Tag Archives: Marshall Auerback

The Fiscal Summit Counter-Narrative: Part Three, Are There Spending Constraints On Governments Sovereign in Their Currencies?

By Joe Firestone

An issue at the core of all the fuss about fiscal sustainability is Government solvency. The deficit hawks and doves believe that Governments sovereign in their own currency can run out of money if they keep deficit spending, and keep borrowing to do it. They believe that if deficit/debt levels are high enough, then Government insolvency can occur, because eventually the burden of interest on the public debt will crowd out all other public spending and investments. So, they are for working towards debt/deficit reduction, “reforming” (i.e. cutting) entitlement spending, and raising taxes, though not necessarily on the rich.

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Thousands Turn Out to Learn MMT in Italy

Trouble in Euro Zone Paradise?

By Marshall Auerback

The Europeans evidently thrive on instability and the ongoing threat of systemic risk. There is nothing else to explain the renewed hardline stance adopted by both Mario Draghi of the ECB and the German government on fiscal policy, just as the markets appeared to be calming down again.

In response to the question as to whether Greece was a “one-off”, or a deal which would presage similar claims on the part of the other Mediterranean debtor nations, there has been a growing prevailing belief that either the terms demanded of Greece would be so punitive (“pour decourager les autres”) or that, if Greece were to default, a sufficiently large firewall would be constructed by the Troika to ensure that the contagion wouldn’t extend to other countries. This is what Greek economist Yanis Varoufakis has called “cauterize and print”:

Germany’s belated epiphany is that, without a major redesign of the euro architecture, a number (>1) of eurozone member states are irretrievably insolvent. As for the two strategic choices, the first is Berlin’s conclusion that German politics have no stomach for, or interest in, a structural redesign of the euro system.[2] The second choice involves a massive bet in attempting to save the eurozone by shrinking it forcefully while, at the same time, authorising the ECB to print trillions of euros to cauterise the stumps left when the states earmarked for the chop are severed.

Well, the 2nd leg of that strategy seems to be falling apart, even as Greece is slowly being severed from the euro zone (because let’s be honest: Greece has insincerely accepted yet more impossible conditions for implementing another unworkable fiscal adjustment plan, which suggests that both sides are simply playing for yet more time). 


In the meantime, the UK’s Daily Telegraph has reported that Germany’s ruling parties are to introduce a resolution in parliament blocking any further boost to the EU’s bail-out machinery, vastly complicating Greece’s rescue package and risking a major clash with the International Monetary Fund. According to Ambrose Evans-Pritchard

“European solidarity is not an end in itself and should not be a one-way street. Germany’s engagement has reached it limits,”said the text, drafted by Chancellor Angela Merkel’s Christian Democrats and Free Democrat (FDP) allies.

“Germany itself faces strict austerity to comply with the national debt brake,” said the declaration, which will go to the Bundestag next week. Lawmakers said there is no scope to boost the EU’s “firewall” to €750bn, either by increasing the new European Stability Mechanism (ESM) or by running it together with the old bail-out fund (EFSF).

In one sense, the sentiment behind the draft is right. European solidarity should not be a one-way street. But that’s exactly the nub of the issue: As with all of the “rescue plans” introduced thus far, the latest does not allow the Greek government to help its people cushion the blow from 5 years of depression, but simply provides a mechanism to bail out banks and bondholders. Invoking Aesop’s famous fable about the ants and the grasshoppers, Yanis Varoufakis describes the crux of the problem:

“The problem (for those seeking to understand a Crisis) with attractive allegories is that the latter can be as much of a help as a hindrance. In this post I wish to argue that Aesop’s timeless tale, however appropriate it may seem at first glance, contributes more to Europe’s current problems than to their solution. My reason is simple: The ants and the grasshoppers are to be found in both Greece and in Germany, in the Netherlands and in Portugal, in Austria as well as in neighbouring Italy. But when we assume that all the ants are in the north and all the grasshoppers in the south, the remedies we introduce are toxic. 

Yes, it is true, the Crisis has placed a disproportionate share of the burden on the back of Europe’s ants. Only Europe’s ants are not exclusively German or Dutch or Austrian; and nor are the grasshoppers exclusively Greek, Iberian or Sicilian. Some ants are German and some are Greek. What unites Europe’s ants, north and south, east and west, is that they struggled to make ends meet during the good times and they are struggling even more now during the bad times. Meanwhile, the grasshoppers, both in the north and in the south of Europe, lived the good life before the Crisis and are doing fairly well now, keen as always to privatise the gains and distribute the pain (to the ants).”

