Tuesday, November 19, 2013

Germany: Too Much Virtue Is A Sin

On 30 October the Office of International Affairs of the US Treasury issued its customary semi-annual Report to Congress on “International Economic and Exchange Rate Policies”, in consultation with the Fed’s Board of Governors and IMF management and staff. The Report usually concentrates on China bashing for the undervaluation of the renmimbi, and this time is no exception: “The RMB is appreciating on a trade-weighted basis [by 6.6% on a real effective basis], but not as fast or by as much as is needed [an additional 5-10%]”. But the Report in addition vigorously criticizes Germany for its record trade surplus, which is regarded as a brake on the recovery of the Eurozone countries that experience a corresponding trade deficit and on global growth.
Among the Report’s Key Findings (p.3):
“Within the euro area, countries with large and persistent surpluses need to take action to boost domestic demand growth and shrink their surpluses. Germany has maintained a large current account surplus throughout the euro area financial crisis, and in 2012, Germany’s nominal current account surplus was larger than that of China. Germany’s anemic pace of domestic demand growth and dependence on exports have hampered rebalancing at a time when many other euro-area countries have been under severe pressure to curb demand and compress imports in order to promote adjustment. The net result has been a deflationary bias for the euro area, as well as for the world economy.”
The main text of the report develops this proposition further: much of the decline in global current account imbalances that occurred in recent years reflects a demand contraction in deficit countries rather than strong domestic demand growth in current account surplus countries. Germany in particular has continued to run a very large and persistent surplus, raising the eurozone's overall current account, which was close to balance in 2009-2011, to a surplus of 2.3 percent of GDP in the first half of 2013. “Germany’s current account surplus rose above 7 percent in the first half of 2013, while the current account surplus for the Netherlands was almost 10 percent. Ireland, Italy, Portugal and Spain are all now running current account surpluses as import demand in those economies has declined. Thus, the burden of adjustment is being disproportionately placed on peripheral European countries, exacerbating extremely high unemployment, especially among youth in these countries, while Europe’s overall adjustment is essentially premised on demand emanating from outside of Europe rather than addressing the shortfalls in demand that exist within Europe.”
The section on the Euroarea emphasises the point: “Expansion was supported by domestic demand growth in Germany - though growth in Germany still continues to rely on positive net exports, which continues to delay the euro area’s external adjustment process – and on domestic demand in France.”
Nobody can argue with such propositions, which are based on a correct interpretation of well established facts, and are not at all new. The adoption by Germany of more expansionary policies has been advocated by many economists, from Martin Wolf (FT) to Paul Krugman (Those Depressing Germans, NYT 3 November 2013), from Jean Pisani-Ferry (Bruegel) to Mario Seminerio (La Cura Letale, Rome, 2012), to the IMF Managing Director Christine Lagarde as well as several IMF documents. What is extraordinary is that the criticism should come from the US government and from research circles before it is raised by the European Commission. 
EC practice suffers from a totally arbitrary and unwarranted asymmetry in treating surpluses and deficit countries: a current account deficit of 4% of GDP triggers off a disciplinary procedure for the offending country, while a 6% surplus averaged over three years is necessary before the EC takes any notice of that imbalance, and even then only perfunctorily. In 2012 Germany recorded a 7% record surplus but the three year average was just under 6% and nothing was said.
This is a general problem that Maynard Keynes had tried to address at the Bretton Woods Conference (1944). His Plan assigned to every country a “bancor” maximum overdraft facility equal to its average trade over five years; a penalty interest rate of 10% would apply to deficit countries above that limit, as well as to surplus countries on anything over and above any surplus exceeding the size of the permitted overdraft by more than a half, forcing compensatory exchange rate adjustments or capital flows, and subject to confiscation of residual excess reserves above the permitted surplus at the end of the year. “Nothing so imaginative and so ambitious had ever been discussed", commented Lionel Robbins. But the US was then the world’s biggest creditor and the Plan by the US representative Harry Webster White was preferred by the 42 countries attending the Conference. The burden of balancing trade was placed on deficit countries and no limit was set on surplus countries, thus necessarily impressing a deflationary bias on the nature of trade adjustments. The replication of this approach by the European Union is one of the many EU original sins. 
There is a well known tenet of Keynesian economics, resulting from national income accounting and not at all dependent on the validity of Keynesian fiscal policies, and therefore unchallenged: the excess of exports X over imports M, plus the excess of government expenditure E over taxation T, plus the excess of private investment I over savings S, must necessarily add up to zero. Thus a country experiencing a trade deficit must necessarily run a government deficit and/or a compensatory excess of investment over savings, hard to accomplish in the face of an otherwise shrinking demand. In other words, the German trade surplus makes it all that much harder for its deficit trade partners to balance their public accounts.
On 2 November the Economist’s Charlemagne column Fawlty Europe commented on “Germany’s obsession with competitiveness”… “For Germany booming exports are the measure of economic virility.” It is true that Germany is reaping the benefits of wage and price reductions (the internal devaluation) undertaken before the crisis; in the middle of the crisis any country adopting the same policy would pay the price of worsening that crisis. Germany also benefits from earlier structural reforms politically hard to replicate, and from the relatively price-inelastic demand for its high technology exports. But surplus countries like Germany, the Netherland and Austria are also benefiting from an artificially low exchange rate, with respect to the increasingly stronger exchange rate that would prevail if those countries were using their own currency instead of the euro. And, be that as it may, by holding down wages and failing to promote investment and growth they make trade adjustment in Italy, Spain, Ireland, Portugal and Greece – which has occurred – deflationary. Debtor nations were forced, mostly under German pressure, into austerity eliminating trade deficits at the cost of perversely rising debt/GDP ratios (see our earlier post on the subject), while German surpluses persisted and their failure to adjust magnified the costs of austerity and contributed to keep the world economy depressed.
Charlemagne notes that Germany has also benefited from straight protectionism, having failed to liberalise its construction and services.  While these sectors are not a significant share of German exports, a recent OECD study stresses that in general services have a much bigger impact on trade and trade competitiveness if we look at their inputs actually embodied in exports, i.e. adopting a Value Added approach to trade accounting. Charlemagne also recommends too that Germany could do more to invest in education and infrastructure, and make child care available for working women. 

