September 30, 2012

The Mess In Europe: An Object Lesson For America.

by Hal Gershowitz

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Object Lesson: an example that warns others as to the outcomes that result from a particular action or behavior, as exemplified by the fates of those who followed that course.

 It was none other than Albert Einstein who taught that to keep repeating the same thing while expecting a different result is the definition of insanity.  More recently, economists Carmen Reinhart (University of Maryland) and Kenneth Rogoff (Harvard) demonstrated the proof of Einstein’s wisdom in their best selling tome, “This Time It’s Different,” which offers a panoramic analysis of the history of financial crises dating from England’s fourteenth-century default to the current crisis in the United States.  Analyzing information gleaned from 800 years of economic history, Reinhart and Rogoff show how prolonged excessive government deficits and debt over 90% of GDP (which the United States under President Obama has now surpassed) invariably lead to contraction or collapse.  Reinhart and Rogoff also show how each crisis has been precipitated by political leaders who believed they could escape the consequences of their own profligacy because they believed that “this time it’s different”.

Well, it isn’t different and, as Einstein might have observed, pursuing the European model of excess spending and debt and expecting different results is, frankly, insane.  So-called liberal progressives believe the purpose of government is primarily to provide services to the people, rather than to create a climate conducive to economic growth and then providing services primarily to those who cannot really serve themselves.  Entitlements are, to the so-called progressives, sacrosanct.  Their agendas demonstrate they believe we should always increase the number of people who receive some largess from the taxpayers.  Deficits are mere details. Debt is for another generation to pay (and pay they will); and the dollar can be debased with impunity because we’re America and the dollar is always good as gold.  Really?  Gold hasn’t doubled in value in the past few years because it has, somehow, achieved some new contribution to economic growth. It contributes nothing to economic growth. It has increased in value in direct proportion to the dollar’s loss of value.

We don’t have to wonder where all of this can lead.  We can watch it play out every night on our television screens and in our newspapers. Let’s take a look.  Spain is the fourth largest economy in Europe.  There is, as we complete this essay, extreme violent civic disorder in Spain. Spanish Prime Minister, Mariano Rajoy, has pushed through a budget (now that the proverbial horse had fled the burning barn) that incorporates reduced spending instead of increased taxes in an attempt to stabilize its economy, quell serious civic disorder and head off a growing independence movement in the province of Catalonia, the country’s richest region. The people in Catalonia who pay taxes (to support lavish entitlements) far in excess of what they receive in return from the government have had enough.  Spain’s deputy prime minister, Soraya Saenz de Santamaría, warned that the government would stop any attempt at a unilateral referendum, effectively challenging the Catalans to either desist or break the law and face the consequences.  This is very serious stuff.

The tension between Madrid and the Catalans in Barcelona is fierce.  Spain is battling to rein in deficits in order to placate the Eurozone bankers on whom the Spanish banks and Madrid may soon have to rely for their own bailout.

Greece is in utter turmoil and leftist French President Francois Hollande has acknowledged that his country must slash its deficit by more than 30 billion Euros after promising, during his election campaign against Nikolas Sarkozy, to go on a public sector hiring binge including 150,000 hires for unskilled labor and 60,000 new teaching posts.  But the election is over and that’s just not going to happen.  France has lost its AAA credit rating, and its absurd labor laws that penalize work (yes you read that right) have bankers questioning France’s ability to grow.  Today, it’s the PIIGS that roil the financial markets, tomorrow it may well be the FIIGS.

Greece continues to become even more unglued as it prepares for a third bailout having failed to meet the terms of its prior two bailouts. Greece’s glued-together coalition has just agreed to a controversial austerity package without which its creditors, who have already taken massive haircuts, will simply turn their backs. Greece, like Portugal, Italy, Ireland and Spain, went drunk on debt and the chickens came home to roost in late 2009, provoking an economic crisis that has decimated the country’s economy, and brought down its government, unleashed increasing social unrest and threatened the future of the Euro.  Antonis Samaras, the conservative Prime Minister has wrung agreement from his two left-wing coalition partners, both of whom were loath to impose further austerity. Now the package goes to EU bankers for approval and then to Athens’ 300-seat parliament.  Street clashes immediately erupted as soon as the tentative agreement was announced to rein in unsustainable entitlements.  Hold on to your hat.

Then there’s Italy, the world’s eighth-largest economy.  “Momma mia,” as the Italians like to say, things are not going well in Italy with debt larger than the whole economies of Ireland, Portugal, and Greece combined. As The Atlantic reported last year, “The euro zone simply might not have the political will or financial resources necessary to backstop those enormous obligations. As one analyst observed, the country is “too big to fail, too big to save.”

Up to 30,000 members of two of Italy’s biggest unions are marching through Rome as we write this essay to protest against Prime Minister Mario Monti’s cuts in public spending. Opposition to austerity policies aimed at steering the country out of its economic crisis is growing as the recession tightens its grip and unemployment continues to rise.

