European Politics

Michael Lewis’s recent article brings up again the question of why Germans bought so much toxic financial waste in the run-up to the financial crisis. It seems clear that his ‘because they’re all obsessed with shit’ theory isn’t any better an explanation than his Provo gangsters and fairy rings take on Irish economic disaster. But that still leaves an open question.Peter Frase takes one go at it here, first using Lewis’ earlier work to ding the ‘idiots’ theory of why the meltdown happened:

One popular interpretation of the crisis, and of Lewis’s book, is that the explosion of sub-prime lending and securitization was the result of mass stupidity, and that huge numbers of people simply failed to understand or account for the incredible financial risks they were taking. This is basically the approach Ezra Klein takes when he quotes Larry Summers’ famous remark that “there are idiots” and concludes that the crisis was a consequence of human weakness and error in the context of a system with few regulatory restraints. … Yet idiocy does not stand up as a the central causal factor behind the crisis. For one thing, it seems odd that there would be such a concentration of idiocy in the most lucrative field of the American economy, one which has been leeching the brightest minds out of the rest of the society for decades. Moreover, it is necessary to explain not only the preponderance of idiots, but the tendency for their idiocy to work systematically in the same direction. … In academic finance, the technical term for idiots is “noise traders”, and they are thought to provide erratic and irrational actions that may destabilize markets but do not systematically move them in one particular direction. …

Though the financial crisis produced a great deal of institutional calamity … the individual people responsible for the worst decisions of the last decade managed to greatly enrich themselves even as they nearly annihilated the global economy. … it’s undeniable that some of them, particularly toward the end, were getting high on their own supply, taking the the bogus triple-A ratings on toxic subprime garbage at face value even though they had an inside understanding of the con game they represented. …ultimately, these people–who in a just world would be penniless and serving extended prison terms–walked away with millions of dollars. There are plenty of apt descriptions for people like that, but “idiots” isn’t the one I would choose.

and then pointing out that even if everyone wasn’t an idiot, there did appear to be a heavy concentration of them in the investment arms of German banks.

German institutional investors, or as they are called at one point, simply “Dusseldorf”. Lewis never really tries to explain their outsized appetite for murky subprime instruments. … In the language of the “varieties of capitalism” school of comparative political economy, Germany is what is known as a “coordinated market economy” or CME, whereas the U.S. is a “liberal market economy” or LME. The structure of the market in a CME is fundamentally different in that it relies heavily on coordination between firms, based on tight long-term inter-linkages and above all, trust. This contrasts with the more ruthlessly competitive ethic of the LME, in which formal contracts take the place of reciprocal trust relations. So German bankers and investors were a) relative novices at modern securities wizardry; b) steeped in a capitalist culture quite different from the dog-eat-dog rapacity of the American version.

The stylized story that is doing the rounds among comparative political economy of Europe people is a little different than this. It points to how the EU forced Germany to get rid of rules that favored its regional and local banks, obliging these banks to seek new investment opportunities outside the local and Land businesses that had previously provided their bread and butter. And when they went international, they found many people who were willing to sell them unimpeachable investment opportunities, and little internal or external capacity to figure out when someone was trying to sell them a pup …

Here, the suggested problem is an organizational one as much as (or more than) a cultural one – banks which are geared to a certain kind of business, and which suddenly find themselves being pushed out of that market, are likely not to have built up the expertise that will allow them to prosper in new ones. What this explains (and the cultural explanation does not) is why it is that Deutsche Bank (which was far bigger) appears to have done conspicuously well out of the crisis, while its smaller compatriots have done very badly indeed. Of course, this isn’t to say that this theory is right : political scientists often have a poorish enough understanding of what is happening in markets – but if there are better ones, or contradictory evidence for this one, I’d be interested to hear it.

Portugal’s debt has just been downgraded to junk bond status. Ireland’s efforts to boost investor confidence are under threat; Italy is starting to look wobbly.

European politicians are openly expressing their anger at the three main ratings agencies’ oligopoly, accusing them of attempting to exercise improper influence over policy-making – the timing of their downgrades is ‘not a coincidence’, and they are ‘playing politics, not economics’.