That message evidently has not got through to either the Merkel government or the Bundesbank. The proposed draft of Merkel’s government is a political response to mounting German frustration at the current direction of European Union economic policy. There is, however, no corresponding appreciation that her coalition is fomenting this very anger through the ongoing perpetuation of a failed fiscal policy response which, as Varoufakis notes, continues to rewards lazy grasshoppers in both Germany and the south, whilst making all of Europe’s ants work harder and harder for less and less. It is perfectly understandable as to why ordinary German citizens, as well as those in other parts of the EU, should question why all of their hard work is not translating into a better life, when “their money” is actually going down a sinkhole to fund insolvent countries given no means of growing themselves out of debt trap dynamics.

By the same token, left without the lever of a countercyclical fiscal growth policy, the ECB has responded somewhat grudgingly with an escalating and rapidly expanding balance sheet, which has the Weimar hyperinflationistas up in arms, but at least has prevented the whole system from blowing up. Even Germany’s erstwhile allies, the Finns and the Dutch, are prepared to countenance an increase in the EU firewall to €750bn as they are beginning to appreciate the dangers of heading non-stop toward the iceberg.

But while Germany’s erstwhile allies are backing off their hardline fiscal austerity somewhat, the IMF has hinted that it may cut its share of Greece’s €130bn (£110bn) package and warned that its members will not commit more in funds to ring fence Italy and Spain unless Europe itself beefs up its rescue scheme. The Fund has argued (rightly) that the Europeans have more than adequate resources to create a sufficiently large firewall, and that further recourse to the IMF is, in fact, totally unnecessary.

The US Treasury seems to agree with the IMF’s assessment, already indicating that it is unprepared to contribute more to the Fund’s resources. The Treasury is also right, given that the ECB has the capacity to create infinite euros to deal with any looming solvency issues. 

We therefore have the makings of a giant game of chicken: The IMF is nervous about its share of Greek bailout and its broader EU exposure And the Germans won’t expand the firewall without a bigger IMF contribution because they want the IMF as their prime counterparty risk, NOT the ECB. This looming impasse probably also explains why ECB President Mario Draghi is starting tosound so Prussian again by pushing the line that the Mediterranean periphery has to cut living standards because it has been living beyond its means. While acknowledging that “there has been greater stability in financial markets” over the past several weeks, Draghi completely ignores the constructive role played by the ECB in creating this stability and instead ascribes it all to renewed commitments of fiscal discipline on the part of all of the euro zone’s members:

“Many governments have taken decisions on both fiscal consolidation and structural reforms. We have a fiscal compact where the European governments are starting to release national sovereignty for the common intent of being together. The banking system seems less fragile than it was a year ago. Some bond markets have reopened.”

The new head of the ECB is, we presume, an intelligent man, so one can only assume that he is being disingenuous in the extreme here. The renewed stability in the financial markets has NOTHING to do with fiscal consolidation and everything to do with the expansion of the ECB’s balance sheet. The consolidated assets of the European system of Central Banks are now 4.4 billion euros or $5.7 billion. In effect, the consolidated ESCB balance sheet has grown exponentially, and its increase over the last 6 months is almost equal to the entire increase in the Fed’s balance sheet over the last several years.

In contrast to his public statements suggesting institutional and legal limits in terms of what the ECB cannot do, Draghi has been using the bank’s balance sheet far more aggressively in order to prevent a banking meltdown and combat the EMU’s ongoing solvency crisis (a product, as we have indicated many times before, of the euro zone’s flawed financial architecture). And he has done so whilst (until this point) keeping Germany onside. Of course, one could argue that in reality all the ECB is doing is providing lending to the likes of Italian (or Greek, or Spanish) banks so they can pay German exporters and transfer deposits fleeing to Germany (or Switzerland)!

That perverse effect aside, Draghi has hitherto been able to carry out his operations with the quiescence of the Germans, who have presumably remained relatively quiet, whilst the Greek negotiations were being conducted (although that didn’t stop Finance Minister Wolfgang Schauble from lobbing a few rhetorical grenades via the press, hinting that it might be better if Greece were to default outright rather than take the deal on offer). But nobody else has said anything for fear of jeopardizing the deal on the table (which will almost certainly become a source of fresh contention for the other Mediterranean periphery countries, as they will almost certainly begin to ask for comparable haircuts on their own debts).