Europe is in the grip of a vicious cycle.  As recession spreads across the continent, as it currently is, tax revenues will plunge, exacerbating the ability to deal with the crisis.

So what’s the message here?  Need we ask? We are doing, and have done for many years, that for which Europe is now paying a very stiff price.  We will have the same fate if we keep doing the same thing (and we are…in spades), or, perhaps, Einstein was simply wrong.

Our solvency today is a function of printing growth and borrowing growth and not economic growth.  In fact, as we write today, the dismal estimated second quarter GDP growth of 1.7% has just been downgraded to 1.3% growth.  Obama is spending, with complete abandon well beyond our means, running up trillion dollar deficits year after year. Our debt is now greater than our entire economy (remember Reinhart and Rogoff) and we will have to raise our debt limit again in February another $1 trillion to $2 trillion, the bill for which we will send to our children and grand children.

The President insists we are on the right track, and the polls seem to suggest there are those naïve enough to believe him.  Don’t count us among the 76-Trombone crowd following Professor Harold Hill. This Administration should have one goal and only one goal right now. That is to embrace policies that will stimulate real economic growth and avoid anything that will retard economic growth. That’s not happening.

Manufacturing growth in the United States is petering out according to the just released Chicago Purchasing Managers Index for September, a key gauge of manufacturing activity, which came in far below expectations and showed a contracting economy for the first time since 2009. The report tells the story of ongoing weakness in the U.S. economy.  And alas, the University of Michigan’s consumer sentiment index for September also came in below expectations.

Europe IS an object lesson for the United States and it is a lesson we ignore at our own peril.  Ponder this: the US’s total debt to GDP ratio rose from 66% in 2007 to 104% today and probably will rise to 110% a year from today under current circumstances (90% being the tipping point at which many economists like Reinhart and Rogoff believe economies will contract if not collapse); the annual US budget deficit is 8%. In comparison, Spain has a debt to GDP ratio of 68.5% and an annual budget deficit of 8.5%.

Washington is giving PIIGS a run for the money. WIIGS anyone?

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7 responses to “The Mess In Europe: An Object Lesson For America.”

  1. mark levick says:

    Amazing. The economy is sinking. The Muslims hate us. China is threatening its neighbors. Obama lacks the flexibility to deal with Russia. The Euro is collapsing and Sharia law seems around the corner in a growing number of places. We give amnesty to certain illegal immigrants but not others. Wind and hot air are in. Clean coal, oil shale, natural gas — fossil fuels — are out. Our president has never run a business, drafted a piece of meaningful legislation or served in the military and has bi-passed Congress to appoint czars and picks and chooses what laws to enforce. Yet it seems he is trusted by a majority of Americans to be our leader. After all, Bush got us into this mess and Romney, the president’s re-election campaign argues, is a capitalist pig who does not understand the needs of the average American. Wonderland never looked so good.

  2. Janice Marcus says:

    Let’s not forget that through all the economic
    ups and downs the upper 5% or 10% somehow
    managed to get richer. In the meantime the
    working class, and the middle class have lost
    financial ground. I totally agree with your
    definition of insanity, which to me means,
    that we need to try something that’s REALLY
    New. That would not be trickle down economics
    Come on you brainiacs I’m depending on you.
    Romney, may be smart, but he has nothing
    new, in fact I keep listening and he just plain
    has nothing.