Moreover German energy-intensive producers are benefiting from an implicit subsidy on their electricity consumption, through exemption from the expensive surcharge used to finance Energiewende, the accelerated introduction of renewable energy scheduled to reach 35% by 2020 and 80% by 2050. Earlier this year European Energy Commissioner Günther Oettinger told a group of industry leaders that the price concessions for energy-intensive companies in Germany clearly amount to “inadmissible” subsidy levels. German business are concerned that they might have to repay hundreds of millions of euros to the German government.
Only on 13 November did Jose’ Manuel Barroso, the EU President, announce an “in depth analysis on the high German trade surplus”, with a view to understand whether Germany can make a larger contribution to the re-balancing of the European economy”. There is the prospect of a continued trade surplus of 7% in 2013, and the upwards revision of the 2012 trade surplus brings already the three year average above 6% in 2010-2012. Indeed “Following statistical revisions, the indicator has exceeded the threshold each year since 2007” and “the surplus is expected to remain above the indicative threshold over the forecast horizon, thus suggesting that it is not a short lived cyclical phenomenon” (EC 2013). German savings exceed investment, and despite boasting the second lowest share of private sector debt in GDP (firms and households) and low interest rates, private sector de-leveraging has continued, failing to boost demand; capital formation has declined last year. This calls for some action, not least to reduce the pressure for euro revaluation. But the bottom line of the EC document is simply that “Overall, the Commission finds it useful to conduct an in-depth analysis with a view to assessing whether imbalances exist” (italics in the original). This is a grotesque existential problem: what additional evidence is needed to establish that an imbalance exists, other than the imbalance itself?

German press and politicians have reacted to the US Treasury accusations and to the EC initiative with a combination of denials, hubris and cries of victimisation. The German Economics Ministry issued a strongly worded statement, saying that Germany's surplus is "a sign of the competitiveness of the German economy and global demand for quality products from Germany." It dismissed the accusations as “incomprehensible” and challenged the US to "analyze its own economic situation."
A memo to finance minister Schäuble reads: "The German current account surplus offers no reason for concern for Germany, the euro zone or the world economy"; Berlin is pursuing a course of "growth-friendly consolidation," and there are no imbalances "that would require a correction of our economic and fiscal policy." See also “Complaints about German Exports Unfounded”, by Jung-Reiermann-Schmitz,Spiegel.de 5 November, and “Raw Nerve: Germany Seethes at US Economic Criticism” by Alessi, Spiegel.de 31 October.

