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Edward Hugh is only able to update this blog from time to time, but he does run a lively Twitter account with plenty of Spain related comment. He also maintains a collection of constantly updated Spain charts with short updates on a Storify dedicated page Spain's Economic Recovery - Glass Half Full or Glass Half Empty?

Monday, March 16, 2009

Getting Ready

Paul Krugman has a reasonably to the point Op-ed in the New York Times today. And he came, it seems, all the way to Madrid to write it. It starts off like this:

I’m concerned about Europe. Actually, I’m concerned about the whole world — there are no safe havens from the global economic storm. But the situation in Europe worries me even more than the situation in America.
and ends up like this:

For much of the past decade Spain was Europe’s Florida, its economy buoyed by a huge speculative housing boom. As in Florida, boom has now turned to bust. Now Spain needs to find new sources of income and employment to replace the lost jobs in construction. In the past, Spain would have sought improved competitiveness by devaluing its currency. But now it’s on the euro — and the only way forward seems to be a grinding process of wage cuts. This process would have been difficult in the best of times; it will be almost inconceivably painful if, as seems all too likely, the European economy as a whole is depressed and tending toward deflation for years to come.

Does all this mean that Europe was wrong to let itself become so tightly integrated? Does it mean, in particular, that the creation of the euro was a mistake? Maybe.

But Europe can still prove the skeptics wrong, if its politicians start showing more leadership. Will they?

Amen to that!

Meanwhile, Pedro Solbes has been talking about EU Bonds:

The euro zone is not yet ready for a joint bond but states in the 16-member currency area could coordinate their debt issuance more closely, a German newspaper on Wednesday reported Spain's economy minister as saying. 'I think the currency union is not yet ready for something like that,' Economy Minister Pedro Solbes, referring to the idea of a joint bond, told Germany's Handelsblatt in extracts of an interview to run in the business daily's Thursday edition.

So the argument isn't that they are not a good idea, it is that - with Spain's unemployment now at 3.5 million, and money starting to run out on the public works "stimulus programme" - we aren't yet ready for them. When will we be ready, when unemployment here hits 5 million, or six, or seven, or when we have 5 million people who have run out of INEM payments, or when things start to fall apart at eurozone level perhaps? Come on. Enough of all this passivity. Let's have some action up there. The issue is we set up a currency union without the necessary political architecture to make it work, so now we need to go to work on the architecture. Do our leaders have the mettle to finish the job, or, as Krugman fears, are they simply intent on proving all the skeptics right!

You can find some explanation of what EU Bonds are, and how they might work, in this post here.

Incidentally, he also gives this bit of background to his Spanish visit on his blog:

I’m in Yurp for a week, spending some time on other peoples’ problems (although in a way it’s all part of the same problem.) And one has to say that Europe has gotten itself into one heck of a mess, worse even than ours — because they have intractable adjustment problems on top of the general crisis.


As he says, we in Europe have some pretty intractable adjustment problems on our hands, or at least they are tractable, but we need to be bold enough. If we can't have the luxury of devaluation here in Spain, then we at least need to make sure a policy of sticking to the 2% inflation ECB price stability objective is implemented. Krugman's post also has some pretty useful argument and explanation about the current account deficit and unit labour costs, which are pretty much compatible with what I ahve been saying here, for those who have been following this blog.

12 comments:

Anonymous said...

You defend your points convincingly.

I do not think there is any need to bring in Krugman here. Possibly not as brilliant as an economist, since your not Nobel still, you are a much more pleasant blogger read. IMHO.

I stand firmly - as a full cash saver - behind the current monetary authorities but certainly hear your points and am quite concerned about not Spain. But not about deflation. About social support to the unemployed workers.

I'd be glad to discover that asset prices are in "re-pricing" mode. But are they really? There is a long way to go. I'd be glad to hear that the café con leche (cafe amb llet in Catalan, café au lait) delivers. Do we have significant repricing à la US?

But this is not my current "cup of tea". What worries more - as an outsider - is the ability of the country to share the pain in an orderly and respectful manner.

Certainly can you expect a bit of solidarity from fellow European, but I'll be rough. Most of it - talking about the pain - will have to shared within the country.

