the household consumption share.
Because the relative decline in German household consumption powered a
relative decline in overall German consumption, German saving rates
automatically rose.

Notice that German savings rate did not rise because German households
decided that they should prepare for a difficult future in the eurozone
by saving more. German household preferences had almost nothing to do
with it. The German savings rate rose because policies aimed at
restraining wage growth and generating employment at home reduced
household consumption as a share of GDP.

As national saving soared, the German economy shifted from not having
enough savings to cover domestic investment needs to having, after 2001,
such high savings that not only could it finance all of its domestic
investment needs but it had to invest abroad by exporting large and
growing amounts of savings. As it did so its current account surplus
soared, to 7.5 percent of GDP in 2007. Martin Wolf, in an excellent
Financial Times article on Wednesday on the subject, points out that

{quote} between 2000 and 2007, Germany’s current account balance moved
from a deficit of 1.7 per cent of gross domestic product to a surplus of
7.5 per cent. Meanwhile, offsetting deficits emerged elsewhere in the
eurozone. By 2007, the current account deficit was 15 per cent of GDP in
Greece, 10 per cent in Portugal and Spain, and 5 per cent in Ireland.

Employment policies and the savings rate

It is tempting to interpret Germany’s actions as the kind of far-sighted
and prudent actions that every country should have followed in order to
keep growth rates high and workers employed, but it turns out that these
policies did not solve unemployment pressures in Europe, and this is
implied in the second sentence of Martin Wolf’s piece. Germany merely
shifted unemployment from Germany to elsewhere. How? Because Germany’s
export of surplus savings was simply the flip side of policies that
forced the country into running a current account surplus.

To explain, let us pretend that Europe consists of only two countries,
Spain and Germany. As we have already shown, forcing down the growth
rate of German wages relative to GDP caused the household income share
of GDP to drop. Unless this was matched by a decision among German
households to become much less thrifty, or a decision by Berlin to
increase government consumption sharply, the inevitable consequence had
to be a reduction in the overall consumption share of GDP, which is just
another way of saying that the German national savings rate had to rise.
During this period, by the way, and perhaps as a consequence of
restraining wages, Germany’s Gini coefficient seems to have risen quite
markedly, and the resulting increase in income inequality also affected
savings adversely.

As German savings rose, eventually exceeding German investment by a wide
margin, Germany had to export the difference, which its banks did
largely by making loans into the rest of Europe, and especially those
countries that were financially “shallower”. Declining consumption left
Germany producing more goods and services than it could absorb
domestically, and it exported excess production as the automatic
corollary to its export of savings.

Of course the rest of the world had to absorb excess German savings and
run the current account deficits that corresponded to Germany’s
surpluses. This was always likely to be those eurozone countries that
joined the monetary union with a history of higher inflation and
currency depreciation than Germany – countries which we are here calling
“Spain”. As monetary policy across Europe was made to fit German needs,
which was looser than that required by Spain, and as German savings were
intermediated by German banks into Spain, the result was likely to be
higher wage growth, higher inflation, and soaring asset prices in Spain.

In fact this is exactly what happened. Spain and the other peripheral
European countries all saw their trade deficits expand dramatically or
their surpluses (many were running large surpluses in the 1990s) turn
into large deficits shortly after the creation of the single currency as
their savings rates shifted to accommodate German exports of its excess

The way in which the German exports of savings were absorbed by Spain is
at the heart of the subsequent crisis. As long as Spain could not use
interest rates, trade intervention, or currency depreciation to block
German exports, it had no choice but to balance the excess of German
savings over investment. This meant that either its investment would
have to rise or its savings would have to fall (or both).

Both occurred. Spain increased investment in infrastructure and in real
estate (and less so in manufacturing, probably because German growth
occurred at the expense of the manufacturing sectors in the rest of
Europe), but it seems to have done both to excess, perhaps because of
the sheer amount of capital inflows. After nearly a decade of inflows
larger than any it had ever absorbed before, Spain, like nearly every
country in history under similar circumstances, ended up with massive
amounts of misallocated investment.

But this was not all. If the savings that Germany exported into Spain
could not be fully absorbed by the increase in Spanish investment, the
only other way to balance was with a sharp fall in Spanish savings.
There are two ways Spanish savings could have fallen. First, as the
Spanish tradable goods sector lost out to German competition, Spanish
unemployment could rise and so force down the Spanish savings rate
(unemployed workers still must consume).

Second, Spain could have reduced household savings voluntarily by
increasing consumption relative to income. Higher Spanish consumption
would cause enough employment growth in the services and real estate
sectors to make up for declining employment in the tradable goods sector.

Raising consumption

Not surprisingly, given the enormous optimism that accompanied the
creation of the euro, the latter happened. As German money poured into
Spain, helping ignite a stock and real estate boom, ordinary Spaniards
began to feel wealthier than they ever had before, especially those who
owned their own homes. Thanks to this apparent increase in wealth, they
reduced the amount they saved out of current income, as households
around the world always do when they feel wealthier. Together the
reduction in Spanish savings and the increase in Spanish investment (in
infrastructure and real estate) was enough to absorb the full extent of
Germany’s export of excess savings.

