A Hayek vs. Keynes Rap Anthem

YouTube is offering a "Hayek vs. Keynes Rap Anthem: Fear the Boom and Bust "
http://www.youtube.com/watch?v=d0nERTFo-Sk.

Good stuff, though it comes with a warning by Dr M G Hayes, Secretary of the Post Keynesian Economics Study Group (www.postkeynesian.net), that the rap repeates "the standard claim that Keynes is all about sticky wages … the video bears witness that Keynes may be back in fashion temporarily, but only as the economics of depression."

Wonderful New Gadget from the World Bank

The World Bank has made available online - http://devdata.worldbank.org/DataVisualizer/ - the 2009 World Development indicators. This is a beautifully designed and presented form of data visualisation. The time pattern of any three out of 50 variables (from GDP to external debt, from trade to demography or military expenditure), for any number of 221 countries over the period 1960-2007, moves in colour smoothly and tellingly through your screen.

This is the luxury of a global research department at your fingertips. You ask the questions, you get the answers in real time. You can construct your own movie, with a happy ending (see the time trend of mortality of under-5 per thousand), an open ending (see the relentless generalised growth of globalisation measured by trade/GDP ratios – until 2007; you don’t see the de-globalisation of the last two years) or a worrying ending (the ballooning of debt). Thanks Mr Zoellick.

Enjoy!

Forza Iceland!

On 7 October 2008 the global financial crisis spread to Iceland, when the Icelandic government put Landsbanki, the second largest bank by value, into receivership. On 8 October the government took control of Glitnir, the third largest bank, buying a 75 per cent stake for €600m; on 9 October it took control of Kaupthing, its biggest bank. These events triggered off a row between Iceland and the United Kingdom over the losses of UK depositors with the collapsed banks, especially in high interest accounts held with Icesave, an online arm of Landsbanki; Dutch depositors also lost out to a lesser degree. Icelandic funds for deposit guarantee were grossly insufficient to provide cover. The Brown-Labour UK regime actually used anti-terror legislation against a fellow NATO-member to freeze Landsbanki and other Icelandic assets held in the United Kingdom. The UK, and Dutch governments, reimbursed most of their depositors for their Icelandic losses, and claimed the money back from Iceland – UK depositors had lost something of the order of over €2.4 billion, the Dutch over €1.3 bn. This represented a per-capita burden of the order of €12,000 for each of the 317,000 Icelanders, or about €40,000 per household, or roughly 50% of Iceland’s GDP. On this, debt interest would be charged at 5.5% per year – a superb rate of return these days. According to the FT, “A year’s interest equals the running cost of the Icelandic healthcare system for six months.”

The deal was approved by the Icelandic Parliament on a narrow 33-30 vote, but over 60,000 people (some quarter of Iceland’s voting population) raised a petition against it, so that President Olafur Ragnar Grimsson refused to sign legislation and blocked the settlement – an implicit vote of no confidence in the Centre-Left Premier Johanna Sigurdardottir. A referendum will take place before 6 March. “The involvement of the whole nation in the final decision – said the President – is … the prerequisite for a successful solution, reconciliation and recovery.”

















Two out of the three opinion polls taken since the president’s decision indicate that the legislation will be rejected in the referendum. Considerable pressure is being placed on Icelandic voters, under threat to lose a $10 billion loan package by the IMF, the EU and Nordic countries, and to see the rejection of Iceland's application to join the European Union, which was submitted last July.

The roots of the Icelandic crisis are in the unrestrained neo-liberal policies followed over the last ten years: the privatisation of the banks in question, their de-regulation, the policies pursued by a former Prime Minister of Iceland both in government and then as governor of the Central Bank, not to mention the responsibilities of British and Dutch regulators faced with inordinately fast growth in the foreign operations of the Icelandic banks. “Since the banks had turned Iceland into a hedge fund, with massive short-term foreign currency liabilities used to finance risky long-term assets, the economy was doomed.” (Martin Wolf, FT, 14 January 2010).