I have not heard of significant steps taken by Zapaterro in this respect. Possibly there are. You should document them.

My perception is that this will have more soothing effects than the expected European solidarity.

What will the EU solidarity used for? Buying empty homes in order to keep home and Ibex shares prices artificially high?

This money will certainly be used by the local bourgeoisie to avoid the need repricing and keep bank in place.

Does it really help those in need and despair? I doubt it. Does it prepare the long run. Definitely not.

Sorry to be harsh. But in view of the use made of the recent cash provided by the community to Hungary - sustain the Forint exchange rate - I sincerely doubt that external money is ever used in an effective manner...

When adjustments have to be made, supporting the people is more effective than supporting assets prices or currencies...

Hynek Filip said...

The case for EU bonds has been made a number of times.

I personally see no reason for such bonds, but as many have pointed out before, it is basically about northern savers (against) and southern debtors (for). Both sides have good arguments and the ultimate decision will be a political one.

As a saver, I am quite naturally against these printed papers :).
However, I am ready to let the political will prevail and see what happens.

What would bother me much more than the rather philosophical debate about the usefulness of such bonds, is an issue most practical: who will buy these papers? Assuming that the nominal amount will be in the range of EUR trillions rather than mere billions, where will the demand come from? China? Japan? Russia?

My bet is that the demand would eventually come from ECB itself, printing euros in exchange for the bonds (for precedent see Bank of England).

So at the end of the day, we would most likely speak about good old monetising of the EU debt. Would that help anything apart from inflation? Not really, I am afraid.

Hynek Filip said...

By the way, since Sir Mervyn started printing pounds, the pound lost some 15% even against the battered Czech koruna (and is still going down like a lead balloon). Not a very good example to follow, I should say.

José Luis said...

I´m against the eu bonds, much for the same reasons the first commenter has writen.
I think Krugman haven´t said a word about those bonds, has he? His receipt was a 15% competitive deflation of salaries and general prices against the EU medium term. He knows that receipt will be "painfull or very painfull", but he thinks it is the only way to recovery.

By the way, I think Krugman is really wrong when saying european economy is even worse than US one. Definetily it´s not the case.

Edward Hugh said...

Hi José Luis,

"I think Krugman haven´t said a word about those bonds, has he?"

Well technically he hasn't, but this is really what he is referring to when he talks about deficiencies in the eurozone architecture, and lack of a treasury. And then restrictions on the ECB. The policy would be (and this answers Hynek's point I think) for the ECB itself to buy the bonds. Krugman's idea for Japan was for the BoJ to target 4% inflation, and stick to it for (say) 3 years. I think this is exactly what the ECB should do, and print all the money necessary to achieve this objective, this is the kind of really practical help the EU/ECB can give to Spain (this and stumping up the 500 billion euros odd needed to sort out the mess), and it is really urgent they get started.

Failing that, several key economies are going to get in serious structural difficulties in the next 2 to 3 years, and the risks of the eurozone simply being torm apart by the force of the pressure will be very high.

"By the way, I think Krugman is really wrong when saying european economy is even worse than US one."

Well this is probably why you take the view you do about EU bonds. I think you are not taking into account how serious things are in the east at this point, and in Germany, and in Austria, and in Ireland, and in Greece, and in Sweden, and in the UK.

Basically Krugman's point (which is a widely shared view in the US - I just had an article commissioned from the magazine Foreign Policy) is that Europe is in denial. I agree. In fact Krugman and I are basically on the same page, more because we tend to think the same way about economics than due to any collusion I'm afraid, although if you look at all his links to me, I am obviously one of his sources of information about Europe.

So, of course, you are entitled to disagree, but I think you are reading this wrong. We need the fires putting out, and we need them putting out now.

Edward Hugh said...

One more thing José Luis,

"His recipe was a 15% competitive deflation of salaries and general prices against the EU medium term. He knows that receipt will be "painfull or very painfull", but he thinks it is the only way to recovery."

Basically, if we do a serious downward correction in prices with no help from the EU for the debt restructuring (which as I am saying is going to need to be large), it will be more than just painful, we will be stuck in debt deflation for years, as he also says.

The banks are already wobbling, if they start to go down, then the bailout will send Spanish government debt to GDP through the roof.

