Why the West’s economic prosperity can no longer be taken for granted

As the Times of London put it, Stephen King writes scary stories, but Stephen D. King writes scarier ones. He is the chief economist of the London-based HSBC, one of the largest banking and financial services organizations in the world, and Losing Control: The Emerging Threats to Western Prosperity is his first book. And a scary book indeed, according to the reviews I’ve read so far (I’ve never been an avid reader of economics, and that’s why I don’t really know if I will read the book, though according to the Times “You don’t have to understand the carry trade or know what a Gini coefficient is to read this book, but it helps”—what terrifies me is that but it helps…).



What is it about this book that is so scary? To put it up very simply, the thesis is the following: The international financial crisis that began in 2007 is but one result of the emerging nations’ increased gravitational pull. In other words, the baton of economic progress is passing to states such as China and India. This suggests that the decades ahead will see a major redistribution of wealth and power across the globe that will force consumers in the United States and Europe to stop living beyond their means.



Or, put more simply, “Be prepared, the worst is yet to come.” Yet, Stephen D. King also offer us a few possible ways out of this unpleasant situation. The main one is the creation of three big monetary unions—an expanded euro zone along with currency unions in Asia and the Americas. But, as The Economist puts it, “Mr King fails to make a convincing case for why such a reform would ever happen or why it would lead to a more stable global monetary system.” That’s also why, according to The Economist, the book “is more a series of provocative comments than a convincing argument.”



Another way out of the bind, with regard to the UK, is that, instead of limiting immigration, Britain should dismiss border controls and protectionism and welcome immigrants, and, painful though it may be in the short term, open ourselves up to the full force of global competition.



At a symposium in Trinity College Dublin last month to promote his book, just to make it clear what the whole thing is all about, King provided some curious information and a series of thought-provoking data. Very interesting reading indeed.



He also quoted the response of the UK economics profession when the queen asked why no one had seen the bank crisis coming: “Your majesty, the failure to foresee the timing, extent and severity of the crisis and to head it off, while it had many causes, was principally a failure of the collective imagination of many bright people, both in this country and internationally, to understand the risks to the system as a whole.”



Failure of imagination: term used to describe circumstances wherein something that was possible to predict or foresee was, in fact, not predicted or foreseen. Hope you got the hint.

One can't solve a crisis of debt by increasing the debt

A postcard from France              By Mirino



In view of the last post, this interview from Le Monde seems suitable.



Thorsten Polleit is the head economist of Barclays Capital in Germany. He is very critical of the massive rescue loan of the euro zone States.



'How do you judge the rescue plan of 750 billion euros for the euro zone?



'One cannot solve the problem by additional debt. To support certain countries suffering from a debt crisis, the governments will still have to borrow. It's not a solution. The urgency for the euro zone today, is to announce a credible strategy of reduction of deficits. If the pressure of the markets have become so strong, if the investors are losing confidence, it's precisely because such a concept doesn't exist. It's time to clarify this.



'What should be done?'



'The decisions are the recourse of each government, at national level. One should decide how to reduce expenditure, to reduce the deficits as soon as possible, to engrave these objectives in marble as we did in Germany by establishing a mechanism in our constitution to reduce the debt... One must remember that from the very beginning, had the stability pact been fully respected, this situation would never have occurred.



'Thanks to this plan, wasn't the risk of contagion of the Greek crisis nevertheless countered?'



Yes, with regard to the countries threatened in the immediate future. But it's the quality of credit of notable States which will cause them to suffer from the consequences. The conditions of loan of the lending countries will undoubtedly be degraded. In fact the problem only shifts itself, and in the long term it's likely to worsen.



'Does the decision of the European Central bank (ECB) to buy national debt threaten its credibility?'



'It's clear that if the ECB acts in this way, it's because the European governments wish it. There's an instrument of monetary policy which doesn't seem to be decided in total independence. This decision is very problematic: in the long term such a program is likely to create inflation as well as a lack of confidence of investors.



'What is the situation regarding the long term stability of the euro?'



'If the States don't find the means of reducing their debt which often reaches intolerable levels, the euro is seriously threatened. The creation of the single currency has been a vast experiment of which the result is now uncertain. Especially if things continue in such a way, with certain countries condemned to pay again and again sums increasingly more important.