But at what cost? The imbalance created within Europe by German policies
to constrain consumption forced Spain into increasing consumption and
boosting investment, much of the latter in wasted real estate projects
(as happened in every one of the deficit countries that faced massive
capital inflows). There are of course no shortage of moralizers who
insist that greed was the driving factor and that Spain wasn’t forced
into a consumption boom. “No one put a gun to their heads and forced
them to buy flat-screen TVs”, they will say,

But this completely misses the point. Because Germany had to export its
excess savings, Spain had no choice except to increase investment or to
allow its savings to collapse, with the latter either in the form of a
consumption boom or a surge in unemployment. No other option was possible.

To insist that the Spanish crisis is the consequence of venality,
stupidity, greed, moral obtuseness and/or political short-sightedness,
which has become the preferred explanation of moralizers across Europe
begs the question as to why these unflattering qualities only manifested
themselves after Spain joined the euro. Were the Spanish people notably
more virtuous in the 20th century than in the 21st? It also begs the
question as to why vice suddenly trumped virtue in every one of the
countries that entered the euro with a history of relatively higher
inflation, while those eastern European countries with a history of
relatively higher inflation that did not join the euro managed to remain

The European crisis, in other words, had almost nothing to do with
thrifty Germans and spendthrift Spaniards. It had to do with policies
aimed at boosting German employment, the secondary impact of which was
to force up German national savings rates excessively. These excess
savings had to be absorbed within Europe, and the subsequent imbalances
were so large (because German’s savings imbalance was so large) that
they led almost inevitably to the circumstances in which we are today.

For this reason the European crisis cannot be resolved except by forcing
down the German savings rate.

{WRONG. The Maastricht Treaty is inherently defective; it must be
rewritten, as argued by the five Economists who foresaw the Euro crisis
- Peter M.}

And not only must German savings rates drop, they must drop
substantially, enough to give Germany a large current account deficit.
This is the only way the rest of Europe can unwind the imbalances forced
upon the region in a way that is least damaging to Europe as a whole.
Only in this way can countries like Spain stay within the euro while
bringing down unemployment.

But lower German savings don’t mean that German families should become
less thrifty, only that the average German household should be allowed
to retain a much larger share of what Germany produces. If Berlin were
to cut consumption taxes, or cut income taxes for the lower and middle
classes, or force up wages, total German consumption would rise relative
to GDP and so national savings would fall – without requiring any change
in the prudent behavior of German households.

To ask Spanish households to be more “German” by saving more is not only
impractical in an economy with 25 percent unemployment (it is hard for
unemployed workers to increase their savings), it is counterproductive.
Lower Spanish consumption can only cause even higher Spanish
unemployment, until eventually Spain will be forced to abandon the euro
and so regain control of its ability to absorb or reject German
imbalances. This abandonment of the euro will be driven by the political
process, as those in the leadership (of both main parties) who refuse to
countenance talk of leaving the euro lose voters to more radical parties
until they, too, come around:

The latest opinion polls show the PP has lost 10 percentage points of
support since Rajoy’s election in November 2011. Support for the main
opposition group, the Socialists remains unchanged, while backing has
been growing for smaller, more radical, parties. More than 68 per cent
of Spaniards say the government is doing a bad or very bad job, while
the latest official forecast shows that a quarter of the workforce will
still be out of work three years from now.

An article in this week’s Economist suggests that Spain is indeed
becoming more “German” and so that this is reason for hope:

Is Spain the next Germany? It may not feel like that to the 26% of
Spaniards who are unemployed. GDP shrank by 0.8% in the fourth quarter
of 2012. Yet in some ways, Spain resembles the Germany of a decade ago,
when Gerhard Schröder brought in reforms to turn the sick man of Europe
into its strongest economy. The efforts by Mariano Rajoy’s government to
loosen labour laws and cut public spending are aimed at a German-style

…Joachim Fels, chief economist at Morgan Stanley, is one of several
backers of the Germany theory. “Spain is doing a lot of the things
Germany did ten years ago, but in a much shorter time span and tougher
global conditions,” he says, pointing to falling labour costs, rising
exports and booming Spanish car factories. But, he adds, “Spain becoming
Germany is really a two- to four-year story.”

The global constraints

The problem with this argument may be, however, that the global
conditions that allowed Germany to grow by exporting savings to Spain
cannot be replicated. If Spain were to make its workers more competitive
by reducing wage growth relative to GDP growth, it would implicitly be
forcing up its savings rate to generate employment. To whom would Spain
export those savings? The world is awash in excess savings, and unlike
in pre-crisis days, there are no countries with booming stock and real
estate markets willing to fund another consumption binge. This means
that Spain and Europe are expecting to recover by exporting
unemployment, but to whom?

In fact this is the great worry that Martin Wolf expresses n the
conclusion to his article:

A big adverse shock risks turning low inflation into deflation. That
would aggravate the pressure on countries in crisis. Even if deflation
is avoided, the hope that they will grow their way out of their
difficulties, via eurozone demand and internal rebalancing, is a
fantasy, in the current macroeconomic context.

That leaves external adjustment. According to the IMF, France will be
the only large eurozone member country to run a current account deficit
this year. It forecasts that, by 2018, every current eurozone member,
except Finland, will be a net capital exporter. The eurozone as a whole
is forecast to run a current account surplus of 2.5 per cent of GDP.
Such reliance on balancing via external demand is what one would expect
of a Germanic eurozone.