Deposit guarantees at the time of the Icelandic banks' collapse differed across Europe, with different national ceilings (only €22,000 in Iceland); what counts is the nationality of deposit-taking banks, not that of depositors. EU regulations require only that a deposit-guarantee system must be in place with “sufficient resources” to cover deposits, but leaves the central bank’s top up (up to 100% in the Netherlands) to bilateral treaties that neither the UK or the Netherlands have with Iceland. Moreover the Dutch Finance Minister Wouter Bos admitted that deposit guarantees are not designed to cover the case of systemic crises (see Sveder van Wijnbergen, NRC Handelsblad, 12 January 2010). And of course such guarantees are not a claim that can be instantly executed at the request of the depositor or his government, but a credit that can be challenged and tested in courts. It is not by chance that Alistair Darling still has not compensated foreign investors in Northern Rock.

The UK and the Dutch are at liberty to cover their nationals’ deposits with Icelandic banks but – until an agreement with Iceland not only has been signed but has also cleared all the protective hurdles put in place by the Icelandic constitution – they cannot unilaterally and automatically execute their resulting credits towards Iceland. The use of anti-terrorist legislation by Gordon Brown to seize Icelandic assets in Britain undoubtedly damaged Iceland’s credit rating and credibility; it was an outrageous, illegitimate insofar as it had nothing to do with terrorism, crass and aggressive move that backfired, notably the referendum initiative was taken by an Association that called themselves “Icelanders are not terrorists”. If Iceland needed a pretext to have second thoughts about the deal, which it does not, redoubtable Gordon Brown’s use of anachronistic gunboat diplomacy is more than enough.

Iceland is already over-indebted. Its stock exchange fell by 90% in the crisis, the krona has lost more than half its value against the euro since July 2007, and even the IMF reckons that “further depreciation of the currency would not be feasible, as it would raise the debt-to-GDP ratio to 240%. The Icesave deal would have done the same. The country’s ability to pay foreign debts – out of net exports – is limited” (Michael Hudson, FT 13 January 2010). According to an OECD economic survey (September 2009) between 2007 and 2010 Iceland's real consumption will have fallen by almost a quarter and domestic final demand by almost 30 per cent. Iceland can invoke customary provisions for "onerous debt". A renegotiation of the original settlement with the UK and the Netherlands would be in the interest of creditors as well: claiming the impossible is bound to result in obtaining less than if a more modest but feasible claim was put forward.

The same bullying tactics – not to say blackmail – that pushed Ireland into ratifying the Lisbon Treaty in last year’s referendum under threat of losing all kind of EU subsidies, are now being used to bully Iceland. Wouter Bos threatened an EU boycott and International Monetary Fund blockade, and a Dutch director of the IMF, Age Bakker, announced that all aid already committed to Iceland would be delayed – a decision that is not his to take but for the IMF Board of Directors, within which he would have to abstain on this issue because of his evident conflict of interest. This is a further disgrace, for neither the interests of Ireland nor those of the EU, or the interests of global financial stability, are changed by a jot with the settlement of a relatively small claim (by EU and IMF standards) with or without a dispute – a settlement which will have to be negotiated, or ruled upon in the European Court of Justice, but either way will be resolved in due course. There is no legal or moral case, and – more to the point – it is not in anybody’s economic interest, to imprison Icelanders in their own country for debt.

'Lord' Myners, the UK Financial Services Secretary, has said that if the deal with the UK and the Netherlands is rejected in the referendum, voters would “effectively be saying that Iceland does not want to be part of the international financial system” (Martin Wolf, cited). It is true that after the President’s decision Fitch has already downgraded Iceland debt to junk status (though not other rating agencies, who have refused to aid the pressure), but it is up to the Icelanders to decide at what price they want Europe and access to international finance. Not unnaturally Icelandic support for joining Europe has decreased significantly since the dispute: by last September a Gallup poll showed that 48.5 per cent now were opposed and only 34.7 per cent in favour. Support cannot have improved since then. The threat of not joining the EU might be treated by Icelanders as a welcome promise.

There are only two redeeming features of this particular Icelandic saga. One is Iceland’s small size. Small is not only beautiful, it is also economically manageable and digestible. €3.8 billion is chump change these days. Which offers the main, probably only ground left for hope in Latvia.

The other piece of good news is that, at the end of last October, McDonalds announced the closure of its three outlets in Iceland and said that it had no plans to return. This was due to the “very challenging economic climate” and the “unique complexity” of its operations (i.e. importing most ingredients from Germany at rising costs, with the Economist’s Big Mac Index still making the krona very much over-valued). Such a privilege for Iceland is shared with only Albania, Armenia and Bosnia and Herzegovina in Europe. A high price to pay for exclusivity, but a privilege nevertheless.

