Scottish-born economist - Angus Deaton - recently published his new book - An Immigrant Economist…
I am in transit most of today and so have very limited time to write. An ECB Executive Board member, one Jörg Asmussen, gave a speech at the European Policy Centre in Brussels on July 17, 2012 – Building deeper economic union: what to do and what to avoid – where he admitted that the European policy leaders “had made mistakes in the way economic policies and governance were managed inside the monetary union”. I thought that was an understatement but credit for the admission. However, his speech was then steered towards “how best to” strengthen “(p)olicies and governance” – “(w)hat to do and what to avoid”. When he mentioned that the “six pack” and the Fiscal Compact constituted “significant progress” towards what to do and what to avoid I concluded he hasn’t learned much at all from the huge mistakes that the policy elites in Europe have made. The suggestion for a fiscal union is definitely a step forward but the way in which this idea is being constructed represents several steps backwards. The Europeans seem intent on extinguishing their democracies.
In his Speech, Jörg Asmussen was very specific:
The core of the current debate about the future of economic union has a name: the further sharing of sovereignty. It means endowing the euro area with the power to effectively prevent and correct unsustainable policies in every euro area Member State. Concretely, this would imply that a euro area authority would have competence to limit countries’ ability to issue debt and have intervention rights into national budgets, and to compel Member States to correct their policies, be that in the fiscal, structural and financial fields.
He followed that statement with a qualification – “we need to strengthen democratic legitimacy. Deeper euro area integration can only be sustainable with corresponding progress on democratic legitimacy and accountability.”
The EUObserver story (July 17, 2012) – Bailout fund could become eurozone budget authority, says ECB – reported some of the statements that Jörg Asmussen made outside of his formal speech. He said that the Eurozone needed a “common budget authority”:
The ESM is a fiscal authority by definition because it deals with taxpayers’ money …
The sticking point is that the vision for reform in Europe is increased centralisation and a loss of sovereignty at the national level – which I support in theory (but think is impossible in practice) – without a proper regard for democracy. It is clear that this is a sensitive issue and the comments by Jörg Asmussen reflect that.
He was unclear how the ESM – acting as the fiscal authority would advance the democratic process. The challenges currently before the German Constitutional Court are essentially about this issue although the arguments of the economists are more about their ideological attraction to free markets than advancing the deeper needs for democratic representation.
But the proposals seems to be that macroeconomic policy – monetary and fiscal – would be supervised by two unelected and largely unaccountable bodies – the ECB and the ESM.
The proposal for the ESM differs somewhat from the operations of the European Financial and Stability Fund (EFSF) in that the money that each member state contributes will only be withdrawn from that state’s accounts when required. Further, the ESM Board would have the power to increase the ceiling of funds extracted from member state treasury accounts.
This EUObserver article (July 12, 2012) – The euro bailout fund: A democratic ‘black box’? – reflected the tension that is felt in Europe about this proposal.
They quoted a German business representative:
The ESM will be a non-democratic black box … This is a concept created by eurocrats who think everything can be solved with financial acrobatics. And then you have these people responsible for billions of public money but shielded by total immunity from parliaments or courts.
The ESM proposal has also excluded “oversight” by the European Parliament. The article quotes a French politician who said:
The core principle of democracy is that you need parliamentary control for every public cent you spend …
Which I think is the key issue and the reason why the trend in Europe at present will violate effective representation.
I have noted in the past that there are really only two options for an effective federal-state monetary system.
First, the federal entity – the currency-issuer – has to be able to spend freely and issue debt to match that net spending if there are voluntary rules in place to prevent the central bank from directly “funding” the treasury operations at the federal level. That is the least preferred option.
Second, the central bank and the treasury – the two parts of the consolidated government sector – ensure that the treasury operations are executed without disruption to financial system. That is, the central bank credits private bank accounts according to the spending desires of the treasury. That is the preferred option. The federal government – as the currency-issuer does not issue debt to the private sector.
Overlaying that should be the requirement that fiscal and monetary policy ultimately be ratified on a regular basis by the people via elections. One of the reasons I am not scared of fiscal policy being used freely (without fiscal rules) is that a government that abuses its mandate can be thrown out at the next election. I am not denying that it can cause damage in the interim but if electoral cycles are relatively short then the damage is limited.
