Friday, 29 June 2012

Euro String Refuses To Be Pushed Forward

EU politicians at the 20th Summit over the debt crisis have come up with another deal. It seems to have exceeded expectations, which sent stock and bond prices higher, though on past experience they may well be down again by the end of the day. They have already lost about a quarter of the initial gains as I write. The deal does not resolve the real issue, but it may just about buy enough time to avoid the collapse of markets that traders were warning about earlier in the week.

What the deal does is to provide finance to prop up the Banks. Until now, where the Banks in any Eurozone country needed to be bailed out, as happened in Greece, Ireland and Portugal, it was up to the nation state to do the bailing. As happened in Greece, Ireland and Portugal, that meant that the bad debts of the private banks were transferred instead to the State, which meant that the sovereign debt of the State then rose. In all these cases, that meant that the borrowing costs of the State itself rose sharply. In turn they had to turn to the Eurozone to be bailed out, and under German and Northern European instruction, the cost of that was to implement draconian austerity measures, which then sent these economies into a death spiral of economic decline, which meant they were even less able to cover he cost of servicing their debts.

Now, the Eurozone has agreed to provide finance from its bail-out funds – the EFSF and ESMdirectly to the banks, so that it does not go against the sovereign debt of the individual state. That is what Spain had been demanding recently in relation to its Banks, but had to eventually agree to go through the normal channels. It is one reason that the Yield on the Spanish 10 Year Bond recently spiked over 7% again. It appears that at the Summit, Spain, Italy and other countries demanded the direct funding of banks or they would not agree to any other proposals. Merkel seems to have blinked, but only with one eye.

For one thing, Germany is demanding that before any bank gets a direct bail-out, it will have to undergo individual scrutiny before any finance is provided. Moreover, probably to meet with German Constitutional law, any such funding will have to be discussed on a case by case basis by the German Parliament. In other words, Germany will gain a large degree of oversight over every Eurozone Bank. That is a precondition for establishing the now agreed Banking Union, that should be set up by January of next year. None of this is good news for the UK.

When Cameron stormed out of the EU meeting some months ago, he gave up any opportunity for the UK to have a say on these Financial matters relating to the Banks. That means that the Eurozone will be able to make these decisions, and organise affairs to its own convenience, which is likely to be contrary to the interests of the UK Financial Services industry. The centre of the Eurozone's finance industry is in Frankfurt, where the ECB is based. At a time when the reputation of the UK Finance industry is under sustained attack, because of the revelations over the manipulation of LIBOR rates, over yet further mis-selling and so on, and what that says about the inability of the UK state to regulate what looks like a version of the Wild West in the City, there will be increased pressure for regulation to move to a Europe wide body, from which the UK may find itself excluded.

What the Eurozone deal does, of course, though is not a great deal better than the kind of actions that the bankers themselves are being accused of. At the end of the day, it amounts to taxpayers giving money to Bank shareholders who made a gamble and lost. In stark terms most of the Banks throughout Europe – including in the UK – are bust. They are only being kept afloat on a raft of lies, and state provided life support. That was clear in Ireland. The Banks had lent irresponsibly to home buyers, and builders during the property bubble. Once the bubble burst, it became apparent not only that the borrowers could not repay their loans, but that the paper value of the properties against which the loans had been given, and which sat as assets on the Banks' Balance Sheets, were a complete fiction. The same is true with Spain, the same is true with the UK. The only difference is that the fiction has been exposed in relation to the property bubble in places like the US, and Ireland, it has partly been exposed in respect of Spain, which is why its banks have started to go bust, but it has not yet been exposed in relation to the UK, where property prices have been equally inflated, and where the fiction is yet to be properly exposed. But, Money Week has recently set out the extent of arrears on UK mortgages, for example, something which can only get worse as a developing Credit Crunch forces mortgage rates higher, and wages get forced lower. Once that begins to turn into defaults, repossessions, and forced sales it will lead to a catastrophic feed back loop, whereby prices fall sharply, and as prices fall so the Banks will seek to repossess more quickly and more ruthlessly to protect themselves against the destruction of their Balance Sheets.
Of course, we are continually being told that any such collapse would be terrible for the rest of us. But as I pointed out - What Happens If Greece Defaults – that is not at all necessarily the case. If many of these Banks went bust, the shareholders of those Banks who made bad bets would lose all their money. That is the risk they took when they bought their shares. There is no reason that workers/tax payers should bail them out any more than that I should get bailed out for choosing the wrong numbers in the last lottery draw! The reality is that like any other business, if these Banks went bust, other banks, other business, other Capitalists would step in to buy up their assets on the cheap. Having done so the conditions would then be established for them to make a higher rate of profit on their activities. As Marx puts it,

This is one of the reasons why large enterprises frequently do not flourish until they pass into other hands, i. e., after their first proprietors have been bankrupted, and their successors, who buy them cheaply, therefore begin from the outset with a smaller outlay of capital.”

Capital Vol III Chapter 6

And as I pointed out in the above blog, that also means that workers themselves become potential buyers of these very cheap assets, using their Pension Funds etc., or using the funds already at their disposal through the existing Co-operative Banks etc. As Marx points out there is a significant difference between this fictitious Capital that rests purely on inflated asset prices, and real productive Capital. When real productive Capital is destroyed, real wealth is destroyed. Commodities remain unsold, and rot. Factories are closed down, and workers are thrown on to the dole, which means a further reduction in aggregate demand, and a further twist down in the economic spiral. But, just as the growth of fictitious Capital adds nothing to real wealth, so a destruction of fictitious Capital need not mean a destruction of real wealth either.

