Category: Equitablog

Must-Read: David Glasner: Milton Friedman’s Cluelessness about the Insane Bank of France: “Friedman was not alone in his cluelessness…

…F. A. Hayek, with whom, apart from their common belief in the price-specie-flow fallacy, Friedman shared almost no opinions about monetary theory and policy, infamously defended the Bank of France in 1932:

France did not prevent her monetary circulation from increasing by the very same amount as that of the gold inflow – and this alone is necessary for the gold standard to function.

Thus, like Friedman, Hayek completely ignored the effect that the monumental accumulation of gold by the Bank of France had on the international value of gold. That Friedman accused the Bank of France of violating the ‘gold-standard rules’ while Hayek denied the accusation simply shows, notwithstanding the citations by the Swedish Central Bank of the work that both did on the Great Depression when awarding them their Nobel Memorial Prizes, how far away they both were from an understanding of what was actually going on during that catastrophic period.

Must-Read: Mara P. Squicciarini and Nico Voigtländer: Human Capital and Industrialization: Evidence from the Age of Enlightenment: “While human capital is a strong predictor of economic development today…

…its importance for the Industrial Revolution has typically been assessed as minor. To resolve this puzzling contrast, we differentiate average human capital (literacy) from upper-tail knowledge. As a proxy for the historical presence of knowledge elites, we use city-level subscriptions to the famous Encyclopédie in mid-18th century France. We show that subscriber density is a strong predictor of city growth after the onset of French industrialization. Alternative measures of development such as soldier height, disposable income, and industrial activity confirm this pattern. Initial literacy levels, on the other hand, are associated with development in the cross-section, but they do not predict growth. Finally, by joining data on British patents with a large French firm survey from the 1840s, we shed light on the mechanism: upper-tail knowledge raised productivity in innovative industrial technology.

Over at Project Syndicate: Depression’s Advocates: Back in the darker days of late 2008 and 2009, I had one line in my talks that sometimes got applause, usually got a laugh, and always made people more optimistic. Because the North Atlantic had lived through the 1930s, I would say, this time we will not make the same mistakes policymakers made in the 1930s. This time we will make our own, different–and hopefully lesser–mistakes.

I was wrong. The eurozone is making the mistakes of the 1930s once again. And it is on the point of making them in a more brutal, more exaggerated, and more persistent form than they were made back in the 1930s.

But I did not see that coming. And so, when the Greek debt crisis emerged in 2010, it seemed to me that because the lessons of history were so obvious, the path to the Greek crisis’s resolution would be straightforward. The syllogistic logic seemed to me clear:

1. If Greece were not not part of the eurozone, the obvious and effective path out of the crisis would be for it to default and restructure its debt, and to depreciate its currency.
2. Brussels and Frankfurt really did not want to see Greece exit the eurozone–that would have been a major setback for “Europe” as a political project.
3. Therefore Brussels and Frankfurt would offer Greece enough aid, support, additional money, debt write downs, and debt reschedulings to make Greece better off by staying in the eurozone than it would have been if it had exited, depreciated, defaulted, and restructured back in 2010.

But that did not happen. Greece right now appears to me to be vastly worse off than if it had abandoned the euro and its euro parity in 2010. Just look at the relative degree of recovery–essentially complete, and none–in Iceland and Greece, respectively.

You can argue–and Eichengreen did argue, back in 2007–that the technical issues massively raise the costs of exiting the eurozone. Thus any sane system of international economic governance would avoid such an exit. And all that is true. But the costs of non-exit up until now have been, by the Icelandic yardstick, 75% of a year’s GDP. They are rapidly growing. I do not find claims that the economic chaos provoked by rapid exit back in 2010 would have been even a quarter as large to be credible. And, looking forward, I can not see short-run costs of exit now even approaching the long-run costs of remaining in the eurozone given the required austerity now on offer from Brussels and Frankfurt.

