Easy Answers are the Wrong NarrativePosted: October 1, 2011
I was watching an interview last night with Warren Buffett by Charlie Rose on the economy. Yes, I know I’m weird. I don’t watch sports or movies. I watch documentaries and listen to interviews. I have the academic’s disease in spades. There was a lot of discussion about a lot of things but the one thing that grabbed me was the question Rose asked about what Obama should have done differently on the economy. Buffett is an Obama supporter and made a point of saying that the President had basically responded as well as he could to the economic challenges and he hated hindsight criticism. However, the one point made was that the President really hadn’t emphasized early on how difficult this economic recovery challenge would be and that the passage of the stimulus was perhaps glossed over as a panacea that it could not be for many reasons.
This narrative came back to me this morning as I plowed through The Economist with my morning coffee. Only this time, similar behavior was attributed to Angela Merkel in the cover story called The World Economy: Be Afraid.
The second failure is one of honesty. Too many rich-world politicians have failed to tell voters the scale of the problem. In Germany, where the jobless rate is lower than in 2008, people tend to think the crisis is about lazy Greeks and Italians. Mrs Merkel needs to explain clearly that it also includes Germany’s own banks—and that Germany faces a choice between a costly solution and a ruinous one. In America the Republicans are guilty of outrageous obstructionism and misleading simplification, while Mr Obama has favoured class warfare over fiscal leadership. At a time of enormous problems, the politicians seem Lilliputian. That’s the real reason to be afraid.
I laughed at the idea of Obama favoring class warfare over fiscal leadership given that paragraph followed directly after the sentence: “But the collective obsession with short-term austerity across the rich world is hurting”. Obama’s been leading the charge on austerity. I honestly don’t think any one person or an S&P national downgrade is going to deter the Republican party from leading the entire country off the cliff in pursuit of the White House. Maybe once they’ve figured that all of their candidates have so many warts they are unlikely to pass muster with the base AND independents, they’ll get back to being a minority party instead of group of hostage taking ideologues. But, I doubt it. They are all spinning overly simplistic messages that resonate with the many people looking for simple answers. The global Great Recession is not done with us yet and to pretend there are simple answers to pass around is expedient and immoral.
The Economist is talking about the timidity of leaders across the globe to really lead on programs that could tackle the severe economic problems we face. The problem is that many seem to be offering up messages that offer policies contrary to what’s really needed. The call for austerity right now, instead of when the houses are in order, keeps me busy trying to find a safe place to stash my little nest egg. There’s only so many places in Norway, Malaysia, and Korea for small investors. Even China’s manufacturing behemoth is showing signs of slowing which is undoubtedly, yet another sign of lack of customers. Yet, every developed nation is pulling in its horns further and further. There is a lack of correct–as well as bold–action.
Germany, for instance, thinks the main problem is fiscal profligacy and so is reluctant to boost Europe’s rescue fund; yet a far bigger fund is needed if a rescue is to be credible. The most urgent solutions, such as restructuring Greece’s debt or building a protective barrier around Italy, require the most political courage—something that Angela Merkel, Nicolas Sarkozy et al have yet to exhibit. The chances of a bold enough plan will shrink if markets stabilise. The less scared they are, the more likely Europe’s spineless policymakers are to jump yet again for a plan that does just enough to stave off catastrophe temporarily, but lets the underlying problem get worse.
Much of the world is now paying for their timidity: witness the increasingly dark economic backdrop. A slew of recent indicators suggests the euro area is slipping into recession, as Germany’s exports slow, the fiscal screws tighten, confidence slumps and the banks’ travails imply tighter credit. Even if the euro-zone crisis were to be solved tomorrow, the region’s GDP would probably shrink over the coming months.
America’s economy is still limping along, though the summer slump in share prices and consumer confidence suggest future spending will weaken further. The Federal Reserve is trying new ways of support, somewhat half-heartedly. Whatever it does, America is currently on course for the most stringent fiscal tightening of any big economy in 2012, as temporary tax cuts and unemployment insurance expire at the end of this year. That could change if Congress came to its senses, passed Barack Obama’s jobs plan and agreed on a medium-term deficit-reduction deal by November. If Democrats and Republicans fail to hash out a compromise on the deficit, draconian spending cuts will follow in 2013. For all the tirades against the Europeans, America’s economy risks being pushed into recession by its own fiscal policy—and by the fact that both parties are more interested in positioning themselves for the 2012 elections than in reaching the compromises needed to steer away from that hazardous course.
What about the cushion the emerging markets provide? That, too, is getting thinner. Their growth is slowing (as it needed to, since many economies were overheating). Recent falls in emerging-world currencies and stock prices show that financial panic can afflict the periphery too (see article). Some emerging economies, including China, have less room to repeat their 2008-09 stimulus because of the debts that splurge left behind. Monetary policy can be loosened: several central banks have cut rates. But, overall, the emerging world will be less of a buoy to global growth than it has been hitherto.
We actually have similar problems to the Eurozone for all the railing some do against it. After all, we are a monetary, economic, and fiscal union for all intents and purposes formed during our revolutionary years. We still have regions that are more interested in the petty concerns and presumed rights in their states than the advancement of our nation so that’s a lot like how you see the French or Germans treat Spain or Portugal. We have states that are Greece and states that are Germany. Some of the low population states could not exist without out cross state fiscal help from their more populated and economically viable neighbors. Yet, they are the first to send the most strident advocates of kill the beast to the nation’s capitol. The majority of the southern Gulf states are as unhealthy economically as their Mediterranean counterparts in Europe.