I am also against unelected and unaccountable bodies being the vehicles for the implementation of macroeconomic policy. This is the trend everywhere as the neo-liberals seek to vest these powers and responsibilities in bodies that are stacked with ideologues of the same persuasion. They want to limit the elected government because they know that the policies that they advocated – self-regulating markets – ultimately increase unemployment and poverty – a recipe for disaster for the elites in a democratic state.
Further, this sort of system works requires that the elected and accountable federal and state governments have clearly delineated spending and taxation responsibilities. The Eurozone proposals for the ECB and the ESM to be the monetary and fiscal authorities – are nothing like that.
In an effectively-functioning federal systems there is usually a constitutional split in spending and taxation powers which means that the member states have autonomy
When Australia became a Federation (a nation) in 1901, having previously been a collection of colonies, the Australian Constitution gave the Federal (Commonwealth) government responsibilities for external affairs and national economic policy, while the State governments continued to provide a range of services including education, health, law and order, local roads, utilities, rail and ports and water. Some of these infrastructure and utility responsibilities are shared with Local government.
Over time, various agreements have seen the Federal government involved in education, health and telecommunications. Further, other changes (for example, the handing over of income tax powers to the Commonwealth) have meant that the Commonwealth has most of the revenue raising capacity while the states have most of the spending responsibilities.
To overcome the vertical imbalance, an elaborate structure of revenue-sharing evolved and is supervised by the Commonwealth Grants Commission in liaison with the State and Local Governments.
Further, via the Australian Loan Council, which is “a Commonwealth-State ministerial council that coordinates public sector borrowing” loans are raised to accommodate the individual state budgets.
The Loan Council arrangements “operate on a voluntary basis and emphasise transparency of public sector financing rather than adherence to strict borrowing limits. These arrangements are designed to enhance financial market scrutiny of public sector borrowing and facilitate informed judgments about each government’s financial performance”. In other words, the Federal government does not send a “Finance Minister” to any state to reject their budgets.
The State governments are elected directly and the Federal government does not interfere with their fiscal decisions, allowing the individual states to rise and fall on their own fortunes. In part, this is because the fiscal responsibilities are clearly delineated.
However, as the currency-issuer, the Federal government always stands ready to provide funds to the States in times of crisis (for example, the 2011 floods and cyclone damage in Queensland) and instigate spatially targetted fiscal stimulus if a particular state or region is in trouble.
The flexibility of this system as in the US is that the Federal Government always has the capacity to defend the overall economy in times of major aggregate demand failure. Whether they issue federal debt to the private markets or instruct the central bank to purchase their debt is irrelevant in this case.
The bond markets understand that such a government is risk-free because it issues its own currency and if worse comes to worse (say, its tax base collapses) it will always change regulations to make that currency-issuing capacity transparent. That is, the central bank will always ensure the government is solvent in its own currency.
So states within a federal system give up some sovereignty – but that is clearly defined in the sharing of responsibilities. They also do so because they are units within one nation, with common purposes, shared cultural artifacts and the knowledge that the federal unit is working in the interests of all of the people.
The concept of the fiscal union being pushed in Europe at present (along with the “six pack” and the Fiscal Compact) does not propose a division of responsibilities (spending and taxing) and level of government accountability (via the ballot box) for the execution of those responsibilities.
Rather, it conjures up a vision of a centralised watchdog who will monitor member-state budgets and reject them if they exceed some fiscal rule – presumably as specified in the fiscal compact that was placed on the table last December. If that is true, then the fiscal union will fail because it would be in the same bind as the member-state is now.
Faced with a deteriorating domestic economy, the fiscal rules would be breached and austerity would be demanded. There is no hint that the “federal arm” of the fiscal union would act as the Australian or US governments act and defend the interests of particular member states if asymmetry reigned.