'Do you believe that Germany will recover the money of the loans made in Greece?'

 

No, on the contrary, I don't believe that the sums will ever be reimbursed.



(Remarks put together by Marie de Vergès)



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                                           Italiano

The Austrian School of economics: its Italian roots

Several early Italian economists influenced the development of continental European economic thought in the centuries before Carl Menger, the founder of the Austrian School of economics: Gian Francesco Lottini (1512–1572), Bernardo Davanzati (1529–1606), Geminiano Montanari (1633–1687), and Ferdinando Galiani (1728–1787). Galiani, in particular, with his contributions to value theory, interest theory, and economic policy, had a great influence on the Austrian School of economics itself. Read this article at the Ludwig von Mises Institute website to learn more. Here is an excerpt:

Galiani believed that government generally should not interfere in the natural workings of the economy. A government that attempts to stimulate all sectors of the economy, agricultural and industrial, stimulates nothing. Stimulation means that a particular sector is given preference over the other sectors, and how can one sector be given preference over another if all sectors are stimulated?

Quite interesting, indeed. It’s also interesting to note that Friedrich Nietzsche, who was an expert in matters of intellectual excellence, in his Beyond Good and Evil pointed out his “friend” Ferdinando Galiani as an example of Cynic of genius and described him as “the most profound, sharp-sighted, and perhaps also the foulest man of his century” (please note that foul, in Nietzsche’s vocabulary, is perhaps the greatest compliment…). He also wrote that Galiani “was far profounder than Voltaire and consequently also a good deal more taciturn.”



Furthermore, Galiani’s 1769 Dialogues sur le commerce des blés, written in French with vivacious wit and a light and pleasing style (you can read it here), delighted Voltaire, who in his Dictionnaire philosophique (“BLÉ ou BLED”) spoke of it as a book in the production of which Plato and Moliere might have been combined, and described it as a cross between Plato and Molière (“[Galiani] trouva le secret de faire, même en français, des dialogues aussi amusants que nos meilleurs romans, et aussi instructives que nos meilleurs livres sérieux”). What is surprising is that Galiani is still relatively little known.



[Thanks: The Commentator]

Meanwhile, gold is rising ...

Will the euro bailout work? No, the bailout has slowed the euro’s slip, but it hasn’t solved the problem. That’s what the gold market seems to think, in fact the price of gold is rising against every major currency, not just the embattled euro. This, according to Royal Bank of Scotland foreign exchange strategist Greg Gibbs, is because the market sees the true scale of the sovereign risk problem, the solution and fallout:

If the market won’t buy the government bonds, the central banks have to. There is no other choice. The alternative is just too damaging for the economy to contemplate. If the central banks don’t buy the debt, then governments are forced into a budget surplus (a surplus is required to cover interest payments on existing debt). Imagine the carnage if major economies were forced from double digit deficits to surplus, you are talking Great Depression type scenario or worse.



Even getting close to that outcome is too bad to consider, so when borrowing costs start to rise, as they did recently in the Eurozone periphery, making borrowing difficult, the contagion spreads to equities and global asset markets. This forced the Eurozone governments to promise to throw money at the problem. The US$ 1 trillion bailout package only has some credibility because it involves core countries and the IMF which still have relatively low borrowing costs. However, the package would have little bite if the ECB were not involved. The ECB’s purchase of government bonds (monetization) is critical. It is the most credible source of funds since it creates the money.



It is undoubtedly true that the actions of the ECB this week make it clearer than ever what the real threat of the sovereign debt problem globally is. All countries, not just the Eurozone, when push comes to shove, when bond yields start to rise because of sovereign default risks, will force their central banks to buy the bonds (monetize). You can talk all you like about sterilization, but when the central bank is forced into this path, you can be sure they will not be raising cash rates. They will aim for negative real rates, and until the fiscal house is put back into order, they will aim for nominal GDP growth. Whether this arises from higher inflation or real growth will be of second order importance.



Even though inflation is yet to break out, the price of gold is telling us that this threat is very real over the longer term. People rightly so do not trust fiat money anymore.

Via Chicago Blog.