If fictitious capital is destroyed, and the fictitious values of assets it rests on – property prices, share prices, bond prices, various financial derivative prices – are slashed along with it, this can in fact lead to a significant increase in real wealth. If house prices are slashed, then all those workers currently frozen out of the housing market are able to buy houses. If land prices collapse, the builders can build more cheaply, and have an incentive to build rather than speculate on the land in their land bank rising in price. That means also that more people are employed in construction, but now on a more solid basis. Instead of speculating on rising share prices, there is an incentive to put money to work in real productive investment. In fact, under such conditions, share prices could fall as more new shares to finance this activity are issued, rather than money simply chasing after the same limited number of existing shares in the secondary market. The same is true with Bond Prices.

The fear has been generated because of the history of the 1929 Stock Market Crash, which is seen as causing the Great Depression. But, that is not true. In fact, Europe had been in a period of Long Wave decline from around 1914-20. It is what created the conditions for WWI. It is also what undermined the strength of European Labour Movements during the 1920's. It is what led to the continued attacks on workers wages during that period, which led to the General Strike in Britain, for example. It was the culmination of this process of Long Wave decline that resulted in the Depression of the 1930's, not the Stock Market Crash which was merely a symptom. In fact, by the later 30's, as the Long Wave reached its nadir, the introduction of new industries such as cars, consumer electronics, petro-chemicals etc. were already creating the conditions for the new Long Wave Boom, and the destruction of Capital, and other asset values – house prices collapsed during the Depression – created precisely those conditions Marx describes above, for Capital to make higher rates of profit, and provide an incentive for further investment in productive capacity.

There is no reason that we should support bailing-out the banks. Let them collapse, and then let workers buy them up cheap and run them as Co-ops. As the International Co-operative Alliance put it in their Open Letter to the G20 in March 2009,

At the same time, those same world’s citizens know that there is an alternative secure, stable and sustainable model of business owned and controlled by 800 million people worldwide. It is true to its global values and principles of self-help, sustainability, community ownership and control, democratic participation, fairness and transparency. It is a model of business that is not at the mercy of stock markets because it relies instead on member funds for its value; and is not subject to executive manipulation and greed because it is controlled by local people for local people. It is a business where the profits are not just distributed to its shareholders,but are returned to those who trade with the business, thus keeping the wealth generated by local businesses in the local community for the good of the local environment and families.

This is the co-operative sector of the global economy which employs 100 million people worldwide. It is no coincidence that the world’s most successful and stable economies generally also happen to have the world’s most co-operative economies.

It is also no coincidence, that those co-operative businesses that have stayed faithful to cooperative values and principles, are the same businesses that in recent weeks have benefited from the flight of deposits and bank accounts from the failing and collapsing investment houses and banks – an acknowledgement of the continuing trust with which they are endowed by the general public.”
What is worse about the deal struck by Eurozone politicians is that whilst it bails out the shareholders of these Banks, it does nothing to address the real problems afflicting the Eurozone. As Joe Stiglitz has pointed out in recent interviews that stems from the fact that Germany is imposing the wrong diagnosis and, therefore, the wrong solutions on Europe's economies. What the European economies – including Britain – require is not austerity, but growth. That will require not the kind of monetary stimulus that is being provided in the latest bail-out of the Banks, but a fiscal stimulus that will directly begin to put people back to work, and begin to remove the fear and uncertainty that exists.

That doesn't mean a stimulus to simply finance consumption, but a stimulus to investment, that both puts people back to work, and creates the kind of efficient, globally competitive industries, and infrastructure needed to address the current trade imbalances, that are the root of the deficits, and accumulated debt. As Joan Robinson pointed out long ago, there is a world of difference between borrowing to finance investment, and borrowing to finance consumption. But, as Stiglitz points out, of the €150 billion growth package talked about, only about €10 bn. is new money. In reality, even the €150 billion is peanuts compared to the size of the European economy, and only a fraction of the kind of programme required.

Without, a fiscal stimulus to create growth, any monetary stimulus will be, as Keynes pointed out, like pushing on a string, the more you push the more it simply bunches up without moving forward.

In reality, the €100 billion that Spain says it needs for its banks is more likely to turn out to be at least €400 billion. The support needed by Italian Banks could be at least around the same, and the knock on effects to other Banks around Europe, let alone the consequences as the UK property market collapses, and its Banks are seen to be bankrupt, will soon drain the available resources of the EFSF, and ESM, long before they are needed to provide finance for the sovereign debts of European economies. The ECB could make up some of that difference by following the example of the Federal Reserve to monetise these debts, but it would only provide a short term solution, and one that would require massive money printing that would sink the value of the Euro, and push up European Bond prices in general, as Bond investors feared inflation devaluing the Bonds.

The only real solution is for Europe to finance a programme of fiscal stimulus based on productive investment and restructuring by issuing Eurobonds backed by all Eurozone countries i.e. by the power of the German economy. Increasingly, that is the message that is being given by European politicians and business leaders to Germany too, as well as by the US. What is stopping it, is the reality of German electoral politics.

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