Iron Lady: Rust In Peace

Margaret Hilda Thatcher (1925-2013) once famously said, in an interview to Woman’s Own of 31 October 1987, that "There is no such a thing as society. There are individual men and women, and there are families”. Naturally she was often reviled for such a proposition, including by me as I repeatedly quoted her and criticised her vigorously for it in lectures and seminars.

Taken literally such a proposition is patently false. Clearly the collection of individuals and their families are interconnected in a vast and thick mesh of relationships – through economic, political and social institutions – known as “the fabric of society”. The total is infinitely larger than the sum of its individual parts.

But what Thatcher actually meant is that society is all of us, and is not an external entity distinct from the collection of all individuals and their families, so much so that she went on to say: "And no government can do anything except through people, and people must look after themselves first.” A perfectly simple and innocent call for self-help, and for restraint in the reliance on government transfers from a budget to which in the end we all have to contribute. Sure, she was neglecting the fact that welfare transfers are not necessarily always a disincentive to create income and wealth, that they also represent a stimulation of demand and therefore may generate employment and income, and that a more equal and cohesive society may be worth attaining - at least up to a point - even if re-distribution had a net cost in terms of efficiency. But even these omissions and reservations are legitimate though possibly misguided opinions, for which Thatcher did not deserve to be reviled. Therefore belated but sincere apologies are due and are here unreservedly made.

Nevertheless, there are still many exceedingly serious reasons to revile her. The general principle, that one "not speak ill of the dead", does not apply to influential public figures (as we are reminded by Glenn Greenvald, Guardian 8 April): noblesse oblige. I lived in England throughout most of her political career, from 1962-1982, and intermittently until after her downfall in 1990, and disliked her passionately. Mrs Thatcher - for I could never bring myself to call her a Lady - to me was forever Thatcher-the-milk-snatcher (as in 1971, while Minister for Education in the Heath government, she abolished free milk for school children aged 7-11 years). Never mind the destruction of the British coalmining industry: coalmining is an attractive occupation and culture only in the morbid, romantic literary sickness à la D.H. Lawrence, and miners should have been retired gradually by Labour governments over the previous thirty years, instead of being kept employed artificially as a reserve army of Labour voters. But there was no reason to confront them as Thatcher did and unleash riot police on horseback assaulting them: she could have easily bribed them instead with the proceeds of North Sea Gas.

Nor was there any need to start a class war using a regressive and odious poll tax, or to deny Irish hunger strikers in the Maze prison their political status thus leading to their death. She lowered taxes and cut welfare expenditure and industrial subsidies, promoting de-industrialization and unemployment (that rose to a record of nearly 13 per cent under her watch); she privatized council houses without building new ones, and sold off all kinds of public assets, including public infrastructure (steel, airways, etc.) and utilities such as water, telecoms, gas and electricity, transferring massive public wealth to the private sector. She de-regulated economic activities, especially finance, and shrunk the size of the state. In doing this she somewhat revived competition - which she could have done if she had wanted to even without privatization - but did not promote economic growth in the UK, as she is widely credited to have done.

Thatcher never understood any macroeconomics - or she would not have written (in her Path To Power, 1995): "There is no better course for understanding free-market economics than life in a corner shop." With infinitely greater confidence than that applicable to her assertion about society, we could say that "There is no such a thing as a market system". For in order to substantiate the naïf, oversimplified market vision of her mentors (Milton Friedmann and Friederich von Hayek, Alan Walters and Keith Joseph and the whole of the Mount Pelerin Society) as a system of self regulating equilibria we would need a system of complete markets, i.e. of exclusive, spot and inter-temporal, instantaneous and non-sequential markets, for all dated and contingent goods and services. Instead of which we only have a relatively small number of spot markets, a handful of forward markets except for labour and mostly for homogeneous primary commodities as well as money, all sequential and rarely contingent on the states of the world. In the market system as we know it economic agents act on the basis of expectations as well as prices in a typical, incontrovertibly Keynesian world of inadequate and unstable effective demand and involuntary unemployment.  

Policies based on such hyper-liberal (then labelled monetarist) approach, which she shared with Ronald Reagan who gained power in 1980, had massive adverse consequences over time and space. They contaminated and corrupted the New Labour approach of Tony Blair and Gordon Brown, they deeply affected the transition path of the Soviet Bloc from central planning to market economies and caused its immense unnecessary costs, and they paved the way for the global Great Recession of 2008 which is still causing our misery to date. 

