October 9, 2011

Greece, The Euro Zone and the U.S.: We Would Rather Have Been Wrong

by Hal Gershowitz

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It was a year and a half ago (May 17, 2010) when we first wrote (and warned) about Greece, the other European profligates such as Ireland, Italy, Portugal and Spain and just how close France and the UK might be to the continental vortex we thought was in the process of spinning out of control. We also warned that we could expect the same result here if we persisted on pursuing the same economic model in the United States that was in the process of imploding in Europe and threatening to eviscerate the entire Euro Zone experiment.

Well, things have not improved.  Not there, and not here.  As the reader knows, things have only gotten worse. Greece is in violation of the covenants that were imposed as conditions of the first tranche of the bailout it received just last July. Italy just experienced a severe downgrading of its debt as did two of the three largest banks in France, with France’s largest bank having been placed on a negative watch list by the rating agencies. A major French/Belgian-owned bank is in a state of near collapse over its exposure to Greek debt as we write this essay. Concurrently, The Fed has embarked on what can be described as “QE 3 light” (…if at first {or second} you don’t succeed…), with Chairman Bernanke warning just last week that the US economy “is close to faltering.”

Let’s review the anatomy of the persistent and growing dilemma in Europe as well as the vacuous, if not clueless, approach the White House is pursuing to deal with our own deteriorating situation in the United States.

The crisis in Europe is not nearly as complicated as it often seems.  The Europeans made a bet twenty years ago.  They bet that if they all joined together in an European Union, created a Euro flag, formed a parliament and issued one currency, that they could become a cohesive economic entity; one that would grow, govern, budget, discipline and finance itself in lock step. It was, and is, a losing bet.  Perhaps, the first hint of disunity was startlingly apparent when the nations that were to comprise the Euro Zone had so much trouble finding sufficient consensus to ratify the so-called Maastricht Treaty, a sort of constitution for the new European Community. Then some of the major European players such as Great Britain and Switzerland refused (wisely it seems) to give up their own currencies in deference to the new Euro.  They liked their British Pound and their Swiss Franc just fine.

When we read of Germany’s and Finland’s and a host of other European nations’ frustrations with Greece and Portugal and some of the other Southern European countries, we can’t help thinking of the refrain from My Fair Lady when a frustrated Rex Harrison laments, “Why can’t a woman be more like a man?”  Why can’t Greece be more like Germany (or Finland)?  All they have to do, after all, is conduct themselves responsibly.

But alas, Greece is not Germany, Portugal is not Finland and Italy is not Austria. There yawns a gap in the fiscal discipline between the Greece’s and the Germany’s of Europe through which one could slide the Alps, which, come to think of it, Mother Nature did, in fact, do.  For example, one requisite of membership in the EU is that no country’s deficit should exceed 3% of GDP, and no member’s debt should exceed 60% of GDP. Greece’s deficit will be approximately three times the allowable limit and its debt is projected to reach 172% of GDP next year. Other Euro Zone countries have varying degrees of the same problem. Italy’s debt is over 120% of its GDP; Belgium is at nearly 110% of GDP, Portugal is approaching 90% of GDP, as is France. We could go on, but you get the picture, even if Washington doesn’t.

Given that Greece has spent to the hilt and borrowed far more than it can hope to repay, why not just let them default and exit the Euro Zone?  Well, as we know, the healthy and fiscally responsible members of the EU and their banks are the holders of most of that Greek debt. Other Euro Zone countries such as Ireland also have balance sheets that are on life support.  These countries are facing steep increases in their cost of borrowing at the very time their economies are contracting. This becomes a vicious cycle as money that is desperately needed to fund growth is being consumed by escalating costs of debt service. The risk of contagion if (when) Greece fails is enormous.

Some Euro nations have kicked in considerable taxpayer money to bailout the profligates and the European Central Bank has been a buyer of troubled sovereign debt to artificially tamp down the borrowing costs of the troubled nations. European banks, which are large holders of troubled European sovereign debt, are experiencing a growing and well-founded fear of a run on deposits.

France, which arguably has been one of the healthier economies in Europe, has seen its most venerable banks downgraded because of their enormous exposure to Greek debt.  Just this past week, a major French and Belgian financial institution was rumored to be on the verge of breaking up over its exposure to Greek debt.  Dexia had, in 2008, already received bailouts of over 6 billion Euros from Belgium, France, and Luxembourg as well as a short-term loan of $26.5 billion from the U.S. Federal Reserve’s discount window.