What is the source of this German angst? They worry, particularly the Bundesbank, that they have a credit with the ECB, not with the PIIGS countries. But they are concerned that the ECB now has low-quality collateral so this is risky if the ECB ceases operations (although why this should happen is unclear as the ECB can never run out of euros).

Hence the BUBA desire for the IMF, as a counterparty, even though the IMF itself is a political fig-leaf, given that the Fund’s “special drawing rights” are drawn directly from each of the central banks. In other words, the IMF gets its euros from the ECB, although by standing in the middle of the transaction, Germans can happily pretend that their counterparty risk lies with the IMF, and that they will therefore get repaid (and if this means involving the Fed, the Bank of Japan, Bank of China and Bank of England, so much the better).

The IMF, under Christine Lagarde, is evidently getting tired of playing this game, so it has refused to ask for more funding to deal with the euro zone’s ongoing crisis, in effect putting the ball back into Mr. Draghi’s court, who in turn has to deal with the Bundesbank. Hence, the renewed public relations campaign on behalf of “responsible” fiscal policy and the “new and improved” Stability and Growth Pact:

[I]t is encouraging to see that important steps have recently been taken … strengthens both the preventive and the corrective arm of the Stability and Growth Pact and establishes minimum requirements for national budgetary frameworks … a new ‘fiscal compact’ with a view to achieving a more effective disciplining of fiscal policies. Major elements of the fiscal compact are the strengthening of the role of the balanced budget rule and a further tightening of the excessive deficit procedure. It is of utmost importance, that the rules are now fully implemented in the spirit of this agreement. All these measures aim to ensure that individual countries live up to their responsibilities to bring their public finances in order.

As Bill Mitchell wryly observed: “The EMU is in the worst downturn for 80 years and its only ‘response’ is to make it worse because it has introduced voluntary rules that require nations in deep aggregate demand shocks to inflict further spending cuts.” Austerity in the euro zone has consisted of public spending cuts and tax hikes, which have both directly slowed the economies and increased net savings desires, as the austerity measures have also reduced private sector desires to borrow to spend. This combination has resulted in a decline in sales, which translates into fewer jobs and reduced private sector income, which further translates into reduced tax collections and increased public sector transfer payments, as the austerity measures designed to reduce public sector debt instead serve to increase it.

My bet is the IMF ultimately folds and commits more, because even the Fund recognizes the stupidity of imposing pro-cyclical fiscal policy in the midst of a recession, but not until the European markets begin to fail again and systemic pressures become more acute. Either way you have to congratulate the Germans for an exceptional game…with a weak hand they have everyone running around while they” mercant” their way to growth and others support the casualties they throw on the fire….

Greece: A Default is a Better Outcome Than the Deal on Offer

By Marshall Auerback

Pick your poison. In the words of Greek Finance Minister Evangelos Venizelos, the choice facing Greece today in the wake of its deal with the so-called “Troika” (the ECB, IMF, and EU) is “to choose between difficult decisions and decisions even more difficult. We unfortunately have to choose between sacrifice and even greater sacrifices in incomparably more dearly.”  Of course, Venizelos implied that failure to accept the latest offer by the Troika is the lesser of two sacrifices.  And the markets appeared to agree, selling off on news that the deal struck between the two parties was coming unstuck after weeks of building up expectations of an imminent conclusion. 
In our view, the market’s judgment is wrong:   an outright default might ultimately prove the better tonic for both Greece and the euro zone. 