Internationally, she strengthened her failing domestic support by declaring war on Argentina over Britain colonial possession of the Malvinas, instead of conducting political negotiations; her tears over the accompanying loss of lives, revealed by recently published War Cabinet papers, are only evidence of hypocrisy. She played a key role in bringing about the first Gulf War, and advocated the 2003 attack on Iraq. She denounced Nelson Mandela and the ANC as "terrorist", while she befriended dictators like Augusto Pinochet, Saddam Hussein and General Sukharto ("One of our very best and most valuable friends"). She opposed German re-unification and the euro but fortunately she was defeated by Germany and France trading one for the other.

For somebody so opposed to the state taking care of its citizens "from cradle to grave", it is ironical that she should be given a lavish “ceremonial funeral with military honours” yesterday in St. Paul’s Cathedral at an estimated cost of £10-12mn. It is only fair that Ken Loach should have suggested that her funeral should have been "privatized": "Put it out to competitive tender and accept the cheapest bid. It's what she would have wanted".

Grillo's Zombies

"You are a Dead Man talking!" - said Beppe Grillo to Pierluigi Bersani who had asked for M5S support for a legislative platform that included some of Grillo's pet initiatives. Admittedly Bersani is a lugubrious, funereal figure, totally un-charismatic, indeed "de-tumescing", to use a term coined by a former Cambridge colleague to damn Tony Giddens, then a candidate to College high office . After all, Bersani now demands respect, after calling Grillo "a Web fascist", which is worse and unwarranted. The 5 Star Movement is marked for its non-fascist, non racialist, non right-on rightist stance. And Bersani has been utterly inconsistent: he criticised Mario Monti, but aided and abetted his disastrous recessionary policies for fourteen months. A Bersani-led Democratic Party was only stopped from forming a new government with him by Monti's electoral debacle.

The problem is that Beppe Grillo is treating his brand new, clean and youthful 54 Senators and 109 "Onorevoli deputati" (or rather "citizens", as he wants them to be called, rejecting traditional titles), precisely like Zombies. "We will not give a vote of confidence to any government, let alone a PD-PDL government: we will vote on a law by law basis, according to our programme". Which is plainly silly: the M5S 163 parlamentarians will not get an opportunity to vote law by law unless there is a government in power that commands a confidence vote in both houses. The 163 citizen are turned by Grillo into Dead Men Who Do NOT talk.

 

Frozen, hibernated, silenced, ready to be resurrected only to leave their respective Houses when Parliament is soon going to be dissolved. A rather inglorious end to such an extraordinary, auspicious, revolutionary success. And when new elections are called, the protest voters that concentrated on Beppe Grillo on 24-25 February, now frustrated by the complete waste of their votes, will turn back to traditional parties, most probably PDL that will also drain some of Monti's support - unless the magistrates send Berlusconi to jail.  

Grillo's suggestion, of forming a government on his own, with the confidence vote support of PD and PDL, is as much of a non-starter as Bersani's offer to Grillo of a PD government with M5S support on specific policies plucked from their programme. What is needed is effective power sharing, with a precise division of Ministries, not the unaccountable, unspecified support for policies presumed to be jointly desired (how many? to what extent? accompanied by what else?). Grillo seems to favour a PD-PDL "Governissimo" which would not last long and cause the PD to lose half of their electorate (as happened to the Left in Greece and in Spain). D'Alema would pay this high price, for it is the only government which would give him office. Napolitano and Veltroni would, out of concern for Italy's stability and place in Europe, but Bersani and his cronies are unlikely to bite. 

Nevertheless, there are three tenuous prospects for a way out of this unprecedented constitutional crisis.

First, last Friday Dario Fo - Grillo's stated candidate as Napolitano's successor, though unavailable - said that there is a possibility of a deal with the PD under the leadership of someone other than Bersani (Matteo Renzi? Fabrizio Barca? Dario Fo did not say). Earlier on the same day Massimo D'Alema had already said, on television, that if Grillo sets this condition it should be immediately accepted.

 

Second, the 163 parlamentarians treated like Zombies by Grillo are nothing of the kind. Leading personalities are emerging within their group, and they are a diverse and articulate lot. They do not have to revolt, they can simply ignore the attempts to make them do as they are told. Give them a taste of Roman parliamentary life, and they will prefer to stay on rather than to return to the provinces.