It has been pointed out that the prospective new grand coalition between the CDU, its Bavarian sister party, the Christian Social Union (CSU), and the Social Democratic Party (SPD) has already agreed to increase government investment and the minimum wage, both of which should stimulate domestic demand.  But the formation of that government – let alone its programme – is still under negotiation.
The real issue is an EU governance deficit. The worst thing that could happen to Germany as a result of an adverse “in depth analysis” by the Commission is a reprimand by Marco Buti's Directorate-General for Economic and Financial Affairs. No comment seems necessary.

Sunday, November 10, 2013

Winter chill in Hungary

Note: This is a guest post contributed by Yudit Kiss, a Hungarian economist based in Geneva, author of several academic publications dealing with the post-Cold War economic transformations of Central Europe. Her articles of wider interest have been published by the Guardian, Lettre International, El Nacional, Nexos, Gazeta Wyborcza & Eurozine.

The only electoral promise Fidesz has fulfilled has been the “restoration of order”, through a myriad of laws, decrees and regulations, a particularly harsh new Penal Code and several new organizations.

On October 23, Hungary commemorated the anniversary of the 1956 revolution, but few Hungarians had cause to celebrate except the ruling Fidesz party, which is eagerly looking forward to next spring’s parliamentary elections.
Fidesz has learned the lessons of its previous spell in power, when in 2002 general disenchantment with its performance lost it the elections. Back in power since 2010, all measures have been taken to avoid a similar defeat. The Fidesz–led government granted voting rights to Hungarian minorities living abroad, changed the election system, redesigned electoral districts, eliminated checks and balances built over the past two decades, reshaped the juridical system and has gained nearly full control over the media and all state institutions.
In addition to a tax system that favours the rich, economic assets from land to productive capacities and infrastructure have been re-distributed to create a new class of loyal, privileged crony capitalists (and large and growing numbers of the poor and very poor). By extending state control over key companies, expropriating the private pension funds and recently, the Savings Cooperatives, by channeling EU money and using the economy’s remaining reserves, the government is able to lavishly finance its own projects and distribute money to its clients through public procurement policies. A recent Transparency International report describes a “state captured by private interest groups”.[i]The government can also finance large-scale publicity campaigns to convince citizens that it acts relentlessly on their behalf, from “defending the country’s independence” to artificial lowering of utility charges.

The economy is at a standstill, with the bulk of investments financed from EU funds. Unemployment is officially close to 10%. Half of those without work are long-term unemployed, and joblessness among youth is nearly 30%. The government’s “solution” to a stagnating labour market has been an expensive and inefficient “public work” system in which job-seekers are employed by (predominantly Fidesz-led) local authorities and compelled to accept whatever work is offered them, often in primitive conditions at less than the official minimum wage.

In September the Statistical Office reported that 3.2 million persons, nearly 33% of the population, live in poverty, including half a million in deep poverty and deprivation.[ii] The drastic reduction of unemployment assistance, welfare benefits and social services, coupled with punitive measures against the poor, homeless and marginalized make their situation desperate. 70% of the country’s approximately 700,000 Gypsies, who under the former system at least had work but have now been brutally expelled from the labour market, live in abject poverty.[iii]