The only questions that remain to be resolved are these: have all of the parties begun preparations to mitigate the ultimate impact of an outright default by Athens?  And will the ECB be sufficiently aggressive in combating the inevitable speculative attacks on the other members of the euro zone periphery, which are almost certain to ensue, once Greece is “resolved” one way or the other.
Within the Troika, the Germans in particular have been the champions of taking the toughest line possible against the Greeks and other “Mediterranean profligates”. But however stubborn Berlin appears to be, the Merkel Administration is certainly not stupid. At this juncture, it seems more rational to view their  ongoing promotion of fiscal austerity as a political smokescreen: In reality, what Germany likely wants to do in the case of Greece is trigger is an involuntary default so that the other PIIGS don’t get the wrong idea and ask for a similarly large haircut on their debts.  They realize the consequences that might follow, as the others gear up for similar treatment.  Far easier were Greece to move toward involuntary default, in the eyes of Berlin.
Politically, of course, the Merkel government can’t actually come out and advocate a Greek default or, indeed, outright expulsion from the euro zone. Far more politically astute to promote fiscal austerity on top of yet more fiscal austerity, (even though that is certainly not winning Mrs. Merkel any popularity points in Greece), until the Greeks themselves scream “Uncle!” and default outright.
It helps domestically as well. According to polls Angela Merkel is now the most popular politician in Germany, which is why she persists with this pernicious narrative that the problems of Greece all stem from fiscal profligacy and laziness, in contrast to the responsible and hard-working German people.
Ultimately, though an involuntary default carries risks for the stability of the euro payments system, a deal, per the terms outlined in the press, is bad for Greece.  And probably even worse for global markets, especially the bond markets.
Either eventuality creates problems but default is probably the less bad option longer term. Let me elaborate:
Greece is a hopelessly uncompetitive economy that probably shouldn’t be in the euro zone. But can you surgically detach Greece if it defaults, without some sort of impact on the entire euro payments system?

And what will the impact be on Greece itself?  The country currently runs a primary budget deficit (excluding interest payments on debt) of around 5% of GDP. Were it to default, Athens would be forced to go cold turkey (“cold Greece”?) until the primary fiscal deficit (now around 5% of GDP) is balanced. Maybe the government could suspend all military expenditures as a first pass? At the very least, they can stop buying German military equipment!
No question, that under a default, a lot of public sector employees will be sacked, pensions will be at risk, and unemployment will almost certainly go higher.  But that is certainly going to occur under the deal now being struck.   Were the country to revert to the drachma, however, they would likely be left with a substantially weaker currency, which could ultimately provide the country with the wherewithal to compete in the global economy. With a super-cheap exchange rate, Greece could become a Mecca for retirement homes, research hospitals, trans-European liberal arts colleges, and maybe low-overhead software startups. Plus, a permanent home for the Olympics. It could live happily ever after, as Florida does, on the pension income of the elderly and the beer money of the young.
This would be the source of the foreign transfers that the private banking sector won’t make anymore. In Greece’s case that credit went to the public sector and a lot of it built useful infrastructure, so it’s not a waste, but the first step is surely to cancel the debts and stop the illusion that they can be paid. And it would end the “death by 1000 cuts” currently being imposed on the Troika, which will serve no useful economic, political or social purpose.
Of course, there will be a slew of defaults and an endless series of court cases, litigation, etc., much as there was when Argentina defaulted in 2001.  But it would force the issue of debt restructuring on the table in a meaningful way and at least provide Greece with light at the end of the tunnel.
To ensure some sort of viability of the drachma, the Greek government would have to find a more credible means of ensuring tax compliance. Most Greeks with money have presumably already moved it beyond the reach of the Greek banking system, so that savings would not be wiped out. As the tide of repossessions begins, many of these oligarchs would likely start to buy back the Greek assets on the cheap, as it is doubtful that the euro banks will want anything to with them.
Beyond that, it would be important for Athens to establish a new tax system that minimises tax evasion, so as to create demand for the new drachma immediately, and mitigate the formation of an extensive parallel transactions currency. After all, it is possible that many Greeks might prefer to use the existing stock of euros in the country and there is very little the EU authorities could do to stop this (much as the US government could not prevent Panama from dollarising its economy). But in order to establish a long-lasting demand for drachmas, two things would have to happen: 
  1. The Greek government would announce that it will begin taxing exclusively in the new currency.
  2. The Greek government would announce that it will make all payments in the new currency. 

Given the country’s history of tax evasion on income tax, a national real estate tax would likely work better than a new income tax.
(See here for more details:)

On the other hand, the challenge for the European Union authorities is to ensure that speculative capital is not unleashed on the next weakest link in the chain – say, Portugal – to ensure that there is an adequate firewall established and to minimise disruptions to the entire euro payments system. It’s unclear to me whether the euro zone authorities have truly thought this aspect through and considered the best means to prevent a major disruption of the EMU payments system. Then again, perhaps this is what the ECB’s new programs are really all about.