If one wants to understand how far the folly goes, one must study the
European Commission’s work on macroeconomic imbalances. Its features are
revealing. Thus, it takes a current account deficit of 4 per cent of GDP
as a sign of imbalance. Yet, for surpluses, the criterion is 6 per cent.
Is it an accident that this happens to be Germany’s? Above all, no
account is taken of a country’s size in assessing its contribution to
imbalances. In this way, Germany’s role is brushed out. Yet its surplus
savings create huge difficulties when interest rates are close to zero.
Its omission makes this analysis of “imbalances” close to indefensible.

The implications of the attempt to force the eurozone to mimic the path
to adjustment taken by Germany in the 2000s are profound. For the
eurozone it makes prolonged stagnation, particularly in the crisis-hit
countries, highly likely. Moreover, if it starts to work, the euro is
likely to move upwards, so increasing risks of deflation. Not least, the
shift of the eurozone into surplus is a contractionary shock for the
world economy. Who will be both able and willing to offset it?

The eurozone is not a small and open economy, but the second-largest in
the world. It is too big and the external competitiveness of its weaker
countries too frail to make big shifts in the external accounts a
workable post-crisis strategy for economic adjustment and growth. The
eurozone cannot hope to build a solid recovery on this, as Germany did
in the buoyant 2000s. Once this is understood, the internal political
pressures for a change in approach will surely become overwhelming.

As long as it is part of the euro Spain has no choice but to respond to
changes in German savings rates. There is nothing mysterious about this
process. It is simply the way the balance of payments works, and thrift
has nothing to do with it. If Germany does not take steps to force down
its savings rate by increasing the household share of GDP, then either
all of Europe becomes like Germany, in which case growth slows to a
crawl and some other country – maybe the US? – will be forced to resolve
Europe’s demand deficiency either through higher unemployment or through
higher debt, or Europe must break apart to free Spain and the other
peripheral countries from German savings imbalances.

I don’t imagine the rest of the world can absorb demand deficiency from
a Germanic Europe, and if Europe tries to force it the result will
almost certainly be an eventual collapse in trade relations, so either
Germany rebalances or Europe breaks apart. It is hard for me to see many
other options.

(7) Stephen Roach WRONG: Current Account Deficits came BEFORE Savings
shortfalls, and CAUSED them

Asymmetrical Risks of Global Rebalancing

Stephen Roach (New York)


Current account imbalances are really nothing more than
saving-investment gaps. A country such as the United States runs a
current account deficit because its domestic saving falls short of
investment. It must then import surplus saving from abroad in order to
maintain such "under-funded" investment. ...

{WRONG. The US, Britain & Australia were not third-world countries
relying on importing capital and technology. They had their own
manufacturing industries, until economists and politicians forced Tree
Trade on them. As imports flooded in, the Current Account went into
Deficit and stayed there, meaning that these countries operated at a
loss. How can you save when you're making a loss, decade after decade? -
Peter M.}

(8) Eurozone doesn't need to suffer neoliberal austerity - Michael Hudson


2,181 Italians Pack a Sports Arena to Learn Modern Monetary Theory: The
Economy Doesn't Need to Suffer Neoliberal Austerity

By Michael Hudson

I have just returned from Rimini, Italy, where I experienced one of the
most amazing spectacles of my academic life. Four of us associated with
the University of Missouri at Kansas City (UMKC) were invited to lecture
for three days on Modern Monetary Theory (MMT) and explain why Europe is
in such monetary trouble today – and to show that there is an
alternative, that the enforced austerity for the 99% and vast wealth
grab by the 1% is not a force of nature.

Stephanie Kelton (incoming UMKC Economics Dept. chair and editor of its
economic blog, New Economic Perspectives), criminologist and law
professor Bill Black, investment banker Marshall Auerback and me (along
with a French economist, Alain Parquez) stepped into the basketball
auditorium on Friday night. We walked down, and down, and further down
the central aisle, past a packed audience reported as over 2,100. It was
like entering the Oscars as People called out our first names. Some told
us they had read all of our economics blogs. Stephanie joked that now
she understood how the Beatles felt. There was prolonged applause – all
for an intellectual rather than a physical sporting event.

With one difference, of course: Our adversaries were not there. There
was much press, but the prevailing Euro-technocrats (the bank lobbyists
who determine European economic policy) hoped that the less discussion
of possible alternatives to austerity, the easier it would be to force
their brutal financial grab through.

All the audience members had contributed to raise the funds to fly us
over from the United States (and from France for Alain), and treat us to
Federico Fellini's Grand Hotel on the Rimini beach. The conference was
organized by reporter Paolo Barnard, who had studied MMT with Randall
Wray and realized that there was plenty of demand in Italian mass
culture for a discussion of what actually was determining the living
conditions of Europe – and the emerging financial elite that hopes to
use this crisis as an opportunity to become the new financial lords
carving out fiefdoms by privatizing the public domain being sold off by
governments that have no central bank to finance their deficits, and are
tragically beholden to bondholders and to Eurocrats drawn from the
neoliberal camp.

Paolo and his enormous support staff of translators and interns provided
an opportunity to hear an approach to monetary and tax theory and policy
that until recently was almost unheard of in the United States. Just one
week earlier the Washington Post published a review of MMT, followed by
a long discussion in the Financial Times. But the theory remains
grounded primarily at the UMKC's economics department and the Levy
Institute at Bard College, with which most of us are associated.

The basic thrust of our argument is that just as commercial banks create
credit electronically on their computer keyboards (creating a bank
account credit for borrowers in exchange for their signing an IOU at
interest), governments can create money. There is no need to borrow from
banks, as computer keyboards provide nearly free credit creation to
finance spending.