Finally, it might actually dawn on Beppe Grillo that rejecting the opportunity to change, at last, some of the fundamental ills of Italian political life might actually jeopardise his current command of the protest vote. He simply will not get a second chance.

Monsieur Trichet Is In Denial

On 27 January in Davos at the World Economic Forum the European Central Bank President, Monsieur Jean-Claude Trichet, stated boldly that “the euro is not in crisis”. He must have felt duty-bound to say that in an attempt to reassure international financial markets, regardless of what he really thought. If he actually believed what he said, then Monsieur Trichet is in denial, which is a poor foundation both for a fruitful discussion of the current crisis of the euro and for progressing towards its solution.

Of course, if one looked exclusively at the current exchange rate between the dollar and the euro and its recent trend, one would get the false impression that there is no crisis. On 29 January the euro stood at $1.37, a higher rate than before the Greek debt crisis erupted in February 2010 ($1.33), and much higher than the $1.18 rate to which it plunged in early May 2010 (and even that was 1cent higher than the initial exchange rate of 1.17 with which the euro started life in 1999). The euro recovery, however, was due primarily to the US Fed injecting $600bn liquidity over 8 months, compared with the comparatively restrictive policies of the ECB, and to US economic prospects being poorer than anticipated. After peaking at $1.42 last November, the euro fell again under $1.30 repeatedly (even a fortnight ago) with contagion spreading from Greece first to Ireland, then to Portugal, then threatening Spain.

Beside the exchange rate increased volatility, and the downgrading of credit ratings, a tangible and accurate measurement of the sovereign debt crisis of the euro is given by each country’s interest rate differential with respect to German bonds (usually taking 10-year bonds), the current yield on existing stock determining the rate at which the countries can borrow to rollover old debt or incur new debt. The spread over the German Bunds (whose yield has also risen as a result of the crisis, for fear of German exposure to baling out possible defaulters) has risen on average and significantly widened across countries over time, especially since the Greek crisis, and is now at record levels, higher than last May. Usually a 2% differential is regarded as the danger level; today Spain is just over, Italy just under that level; Portugal has almost 4% differential, Ireland over 6%, Greece 8 and a half per cent.

At interest rates higher than national growth rates (whether in nominal or real terms, as long as both are measured in the same way) national debt must increase relatively to GDP; debt is unsustainable and default looms. Even on the funds provided by the EFSF (the European Financial Stabilisation Facility set up last May) Greece and Ireland pay 5.8%, a rate lower than their market rates but higher than sustainable and signalling European lack of confidence in these countries’ ability to repay. Rescheduling of Irish and Greek debt – with lengthening of maturities and inflicting a haircut on investors – is now on the cards.

It is true that a recent bond issue by the EFSF was five times over-suscribed, but this was mostly “spurred by Basel III capital rules” set by the BIS, according to which AAA-rated sovereign bonds like those of EFSF “have a risk-weighting of 0%, which means that investors effectively don’t need to hold capital against it”. And that rating involves the EFSF over-collateralising its bonds reducing its operational capacity, and even EFSF bonds are subject to risk (for instance from the downgrading of one of the participating countries, which would require further capitalisation, see Klaus Regling, Eurointelligence.com 27 January).

The ultimate source of euro vulnerability is its premature birth. The single currency was supposed to be the crowning of the economic integration process, after political and fiscal union, after the unification of labour and social policies and, come to think of it, after a common foreign policy and a common army (though these could wait). Instead of which the single currency has been used to promote the so-called finalité politique, i.e. that political union that should have been the pre-condition of the euro. This is like a person buying clothes that are too tight and do not fit in the hope that this might facilitate slimming, by forcing one to diet: it does not work for me, it did not work for Europe. The fiscal constraints imposed by the Maastricht Treaty and the Growth and Stability Pact, 3% public deficit and 60% public debt, have not been observed by too many countries for too long (including Germany and France, who were first to violate the 3% ceiling), to be treated as substitutes for a fiscal union. Thus the initial fall and convergence of interest rates that occurred after the introduction of the euro have been reversed. The global crisis has lowered tax revenues and raised public expenditures, not least for rescuing financial institutions. Europe has reacted too slowly and inadequately to the sovereign debt crisis over the last year; European leaders have spoken with dissonant voices, often making perverse announcements, whether from ineptitude or malice.

Can the euro crisis be solved, or at least be significantly alleviated, by the issue of a single European bond covered by a European guarantee, to replace a sizeable tranche of national debts? This we will consider in one of the next posts.