The only electoral promise Fidesz has fulfilled has been the “restoration of order”, through a myriad of laws, decrees and regulations, a particularly harsh new Penal Code and several new organizations, like well-equipped special anti-terrorist units, fancily dressed Parliamentary Guards to discipline MPs, special bodies to supervise public workers and even a school police force with rights to control and search school-age kids.
Through a complex system of regulations, economic pressure, intimidation, propaganda and hand-outs the government has extended its control over its citizens’ life from the cradle to the grave, from economics through the education system to artistic creation, including the private sphere, with measures that spread from encouraging marriage and child birth to the reform of state funeral services, going as far as authorizing itself to spy on state employees and their families.
Each of these measures has chilling details that reveal the nature of the system. Teachers, whose work conditions have significantly worsened, have to join a government-created ‘National Teachers’ Body’ and are expected to sign an ‘Ethical Code’ created by it; youngsters can risk two years of prison if they share a joint at a school party; the poor are offered a “social burial” - an (initially) free site in a separated section of the cemeteries, with uniform graves fabricated by prisoners - provided they bury their dead themselves.
Protest, dissent and criticism are actively discouraged, neglected or dealt with by one of Fidesz’ basic methods of governing: ‘divide et impera’. The government’s outspoken critics come under virulent, orchestrated attacks. Criticism abroad – including from the EU institutions in Brussels - is dismissed as “unfounded” or ‘fuelled by international capital and business’ or by the internal opposition that “betrays” the fatherland. And if all this were not enough to secure a next mandate, the government has less elegant methods. In a recent municipal election in Baja, Roma families were paid and driven to the ballot box to cast their vote for Fidesz. (Some over-zealous opposition activists forged a video to “prove” the fraud - when they were caught, Fidesz was able to turn the whole affair to its advantage.)
Nevertheless, Fidesz probably wouldn’t need to use its heavy weaponry, since its opposition is pathetically weak and divided. The ‘Együtt 2014’ (Together 2014) electoral platform that evoked high hopes when it was founded a year ago has failed to come out with a convincing alternative vision for the country. But even if the opposition miraculously pulls itself together to win next Spring’s elections, the new government’s hands would be tied by Fidesz legislation and Fidesz appointees who occupy all key state positions, from the juridical system to media supervision, with long mandates stretching over election cycles. The case of Esztergom, where since 2010 the Fidesz-dominated city government has paralyzed the whole city to obstruct an independent mayor, is a sinister foreboding.
According to recent polls[iv], the large majority of the population believes that things are bad and will deteriorate further in Hungary. However, 42% of potential voters don’t know who to vote for and probably won’t participate in the next elections. Absenteeism mixed with massive disappointment in mainstream political forces is a dangerous cocktail, like the advance of the far right in Europe shows. Jobbik, the Hungarian party of the extreme right, is looking confidently forward to next Spring, like Fidesz. At present 26% of potential voters would vote for Fidesz - enough for them to win the elections and have again an overwhelming majority in Parliament, thanks to the electoral system they’ve installed.
This year’s commemoration of the 1956 revolution and its aftermath played out the worst-case scenario for the coming election year. Prime Minister Victor Orban used the national holiday as his Party’s first electoral rally, greeting the “spontaneous” masses of the “Peace March” (organized and sponsored by loyal Fidesz supporters) from a platform decorated with a sea of national flags and surrounded with armed soldiers. His speech was a violent call for battle against the country’s external (‘colonizers, speculators and international financiers’) and internal enemies (former, present and would-be “Communists”, including their “comrade”, ‘tavarish’ Tavares) ‘who sold the country’ and ‘would shoot at us today …if they could’. [v]
In front of the building of the Technical University, where the first student rally that set in motion the mass protest movement in October 1956 started, a large crowd of opposition supporters gathered hoping to revive hope in a free and democratic country – the real message of 1956. Instead of the so much needed demonstration of unity, the event turned into a disheartening manifestation of division and in-fights in the ranks of the various opposition formations that has been going on since. The day after the national holiday, a government official and media close to Fidesz launched yet another attack against the philosopher Agnes Heller, who dared to criticize the government in an interview with Swedish television.
A couple of days later a government-backed march was held all over the country to demand autonomy for Sekler’s Land (a part of Transylvania with a large Hungarian population that belonged to pre-WW1 Hungary) organized by a civil society organization and some of the Peace March organizers. By the end of the week, a bronze statue of Admiral Miklós Horthy[vi], a former ally of Hitler, the leader of Hungary between 1920 and 1944, was unveiled at the entry of a Reformed Church located in the centre of Budapest, by the Church Minister, well-known for his extreme-right views and by the same Jobbik MP who some months ago demanded the listing of Jewish members of Parliament. In his first reaction, the Fidesz mayor of the district only managed to regret the fact that this provocation might fuel further ”anti-Hungarian” criticism in western “leftist” media. 
This is a rather pernicious preview of a possible future for the country. Hopefully it will serve as a wake-up call for those who want to live in a different Hungary.

[i] http://www.transparency.hu/National_integrtity_study

[ii] http://www.ksh.hu/docs/hun/xftp/idoszaki/laekindikator/laekindikator12.pdf
[iii] http://www.romadecade.org/cms/upload/file/9270_file9_hu_civil-society-monitoring-report_hu.pdf; http
[iv] http://hvg.hu/itthon/20131017_Ipsos_nott_az_ellenzek_tabora  & http://median.hu/object.aa1da5a0-e054-4ffb-8e6f-784e318108e1.ivy
[v] http://www.kormany.hu/hu/miniszterelnokseg/miniszterelnok/beszedek-publikaciok-interjuk/a-nagysag-dicsoseget-hagytak-orokul-1956-hosei
[vi] http://hungarianspectrum.wordpress.com/2013/11/05/political-controversy-over-the-role-of-regent-miklos-horthy-1920-1944/