If Southern Europe is to cut and tax, how will they grow?

Paul Krugman blog, 5.12.

The German embrace of austerity raises an obvious question: If Southern Europe is to cut and tax, how will they grow? The German answer, put simply, is, “like we did.” Ten years ago, the Germans are quick to note, unemployment in Germany was 10 percent and structural deficits were large. Germany was called “the sick man of Europe.” They attribute their subsequent success to a series of painful reforms they made to their unemployment insurance system, their health-care sector, and other pieces of their social safety net. Many figure that if they could do it, so too can Southern Europe. In truth, it’s probably not that easy — Southern Europe doesn’t have the industrial strength that Germany does, and no longer even controls its own currency levels — but it makes sense to the man on the street.

Actually, it’s much worse than Ezra says. Here’s the key to the German recovery:

Germany moved from small current account deficits (the current account is a broad version of the trade balance) to massive, and I mean massive, surpluses.

How Do We Know that China Is Overinvesting?

Author: Michael Pettis · December 4th, 2011 · RGE EconoMonitor

For years I have been arguing that the Achilles heel of the Chinese growth model is the unsustainable rise in debt that comes as a necessary consequence of capital misallocation fueled by bank lending. Capital misallocation, I argued, was the nearly inevitable consequence of high investment growth over many years in a system in which price signals are severely distorted and there is political incentive to maximize economic activity in the near term. If capital misallocation is funded by debt, the increase in debt is necessarily unsustainable.These should have never been considered surprising revelations since the historical precedents for investment-led growth “miracles”, of which there are many, are pretty clear. Still, it was only in the past two or three years that the problem of wasted investment was widely acknowledged, although even here not universally. A number of China bulls that fought most strongly several years ago against the idea that China was misallocating capital on a grand scale are still fighting the good fight.

I mention this because of an article that came out in last Friday’s South China Morning Post about China’s investment in the electric car industry. The electric car industry was often Exhibit A in the argument that Chinese investment was in the aggregate rational and economically sensible. This industry is clearly the industry of the future, the China bulls argued, and China’s massive investment in the technology, which would allow the country to dominate one of the key sectors of the future, showed why it was mistaken to complain about capital misallocation. This kind of investment was actually very clever stuff

More on What I Think Will Happen in Europe

Edward Harrison RGE Economonitor· December 2nd, 2011

About a month ago, as the crisis in Italy became acute, I wrote that I believed the path was clear; the euro area countries would move to tighter fiscal integration, which may or may not eventually include Eurobonds. The alternative, an implosion in Italy, would mean economic Depression. Since that time, despite the impression that some serious policy makers believed letting Italy default is a justifiable policy choice, the prevailing view amongst euro area policy makers seems to be that saving Italy from default is necessary and that the only politically justifiable way to effect this rescue is to move to fiscal integration. All of the statements by leading euro area politicians now point in this direction.What I said a month ago bears repeating here:

Does the ECB want to lose its trump card in dealing with Italy? No. That’s why they aren’t offering an explicit backstop. But if they don’t backstop Italy, Italian yields will remain elevated, Italy will default, all of the German and French banks with those bonds will be insolvent, and we will have a Depression. Italy is too big to fail.If the ECB does backstop Italy credibly and fully, then yields will fall and investors will pile in again. However, this is nothing more than a temporary patch, a medium-term liquidity solution only. Clearly, the issue for the Dutch and the Germans is that Italy would have no reason under this arrangement to make reforms or move to fiscal consolidation. They fear Italy (and Portugal and Greece) would become permanent ‘free riders’, mooching off of Germany and the Netherlands’ fiscal probity, making the euro a weak currency. The right way to deal with that fear is to choose between greater fiscal integration or breaking the eurozone up at some point in the medium-term (say 2-5 years).My conclusion: the ECB will eventually move to a lender of last resort role. The question is how much damage will be done before they do so.Europe is already in a double dip recession and the sovereign debt crisis has already moved from Greece to Portugal to Ireland to Spain and now to Italy. Belgium, with its lack of a permanent government and 100% sovereign debt to GDP is next on this list. They would be followed by France and its implicit guarantee for a poorly capitalised banking system and Austria and its implicit guarantee for a banking system highly leveraged to central and eastern European debtors. Eventually, every country will feel the impact because a fixed exchange rate system with no lender of last resort is inherently unstable unless you have fiscal integration and/or compatibility.The ECB’s backstopping Italy and Spain for fear of German and Dutch banks’ insolvency is like the Fed’s backstopping California and New York for fear of Bank of America, Wells Fargo, Citigroup and JPMorgan Chase’s insolvency. It is not a very palatable solution longer-term. Therefore, in the medium-term, the euro area will move to tighter fiscal integration. This may or may not include Eurobonds.However, not all members will come along for the ride. Angela Merkel, admitting that leaving the euro zone is politically and legally possible during her commentary addressing the Greek referendum in Cannes, has already broken the taboo. Now everyone knows that it is possible to default, leave the euro zone and re-gain competitiveness in a move to a devalued currency. Given the lack of economic harmonisation in the euro area, some euro members will be forced to leave and choose this path. I predict that when Europe moves to change its constitution to include greater fiscal integration, it will also include explicit mechanisms for countries to leave the euro area.–Why questioning Italy’s solvency leads inevitably to monetisation

Schuldenkrise: Merkel und Sarkozy wollen Defizitsünder bestrafen

Zeit.online, 5-12

Die Kanzlerin und Frankreichs Präsident wollen die Haushaltspolitik der EU-Mitglieder schärfer kontrollieren lassen. Bei Verstößen soll es harte Konsequenzen geben.