What makes the current crisis unique? Is it overextension of financial instruments?

This is a Guest Post contributed by Vladimir V. Popov, http://www.carleton.ca/~vpopov.

The current crisis is often compared to the Great Depression of the 1930s
(see: Barry Eichengreen, Kevin H. O’Rourke. A Tale of Two Depressions. 6 April 2009 - http://www.voxeu.org/index.php?q=node/3421).

But there is still little evidence that it could reach the same magnitude. So far this current crisis is not unique – neither in terms of the collapse of stock indices (between October 1972 and July 1974 and between January 2000 and July 2002 S&P fell nearly 50% - pretty much like in October 2007- March 2009), nor in terms of the collapse of output (world GDP is projected to fall in 2009 by 1 to 2 % - for the first time in 60 years, but it is not dramatically different from 0.3 growth in 1982 and 0.9 growth in 1975 (see charts below).



There is also a theory that the rates of productivity growth are slowing down after the ICT revolution happened and the stream of innovations started to dry up. But, again, so far the evidence does not support the hypothesis – productivity growth rates since the late 1980s in the US were higher than in the 1970s-80s (chart below). And if Kondratieff long waves do exist, the lowest point of the long cycle should come some time in the 2020-30s, not now (the previous troughs were in the 1870s, 1930s, and 1970-80s).


The expansion of financial sector and derivatives that took place in recent decades is really unique and could be held responsible for the extra-ordinary character of today’s recession. The ratio of total debt – corporate, household, financial and government – to GDP today (since the mid 1980s) is as high as it was never before, except for the 1920s-30s (chart below). And the market in derivatives that virtually did not exist before the 1970s, expanded to astronomical size. As Mario puts it, the current crisis is unprecedented due to “the unregulated degeneration of financial institutions, banks and non-bank intermediaries, the result of twenty years of hyper-liberalism... According to the Basel-based Bank of International Settlements, the global outstanding derivatives – bets on the value of assets, and bets on those bets – have been growing exponentially and reached 1.14 quadrillion dollars… By comparison, the gross domestic product of all the countries in the world is only 60 trillion dollars”. Derivative financial instruments designed to hedge risk, became themselves the source of volatility.


Relative wages in the financial sector (after controlling for education, experience and other usual determinants) in recent years were equally unusually high – as high as they were only in the 1930s (chart below from: Thomas Philippon and Ariell Reshef. Wages and Human Capital in the U.S. Financial Industry: 1909-2006. December 2008. - http://pages.stern.nyu.edu/~tphilipp/papers/pr_rev15.pdf).


However, it could be argued that what was dangerous in the 1920s-30s and led to the Great Depression today is manageable due to the experience and sophistication in applying Keynesian policies of managing aggregate demand. This may be true and may be not, but the fact is that the response to the current crisis by means of monetary and fiscal policy today is really unprecedented. The following two charts borrowed from cited paper by Barry Eichengreen and Kevin H. O’Rourke show that the increases in both the money supply and the budget deficits during this recession were by far more pronounced than in the late 1920s and 1930s.

Money Supplies, 19 Countries, Now vs Then (Source: Bordo et al. (2001), IMF International Financial Statistics, OECD Monthly Economic Indicators)


Government Budget Surpluses, Now vs Then (Source: Bordo et al. (2001), IMF World Economic Outlook, January 2009)


The US federal budget deficit is projected to increase to 12% of GDP in 2009 (from 3.2% in 2008) and stay at a level of 8% of GDP in 2010, so the total US public debt to GDP ratio in several years from now can exceed 100% of GDP from about 70% in 2008. In EU countries the increases in budget deficits are not that dramatic, but also substantial.

The danger with Keynesian policies, of course, that its effects accumulate, the economy gets addicted to stimuli, and the new and bigger doses are needed to get the desired result. This was exactly the problem with the stagflation of the 1970s. And it may well be this same problem is going to build up after enacting the stimuli designed to cope with the current recession.

To prevent this type of recession from happening in the future it would be needed to limit the expansion of the financial markets (derivatives – in the first place) through tighter government regulations. But this is exactly what is very unlikely to happen, as the recent G-20 meeting showed. The analogy would be the global warming. Until several islands in the Pacific would not go under water, it is virtually impossible to mobilize public support for the austerity measures, like the carbon tax.

Until there is a major crash, the new regulations for financial markets are not likely to be adopted. If so, in 10-20 years from now we are likely to find ourselves in a greater trouble, but with less room for managing the problem by means of Keynesian policies.