The difference, of course, is that governments spend money (at least in
principle) to promote long-term growth and employment, to invest in
public infrastructure, research and development, provide health care and
other basic economic functions. Banks have a more short-term time frame.
They lend against collateral in place. Some 80% of bank loans are
mortgages against real estate. Other loans are made to finance leveraged
buyouts and corporate takeovers, but most new fixed capital investment
by corporations is financed out of retained earnings, not bank credit.

And not from the stock market either. Textbook diagrams still depict the
stock market as raising money for new capital investment. Unfortunately,
it has been turned into a vehicle to buy out companies on credit (e.g.,
with high interest junk bonds), replacing equity with debt ("taking a
company private” from its stockholders). Inasmuch as interest payments
are tax-deductible – on the pretense that they are a necessary cost of
doing business – corporate income-tax payments are lowered. And what the
tax collector relinquishes is available to be paid out to the bankers
and bondholders who get rich by loading the economy down with debt.

The upshot is that the flow of corporate earnings is diverted to the
financial sector – not only to pay interest and penalties to banks, but
for stock buybacks intended to support stock prices and hence the value
of stock options that managers of today's financialized companies give

Welcome to the post-industrial economy, financial style. Industrial
capitalism has passed through a series of stages of finance capitalism,
from Pension-Fund capitalism via Globalized Dollarization and the Bubble
Economy to the Negative Equity stage, foreclosure time, debt deflation,
and austerity – and now what looks like debt peonage in Europe, above
all for the PIIGS: Portugal, Ireland, Italy, Greece and Spain. (The
Baltic countries of Latvia, Estonia and Lithuania have been plunged so
deeply into debt that their populations are emigrating to find work and
flee debt-burdened real estate. The same has plagued Iceland since its
bank rip-offs collapsed in 2008.)

Why aren't economists describing these phenomena? The answer is a
combination of political ideology and analytic blinders. As soon as the
Rimini conference ended on Sunday evening, for instance, Paul Krugman's
Monday, February 27 New York Times column, "What Ails Europe?” blamed
the euro's problems simply on the inability of countries to devalue
their currencies. He rightly criticized the Republican Party line that
blames social welfare spending for the Eurozone's problems, and also
criticized putting the blame on budget deficits.

But he left out of account the straitjacket of the European Central Bank
(ECB) inability to monetize the deficits, as a result of junk economics
written into the EU constitution:

"If the peripheral nations still had their own currencies, they could
and would use devaluation to quickly restore competitiveness. But they
don't, which means that they are in for a long period of mass
unemployment and slow, grinding deflation. Their debt crises are mainly
a byproduct of this sad prospect, because depressed economies lead to
budget deficits and deflation magnifies the burden of debt.”There are
two problems with this neoclassical trade analysis. First, currency
depreciation lowers the price of labor, while raising the price of
imports. The burden of debts denominated in foreign currencies increases
in keeping with the devaluation. This creates problems unless
governments pass a law re-denominating all debts in their own domestic
currency. This will satisfy the Prime Directive of international
financing: always denominate debts in your own currency, as the United
States does.

Fortunately, sovereign nations can do this ex post facto. In 1933, for
instance, Franklin Roosevelt nullified the Gold Clause in U.S. loan
contracts, enabling banks and other creditors to be paid in the
equivalent gold value. But any sovereign government can rule how debts
are to be paid (or not paid, for that matter). In his usual neoclassical
fashion, Mr. Krugman ignores this debt issue:

"The afflicted nations [the PIIGs] , in particular, have nothing but bad
choices: either they suffer the pains of deflation or they take the
drastic step of leaving the euro, which won't be politically feasible
until or unless all else fails (a point Greece seems to be approaching).
Germany could help by reversing its own austerity policies and accepting
higher inflation, but it won't.”So the existing system could work, he
contends, if only Germany would inflate its economy and more German
tourists spend more in Greece – assuming that the Greek government would
tax enough of this spending to balance its budget. If Germany does not
bail out the failed and dysfunctional economic structure, Greece will
have to withdraw – but devaluation will restore equilibrium.

This is typical neoclassical over-simplification. Leaving the euro is
not sufficient to avert austerity, foreclosure and debt deflation if
Greece and other PIIGs that withdraw still retain the neoliberal
anti-government, post-industrial policy that plagues the Eurozone.
However, if the post-euro economy has a central bank that still refuses
to finance public budget deficits, forcing the government to borrow from
commercial banks and bondholders. What if the government still believes
that it should balance the budget rather than provide the economy with
spending power to increase its growth? In this case the post-euro
government will tie itself in the same policy straitjacket that the
Eurozone now imposes.

Suppose further that the Greek government slashes public welfare
spending, and bails out banks for their losses, or takes losing bank
gambles onto the public balance sheet, as Ireland has done. For that
matter, what if the governments do what the neoliberal Obama
Administration in the United States has done, and refrains from writing
down real estate mortgages and other debts to the debtors' ability to
pay, as Iceland and Latvia have failed to do? The result will be debt
deflation, forfeiture of property, rising unemployment – and a rising
tide of emigration as the domestic economy and employment opportunities
shrink. The budget deficit and balance-of-payments deficit both will
worsen, not improve.