On the other hand, I happen to think a rescue of the sort that is now being publicly mooted is worse for both sides. The imposition of yet more fiscal austerity on Greece will exacerbate the debt deflation dynamics which are destroying the country and will provide Greece with ZERO means of servicing even the reduced levels of debt. The country will still remain uncompetitive and depression like conditions will continue, with the ongoing burden of more euro denominated debt servicing.
More dangerous is the risk that comes if there is a “successful” deal: It come with the pending question- ‘if Greece doesn’t have to pay, why do I’- The Irish are asking that question already, and I’m sure the Portuguese and Spanish will soon be asking the same thing. As my friend Warren Mosler has noted: 

Possible immediate consequences of that discussion include a sharp spike in gold, silver, and other commodities in a flight from currency, falling equity and debt valuations, a banking crisis, and a tightening of ‘financial conditions’ in general from portfolio shifting, even as it’s fundamentally highly deflationary. And while it probably won’t last all that long, it will be long enough to seriously shake things up.

Longer term, a Greek default could well provoke the question, “What on earth do governments issue bonds for anyway?” That might well provoke a far more provocative debate on the nature of modern money and the self-imposed legal constraints with which sovereign governments bind themselves in their conduct of fiscal policy. But that’s probably best left to the pages of another blog post!

Greece and the Rape by the Rentiers

Here’s the draft of the supposed agreement to “sort out” the Greek debt problem once and for all. According to Bloomberg, here are the essentials:

  • Greece’s 2012 GDP will shrink by as much as 5%.
  • Greece is expected to return to growth in 2013.
  • Greece will cut 15,000 state jobs in 2012.
  • Minimum wage will be cut by 20 percent.
  • There will be no increase to sales tax.
  • The government will cut medicine spending from 1.9% to 1.5% and merge all auxiliary pension funds.
  • It will also sell stakes in six companies—in particular, energy companies and refineries.

Of course, the current thrust of fiscal policy will almost certainly guarantee that there still will be a default, involuntary or otherwise, in spite of this agreement. If you don’t have a mechanism to allow growth, then how can the Greeks service their debt, even with the reduced debt burden?

Perhaps that’s the idea. Make the deal so miserable for the Greek people that the Spanish, Portuguese, Irish and Italians don’t even begin to think of trying to get a similar haircut on their debt.
Certainly, the deficit reduction won’t come. It can’t when you deflate a rapidly declining economy into the ground. Common sense suggests that a drop in private income flows while private debt loads are high is an invitation to debt defaults and widespread insolvencies.

Even with all of the concessions, the euro bosses have not officially signed off on the agreement:

* Finance ministers of the 17-nation euro zone arriving for talks in Brussels warned there would be no immediate green light for the rescue package and said Athens must prove itself first. 

* “It’s up to the Greek government to provide concrete actions through legislation and other actions to convince its European partners that a second program can be made to work,” EU Economic and Monetary Affairs Commissioner Olli Rehn said. 

* German Finance Minister Wolfgang Schaeuble, whose country is Europe’s biggest paymaster, told reporters: “You don’t need to wait around because there will be no decision (tonight).” 

* Greek Finance Minister Evangelos Venizelos flew to Brussels after all-night talks involving Prime Minister Lucas Papademos, leaders of the three coalition parties and chief EU and IMF inspectors left one sensitive issue – pension cuts – unresolved.


It is also worth pointing out that Greece’s pension payments on a per capita basis are amongst the lowest in Europe. Still, apparently, this plunder hasn’t gone far enough The Greek people must feel like Sabine Women right now.

Game, set and match to the Troika.
While we’re at it, let’s address this “Greeks as tax cheats” canard once and for all. Greece’s tax revenue from VAT collapsed by 18.7pc in January from a year earlier. As Ambrose Evans Pritchard noted:

“Nobody can seriously blame tax evasion for this. It has happened because 60,000 small firms and family businesses have gone bankrupt since the summer. 

The VAT rate for food and drink rose from 13pc to 23pc in September to comply with EU-IMF Troika demands. The revenue effect has been overwhelmed by the contraction of the economy.
Overall tax receipts fell 7pc year-on-year.”

We’re one step closer to ensuring that the birthplace of democracy becomes a form of national indentured servitude. That is of course, unless Greece regains some modicum of self-respect and tells the Troika to take a hike and leaves the euro zone.