Vladimir Popov
http://www.carleton.ca/~vpopov

Our Own Transition

There was a time when Ronald Reagan could claim that “Government is part of the problem, not part of the solution.” [1] Bill Clinton and Tony Blair endorsed and replicated Reagan’s contempt for government. Now the financial crisis that began in August 2007 in the USA and the UK, and exploded globally since September 2008, has spectacularly reversed this proposition.

Governments have become the sole, large-scale actors in the search for a solution to global crisis problems, through initiatives for new, stricter market regulations; large injections of liquidity by central banks (whose cherished independence of over twenty years has gone by the board or has been practically suspended); expansionary fiscal policies far beyond what until now was regarded as prudent, for instance by the EU now softened Growth and Stability Pact; through bail-outs of banks, insurance companies and other financial institutions, then even of productive enterprises making cars and other durables, also newly supported by previously unthinkable government subsidies. There have also been outright nationalisations, qualified as “temporary”.

No wonder many observers have talked of “The End of Capitalism”, with or without a question mark, or qualifications such as “American”, “financial”, “as we know it” or “knew it” [2].

Risk-bearing, i.e. appropriating profits and suffering losses, is a fundamental feature of private property and enterprise. When losses occur they eat up enterprise capital. When liabilities exceed the value of capital assets, the enterprise goes bankrupt; an established ranking of secured creditors (wage employees, mortgage lenders) satisfy their claims first, as far as they can, while unsecured creditors satisfy a fraction of their claims on the residual, if any, owner(s)/shareholders being last. Before that happens the enterprise may be liquidated; if it is still viable as a going concern (under Ch. 11 Bankruptcy in the US) it might continue to operate after being sold as such or relieved of the burden of net debt.

One way or another, the “exit” of insolvent, non-viable enterprises is the essence of the capitalist system, together with the associated market discipline, competition, evolutionary survival of the fittest – all good things that are presumed to be alien to state enterprises.

“Temporary nationalisation” of those banks that risk bankruptcy is meaningless, or positively misleading. “Temporary” here involves an indefinite period, without specification of the precise circumstances in which re-privatisation might occur, without the subsequent re-instatement of the initial position, for there will be different owners, who will have paid a different price, or a price bearing a different ratio to the underlying assets, from the nationalisation price. Presumably nationalisation will happen at an over-inflated price (otherwise there would have been no need for nationalisation), that involved a subsidy to shareholders and/or to depositors, plus often a separate additional subsidy in the form of free, retroactive insurance (which is an oxymoron, indeed the caricature of insurance) on deposits. Like death, nationalisation is irreversible; we can always be reborn, in another life or on the Day of Judgement, but that’s something else.

Nevertheless, the End of Capitalism has been grossly exaggerated. An overwhelming share of GDP is still produced in the private sector. There are still domestic and international markets for goods and services, and markets for labour and other productive factors. Their degree of competition may disappoint, but they are there, and mostly private subjects buy and sell inputs and outputs in those markets. We are certainly not under a socialist system of any description, nor is a new system in sight. The blogger[3] who asked whether “the USA should now be known as the USSA (United Socialist States of America), and the UK as SUK (Socialist United Kingdom)”, is out of order.

All the same, we are in a middle of a New Transition. Not from capitalism to socialism, as some observers hope or fear, but from financial hyper-liberalism to state financial capitalism; as Willem Buiter argues, “From financialisation of the economy to the socialisation of finance” (op.cit.). But there is a big problem: the widespread pretence that either this is not happening, (or if it is, it is a momentary reversible morphism of no consequence, almost an optical illusion); or that this is part of a new socialist revival, instead of the degeneration of the welfare state towards the protection of capitalists in place of workers and the poor. Both delusions are equally false and most dangerous.

[1] Godfrey Hodgson, The true legacy of Ronald Reagan, The Independent, 8 June 2004.

[2] References abound. Just to give a few examples: Phillip Blond, Outside View: The end of capitalism as we know it?, The Independent, 23 March 2008; Willem Buiter, The end of American capitalism (as we knew it), The Financial Times, 17 September 2008; Anthony Faiola, The End Of American Capitalism?, The Washington Post, 10 October, 2008; Saskia Sassen, Too big to save: the end of financial capitalism, Open Democracy, 1 April 2009.

[3] Mike Talbot, 18 September 2008, http://www.opendemocracy.net/article/the-end-of-american-capitalism.