Evidence from Ireland bears this out – there seems to be no consistency in the way the ratings agencies evaluate the decisions of governments in the Eurozone periphery. Governments are put under pressure to engage in ‘orthodox’ fiscal retrenchment, in line with the EU’s excessive deficit procedures, and as required of Greece, Ireland and Portugal in line with their IMF-EU loan programmes. But as soon as they take relevant action, they find their ratings downgraded on the ‘heterodox’ grounds that taking money out of the economy will damage growth potential. Two bodies of economic theory seem to be at work here: ‘expansionary fiscal contraction’ when the aim is to enforce cuts, Keynesian counter-cyclical policy when the objective is to punish excessive contraction. Damned if you do and damned if you don’t.

Take a look at this graph, from the IMF’s May report on Ireland.

Each of the vertical red lines I’ve added represents an ‘orthodox’ fiscal adjustment on the part of the Irish government between February 2009 and December 2010. The balance was about 65% spending cuts and 35% tax increases, entirely consistent with conventional thinking. The profile looks like this:

The overall adjustment between 2008 and2014 is €29.6bn. This would be equivalent to about 19% GDP and 22% GNP in 2010. Yet Ireland’s ratings have been consistently cut.

Very odd.

I’m in Madrid at the moment for the annual meeting of SASE, the “Society for the Advancement of Socio-Economics ” (the main organization for economic sociologists). One of the panels tomorrow is an author-meets-critics session on Gary Herrigel’s recent book, Manufacturing Possibilities. While I won’t be on the panel, I have written a review of the book, which Gary has in turn responded to – both are below the fold. The review and response are also available in PDF form if you prefer to read it that way.

[click to continue…]

This recent lecture by Fritz Scharpf provides the most compelling analysis of the political fallout of the eurozone mess that I have yet seen. Readers who aren’t familiar with political science debates on democratic legitimacy may find the opening pages hard going. But they should persevere. The synthetic analysis of the initial politics of the euro, and of the roots of the German monetary regime are excellent (although for my money he puts too much of the blame on the ECB, and too little on the governments of countries like Ireland, which were, as Niamh has noted less models of fiscal rectitude than temporarily lucky), and provide a lot of detail that is poorly understood among US commentators. But his conclusions are even more interesting and depressing. I quote at length, because blog readers are disinclined to read PDFs, and because this piece deserves wide circulation.

The opposite is true under the “rescue-cum-retrenchment” program that is presently being enacted. Here, all cruelties must be proposed, defended, adopted and implemented over an extended period by the national government. In fact, the program amounts to a greatly radicalized version of the supply-side reforms adopted in Germany during its (much milder) recession before 2005 – which destroyed the political support of the Schröder’s Red-Green government. But whereas Schröder had the chance of developing and defending self-chosen reforms, governments in Greece, Ireland and Portugal must implement policies which are likely to be seen as dictates of Commission bureaucrats and of self-interested foreign governments trying to protect their own banks, investors and export industries.

If these are extremely difficult political conditions, they will be exacerbated by the distributional implications. … As was true in Germany, the inevitable result will be a rise of social inequality and social protest. …. EMU member states cannot expect any help from the European level in managing the macroeconomic imbalances that are induced by European monetary impulses that do not fit the specific conditions of the national economy. Instead, they are expected to deal with potential imbalances through the use of their remaining policy instruments − but in doing so, they will be constrained by the rules of the Excessive Deficit Procedure and they will be controlled by the Commission’s discretionary interventions under the Excessive Imbalance Procedure.

… member states in the reformed Monetary Union will indeed find themselves in the worst of three worlds. Like the provinces or cantons in a federal state, they lose control over the instruments of macroeconomic management, and they are likely to suffer from uniform national policies that do not fit their regional economy. At the same time, however, the EU budget is miniscule in comparison to the budget of federal states, there are no European taxes and there is no European social policy to alleviate interregional imbalances. Instead, member states are expected to cope with all economic problems by relying entirely on their own policy resources. In contrast to members of the earlier EMS, however, EMU member states cannot use these policies autonomously, but are subject to the intrusive supervision and potential punishment imposed by supranational authorities – which are not themselves democratically accountable and have no reason to be politically responsive to the citizens affected by their policies. In fact, no democratically accountable national government in a federal state has ever claimed such control over the fiscal, economic and social policy choices of its constituent provinces, states, Länder or cantons.