The courts and parliaments of the healthier countries have begun to weigh in, and Germany’s highest court has now required the parliament’s Budget Committee to approve any further bailout funding of other sovereigns. This is politically dicey given the anger brewing among German voters. To make matters worse, no sooner had Germany, approved a 440 billion Euro fund for further bailouts, then the EU acknowledged that Europe’s ailing nations will need at least 800 billion Euros.

It’s a mess. Slovakia is, as of this writing, refusing to go along with the bailout, which would torpedo the entire Greek rescue effort.  The EU governing model, with its amalgam of independent large and small states, anyone of which can block a major initiative such as funding the bailout, is akin to the thirteen original American colonies under the Articles of Confederation – unwieldy and unworkable given the complexities the EU faces.  Anyone who thinks the Euro, which is the currency of 17 of the EU countries, isn’t in jeopardy is, in our judgment, terribly naïve.

Naïveté, however, doesn’t account for the course being set by the Obama Administration in Washington.  Political crassness would be more like it.  Fed Chairman Bernanke tells the country what it has known for two years, that “the economy is close to faltering.” And the President’s response is to call for a millionaire’s tax (actually what he was calling for was his old stand-by tax on any family earning over $250,000 a year) in order to fund more of what has failed to nudge the economy for the last two years, notwithstanding the $1 trillion+ that has already been poured down that drain to nowhere.

Senate Majority Leader Reid has scrapped the President’s proposal and actually used the draconian nuclear option to keep it from being offered by the Republicans who knew it would fail for lack of Democratic votes. The Democrats will rue the day they pushed through this rule-corrupting maneuver should the majority shift in 2012 or, for that matter, whenever Democrats find themselves in the minority.  Reid plans to replace Obama’s bill with one that would apply an additional 5.6% tax on any taxpayer income over $1.0 million. It has little to do with stimulating the economy.  In fact, it is the antithesis of economic stimulation. It does, however, have everything to do with 2012 campaign television ads, banners, bumper stickers and scripts for liberal writers and talking heads.  Few voters object to increased taxes on millionaires, so the President’s strategy is to make taxing millionaires the issue and to distract the electorate from focusing on the nation’s diminishing economic growth and the President’s failed economic policies.

What the President is proposing is the opposite of what his own Debt and Deficit Commission proposed. They understood that there is, and has been, a desperate need to jolt the economy. They understood that the certainty of more money in the pockets of all the people would be the best possible tonic for an ailing economy.  But the President, like many on the left, are far more interested in providing for the coffers of government than for the pockets of the people.

When President Obama first launched his tax-to-prosperity program a couple of weeks ago, he proclaimed, “It’s not class warfare, it’s simple math.” Then, thanks to a rapid fact check by the Associated Press, it was clear that simple math proved exactly the opposite. So this week he changed what Washington pundits like to call the narrative.  Now he proclaims, “It’s not class warfare, it’s simple choices.” While we do believe the President’s focus is class warfare and only class warfare, we do agree that what the country faces are simple choices.

What the country desperately needs is renewed economic growth. The choices are not that complicated.  We can lower tax rates for our nation’s corporations and wage earners (as the President’s own Debit and Deficit Commission recommended) and let the people truly stimulate the economy, or the government can raise taxes on some so that it can try to stimulate the economy. Well, we’ve had three consecutive years of $1.0 trillion+ deficits, and we have little, if anything, to show for it.  We favor letting the people stimulate the economy.  They have the capacity to do it quite efficiently.  The government doesn’t.

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2 responses to “Greece, The Euro Zone and the U.S.: We Would Rather Have Been Wrong”

  1. Hank Stein says:

    You have the right idea,give the money to the people,not the politicians. The problem is how do we get the politicians to give it to the people and not to themseves???

  2. mark j levick says:

    You are spot on. It is interesting that logic never enters the thinking of those in charge at the White House. We now have protests against Wall Strreet bailouts and the greed of those who WORK in the financial sector. The demonstrations are being encouraged by the press, the unions and high ranking Democrat politicians. Missing from the supposed debate is the fact that the auto companies got bailed out and the big winner was the unions. Moreover the unconscionable pensions given public employee unions which are bankrupting many States while preventing new hiring is not looked upon as union greed at taxpayer expense. The flames of class war are being faned. Race riots may be an unintended consequence of Obama’s efforts to deflect attention from his failed policies at the expense of logic and those who provide the sustenance for the many who feed from the Government trough.

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