Mr. Krugman's second error of omission is his assumption that government
budgets need to be balanced. He misses the MMT POINT THAT GOVERNMENTS
effect is identical: credit-financed spending. But despite his
counter-cyclical Keynesianism, Mr. Krugman shares in principle the
CREATION, while approving private sector debt financing (even in foreign
currencies!). The upshot is to make economies behave as if they still
were on the gold standard, needing to borrow savings (in "hard” assets).
That world ended in 1971 when the United States went off gold. Since
then, all currencies are state currencies – often backed by U.S.
Treasury IOUs rather than their own money, to be sure.

So what then is the key? It is to have a central bank that does what
central banks were founded to do: monetize government budget deficits so
as to spend money into the economy, in a way best intended to promote
economic growth and full employment.

This is the MMT message that the five of us were invited to explain to
the audience in Rimini. Some attendees came up and explained that they
had come all the way from Spain, others from France and cities across
Italy. And although we did many press, radio and TV interviews, we were
told that the major media were directed to ignore us as not politically

Such is the censorial spirit of neoliberal monetary austerity. Its motto
is TINA: There Is No Alternative, and it wants to keep matters this way.
As long as it can suppress discussion of how many better alternatives
there are, the hope is that the public will remain quiescent as their
living standards shrink and wealth is sucked up to the top of the
economic pyramid to the 1%.

The audience was vocally against remaining in the eurozone – to the
extent that continued adherence to it meant submission to neoliberal
pro-financial policies. (The proceedings were videotaped and will be
transcribed and placed on the web. Pacifica broadcaster Bonnie Faulkner
attended and is compiling a series of programs and will re-interview the
speakers for her "Guns and Butter” program.) They had no naivety that
withdrawal by itself would cure the problems that they originally hoped
EU membership would solve: Italian political corruption, tax evasion by
the rich, insider dealings, and most of all, the power of banks to
siphon off the surplus and control the government, the mass media and
even the universities in an attempt to brainwash the population to
believe that financial control of resource allocation, tax policy and
wealth distribution was all for the best to make the economy more efficient.

The audience requested above all more monetary and fiscal theory from
Stephanie Kelton, who gave the clearest lecture on economics I have ever
heard – a Euclidean presentation of MMT logic.

The size of the audience filling the sports stadium to hear our economic
explanation of how a real central bank should operate to avoid austerity
and promote rather than discourage employment showed that the
government's attempt to brainwash the population was not working. (For a
visual of the magnitude, see this). The attempt to force TINA logic on
the population is not working any better than it did in Harvard's
Economics 101 class, from which students recently walked out in protest
against the unreaslistic parallel universe thinking. Its appeal is
mainly to intelligent but ungrounded individuals (not yet
post-autistic). They are selected as useful idiots and trained to draw
pictures of the economy that exclude analysis of the debt overhead,
rentier free lunches and financial parasitism. One needs to be very
clever, after all, to imagine a system that "saves the appearances” of
an unrealistic Ptolemaic system. Any positive role for government and a
real central bank not oppressed under the thumb of private-sector
bankers and financial engineers seeking to suck the economic surplus out
of nations much as military conquerors did in past centuries.

There is a growing sense that Western civilization itself is at a
critical juncture. It must choose between needless austerity or progress
– but progress is blocked by the reluctance to write down the debt
overhead. So as Prof. Kelton noted, economies face two different types
of growth policy. Neoliberal policy promises to help the body politick
grow by draining the blood from the body, ostensibly to help it grow
more healthy and restore its balance (with all power to the wealthy 1%).
The MMT policy is feed the body to help it grow healthy. This requires
liberating the brain – the government and policy makers that implement
an economic philosophy – from the financial sector's control.


Now that summary videos have begun to be placed on the web, a Norwegian
economist wrote to me:

I do not understand what is new about this:

 > governments can create money ... to promote long-term growth ...

So what? - Isn't "Modern Monetary Theory (MMT)" just a fancy phrase for
old knowledge?
- trying to be "modern"?

What IS new is that somebody finally listens. There seems to a hunger
out there for somebody (with the "right background") to tell people
plain simple common sense.What MMT teaches today is indeed
long-established knowledge and practice. The degree to which its logic
has been excluded from the academic curriculum is testament to the
neoliberal version of free markets: their policy only works if they can
excluded discussion of any alternative.

(9) Europe's worst economic failure is not Greece but UK, Italy & Spain
- John Ross

Europe's largest economic failure is not in Greece - but in the UK,
Italy and Spain


John Ross

07 February 2012

With the European Union (EU) heading into a double dip recession, even
before the peak level of GDP of the previous business cycle has been
regained (Figure 1), it is evident that the solutions adopted to deal
with Europe's economic crisis have failed. But the focus of financial
markets on Greece's debt crisis should not obscure the fact that the
largest scale economic failures in Europe, with the most direct impact
on world growth, are not in Greece, the GDP of which accounts for only
1.8 per cent of the EU's, but in the UK, Italy and Spain. The latter
economies collectively account for over one third, 34.7 per cent, of EU
GDP. Furthermore these large EU economies, having failed by significant
margins to regain their previous peak levels of GDP, are again turning down.

To give some idea of the relative scale of these problems it may be
noted that the combined GDP of the UK, Italy and Spain is equivalent to
40.9 per cent of US GDP, whereas Greece's GDP is equivalent to a mere
2.0 per cent of US GDP. Even the combined GDP of the three economies
under EU bailout measures (Portugal, Ireland and Greece) is only 5.1 per
cent of US GDP. In short, while they pose significant problems for
financial markets the recessions in the peripheral Eurozone economies
are simply to small to make a direct significant difference to global
growth prospects.