One major reason for the enormous failure of Brussels and Frankfurt to handle the Greek crisis has been their attachment to the wrong model of how the economy works. Thus they have constantly and severely underestimated the gravity of the situation. And they have constantly recommended policies that have made matters much worse.

Back in May 2010 Brussels and Frankfurt anticipated that their proposed first program would be associated with a further 3% fall in Greek GDP below 2010 levels that were then 4% less than 2009. The first program was duly implemented–mostly. But by March 2012 it was clear that 2012 would not see the forecast beginnings of recovery, but instead a Greek GDP that was expected to be 12% below the 2010 level. The second program was duly implemented–mostly. Yet 2012 Greek GDP was not 12% but 17% below the 2010 level.

Now Greek GDP is 25% below its 2009 level. And even though the program documents Brussels and Frankfurt will produce may well show Greek recovery in 2016, I cannot see how any analysis of demand flows can justify that forecast.

The key reason for the failure of forecasts is, of course, Brussels’s and Frankfurt’s–and Washington’s, both at the IMF and in the Obama administration–underestimate of the simple Keynesian multiplyer at the zero lower bound on interest rates. Yet the failure of ever-greater austerity to summon the Confidence Fairy either for Greece or the eurozone as a whole has not provoked any rethinking of what proper technocratic policy would be in Brussels or Frankfurt. Instead, the piece of flotsam currently being clung to is a version of Lenin’s “the worse, the better”: the deeper is the crisis, the more successful will be the push for structural reform; structural reform will boost long-term growth; and if long-term growth does not rapidly emerge it is only a sign that the need for structural reform was even greater than had been thought.

And now we have the most informed commenters at their wits’ end. The very sharp Charles Wyplosz calls for Greek to prepare to exit, default, restructure, and depreciate–but then undermines that by saying that as long as “Grexit [is] a plausible solution” then its existence as “a credible threat point may deliver a better outcome”, and so “the purpose of the exercise… [is] not to do it”. But that trick never works: one cannot credible commit to continuing a policy adopted only because its abandonment was expected. The very sharp Barry Eichengreen cries how “Greece deserves better… Europe deserves better… Franco-German solidarity is worth nothing if [this is] the best it can produce… the German public deserve better… a leader who stands firm in the face of extremism, rather than encouraging it” in the form of “[a] new program is perverse… [and] provides no basis for recovery or growth…” The very sharp Bill Emmett calls for Europe to accede to Schauble’s demands for Greek exit but only if Germany abandons its demands for continent-wide austerity and accepts large-scale fiscal reflation.

And this story is too, too familiar. This is the story of the 1930s. And so Matthew Yglesias tells us to reread Sheri Berman’s The Primacy of Politics about the unraveling of European social democracy in the 1930s, as Germany’s “SPD took the view… that capitalism was an inherently flawed system… but short of a revolution… there was just nothing to be done…” and Britain’s “Labour Party… enact[ed] spending cuts necessary to keep the country on the gold standard… [eventually] forming a[n austerity] coalition with Conservatives”.

Today, like the 1930s, Europe’s social democrats “don’t have a strategy for changing the rules and they don’t have the guts to tear up the rulebook.” That leaves policies trapped in ordoliberal austerity. And I see nothing to think that such policies will succeed. And if social democrats do not propose and argue for economic and other policies that work, the space for alternatives to austerity will fall to others–and their economic and other policies seem to me even less likely to work for social democracy.

So why have we not learned from our history? I still rub my eyes in amazement: I would have thought that the Great Depression was a salient enough event in European history that we would not be making the same mistakes, exactly, again–and right now it looks like in what will turn out to be a more extreme way.