The root of the essential problem in both the EU and our country is the implosion of our banking sectors. The EU let its banks pile on sovereign debt. A lot of our sovereign debt is actually held in the social security trust fund so we’re a bit more sheltered because of that. We let our banks run amok in the mortgage markets. Actually, Ireland had a problem with excessive real estate speculation and loans too so some of the EU countries still have that residual issue. One of the inherent problems in capitalism is its susceptibility to financial crisis. They used to be called financial panics prior to the Great Depression. We put a lot of laws into place to try to prevent a recurrence of the worst that banking crises bring after the Great Depression. During the Carter years, we begin to reverse them in a fairly substantial way. We had a financial crisis in the 1980s but we continued on with the deregulation anyway.
At a similar point in time, there was a Nordic Banking crisis. They approached their crisis differently and have held their laws in place. As a result, they don’t have the problems we now see in our country and the EU. There are a few things I want to point out on this. Here’s a 2009 article from the St. Louis Fed that outlines what they did back then. I’m actually going to quote a professor who is Finnish, a good friend to a Finnish colleague of mine, and one of my favorite seminar professors who I’ve learned a lot from over the past few years. He held a post in Cambridge UK and came through here several times during summer session to provide weekend classes for us. This is a summary of a paper of his explaining the advent of the Nordic Banking Crisis. See how strikingly familiar the lead up sounds to 2007.
Honkapohja (2009) cites deregulation of the financial system in the 1980s as the root of both the economic downturn and the financial crisis. Around 1980, attractive interest rates amplified inflows of capital; in these deregulated markets, credit expanded according to market forces. Honkapohja notes that this “led to uncontrolled credit expansion” and “soaring indebtedness in the private sector” and furthermore that the rules and practices of 1969 were left unchanged when banking was deregulated and financial instruments evolved. The result was an increase in information asymmetry—the now all-too-familiar historical precursor to financial crises—amplified by international capital inflows. If international investors enter a country with complete information, and if their confidence in the country does not change, then that country’s economy may be able to function well with a relatively high level of international debt. However, if investors enter a country with imperfect information, or if the rate of growth changes, they may seek to withdraw capital. Honkapohja cites Denmark in counterpoint: The essential feature of Denmark was a much smaller level of asymmetric information: “Prudential supervision, disclosure rules, and capital adequacy requirements for Danish banks were made stricter than the other Nordic banks.”
So, let’s think about that in several contexts. First, have you ever heard a good discussion on why the Nordic Banking Crisis resolution was so successful or heard about what they did to resolve it and why their economies and their banks are in such good shape now as compared to the EU or the US? Yea, I didn’t think so. We’ve got Dodd Frank and it’s highly watered down and being attacked more and more every day. We also have Jamie Dimon talking crap about the Basel III banking regulations which are hardly the strictest capital or underwriting suggested rules possible in global banking standards. Yes, this is the same Jamie Dimon that has now said “One day you’re in and the next day you’re out and you’re out” to President Obama for trash talking investment bankers. Evidently trash talking is a more serious offense than watering down proposed financial law for friends.
Second, this is a financial crisis from financial markets. They’ve gotten the bailouts. The real sector has been subjected to an austerity regime. That’s like putting the anorexics on a diet and treating the morbidly obese to a full paid sabbatical year get away with chubster Adam Richman and the Food Nation. The bottom line is that US and most EU financial institutions took a long road trip to Vegas using implicit government guarantees, lax regulations and oversight, and now huge amounts of tax payer funding and bailouts. They are still at the heart of the current problems and are still likely to tip us into global recession. French and German banks are much more to blame than Greeks with their desire for short work weeks and early retirement. REALLY.
One more quote from that FRB article to get me back to point:
An additional element of the Nordic resolution was openness, “refraining from concealing both the extent and nature of the problem.”
Yes, I’m back to my original point, FINALLY!! We have a variety of speechfications and narratives. What we do not have is a discussion that refrains from concealing the extent and nature of our problems. We have partisan and bipartisan obfuscations. We have fist shaking about how ‘broke’ we are when our tax policies currently reflect bad priorities and subsidize bad habits by oligopolies that are now behemoths deemed too big to fail.
The banking system is a lot like an electricity and power grid. It is meant to efficiently transfer power (payments) and energy (credit) through our economy. It is not the be all and end all of the economy. Those things are in the real sector where automobiles are made and hair gets styled. Right now, it’s like a few big Standard Oil type Tycoons are making sure the grid siphons off a lot to light up casinos and amusement parks and gated communities on a hill. Then, their agents are sent down the hill to spin other tales than the real ones. This ensures the amusement parks are obscenely lit but the communities down hill can’t get school buses or roads. We hear politicians say we can’t afford things when the problem is that the people with the ability to pay want the amusement parks instead of the school buses and roads. We fund their ability to siphon off the power and the energy. We hear politicians scream about more deregulation when places like Norway have been far more successful without that. They have solvent banks AND school buses and roads.
The deal is that our leaders are relying on stories with bad narratives instead of having fireside chats that tell us that things are bad and that they are single minded in correcting them. We get the blame game. We get ideological spews. We get spin from institutions that simply want to maintain extraordinary profits and bonuses. We get little jobs programs that will produce marginal results like their predecessor the barest of sized stimulus. Be reasonable lectures to unreasonable people are just not enough. It’s not enough for the US and the Eurozone. I’m going to reassert something I quoted wayyyyy up there at the top. The Economist is right in that we have a failure of honesty.
At a time of enormous problems, the politicians seem Lilliputian. That’s the real reason to be afraid.