Edward Hugh said...

Hi anonymous,

"I do not think there is any need to bring in Krugman here. Possibly not as brilliant as an economist, since your not Nobel still, you are a much more pleasant blogger read."

Thanks for the compliment. I don't think Krugman is going to be here too often, since he has plenty to do in the US. But if was here, then this must mean that someone invited him. And that someone is far more likely to have been from PSOE than from the PP, given Krugman's own political affiliations. So, if you know a little about how Spain works, then you can start to draw your own conclusions.

"I have not heard of significant steps taken by Zapaterro in this respect. Possibly there are. You should document them."

Well my opinion, and it has been this way for some time, is that there is nothing more Z can really do. All the ammunition is spent, the economy isd in freefall, and if no one externally steps in to sort the mess out, all this is going to a very bad place.

People are absolutely passive. Everyone is just looking at each other, and waiting to see who is the next to get sent home. Soon it will affect government sector employees, the "funcionarios", and then the pensioners. This is just going to go on and on till the current account deficit hits zero, and we are still many, many months from that point, although whoever is running Spain will be banging on the doors of the EU Commission or the IMF long before we get to that point. The bond spreads simply won't hold the correction without external support.

Hynek Filip said...

One more comment before I finally go and consume my dinner:

We all know that most of us Europeans should start saving and limit spending.

On the other hand, if the governments print money (that is, create inflation, that is, reduce value of savings and thereby discourage saving), how will they convince the citizenry that they should start saving?

The answer is, they will not. If the general population knows that the government takes all steps possible to reduce the value of their savings, will they save? Of course not. The good citizens of Europe S.a.r.l. will waste their cash on Chinese toys, Polish food, Russian gas and Turkish clothing.

And then, at the end of the day, the Russians will have our cash and we will become paupers.

marin belge™ said...

Philip said: "On the other hand, if the governments print money (that is, create inflation, that is, reduce value of savings and thereby discourage saving), how will they convince the citizenry that they should start saving?"

Of course this situation has already been described in the past. With some convincing arguments. By courageous political staff and monetary experts. From Ludwig Erahrd, Jacques Rueff - my local French favorite - to academic experts such as Von Mises.

This crisis will have "long term credit" disappear for a significant period of time. This of course a normal retreat from the abuse of long term credit that the artificial low rates have triggered.

In as much as telecom and IT investment retreated after the "new economy" debacle, long investment has to retreat. That applies to industrial capacities in Asia as well as with useless real estate in OECDE countries.

Artificially low rates, especially low long-terms rates create malinvestments. As austrian economists points point out.

Spain is currently an absolute case of such nightmarish long-term malinvestment.

We all know the causes:
1- the Asian crisis destroyed any willingness to consume locally in Asia for a period of time, that triggered context for the famous "savings glut",

2- Greenspan and al added fire to the situation pushing rates down. That with Asian and gulf investors were already too keen to accept anything,

3- weak political and banking ethics and abysmally low level of regulation over the planet,

And locally for Spain:

4- a tendancy for some mix up pesetas -or liras - and Euros.

The whole planet will suffer a massive reduction of credit. We had too much of it and misused dramatically.

Chances are of course that we will replace private credit with monetisation of debt ...

The only issue as an individual saver - in need of real money for subsistance - is "precious metal". I find it painful to consider. But this is my only advice to friends in need, especially retired ones.

The other ones - not in need - will have to cope with inflation. Most of them certainly can. Food will remain available to all:)

Edward Hugh said...

Hello Marin Belge,

Thank you for putting all this so clearly. This is why I am not an Austrian, but:

"This crisis will have "long term credit" disappear for a significant period of time. The whole planet will suffer a massive reduction of credit. "

Do you hear that Spain? If we go this way, you had better start digging that old vegetable patch.

My advice is to start preparing the compost now, just as a hedge.

This is why I reject this whole idea. We may lose, but I personally am willing to go down fighting, as an unrepentant Keynesian to the last :)

Edward Hugh said...

Oh, and Hynek,

I hope you enjoyed your dinner :)

Hynek Filip said...

Oh yes, that dinner was just great. You know, (Czech) bread and (Irish) butter never fail to be a real treat, even in these troubled times :)