In contrast the failures in the UK, Italy and Spain - respectively
Europe's 3rd, 4th and 5th largest economies - are on quite large enough
scale to create a serious negative impact on global growth – economies
approaching half the size of the US are, at best, essentially stagnant
and now facing new downturns.

The aim of this article, therefore, is to place the financial
difficulties in Greece against the background of these larger growth
failures in Europe.

Overall trends in the EU

The overall trends in the EU's GDP are compared to the US and Japan in
Figure 1. They are shown in detail in Table 1 below.

GDP data for the EU for the 4th quarter of 2011 is not yet available –
on the basis of partial statistics it is highly likely to show downturn.
But on the most up to date data available, for the 3rd quarter of 2011,
EU GDP was still 1.7 per cent below its peak in the previous business
cycle and Eurozone GDP 1.9 per cent below, In contrast by the 4th
quarter of 2011 US GDP was 0.7 per cent above its last business cycle
peak. With EU GDP likely to have turned down in the 4th quarter of 2011,
Europe is suffering a strictly defined 'double dip' recession - i.e. a
fall in output before the previous peak level of GDP has been regained .

Figure 1

Considering the detailed data for the EU economies, plus those in
Eastern Europe, in Table 1 below, the overwhelming majority of European
economies have not regained the peak levels of GDP recorded in the
previous business cycle. All three economies which have published
official Eurostat data for the 4th quarter of 2012 (Spain, Lithuania and
the UK) showed a renewed fall in output - a more detailed analysis of
the groupings within the European economies is given below.

Failure of recovery in the UK, Italy and Spain

The focus of attention in the European crisis has been on small
peripheral Eurozone economies – Portugal, Ireland and Greece – or on a
'Germany v the periphery' divide. But from the point of view of EU GDP
by far the most serious situation is the failure of recovery in three
large EU economies – the UK, Italy and Spain. These are respectively the
3rd, 4th and 5th largest EU economies. The GDP trends in the five
largest EU economies are shown in Figure 2.

Figure 2

By themselves the peripheral Eurozone economies are far too small to
pull the Eurozone economy into recession - for comparison the combined
economies of Portugal, Ireland and Greece are only one eighth of the
size of combined economies of the UK, Italy and Spain. The key problem
in European output is that while Germany's economy has recovered - up to
the 3rd quarter of 2011 its GDP performance since the peak of the last
business cycle was marginally better than the US, and France's recovery
was significant, reaching only 0.6 per cent below the pre-financial
crisis peak, the EU's other large economies had not recovered and were
heading into a new downturn. On the latest available data the UK's GDP
was still 3.8 per cent below its peak in the previous business cycle,
Spain's GDP was 3.9 per cent below and Italy's was 4.7 per cent below.
Furthermore in all three economies the latest available data shows a
further downturn in GDP.

Failure in the European bail-out economies

In addition to the failure of recovery in the EU as a whole, primarily
due to this situation in the UK, Italy and Spain, a further striking
feature is that none of the economies subject to special EU bail out
programmes – Portugal, Ireland, Greece – shows any sign of recovery
(Figure 3). The latest data for both Ireland and Portugal shows renewed
economic downturn, while no Eurostat certified Greek GDP data has been
published since the 1st quarter of 2011 – it would be highly likely to
show further economic decline. This failure of recovery is despite the
fact that Ireland, for example, has undergone almost four years of
economic downturn and Portugal is well into the third year of downturn.

The EU bailout programmes may therefore be correctly characterised as
having failed.

Figure 3

Widespread downturn in Eastern Europe

An equallly severe, although less reported, decline in European
production than in the bail-out countries has taken place in the Baltic
republics – Estonia, Latvia and Lithuania (Figure 4). The downturn in
Latvia (16.6 per cent) is the worst for any European country while those
in Estonia (8.6 per cent) and Lithuania (9.0 per cent) are only slightly
better than Greece (9.9 per cent) and Ireland (11.6 per cent)

This crisis in the Baltic Republics, incidentally, as with the different
case of the UK, shows that the European crisis spreads to far more than
Eurozone – only Estonia of the Baltic republics is a Eurozone member.

Figure 4

In addition to the Baltic Republics economic downturn has continued in
most of Eastern Europe (Figure 5) – with only Poland and Slovakia having
recovered to pre-crisis levels of output (Figure 6).

Figure 5

Recovery economies

The trends above leave only two large European economies, Germany and
France, together with a number of medium sized ones (Netherlands,
Switzerland, Belgium, and Poland) having undergone serious economic
recovery (Figure 6). However, although Germany and France are the 1st
and 2nd largest economies in the EU their combined GDP, at 36.2 per cent
of the EU total, is only slightly greater than the 34.7 per cent of the
UK, Italy and Spain combined.

In short the stagnant and declining situation in the UK, Italy and Spain
is enough to essentiallly entirely offset recovery in Germany and France.

Figure 6

Large stagnant economies

Finally the position of the UK, Italy and Spain as large economies which
have failed to significantly recover, together with smaller economies in
the same situation, is clear in Figure 7.

Figure 7


A number of clear conclusions follow from these factual trends in Europe.

Financial crisis may be focussed at present in Greece, but the most
serious drags in output are not the peripheral Eurozone economies but
the UK, Italy and Spain.

