I’m semi-impressed with the Europeans for choosing the hog-wild approach to bailouts. Not because it is good policy, but rather because it will be a useful demonstration of the old rule that bad policy begets more bad policy (which begets God knows what, but it won’t be pretty). The background is that many European nations have been over-spending, over-taxing, and over-regulating. This has created a poisonous combination of weak economies, pervasive dependency, and political corruption, with Greece being the nation farthest down the path to Krugman-topia. Europe’s political elite at first thought they could paper over the problems with a $140 billion Greek bailout. The ostensible motives were to stop contagion and to demonstrate “solidarity,” but behind-the-scenes lobbying by big European banks (which foolishly own a lot of government debt from profligate nations such as Greece, Portugal, Spain, and Italy) may have been the most important factor. Regardless of the real motive, the original bailout was a flop, so the political class has decided to go with the in-for-a-dime-in-for-a-dollar approach and commit nearly $1 trillion of other people’s money to prop up the continent’s welfare states. The Wall Street Journal reports on the issue, noting that American taxpayers will be involuntary participants thanks to the financial world’s keystone cops at the International Monetary Fund:
The European Union agreed on an audacious €750 billion ($955 billion) bailout plan in an effort to stanch a burgeoning sovereign debt crisis that began in Greece but now threatens the stability of financial markets world-wide. The money would be available to rescue euro-zone economies that get into financial troubles. The plan would consist of €440 billion of loans from euro-zone governments, €60 billion from an EU emergency fund and €250 billion from the International Monetary Fund. Immediately after the announcement, the European Central Bank said it is ready to buy euro-zone government and private bonds “to ensure depth and liquidity” in markets, and the U.S. Federal Reserve announced it would reopen swap lines with other central banks to make sure they had ample access to dollars.
Back when Greece first began to collapse, I argued that bankruptcy was the best option. And I noted more recently that my colleague Jeff Miron reached the same conclusion. Everything that has since happened reinforces this viewpoint. Here are a few additional observations on this latest chapter in the collapse of the welfare state.
1. A bailout does not solve the problem. It just means that taxpayers bear the cost rather than the banks that foolishly lent money to corrupt and incompetent governments.
2. A bailout rewards profligate politicians and creates a moral hazard problem by letting other politicians think that it is possible to dodge consequences for reckless choices.
3. A bailout undermines growth by misallocating capital, both directly via bailouts and indirectly by signalling to financial markets and investors that governments are a “safe” investment.
4. A bailout will cause a short-term rise in the market by directly or indirectly replenishing the balance sheets of financial institutions, but this will be completely offset by the long-run damage caused by moral hazard and capital misallocation.
The last point deserves a bit of elaboration. Assuming markets continue to rise, the politicians will interpret this to mean their policies are effective. But that is akin to me robbing my neighbor and then boasting about how my net wealth has increased. In the long run (which is probably not too long from now), though, this system will not work. At best, Europe’s political elite have postponed the day of reckoning and almost certainly created the conditions for an even more severe set of consequences. No wonder, when I was in Europe a couple of weeks ago, I kept running in to people who were planning on how to protect their families and their money when the welfare state scam unravels. Their biggest challenge, though, is finding someplace to go. People use to think the United States was a safe option, but the Bush-Obama policies of bigger government have pushed America much closer to European levels of fiscal instability.
[…] écrasante. Depuis lors, les crises se sont calmées, en grande partie grâce à des renflouements directs et indirects. Mais les erreurs politiques sous-jacentes n’ont pas été corrigées. En effet, […]
[…] crises have since abated, largely because of direct and indirect bailouts. But the underlying policy mistakes haven’t been […]
[…] So this brings me back to my three-sentence prescription. Yes, it almost certainly would be messy. But it’s better to let the air out of bubbles sooner rather than later. […]
[…] makes this development so unpleasant is that this new bailout (Greece already has been bailed out several times, with both direct and indirect handouts) will make things worse. Another bailout will be a case of […]
[…] makes this development so unpleasant is that this new bailout (Greece already has been bailed out several times, with both direct and indirect handouts) will make things worse. Another bailout will be a case of […]
[…] makes this development so unpleasant is that this new bailout (Greece already has been bailed out several times, with both direct and indirect handouts) will make things worse. Another bailout will be a case of […]
[…] makes this development so unpleasant is that this new bailout (Greece already has been bailed out several times, with both direct and indirect handouts) will make things worse. Another bailout will be a case of […]
[…] some cases, the sleazy interest group is an entire nation. Greece recently took a bailout from both the European Union (i.e., European taxpayers) and the International Monetary Fund (i.e., […]
[…] some cases, the sleazy interest group is an entire nation. Greece recently took a bailout from both the European Union (i.e., European taxpayers) and the International Monetary Fund (i.e., […]
Yes some Europeans are willing to do what needs to be done (remove dis-incentives to engage in high value work, i.e. high productivity). They always have. The problem is that there are not enough of them. So they are not enough to arrest the vicious cycle of: -> more taxes ->loss of competitiveness -> electorate in distress -> vote in favor of government help, i.e. more taxes -> .