The Elephant in the Room is Spain, Not Italy

By Marshall Auerback


Another day andthe markets remain fixated on whether Greece comes to a “voluntary” arrangementwith its creditors.  The key word is“voluntary” because the myth of “voluntary compliance has to be sustained sothat those deadly credit default swaps avoid being triggered. 
But let’s faceit:  Greece is a pimple.  If the rest of the euro zone could cut itlose with a minimum of systemic risk, Athens would have long gone the way ofTroy.  The real issue is whether thecredit default swaps trigger such a huge mess with the counterparties that itcreates renewed systemic stress which more than offsets the benefits to theholders of the CDSs. 
The moreinteresting question is:  suppose Greece finally does get a deal?  Irealize everybody says it is a “one-off”, but do you really think theIrish, Portuguese, or even the Spanish and Italians will go along with that,particularly if (as is likely) they continue to experience double digitunemployment and minimal growth?
Now you could argue thatPortugal and Ireland, like Greece, are but small components of the EuropeanUnion and could well be covered in one form or another via the existingbackstops established over the last several months, notably the EuropeanFinancial Stability Fund (EFSF) and the European Stability Mechanism(ESM). 
But you can’t say this aboutSpain, which remains the real elephant in the room – not Italy – even thoughSpain’s borrowing costs remain lower than Italy’s. This is perverse. 
Though Italy has a highsovereign debt, it has a low private debt (the product of years of high budgetdeficits, but that’s the story for another blog). Italy has a fiscal deficitthat is low relative to most economies today. It already has a primary surplus.The greater than expected past expansion of the ESCB and the current ongoingLTROs are likely to absorb panic and forced selling of Italian debt. TheItalian 10-year yield could fall back below 5% (having already fallen from the 7%plus levels, pertaining a mere 6 weeks ago).

In theory, this rally in bond yields should lead to a reassessment of thegravity of the Italian problem and therefore the European sovereign debt andbanking problem. That could be positive for equity markets and, indeed, hasbeen so since the start of the year. 

But does Spain truly deserve theborrowing advantage it now has in relation to Italy?  Its 10-year bonds are yielding some 60 basispoints lower. True, its sovereign debt to GDP ratio is low at about 75%, but partof its enormous private debt will almost certainly have to be “socialized.”  Moreover, Spain has virtually the highestnon-financial private debt-to-GDP ratio of all the major economies.  Its ratio is almost twice that of Italy’s. Itsfiscal deficit last year was probably higher than the official estimates, closeto 9% of GDP (the previous Socialist government routinely lied about itsfigures – in fact, no country, not even the US, has lied more extensively aboutthe condition of its banks.  Spain, relative to GDP, has the largestshadow real estate inventory in the world, with the possible exception ofChina, which probably doesn’t even have a reliable second or third set ofbooks).

Let’s be clear about onething:  this is not a tale of Mediterranean“profligacy”, as least as far as public spending was concerned.  Anybody looking at Spain through a sensiblefinancial balances framework in the mid-2000s would have observed that theprivate sector was being squeezed badly by the fiscal drag. The externalposition was in deficit (current account) which means the public and externalbalances were draining growth from the economy. Yet it still boomed up into theonset of the crisis. How did that happen?

The profligates were all in theprivate sector, although you could readily argue that the government’s“responsible” fiscal policy created the conditions for a private sector debtbinge.
  Prior to 2008, the Spanisheconomy was held out as the darling of Europe however the reality was quitedifferent. The country was running budget surpluses by 2005 and foreigninvestment was booming. Most of this investment went into construction whichwas stimulated by a massive real estate boom.

A few years ago, using data fromData from the Banco de España (central bank) Bill Mitchell graphed the nationalbudget deficit as a percentage of GDP for Spain and the EMU overall from 1989to 2008 (data for the EMU clearly didn’t start until 1995). As Mitchell
notes,one can observe the tightening of fiscal positions as the Growth and StabilityPact provisions were forced on the EMU nations:


EMU and Spain: Budget deficit % of GDP,1989 to 2008

Consistent with a tighteningfiscal position leading to surpluses in 2005, the only way that this boom couldcontinue was for the private sector to go increasingly into debt.That is exactly what happened and because the property boom was so large thedebt levels were also very high – average household debt tripled. And that, incontrast to Italy, is the core problem with which Spain is dealing today to asubstantially greater degree than Italy. So it’s wrong to lump the two together interchangeably as the marketshave been doing.  Paella and pasta don’tmix well together.

