Irreverent Economics

much has been written about the failures of corporate mergers and the like. Of course, companies still continue to merge but at least we have  some studies on the sensibility of such mergers and what makes them go wrong. We don’t have this as much, yet, for the  government counterpart, the various international cooperation mechanisms. To mention a few

• Basel
• Euro
• Gold standard
• EU
• WTO
• Common market and the European passport in financial services

So many  end in tears while others   succeed. Why is that? Because the conditions for continuing success are so many —   macroeconomic development, regulation and supervision, corruption, and politics, to name a few.

Sadly it is all too common that governments let politics overrule common sense. The Euro is a classical example but  others about. I mention the European common market, and especially the European passport in financial services, a little later.

Where is the academic research? Well I have a paper coming out in a few weeks on this

If the EU had acted 10 years ago, and not let them in,  the Greek problem would have been averted

If the EU had acted 5 years ago, and not allowed them to falsify the accounts, the problem would have been minimized. Before you object, I am pretty sure the problem of falsified national accounting in Greece was known to the relevant EU authorities from the beginning.

If the EU had recognized that the cat was out of the bag last fall and allowed restructuring, we would have been in a better shape. They had time then. If the Greek banks fail at the same time as the government,as they will most likey, everybody is worse of. The banks there hold too much of their debt.  So why not, last fall, prepare for restructuring, and at the same time a package allowing the banks to continue. Announce this, and the subsequent instability would have been contained.

If they EU had not rigged the debt auction in January, and let the shock happen then, we would be in a better shape.

This spring, why did they resist, and blamed the markets, instead of tackling the problem?

Will the EU react properly, or will their hand be forced by the markets?  Being forced is the worst possible outcome.

How can we sell Europe short?

We are told that speculators are to blame for the ongoing problems of the PIGS. Clearly, these are not good times in Europe. These is a serious risk of a significant downturn, in no small part PIGS related. So who is to blame?

As the EU leaders keep blaming the markets. Price of debt is too high. Funds gang up and attack countries. Now, do they believe this, or is it for domestic political consumption? I used to think this was just sounding off. Now, I fear that they believe it.

What will that lead to? Then instead of tackling the problem, they will fight the markets while Rome burns. The markets will prevail, but the collateral damage may be significant. On that tomorrow.

There is an old song, covered by many artists called “I fought the law and the law won“. Here is the Clash version that I listed to in my misspend youth.

Listening to the EU leaders muse about the Euro problems I could not escape being reminded of that song. Replacing law with markets looses the  sexyness of the songs title, as only appropriate for the dismal science. But the meaning stands.

EU, the common market and the Euro are essential political projects. Sometimes at odds with economic reality. Letting Greece into the Euro, and not monitoring its deficit properly, represents the triumph of politics over reality. They fought the markets, and now the markets well and truly got their revenge. As it tends to do.

Maybe we can forgive the politicians, but can we please fire their economic advisers.

Angela Merkel is focusing her anger on the evils of speculations. Alas, its a strawman, but what is the role of speculators?

In some cases speculation is stabilizing. If the speculators trust the fundamentals and the government, they will keep asset values at the preferred level. An example is during the gold standard.

In other cases, speculators destabilize. Lets consider one case from Germany’s history. From 1921 to 1924 they had hyperinflation. Leaving the original causes aside, the speculators helped fueling it. They didn’t cause it, but made it hard to conquer. The only way the Reichsbank ended the hyperinflation was by beating the speculators. How? They cornered the market. More on that later.

The speculators did not cause this crisis. Governments did. Those who pushed politics over economics. And as usually happens in such cases, economics won.

Another leader who spurned economics was Ayatollah Khomeini who said

economics is for donkeys

Of course his country usually is in the top 10 list amongst the countries with the highest inflation. With high deficits, and overall lousy economic performance.

Hope the EU leaders take economics more seriously. Addressing the real problems and not the speculators would be a start.