From the perspective of citizens in Greece, Ireland and Portugal, the European and international agencies imposing the “rescue-cum-retrenchment” program are not, themselves, supported by democratic legitimacy. … political resignation, alienation and cynicism, combined with growing hostility against “Frankfurt” and “Brussels”, and a growing perception of zero-sum conflict between the donors and the recipients of the “rescue-cum-retrenchment” programs, may create the conditions for anti-European political mobilization from the extremes of the political spectrum. In the worst case, therefore, the attempts to save the Euro through the policies presently enacted may either fail on their own terms, or they may not only undermine democracy in EU member states but endanger European integration itself.

Will Hutton had a piece in the Observer a week ago about immigration policy in the course of which he made the following remark:

the European left has to find a more certain voice. It must argue passionately for a good capitalism that will drive growth, employment and living standards by a redoubled commitment to innovation and investment.

I’m not sure who this “European left” is, but, given the piece is by Hutton, I’m thinking party apparatchiks in soi-disant social democratic and “socialist” parties, often educated at ENA or having read PPE at Oxford. I’m not sure how many battalions that “left” has, or even whether we ought to call it left at all. Anyway, what struck me on reading Hutton’s remarks was that calls for the “left” to do anything of the kind are likely to founder on the fact that the only thing that unites the various lefts is hostility to a neoliberal right, and that many of us don’t want the kind of “good capitalism” that he’s offering. Moreover in policy terms, in power, the current constituted by Hutton’s “European left” don’t act all that differently from the neoliberal right anyway. In short, calls like Hutton’s are hopeless because the differences of policy and principle at the heart of the so-called left are now so deep that an alliance is all but unsustainable. That might look like a bad thing, but I’m not so sure. Assuming that what we care about is to change the way the world is, the elite, quasi-neoliberal “left” has a spectacular record of failure since the mid 1970s. This goes for the US as well, where Democratic adminstrations (featuring people such as Larry Summers in key roles) have done little or nothing for ordinary people. Given the failures of that current, there is less reason than ever for the rest of us to line up loyally behind them for fear of getting something worse. Some speculative musings, below the fold:
[click to continue…]

In case you were wondering who the go-to sources on l’affaire Strauss-Kahn are, at least according to Twitter:

The consequences of getting retweeted all over the place mostly involve being introduced to the range and sophistication of twitter spam and followbots.

Matt Yglesias

I’m not intimately familiar with the details of Greek public finance, but it does occur to me that sage words I keep reading in the American press about how Europe’s leaders can’t just keep kicking the can down the road and need to deal with Greece’s basic insolvency strike me as unwarranted. In general, the capacity of large wealthy societies to allow festering problems to go un-addressed seems perennially underrated. … as I can remember people have been talking about how the United States needs to address entitlement spending and trade imbalances … Presumably at some point something will happen. But in practice we’ve managed a great deal of can-kicking, seem to have more can-kicking in us, and actually the public and the political elite alike are quite averse to the kind of steps that would address these issues. Is Greece so different?

On the economics of can-kicking, I think this is right. On the politics of can-kicking, not so much. The difference between the US and the European Union is that the US is a relatively robust political entity. Americans may vigorously dislike this or that aspect of their government, but their political arguments are mostly about what the US should do, or be, not whether the US should exist at all (even die-hard we-were-screwed-in-the-Northern-War-of-Aggression-ers mostly seem to think of themselves as patriots; Alaska and the commonwealth of Puerto Rico are the only parts of the US I can think of with significant secessionist movements). Europe is quite different. The EU’s legitimacy is relatively fragile. Very few people indeed think of themselves as more European than French or German. Even fewer feel that they have any strong allegiance e.g. to the European Council or the European Commission.