Remaining outside the Eurozone is unlikely by itself to be sufficient to
ensure economic recovery. Economic downturn in the UK, which is outside
the Eurozone and has undergone substantial devaluation during the
international financial crisis, is as severe as in the other large
sluggish economies of Italy and Spain within the Eurozone. The
non-Eurozone Baltic Republics of Latvia and Lithuania have undergone as
serious declines in GDP as Eurozone member Estonia. Poland, which is
outside the Eurozone, has largely escaped recession but due to large
scale public investment.

Given these trends, overcoming the financial crisis in Greece is
unlikely to relaunch economic growth as the largest problems in Europe's
economic recovery are located in the UK, Italy and Spain. Of these UK is
not even a number of the Eurozone, while the lack of growth in Italy's
economy has been prolonged - annual average GDP growth in Italy in the
last decade has been only 0.2 per cent.

The overall conclusion is clear. The Eurozone crisis was predictable -
the present author noted 15 years ago in 'Fundamental Economic
Implications of a Single European Currency' that: ''The process that
would unfold with the creation of a single currency by this method [the
Treaty of Maastricht] may be predicted with certainty. Substantial parts
of the EU… will be pushed into severe recession if they join. There will
be sharply deepening regional imbalances and inequalities. The malignant
expressions of economic depression — unemployment, poverty, collapse of
the welfare system, weakening of trade unions, racism, chauvinism, crime
— will multiply. The end will be either an economic tragedy, or the
deepest crisis in the history of the EU, or more probably both.'

This analysis has clearly been vindicated. But it would, nevertheless,
as seen above, be wrong to conclude that the exclusive core of the
problems in Europe's economy is the Euro - or to see the situation
exclusively in terms of a 'Germany and periphery' situation.

The greatest drag on economic growth in Europe is its 'stagnant middle'
of the UK, Italy and Spain. These three economies together are
equivalent in size to Germany and France. If Germany and France are
supposed to provide the 'growth engine' of Europe these three economies
may be conceived of as currently providing its 'drag factor'.

Unless the situation within the UK, Italy and Spain can be resolved it
is most unlikely that overcoming the economic problems in Greece will
relaunch substantial European growth. For this reason, whatever occurs
in Greece, the European crisis is going to be prolonged and other parts
of the world economy must both take this into account and understand the
more powerful factors in European economic stagnation. ...

(10) More than half of all young Germans complete an apprenticeship


The Unemployment Contagion

David Mcwilliams

April 18, 2013

[...] American research shows that being unemployed for more than 18
months in your twenties has a permanent negative impact on your lifetime
earning. You don’t recover.

With that in mind, we should compare the rates of unemployment here and
elsewhere in peripheral Europe with those of Germany, where young
Germans are finding employment easily and young people in the rest of
the periphery are not. ...

Typically, two-thirds of young Germans begin an apprenticeship. Four out
of five complete them. This means that more than half of all young
people have completed an apprenticeship. They are work-ready when they
finish. Two-thirds of these apprentices receive full-time employment at
the company where they train.

Now look at the figures. Youth unemployment is 8pc in Germany, as
opposed to over 50pc in Greece and Spain. In Ireland, 30pc of people
under 25 are on the dole.

Not only does the apprentice system insure that young people are ready
for work, it also matches the person with the company. In this way the
education/apprentice system helps match the supply of young workers to
the demand for them.

The situation in Ireland could not be more different. Here we have a
strange state of affairs. Irish teenagers are much more likely to go to
college than previous generations, but what are they able to do when
they leave college? Are they qualified for something? Or could it be
that they actually come out of university de-skilled?

There was a very interesting newspaper article recently addressing this
issue. The writer, Ed Walsh, notes that we have dreadfully low levels of
employment and yet thousands of unfilled job vacancies exist. Walsh
points out that “Cisco senior vice-president Barry O’Sullivan told the
Global Technology Leaders Summit last January that there are 5,000
unfilled vacancies in the hi-tech area and the summit heard that Ireland
is producing only half the engineering and computer science graduates
enterprise requires. Sean O’Sullivan, Avego chief executive, speaks of
20,000 jobs that could be filled if the right kind of talent was
available in Ireland”.

Maybe, given this skills mismatch and the success of apprenticeships in
Germany, we could look at re-engineering the way we regard education and
training here. There is still a snobbery in Ireland toward the trades
and people with dirty fingernails. Every mammy wants her children to
grow up a professional, with a white collar and a corner office.
Equally, there will be a push back from the vested interests in our
education system, who are doing quite well out of the present set up.

But if unemployment can be contagious and if the power of context is as
strong as it appears to be, then there is the real risk that young
people become unemployable after the experience of youth unemployment.
If this is the case, it is essential that Ireland cops on to the world
around us and does something about this.

We hear a lot about our “great education system”, but what and who is it
great for?

These are serious questions and every time a young person loses faith
and loses hope because he or she is on the labour, these questions
become more serious.

(11) English-speaking countries should adopt German Apprenticeship Program


The Role of Apprenticeship Programs

by Thomas E. Persing

The graduates of secondary schools and universities in the United States
are competing in the global work market. We must establish new
partnerships between universities, schools, and business which will
enable U.S. citizens to be more successful, especially in their early
formative and competitive ages of 16 to 23. Currently there is a
perilous transition from school to career. If we forge new relationships
between universities, school, and business which are designed to break
the established habit of having sixteenyearolds become part of the
hamburger flippers of the USA and then waiting to mature seven or eight
years before getting a real job, or of disregarding the 50 percent who
enter college and fail to graduate, we will have found a way to
dramatically improve the economic health of the USA.