© Julien M. Hekimian/Getty Images

Kanzlerin Angela Merkel und Präsident Nicolas Sarkozy

Frankreich und Deutschland streben automatische Strafen für Staaten an, deren Defizit die Marke von drei Prozent des Bruttoinlandsproduktes überschreitet. Das kündigte der französische Präsident Nicolas Sarkozy nach einem Mittagessen mit Bundeskanzlerin Angela Merkel (CDU) in Paris an.

Zusammen mit Merkel sprach Sarkozy sich für eine Änderung des EU-Vertrags aus, um mehr Haushaltsdisziplin durchzusetzen. Wenn dies nicht mit allen 27 Staaten möglich sei, solle der Schritt zunächst mit den 17 Euro-Ländern umgesetzt werden.

Merkel betonte, dass bei den geplanten Sanktionen bis hin zum Klagerecht des Europäischen Gerichtshofes (EuGH) nicht jedes einzelne Budget eines Landes überprüft werden soll. Auch Sarkozy sagte, der EuGH könne nicht die nationalen Haushalte annullieren. Es gehe um die Umsetzung einer ernsthaften Schuldenbremse.

ESM soll bereits Ende 2012 in Kraft treten

Auch beim Europäischen Stabilitätsmechanismus (ESM), der den Rettungsfonds EFSF ablösen soll, streben Deutschland und Frankreich Änderungen an. So soll der ESM bereits Ende 2012 in Kraft treten und nicht erst 2013, wie zunächst vorgesehen. Außerdem soll ein Mehrheitsverhältnis von 85 Prozent gelten, „damit nicht einzelne Länder den gesamten Zug aufhalten können“, sagte Merkel.

Die Kanzlerin und Sarkozy wollen EU-Ratspräsident Herman Van Rompuy vor dem EU-Gipfel Ende der Woche in Brüssel ihr Konzept zur Bewältigung der Schuldenkrise vorlegen. Sarkozy sagte, sie würden Van Rompuy diesen Brief am Mittwoch schicken. Darin seien alle Einzelheiten darüber enthalten, was Deutschland und Frankreich für die Euro-Zone erreichen wollen. Diese Schuldenkrise dürfe sich auf gar keinen Fall wiederholen.

Decision time for EU, with euro’s future at stake

Date: 04-12-2011
Source: Reuters

The euro faces a decisive week as European Union leaders, urged on anxiously by the United States, seek agreement on a convincing rescue plan that has eluded them for two years.

Despite short-term market optimism about a possible deal to tackle Europe’s sovereign debt crisis and underpin the survival of the single currency, the outcome is far from certain as the EU gears up for a summit in Brussels on Thursday and Friday.

„This week, the stable future of the euro and thus the economic recovery in Europe and employment are at stake,“ EU Economic and Monetary Affairs Commissioner Olli Rehn told Reuters. „This calls for a convincing package of measures from the European Council (summit).“

Portuguese Prime Minister Pedro Passos Coelho went further.

„We have to find a response“ to the crisis, he told the daily Publico. „If we don’t, clearly that could represent the end of the European Union.“

If all goes according to plans being hatched in Berlin and Paris, the EU will have taken a step towards fiscal union by Friday night, agreeing on a treaty change to anchor coercive budget discipline for the 17-nation currency area.

The European Central Bank will have cut interest rates on Thursday to counter a looming recession and taken new measures to provide longer-term funding for Europe’s teetering banks.

And new prime ministers in Italy, Greece and Spain will have demonstrated their commitment to tough austerity measures and structural economic reforms to tackle their debt problems and restore investor confidence.

Why America Should Care About the Collapse of European Unity

Date: 05-12-2011
Source: NewsWeek
As the economic crisis rages, leading British historian Simon Schama makes an impassioned plea: America’s fate remains deeply intertwined with the continent.

In September 1946, much of Europe had been reduced to smoking rubble. Bitter hardship and gnawing hunger were the lot of millions. The curtain had come down on one monstrous theater of violence and cruelty only to have it rise on others. Unnumbered multitudes languished in displaced-persons camps, with millions more living as refugees from their ancestral lands and homes. An immense Soviet Army had brought liberation, but along with it a contagion of rape and the sinister prospect of new Stalinist tyranny lurking like a predator in the shadows, waiting to pounce on the wasted, fragile democracies.

It was against this bleak backdrop that Winston Churchill, no longer British prime minister but nonetheless assuming the mantle of the prophet, addressed the University of Zurich. In a speech not much remembered today but packed with visionary power, Churchill addressed a continent in agonized distress. “I wish to speak to you today on the tragedy of Europe,” he began, summoning from his rumbling baritone the deepest notes of grandeur. The only way forward for the shattered continent, Churchill said, was “to re-create the European family”—to make some sort of greater union of the continent’s disparate, perpetually warring parts.