Even within the current flawed European model, the only way a fiscal union will work is if the ECB (the currency-issuer) cooperates with the “federal fiscal arm” in Brussels, to underwrite a Euro-bonds issue. This central bank underwriting is implicit in all effective federal systems such that the “financial markets” form the view that the federal entity and its debt is always solvent. The markets know that, ultimately, the central bank will ensure the obligations are always met.
Relying on “bailout funds” such as the proposed European Stability Mechanism (ESM) will fail to appease the markets because they know that this is just a fund largely supported by governments that all face solvency risk – given that most of the participants do not issue their own currencies.
In this regard, there was an interesting article on German economist Hans-Werner Sinn in Der Spiegel (July 1y, 2012) – Professor Propaganda Is German Economist Exacerbating Euro Crisis? – which followed Sinn’s appearance before the German Constitutional Court as it hears whether the European Stability Mechanism (ESM) is “compatible with Germany’s constitution”.
I have discussed the ideas of Hans-Werner Sinn previously in these blogs – Rescue packages and iron boots and Defaulting on public debt as a way to progress and Selective versions of history, driven by a blinkered ideology, always fail.
He is implacably opposed to the Eurozone bailouts and has said in the past in a New York Times article (June 13, 2012) – Why Berlin Is Balking on a Bailout – that:
… such a bailout is illegal under the Maastricht Treaty, which governs the euro zone. Because the treaty is law in each member state, a bailout would be rejected by Germany’s Constitutional Court … [and] … a bailout doesn’t make economic sense, and would likely make the situation worse. Such schemes violate the liability principle, one of the constituting principles of a market economy, which holds that it is the creditors’ responsibility to choose their debtors. If debtors cannot repay, creditors should bear the losses.
If we give up the liability principle, the European market economy will lose its most important allocative virtue: the careful selection of investment opportunities by creditors. We would then waste part of the capital generated by the arduous savings of earlier generations. I am surprised that the president of the world’s most successful capitalist nation would overlook this.
When I read this article I wondered why he hadn’t recognised the massive failure of the “liability principle” to allocate investment resources appropriately.
The massive pre-crisis German trade surpluses were not being used to reward their own workforce in the form of real wages growth. Given the stifled domestic demand, the German funds flowed south. The speculation in Greece and Spain came from German (and French) money.
How much “capital” has been wasted through the folly of the financial markets as a result of this crisis?
But I agree with him that the bailout strategy currently in place will never work because it is accompanied by austerity which kills growth and therefore kills the wherewithal to pay back the debt.
In the Spiegel article, Dr Sinn is reported as telling the Constitutional Court that there would be “bottomless pit” and the ESM would become a “machinery of asset destruction”. He was, of-course, referring to financial asset destruction, which is really the problem.
The world is obsessed with financial assets and forgets that there is massive asset destruction going on every day as a result of this misplaced emphasis. I am referring to the entrenched mass unemployment which is wasting the most valuable assets that an economy ever has.
Youth unemployment (official or hidden) and underemployment above or approaching 50 per cent in many nations now constitutes massive asset destruction. Fiscal austerity is a brilliant machine for ensuring this destruction persists and increases.
Dr Sinn’s belief that the “liability principle” (that is, the free market) will stop this destruction is misplaced. Without strong regulation and government deficits (typically) mass unemployment and rising inequality become the norm rather than the exception.
There have certainly been mistakes made in Europe. But the proposals for their resolution suggest to me that the leadership doesn’t fully understand the nature of the mistakes.
They know the system has failed – youth unemployment above 50 per cent in several nations tells them that. But their distorted view of what has gone wrong and what might work is only leading to more failure.
The problem is that democracy is being further eroded each step they take towards a resolution.
Presentation on Age Discrimination and the need for Full Employment
I just received the video from a Sydney TV program I appeared on recently. The program was filmed during an Open Forum held at the University of Sydney on January 16, 2012. The forum was packaged as a TV program which was screened earlier this month in Sydney.
There were two speakers at the Forum (the other was the Federal Age Discrimination Commissioner) but I have only provided my presentation here (for copyright reasons). It runs for 21 minutes. There was also a question and answer segment which was excluded from the TV program.
That is enough for today!
(c) Copyright 2012 Bill Mitchell. All Rights Reserved.