Must- and Should-Reads:

• Heather Digby Parton: The Quiet Social Security Revolution: How Democrats Learned to Stop Loving Benefit Cuts
• Must-Read: Rachel Laudan: Charmingly Unromantic: Measuring Progress in Food
• Must-Read: William Easterly: Empirics of Strategic Interdependence: The Case of the Racial Tipping Point
• Must-Read: Philippe Legrain: The Eurozone’s German Problem
• Must-Read: Joschka Fischer: The Return of the Ugly German
• Must-Read: Peter Gosselin: Obama Is in a Bind on Drugs That Could Cost Consumers Billions of Dollars

Must-Read: Peter Gosselin: Obama Is in a Bind on Drugs That Could Cost Consumers Billions of Dollars: “The Obama administration is caught in a trap as it tries to bring home a trade deal with its Pacific Rim partners…

…Some of the chief beneficiaries may be big drug companies like Novartis AG, Roche Holding AG, and Pfizer Inc. while the losers could be consumers in both the U.S. and the region.
The administration says it’s bound by congressionally imposed instructions to try to get as much current U.S. law as possible into trade accords–including stringent protections for patented drugs that it’s repeatedly tried to ease at home to encourage more cost-saving generics.

The disconnect has put U.S. negotiators in the position of pushing provisions in the 12-nation Trans-Pacific Partnership that would preclude the administration from making further attempts to win the legal changes. It also has negotiators pressing the region’s developing countries to sign onto a schedule for adopting the stronger rules, reversing previous exemptions to allow them easier access to cheap medicines.

Even though U.S. Trade Representative Michael Froman says the talks are ‘in a closing mode,’ American proposals for tough intellectual-property protections for drugs are meeting resistance from Australia, New Zealand, Canada and other Pacific Rim nations. Chile’s foreign minister, for one, has said flatly that his country won’t accept some key provisions.”

Must-Read: Joschka Fischer: The Return of the Ugly German: “On July 12-13, something fundamental to the European Union cracked…

…Since then, Europeans have been living in a different kind of EU…. The path that Germany will pursue in the twenty-first century–toward a ‘European Germany’ or a ‘German Europe’–has been the fundamental, historical question at the heart of German foreign policy for two centuries. And… during that long night in Brussels… German Europe prevail[ed] over European Germany. This was a fateful decision for both Germany and Europe. One wonders whether Chancellor Angela Merkel and Finance Minister Wolfgang Schäuble knew what they were doing….

Germany has been the big winner of European unification, both economically and politically. Just compare Germany’s history in the first and second halves of the twentieth century…. The foundation of the second, unified German nation-state in 1989 was based on Germany’s irrevocable Western orientation and Europeanization. And the Europeanization of Germany’s politics filled–and still fills–the civilization gap embodied in German statehood. To allow this pillar to erode–or, worse, to tear it down–is a folly of the highest order. That is why, in the EU that emerged on the morning of July 13, Germany and Europe both stand to lose.

Must-Read: Philippe Legrain: The Eurozone’s German Problem: “Germany’s beggar-thy-neighbor policies and the broader crisis response that the country has led have proved disastrous…

…Seven years after the start of the crisis, the eurozone economy is faring worse than Europe did during the Great Depression…. As long as German Chancellor Angela Merkel’s administration continues to abuse its dominant position as creditor-in-chief to advance its narrow interests, the eurozone cannot thrive–and may not survive. Germany’s immense current-account surplus–the excess savings generated by suppressing wages to subsidize exports–has been both a cause of the eurozone crisis and an obstacle to resolving it… fueled German banks’ bad lending to southern Europe and Ireland… is [now] exporting deflation….

Germany breaks rules with impunity, changes them to suit its needs, or even invents them at will…. Loans by eurozone governments to Ireland, Portugal, and Spain primarily bailed out insolvent local banks–and thus their German creditors…. In exchange for these loans, Merkel obtained much greater control over all eurozone governments’ budgets through a demand-sapping, democracy-constraining fiscal straitjacket…. Merkelism is causing economic stagnation, political polarization, and nasty nationalism…. The eurozone’s members are trapped in a miserable marriage, dominated by Germany. But fear is not enough to hold a relationship together forever. Unless Merkel comes to her senses, she will eventually destroy it.