So my worry is straightforward. Greece is not so big a problem that it cannot be kicked down the road by the Europeans indefinitely. So too, Ireland and Portugal, and perhaps even (with more straining) Spain. But the specific manner in which the can is being kicked down the road has consequences for European legitimacy. Greeks, Portuguese and Irish people don’t like being at the sharp end of imposed austerity. They have obvious villains to blame for it – the EU (in particular the ECB and the Commission) and the ‘Germans.’ But Germans, Dutch people etc don’t have much reason to like the EU these days either. For them, it is associated with a giant sucking noise pulling frugal German taxpayers’ savings into the gaping maw of Greek pensioners. Neither those on the receiving or those on the giving end of current policies is very happy. And both have good reason to associate their unhappiness with the EU. And the EU does not have much legitimacy to spare in any event.

I don’t think that this will lead to the collapse of the European Union. I do think that it is likely to result in very long-lasting institutional stagnation, if it continues. Ad hoc decisions, none of which seem unjustifiable at the time, may have long term fallout for European integration (for one: can we see Irish people voting through any new Treaty changes any time soon?). And kicking the can down the road at best does nothing to solve these problems (which I do not think are likely to go away of their own accord), while doing a lot to exacerbate them. NB though that this is my personal view – I suspect that at least one CTer disagrees, and is more optimistic.

Following on from Henry and John’s piece on ‘hard Keynesianism’, here is another angle on the politics of the EU. Economic historian Kevin O’Rourke has an excellent paper setting out a very nice framework for thinking about the Eurozone. It was presented at a conference of the Institute for New Economic Thinking held recently in Bretton Woods (yes, surely a good venue for such an event). There is also a short summary here.

Kevin’s creative insight is to combine the impossibility theorems from two bodies of literature – Mundell-Fleming on monetary policy, and Dani Rodrik on global governance – and to show that the Eurozone occupies an uneasy half-way house in both economic and political governance. The particular merit of setting out the issues like this is that it demonstrates why there are no optimal policy solutions, only difficult trade-offs, with different potential losers in each case. It is an innovative and stimulating exercise in political economy that deserves to gain a wide readership.

Mundell and Fleming’s economic trilemma posits that you can only achieve two of three objectives in monetary policy: that is, open capital markets, domestic control over monetary policy, and fixed as opposed to floating exchange rates. ‘European Monetary Union has thus solved the economic trilemma in a particularly radical way: capital mobility combined with the complete abandonment of national monetary sovereignty’.

The political trilemma, drawing on Dani Rodrik’s work, says that if you go for increasing globalization, you cannot simultaneously have both nation-state politics and democratic accountability. If you want the latter two (as in the ‘Golden Age’ of postwar capitalism), you need restrictions on capital mobility. If you go for closer economic integration, you could do it by imposing all the adjustment costs onto your own citizens, as in the era of the Gold Standard. But as Polanyi and others have pointed out, this is hard to sustain without massive repression, and pretty well impossible in the long run with universal enfranchisement. So the alternative is to construct a collective decision-making capacity at the transnational level. As O’Rourke notes:

What makes European Monetary Union such a radical solution to the political trilemma is that it not only abandons national monetary policy-making, but delegates it to a technocratic Central Bank… Moreover, this has occurred without common Eurozone policies in complementary areas, notably financial and banking regulation; and it has occurred without a move towards a common fiscal policy, which most economists also regard as a desirable complement to a common monetary policy.

John Quiggin and I have a piece on the eurozone mess in the new issue of Foreign Affairs. The piece is subscriber-only, but we’re allowed to post it (in Web format) for six months or so on a personal or institutional website. Accordingly, the piece can be found below the fold. The piece was finished some weeks ago, but I think it holds up quite well.

Four things worth noting. First – I suspect we would put our argument that the politics are more important than the economics even more strongly in the light of current events. It looks as though demonstrations against the austerity agenda are beginning to take on a European dimension. In addition, a dimension of the politics that we did not discuss – the rise of nationalist resentments in countries that are on the giving rather than receiving end of loans-linked-to-brutalism – has come more obviously to the fore with the success of the True Finns in the recent election.