    • Really? He has proposed eliminating most tax preferences that favor the wealthy. He and Ryan have proposed reforming Medicare in concert with leading Democratic thinkers including Alice Rivlin and Ron Wydon to make sustainable that which is now unsustainable. He has embraced the pro-growth recommendations of the Simpson-Bowles Commission which Obama has ignored. He has proposed simplifying the tax code, also in concert with Simpson-Bowles (also ignored by Obama) and he proposes to:
      1. Maintain current tax rates on personal income
      2. Maintain current tax rates on interest, dividends, and capital gains
      3. Eliminate taxes for taxpayers with AGI below $200,000 on interest, dividends, and capital gains
      4. Eliminate the death tax
      5. Pursue a conservative overhaul of the tax system over the long term that includes lower,
      flatter rates on a broader base
      6. Reduce corporate income tax rate to 25 percent
      7. Pursue transition from “worldwide” to “territorial” system for corporate taxation
      8. Repeal Obamacare
      9. Repeal Dodd-Frank and replace with streamlined, modern regulatory framework
      10. Amend Sarbanes-Oxley to relieve mid-size companies from onerous requirements
      11. Ensure that environmental laws properly account for cost in regulatory process
      12 Provide multi-year lead times before companies must come into compliance with
      onerous new environmental regulations
      13. Initiate review and elimination of all Obama-era regulations that unduly burden the economy
      14. Impose a regulatory cap of zero dollars on all federal agencies
      15. Require congressional approval of all new “major” regulations
      16. Reform legal liability system to prevent spurious litigation
      17. Implement agreements with Colombia, Panama, and South Korea
      18. Reinstate the president’s Trade Promotion Authority
      19. Complete negotiations for the Trans-Pacific Partnership
      20. Pursue new trade agreements with nations committed to free enterprise and open markets
      21. Create the Reagan Economic Zone
      22. Increase CBP resources to prevent the illegal entry of goods into our market
      23. Increase USTR resources to pursue and support litigation against unfair trade practices
      24. Use unilateral and multilateral punitive measures to deter unfair Chinese practices
      25. Designate China a currency manipulator and impose countervailing duties
      26. Discontinue U.S. government procurement from China until China commits to GPA
      27. Establish fixed timetables for all resource development approvals
      28. Create one-stop shop to streamline permitting process for approval of common activities
      29. Implement fast-track procedures for companies with established safety records to conduct
      pre-approved activities in pre-approved areas
      30. Amend Clean Air Act to exclude carbon dioxide from its purview
      31. Expand NRC capabilities for approval of additional nuclear reactor designs
      32. Streamline NRC processes to ensure that licensing decisions for reactors on or adjacent to
      approved sites, using approved designs, are complete within two years
      33. Conduct comprehensive survey of America’s energy reserves
      34. Open America’s energy reserves for development
      35. Expand opportunities for U.S. resource developers to forge partnerships with neighboring countries 36 Support construction of pipelines to bring Canadian oil to the United States
      37. Prevent overregulation of shale gas development and extraction
      38 Concentrate alternative energy funding on basic research
      39. Utilize long-term, apolitical funding mechanisms like ARPA-E for basic research
      40. Appoint to the NLRB experienced individuals with respect for the rule of law
      41. Amend NLRA to explicitly protect the right of business owners to allocate their capital as they see fit 42. Amend NLRA to guarantee the secret ballot in every union certification election
      43. Amend NLRA to guarantee that all pre-election campaigns last at least one month
      44. Support states in pursuing Right-to-Work laws
      45. Prohibit the use for political purposes of funds automatically deducted from worker paychecks
      46. Reverse executive orders issued by President Obama that tilt the playing field toward organized labor 47. Eliminate redundancy in federal retraining programs by consolidating programs and funding streams,
      centering as much activity as possible in a single agency
      48. Give states authority to manage retraining programs by block granting federal funds
      49. Facilitate the creation of Personal Reemployment Accounts
      50. Encourage greater private sector involvement in retraining programs
      51. Raise visa caps for highly skilled workers
      52. Grant permanent residency to eligible graduates with advanced degrees in math, science,
      and engineering
      53. Immediately cut non-security discretionary spending by 5 percent
      54. Reform and restructure Medicaid as block grant to states
      55. Align wages and benefits of government workers with market rates
      56. Reduce federal workforce by 10 percent via attrition
      57. Cap federal spending at 20 percent of GDP
      58. Undertake fundamental restructuring of government programs and services 59. Pursue a Balanced Budget Amendment

      We recognize that economic growth has not been high on President’s Obama’s agenda, and that not everyone will agree with all of Romney’s proposals, but we think it is unreasonable to suggest he has proposed nothing new.

  3. John Fairfield says:

    The Gershowitz recitation of 59 points is more coherent than most of what I have heard from the Romney Campaign thus far. But trying to campaign on a lengthy laundry list is more difficult than a golfer trying to retain 59 thoughts throughout a swing. What is needed is to organize his proposals in three or four major themes such as restoring global competitive advantage for American workers and businesses, making government serve citizens rather than the alternative and returning the U.S. to a position of respect and power on the world stage.

  4. Andy Lask says:

    I hope Janice won’t mind when Obama follows the French and raises taxes to 75% of income, but hopefully she and the rest of us will be able to partake in some of the entitlements that we will all likely need as our economy falls into the same plight as our friends in Europe.

  5. Susan Reiter says:

    A recovery is going to be painful for all. I found the article lacking in detail. Which policies have stood directly in the way of a faster recovery?

    Without revenue, paying down the debt without further borrowing will be difficult. Cutting spending means, in many cases, cutting jobs, which will not improve revenues and become a further burden on spending.

    Details on the lavish entitlements would be meaningful, but seldom do we see data on what people are receiving. These articles simply allow you to fill in the blanks and depending on which side of the aisle you fall, fill it in according to your ‘beliefs’.

    I’d like to see an article, clearly written with real solutions instead of trotting out the same old worthless drivel.

    • Sorry, but we strongly disagree. Recovery isn’t going to be painful for all. Real recovery means more jobs, more investment and more disposable income for all. As former CBO Director Douglas Holtz-Eakin explained, “the president subordinated job creation to other goals, (and) when economic growth is so important, you have to be ruthless in focusing on it. You have to err on the side of growth, and they (the Administration) haven’t done that.” When government spending crowds out private sector growth, tax revenues diminish and government debt increases along with the misery index.

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