Okay, but that was the previousZapatero
Administration.  Now we supposedly have a new “responsible” conservativegovernment that promises to carry out the same policies even moreresolutely.  And look how successfulthey’ve been:  Spain’s joblessclaims shot up a further 4% in January from December to 4.59 million, a signthat the euro zone’s fourth-largest economy is still shedding jobs at a recordrate. All sectors posted more claims but the rise was sharpest for services at5.1%. In construction, weighed down by a four-year property slump, the numberof residents registered as job seekers rose 2.1%. Compared with the same perioda year ago, overall claims rose 8%.  GDPcontracted 0.3%.  

Okay,“give them time”, argue the defenders of the new government.  And, if the Rajoy Administration was trulyembarking on a new policy course, that would be a fair comment.  Unfortunately, this government has signed onto even tighter fiscal policy rules.
Somehowthey are expected to suck demand out of their economies through tax increasesand spending cuts, but when the slower growth that results in means the targetfor deficit reduction is not met, the Spanish, like their Greek, Irish,Portuguese and Italian counterparts, will be punished for it.

Eventhe Rajoy Administration implicitly appears to recognize this danger, as it isalready moving the goalposts in regard to its spending cuts targets as apercentage of GDP.  Unfortunately, theyblame this on external circumstances beyond their control. To the extent thatthey agree to submit themselves to rules which were routinely disobeyed by theGermans and French during the EMU’s inception, that is true, although theSpanish government refuses to acknowledge that their resolute tightening fiscalpolicy ex ante might well have something to do with the fact that Spain’seconomy continues to deflate into the ground ex post.  Remember,
thehistory of the Stability and Growth Pact has long demonstrated that thesenonsensical rules are already impossible to keep within during a significantdownturn. And now the new Spanish government wants to tighten them even furtherand invoke pro-cyclical fiscal reactions earlier.
This, at a time when the nationalunemployment rate is approaching 23%, and the youth unemployment rate (25 yearsor younger) is at 49%, according to the latest Eurostat data.

Sonearly 50 per cent of willing workers under the age of 25 in Spain are withoutwork and will remain like that for years to come. That will damage productivitygrowth for the next decade or more. It is an indication that the monetarysystem has failed and attempting to reinforce those failures with moreausterity will only make matters worse.  The new government’s proposed fiscal policy “reforms” areparticularly toxic policy mixture for Spain.

Of course, the ongoing threat ofa disorderly default in Greece also remains a potentially dangerous areaif it is not contained by the ECB’s actions.
 But it’s more interesting to see what happens as the magnitude ofSpain’s problems become more apparent.  Will the troika tell Spain that a Greek style70% haircut is not in the cards?  Willthey try to suggest that the government is rife with corruption, that thecountry is chock-a-block full of scoff-laws and tax evaders, and that theefficient Germans would do a much better job of collecting taxes?

Spain is still a relatively youngdemocracy.
  The transition began a mere37 years ago when Francisco Franco died in 1975, but there was an attemptedcoup by Antonio Tejero as recently as 1981. This is worth pondering whilst observing the implosion of Spain’seconomy. The decision for Europe’s bosses is this: they must ultimately confront theconsequences of their policy choices. They can destroy the eurozone by continuing with the same failed mix ofpolicies or by salvaging it by adding what has been missing from the outset: amechanism for shifting surpluses to the deficit regions in the form ofproductive investments(as opposed to handouts or loans). Turning stateslike Spain into sundrenched economic wastelands within the eurozone, andforcing the rest of the currency area into a debt-deflationary spiral, is amost efficient way of blowing up the whole system and possibly threatening thevery existence of Spanish liberal democracy itself.

US Employment Growth Shows Fiscal Policy Matters

By Marshall Auerback

US Q4 2011 GDP growth was slightly disappointing, and the mix was terrible as the growth was mostly due to inventories. I took issue with that report, arguing that the weakness was due to statistical distortions in the government spending data and the PCE services data. With that disappointing Q4 GDP report, expectations for quite weak economic growth in this year’s first half were encouraged.

But today’s employment data blows the weak consensus outlook out of the water. The economy created jobs at the fastest pace in nine months in January and the unemployment rate dropped to a near three-year low of 8.3 percent, indicating last quarter’s growth carried into early 2012.

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Marshall Auerback’s Latest Interview on the Euro Crisis

Marshall’s latest take on the state of the Euro crisis can be found here.  For those following the situation there, you won’t want to miss this.

Marshall Auerback discusses the Euro on the Lang and O’Leary Exchange.  Watch it here.

Solvency Starts with the ECB

Watch the latest video at <a href=”http://video.foxbusiness.com”>video.foxbusiness.com</a>