Even if the Tories in Britain had won a parliamentary majority, their policies, as stated during their campaign, may have slowed down a bit the vicious cycle, but would have not arrested it, or finally reversed it. Seems to me that in order for Europe to change course, the entire EU would have to first hit bottom, perhaps Soviet Style. That will take a while. After all, German money will last for some time – and the Germans are too tied down to break loose. They are already too deep down the fallacy that “…[European] integration, harmonization and homogenization of economic policies…” is the key to prosperity in the 21st century. With German productivity diluted by the Greek “suicide by majority” mentality, the economic marginalization of the entire EU is now accelerating. 0.7 billion Europeans are growing at 2% (in good times that is) while 2.5 billion people in Asia are growing at 6-12%. Trying to throw a monkey wrench into Asian development with tariffs and trade wars will only exacerbate the competitiveness problem for the West.
Don’t take this as an endorsement to the Asian style authoritarian capitalism. The issue is not whether Chinese style capitalism is superior to western style free markets. The issue is whether the modest liberalization that has already taken place in Asia is enough for Asians to reach even 50% of the Western standard of living. In my view, that would be a wonderful thing overall, however, remember that just an India and China who reach 50% of Western per capita GDP, will be larger economies than Europe and the US combined.
The European masses now understand the dangers of bailouts but will politicians listen?
The German are turning away from Chancellor Merkel’s ruling party, The Irish people attempt to storm their parliament, and the British ousted the Labor Party (Gordon Brown) for the conservatives who want to cut government spending! I think some europeans are looking at the Greeks and are finally saying enough with failed policies, enough with the lack of competitiveness and enough with the fiscal irresponsibility!
Read more at: http://wp.me/pPdcm-3H
http://online.wsj.com/article/SB10001424052748704879704575236602686084356.html?mod=WSJ_hps_MIDDLETopStories
Markets are up! Water receding before the Tsunami? How long before the Tsunami? Who will bail out all of Europe or the combined EU-US bankruptcy? China with its 2 trillion dollar reserves will bail out 30 trillion dollar economies? Or the IMF with its 0.7 trillion dollar fund, most of which come from the US and EU anyway? We are reaching the end of the line…
The Mother of All Crises is approaching…
As I said before, it was ultimately inevitable. It would have been impossible for a continent that practices Welfare-State Social-Democracy at the individual level, to deny it at the Intra-European level. But I am a little surprised that the process seems to be moving even faster than I thought.
The Far East is liberalizing and finally breaking the shackles of collectivism and central planning that kept it in misery for centuries. Meanwhile the West, once the champion of individual freedom, has stalled in its liberalization efforts and actually seems to be pedaling backwards. Convergence will come sooner than I thought. The question is now whether the West will fade away quietly into marginalization or whether it will implode with a loud bang (remember, in astronomy, supernova explosions start with an implosion first, immediately followed by explosion).
Better. I like it when you give your assessment and keep the quotes to a minimum. When I blog it’s usually 100% me but once in awhile ya got to quote. Good assessment. It just amazes me how the Chinese just keep shooting themselves in the foot and when they will figure it out. It also amazes me how long this finance game will go on. Really I think we know. When the 2010 elections are done and 2011 rolls around. That will be when the ugly face of reality shows it’s face. Tax hikes, commercial real estate bust, England, Spain Portugal all coming due.
I hear there is great hog hunting up in Georgia. Never liked the taste of wild hog but I guess I can acquire a taste for it.
I agree with your assessment Dan. So what is a good course for us little people to follow in your opinion? Are there some actionable items we should be attending to in our personal finances if we view “the not too long from now” viewpoint as accurate?