In this respect, not all First World countries function the same.
Germany, to cite only one example, has a different education/work
partnership. From the outset, let me hasten to say, I am not proposing
that the United States adopt what has been happening in Germany for over
a hundred years. Our culture would need to adapt, not simply adopt.

All students in Germany attend elementary schools K4 or K6. They then
enter into one of three different types of middle or secondary schools.
To the Gymnasium go the most academically able students, based on tests
and teacher recommendations, to prepare for entrance into the
University. Those who are very capable academically and also have
practical skills and interests other than medicine, law, government and
the like, enter the Realschule, which is composed of grades 713. The
Realschule specializes in either commercial or technical fields. The
least academically talented enter the Hauptschule which is not viewed as
not having an advantage when entering the labor market.

Despite these differences in aim, all three secondary schools have a
common core of academic subjects. What is more, German universities have
a much more narrow curriculum overview. Students receive l3 years of
secondary education, which is a broad, liberal, and general education.
They are admitted directly into chemistry or sociology departments and
also into medical and legal studies.

Using this as an introduction, I would like to focus on one aspect of
the German education system as something the United States could adapt
and adopt. This is the Apprenticeship Program or Dual System, which is a
combination of apprenticeship with parttime vocational schooling. This
system requires a joint effort of business, government, unions, and
chambers (Handwerkskammer and Industrieund Handleskammer), which are
employers' organizations. The Apprenticeship Program is recognized as
the true source of a skilled workforce which sustains Germany's
international competitiveness.

Students entering the Realschule or the Hauptschule can become directly
involved in preparing for a career by becoming apprentices. The student
will attend school for one or two days per week, and will receive
onthejob training three or four days per week. The student will be paid
about $3,000 the first year, $5,000 the second year, and about $7,000
the last year. All salaries are paid by the employer. The student
becomes more productive each year, but fundamentally it is the skilled
training which is the purpose of the apprenticeship. This type of
investment by the employer is not rewarded until after graduation, which
is the l3th year.

The academic education is geared toward applied subjects which have a
direct bearing on the career being pursued by the apprenticeship. The
curriculum is a result of cooperation among business, labor unions,
government, and chambers. Furthermore, the apprenticeship is under the
tutelage of a master who will determine when the apprenticeship may take
the test which will signal his opportunity to become a craftsman.

It is important to know that there is always the opportunity for an
apprentice to take the examination and secure an arbiter which is
necessary for entrance into a University. Also, many of the owners of
small businesses, and CEO's in large business are graduates of the
apprenticeship system.

In the United States, the university establishment could play an
important leadership role by using its influence to persuade business
leaders, the government, the educational community, and labor unions to
cooperate and create an apprenticeship program in the United States.

The key features of an apprenticeship system as proposed by Stephen
Hamilton in his book Apprenticeship for Adulthood are as follows:

   Workplaces and other community settings are exploited as learning

   work experience is linked to academic learning;

   youth are simultaneously workers with real responsibilities and
learners; and,

   close relationships are fostered between youth and adult mentors.
Secretary of Labor Robert Reich and Secretary of Education Richard Riley
have already demonstrated their desire to move forward on this
proposition. One could easily imagine how this proposal could be
accelerated if a prestigious university such as Yale would openly
embrace the concept. The University has nothing to lose but can advance
its reputation as a concerned member of the economic web which weaves
opportunities for the less academically, socially, and financially
advantaged members of the future work force. The University will not
have any competition from the apprenticeship crowd that would lessen its
enrollment capacity. However, lending its leadership and commitment to
the apprenticeship model would greatly influence business and government
officials to look more seriously toward the establishment of an
apprenticeship system in the United States.

An American business which is geared to monthly progress reports and
quarterly earning reports, which innately distrusts young people as
workers and has great difficulty with longterm investments, will need
the encouragement of tax incentives. The University could help influence
the government to help realize this necessity.

More to the point, universities could create new relationships with
secondary schools by preparing teachers to teach the application aspects
of math and science. Teachers in current service could attend workshops
and staff development courses to foster an in depth knowledge of what
must be necessary to be successful in the world of work.

Of more importance, universities, business and secondary schools could
form partnerships in teaching and learning how all academic subjects,
including math, science, history, and language study, could be presented
and taught to secondary students in ways which would show them immediate
practical applications in various career choices. Partnerships of this
nature will break the mold of current relationships. New alliances based
on trust and respect will be necessary. I know of no entity that has the
respect of society other than the University, that could better muster
these forces in a cohesive and productive manner. Following Robert
Kennedy's lead, we should ask: If not the university, then who? If not
now, when?

I fully recognize the virtual impossibility in a short paper of making
the reader cognizant of apprenticeship programs, the necessary business
and government involvement, and the role of secondary schools in the
preparation of youth for their transition into the world of work.
However, I list a few references for those who wish to become further

ReferencesThe William T. Grant Foundation Commission on Work, Family and
Citizenship. (November 1988). The Forgotten Half. Washington, D.C.

Hamilton, Stephen F. (1990). Apprenticeship for Adulthood. New York, New
York: The Free Press.

McAlams, Richard P. (1993). Lessons from Abroad. Lancaster,
Pennsylvania: Technomic Publishing Co.

Reich, Robert B. (1991). The Work of Nations. New York, New York: Alfred
A. Knopf.

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