How Not to Solve a Problem (the Eurozone Crises)

There is widespread consensus among economists and politicians that the Eurozone needs to do more in order to help the countries that cannot repay their debts (that’s what it is, in simple words). Historians beg to disagree.

The USA socialized the debt of its member states after its Independence War against Great Britain. The result was a wave of overspending by the states. On the other hand, the fact that today the USA doesn’t even remotely think of rescuing California (a state that is virtually bankrupt) is making every state in the USA much more cautious about its own spending regime.

What has happened with Greece is a good example of how not to solve a problem: Greece already swallowed almost 600 billion dollars in aid of one form or another. That’s double its Gross Domestic Product. That’s almost 200 thousand dollars per household. Argentina’s president was absolutely right when she said that billions of people on this planet need that kind of money more than Greek citizens do. And it didn’t work: Greece still needs to borrow more money, and its economy is in a tailspin. Any further help will only encourage the Greeks to postpone solving the problem, and will encourage the other members of the Eurozone to get into the same kind of trouble.

The real problem is a different one. To be precise, one can identify three orders of problems. The most superficial ones are the direct causes of the national debt. Those actually vary wildly: Greece is overspending to a ridiculous degree, given its meager economy (what does Greek produce exactly that justifies their lavish social benefits?); Italy is quite frugal these days but unfortunately previous governments created a colossal amount of debt (the joke is that if Italy’s debt declared independent it would be the fifth economic power in the world); Spain’s debt is relatively low but its banks are in trouble because an irrational real estate bubble burst; and so on. Each direct cause is actually different, although at the end the nation’s banking systems are equally at risk.

At a deeper level the problem is the euro. In the old days these countries would have had a simple solution to their problems: devalue your currency. Devalueing your currency makes you poorer, but stimulates the economy (your exports become more competitive overnight) and lowers the deficit. The euro is controlled by a central bank that acts in the interest of the whole Eurozone and therefore does not devalue the euro just because Greece is in hot waters.

Besides, the real competitor in Europe is Germany, a member of the Eurozone: Germany has benefited from having the same currency as Italy, Spain and so on, because its companies are more competitive than companies in the other euro-countries. If you are not a member of the Eurozone, you can compete against Siemens and BMW by devaluing your currency and making your products cheaper, but nothing helps you if you use the same currency that Germany uses.

At an even deeper level, though, the euro looks like an excuse, not a real cause.

The real problem is democracy. Each of these countries could solve its problems if it stimulated economic growth. If they were booming, nobody would be worried about their debt. Devauling a currency is not the only way to make your products more competitive. There is another way, and it sounds even more rational to me: lower your costs. What has happened in the 2000s is that Germany’s labor costs have slightly gone down, while labor costs in Spain have gone up almost 20% and in Italy a shocking 40%. As of may 2012, Italy’s consumer prices were still rising faster than Germany’s. Blaming the euro only tells half of the story: the other half is that wages and other costs have increased dramatically in the very countries that are now in trouble, while they have decreased in the one country that is asked to come to the rescue.

And, since Europe is now in the middle of a colossal anti-nuclear trend, let me add that it may not be a coincidence that all the PIIGS countries are nuclear-free countries. It does not help make you competitive worldwide if your energy costs are sky-high.

So at this deeper level one sees that these are largely self-manufactured woes by nations that behaved like they could afford a lavish lifestyle. Basically, they were giving themselves a salary raise based on the assumption that they were as competitive as the Germans, while the Germans were humbly reducing their own salary in order to compete with Asia.

If that is the case, then one has to look even deeper to the causes of that irrational behavior and to the reasons why it is now so difficult to undo those privileges. That ultimate cause is democracy. These are democratically elected governments that stay in power only if they give people what they want. In fact, let’s give credit to Schroeder who passed the painful reforms in Germany and was promptly defeated by Merkel. No other reigning politician in Europe has wanted to try the same strategy: do what is good for your country in the long term but lose the election in the short term.

What i wrote about Italy in 2011 Too big to be saved? The limits of parliamentary democracy and national sovereignty is true for all of Europe: This crisis is showing the limits of parliamentary democracy and national sovereignty. The European nations that used to rule the world need to unite or become footnotes in the history of the world. The euro was an excellent idea and almost immediately rivaled the dollar as the world’s most desirable currency. Both these ideas were terrific, and the countries that looked down on them are been severely punished by history (notably Britain, whose status as a world power has become laughable given how marginalized it is in the current world system). Note, however, that neither the European Union nor the euro were created through democratic elections: both were pushed through by governments without truly asking their citizens if they wanted them. When the people were finally asked for an opinion in national referendums, even the French objected (and the solution was to change the rules so that the people would not be asked a second time).

Unfortunately, governments cannot get away with unpopular reforms at home: those have a direct impact on their reelection chances.

Democracy keeps these governments from passing the reforms that would solve the problem. Asking for “bailouts” from Germany is a way to say that democracy makes them powerless to do the right thing, so they can only ask for the second best thing: “someone richer than me please hand me the money”. If Germany eventually succumbs to this logic, it will regret it: the beneficiaries will become even more dependent on external aid while national governments will come and go, still incapable of finding a compromise between being reelected and passing reforms.

If the problem is national democracy, the solution is obvious: abolish national elections. If the whole of the Eurozone voted for one government, it would be more likely that the majority of Eurozone citizens would vote for reforms (most of the Germans as well as many in the troubled countries who understand that in the long term there is no other solution). Anything shord of political union is only a temporary patch. Without political union those troubled countries will go bankrupt, and more countries (starting with France) will get into the same kind of trouble, and the whole of Europe will be affected, even Germany (the “good guy” in this story of reckless behavior) and even Britain (the “smart ass” who is not as immune as imagined). You can bail out a debtor, but not logic.