Second – Paul de Grauwe has a new paper which points to a complementary mechanism through which monetary union plausibly damages political legitimacy at the national level (although his discussion is largely framed in terms of the economics).

Once in a bad equilibrium, members of monetary union find it very difficult to use automatic budget stabilizers: A recession leads to higher government budget deficits; this in turn leads to distrust of markets in the capacity of governments to service their future debt, triggering a liquidity and solvency crisis; the latter then forces them to institute austerity programs in the midst of a recession.

Third: the Daniel Davies qualification. We refer to BIS data on bank holdings in the article – but as we specifically note (and as dsquared has pointed out in comments here and elsewhere), this data is biased by tax avoidance wheezes and similar. It is plausible to infer that e.g. German banks have some considerable exposure to PIIGS from the way that they are behaving, and the numbers are the best that there is, but they should be treated with caution.

Finally – the piece is written in the rhetorical style of US policy articles. This differs from that of blogposts and academic articles, in that it encourages emphatic claims rather than cautions and caveats, and self-assurance rather than social-scientific humility. Please read accordingly.

[click to continue…]

Both recommended:

First: Kevin O’Rourke’s more general take (PDF) on the trilemmas facing the eurozone.

What we have seen instead is a series of ineffectual moves on financial regulation, and now a complete unwillingness to confront the European banking crisis head-­‐on. Rather than promoting pan-­‐European growth strategies, the institutions of the Union have been enthusiastically promoting pro-­‐cyclical fiscal adjustments in the periphery, even as they insist that heavily indebted governments repay private creditors of private banks in full. Not only is the policy incoherent, making sovereign default more likely on the one hand, while preaching austerity on the other; the insistence that taxpayers rather than investors pay for bank losses is also setting the stage for a potentially very damaging confrontation between core and periphery taxpayers. The political consequences of this are unknowable, but in Ireland, just three months after the troika’s intervention, the political party that had been dominant since the 1930s was annihilated at the polls, with the radical and Eurosceptic Sinn Féin now sniffing at its heels: and this in one of the most conservative, and Europhile, countries in Europe. What three or four years of the current policy mix will do is anybody’s guess.

The paper is particularly interesting in its focus on the politics of Eurozone governance, which does not get nearly as much attention as it deserves. John Quiggin and I have a piece forthcoming in Foreign Affairs which talks to the medium-term consequences of institutionalized austerity at the European level – O’Rourke’s piece provides a good general take on the same set of issues, as well as discussing topics (class and distributional divides) that we don’t get into. The paper is being presented at INET - there is much other interesting looking material available here.

Second, Kate McNamara’s more topical piece arguing that the European Union needs to take the plunge and become more like a state.

In the eyes of markets and skeptical observers, the European Union is more than an intergovernmental organization but not yet a state. When the European Union bickers and dithers, the markets have no idea what may happen. The euro is the only single currency in history that has not been tightly linked to broader state- and nation-building efforts (often following wars, during which military action required budgeting and taxation). Although the euro is an extraordinary peacetime achievement, it suffers from a lack of supporting political institutions that can make broader macroeconomic policy. The European Union needs to change that and move beyond the structure of its current economic and monetary union—which were seemingly designed for a world in which private and public actors never over-borrow and financial markets never question their ability to repay—to real political and economic cohesion, something international markets would recognize as parallel to a nation state.

As she recognizes (and O’Rourke argues too) there is little enthusiasm among European leaders (let alone publics) to make this jump. This obviously generates normative objections (some perhaps fundamental) as well as practical ones. But equally, it is not at all clear that the European Union can survive as it is, as a kind of ungainly half-way house between an international organization and a genuinely federal system.

So after an attempt to close down Philosophy at Middlesex and cut Philosophy at King’s College London, now the Philosophy Department in Keele is threatened with closure, together with Keele’s Centre for Professional Ethics. You can read all about it here. I really can’t help but wonder: “Who’s next?” We earlier reported here on plans to cut funding for the humanities and the social sciences at the EU-research spending level.

I think the tendencies are clear. If you are teaching/doing research in a field/discipline that can not easily show (quantitatively, please!) to policy makers & bureaucrats that you will make a significant positive contribute to economic growth, your very existence is at stake. Never mind that you’re opening up minds, teaching logic or the arts, passing on history to the next generations. Either someone on the market should be willing to pay for what you’re doing, or else you are at mercy of the benevolence of your government. The University as a public good? That’s an old fashioned idea from premodern times, obviously.

If you think I’m exaggerating, read the EU agenda on the modernization of the Universities, published by EU bureaucrats in 2006. I think what we’re witnessing now, is that this agenda has touched the lowests levels of execution, and that the financial crisis is seen as a great opportunity to push it through. A tiny bit of this ‘modernization agenda’, like the stress on international mobility of students and teachers, could be explained by the goals of creating multi-national understanding and hence contributing to peace. But the rest of that agenda regards the university primarily (perhaps solely?) as an instrument for the economy. We had better become more worried, and we had better started to create a counter-discourse to this narrow economistic paradigm then. What I see around me, and what I see developing that hasn’t been fully worked out yet, worries me a lot.

I posted recently on The paradoxical politics of credible commitment, noting the excellent analysis of Gordon Brown’s politics by Sebastian Dellepiane.  He argues that the Labour government did not make the Bank of England independent simply in order to defuse City suspicions of them. This self-binding policy was also in fact enabling, because it made it possible for Brown to adopt a classic Keynesian economic strategy by about 2000.

The Euro started out as a self-binding credibility-gaining mechanism for Eurozone member states. But the Euro also turned to have an ‘enabling’ side to it. It contributed to new kinds of instability by facilitating the extension of cheap credit and by permitting increasingly risky lending practices to spread throughout the European financial system, in Germany and France as well as in the weaker peripheral economies.

This has led me to think some more about the relevance of the logic of credibility gains in the current European crisis.

The self-binding austerity politics now under way in the Eurozone also has some paradoxical features. The crisis has produced an explosion of fiscal deficits and an accumulation of sovereign debt. The ECB favours fiscal austerity to restore stability, and so does German public opinion. This means that every other member state must adjust to low demand conditions and domestic deflation. But while Gordon Brown’s self-binding monetary policy proved to be enabling, Eurozone governments’ self-binding fiscal policy might be seen as self-disabling, because it involves commitment to a strategy that may prove self-defeating. There are two reasons for this.

[click to continue…]

Congratulations to Belgium, which holds since midnight the world record cabinet formation after the elections now exactly 250 days ago. Being the founders of surrealism, the Belgian people decided to celebrate this with people’s parties in open air, especially a big one Gent. The poster says ‘steun onze helden’, that is, ‘support our hero’s’, but this should be interpreted as ironically as possible. The people organising and attending these parties are fed up with the Belgian politicians who are unable (or unwilling?) to form a coalition and govern the country. If you want to see another piece of Belgian surrealism, watch the Flemish comedian Geert Hoste giving an interview to CNN in which he comments on the situation and the festivities.
[click to continue…]

Stephen Walt writes a quite odd post on realism, liberalism and the future of the euro.

Over the past few months, however, German Chancellor Angela Merkel and French President Nicolas Sarkozy have been negotiating a joint proposal for deepening economic coordination within the EU (and especially the eurozone) in an attempt to solve some of the problems that produced the crisis in the first place. … Not only does this question have obvious implications for politics and economics in Europe itself, but it also raises some fundamental questions about IR theory and might even be a revealing test of “realist” vs. “liberal” perspectives on international relations more generally. Realists, … have been bearish about the EU and the euro since the financial crisis, arguing that European member states were more likely to pursue their individual national interests and to begin to step back from some of the integrative measures that the EU had adopted in recent years. … By contrast, institutionalists, and EU-philes more generally, have suggested that the only way forward was to deepen political integration within Europe. … So what we have here is a nice test of two rival paradigms, and students of international politics should pay close attention to how this all plays out.

[click to continue…]