The Year of the Tiger: Paul Krugman’s spurious case for protectionism

Free trade – domestic, international, global – is certainly efficient, provided that a large number of usually unspoken but well known conditions are satisfied concerning, broadly, the nature of technology, competition in the markets for goods and factors, and government policy instruments. Efficiency – in the Pareto sense of cost minimization or output maximization under constraint – is not a foregone implication of free trade, but it can reasonably be presumed until it is specifically disproven for a given time and given trade partners: the burden of proof rests with protectionists.

Paul Krugman, in his Chinese New Year (The New York Times, 31/12/2009) argues that China’s refusal to allow a revaluation of the yuan, on the strength of associated unilateral controls on capital inflows, justify the “very mild protectionism” that China is confronting at the moment. Should such an under-valuation persist, Krugman envisions and recommends the escalation of mild protectionism into “something much bigger”.

“China has become a major financial and trade power. But it doesn’t act like other big economies. Instead, it follows a mercantilist policy, keeping its trade surplus artificially high. And in today’s depressed world, that policy is, to put it bluntly, predatory.”

“Here’s how it works: Unlike the dollar, the euro or the yen, whose values fluctuate freely, China’s currency is pegged by official policy at about 6.8 yuan to the dollar. At this exchange rate, Chinese manufacturing has a large cost advantage over its rivals, leading to huge trade surpluses.” Yuan appreciation is prevented by Chinese restrictions on capital inflows and by its large scale purchases of dollars, leading to cumulative reserves of over $2 trillion. In the past Chinese dollar purchases contributed to keeping the US interest rate low (a mixed blessing, for it helped inflate a housing bubble). Today, “China’s bond purchases make little or no difference” to the US interest rate; instead, Krugman argues, “that trade surplus drains much-needed demand away from a depressed world economy. My back-of-the-envelope calculations suggest that for the next couple of years Chinese mercantilism may end up reducing U.S. employment by around 1.4 million jobs”.

This is how Paul Krugman arrives at such a devastatingly high contribution to US unemployment. For 2010-2014 a Chinese current account surplus of 0.9 percent of gross world product has been projected (Blanchard and Milesi-Ferretti, two IMF top-officials, though speaking in a private capacity). This can be thought of as a negative trade shock to the rest of the world, actually slightly larger than China’s current account surplus because an identical shock would produce a lower surplus by depressing also Chinese trade. Ignoring this small correction, and assuming an average multiplier applying also to all other autonomous national expenditure items, of a plausible order of magnitude of, say 1.5, “we’re looking at a negative impact on gross world product of around 1.4 percent. Not huge — China isn’t the principal obstacle to recovery — but significant."

"And, if we think of the United States as bearing a proportionate share, and also use the rule of thumb that one point of GDP = 1 million jobs, we’re looking at 1.4 million U.S. jobs lost due to Chinese mercantilism.” (See Krugman’s post Macroeconomic Effects of Chinese Mercantilism, 31/12/09).

To buttress his argument, Paul Krugman quotes Paul Samuelson: ““With employment less than full ... all the debunked mercantilistic arguments” — that is [Krugman adds] claims that nations who subsidize their exports effectively steal jobs from other countries — “turn out to be valid.” He [Samuelson] then went on to argue that persistently misaligned exchange rates create “genuine problems for free-trade apologetics.” The best answer to these problems is getting exchange rates back to where they ought to be. But that’s exactly what China is refusing to let happen.” (Krugman, The Chinese Year, cited).

Krugman’s argument is a Curate’s Egg: good, but only in parts. It is - up to a point - devastatingly right in his new-found support for protectionism, and it is irredeemably irrelevant with respect to yuan undervaluation.

If the economy is nowhere near full employment, as Krugman rightly notes to be the case, the domestic opportunity costs of both inputs and outputs are lower than their prices. This is, by itself, a sufficient case for government subsidies to lower prices down to opportunity costs, which for fixed production factors can be taken as close to zero, or for protection by means of a countervailing tariff. This regardless of whether there is an exchange rate mis-alignment. But what if the artificial undervaluation of an international competitor’s currency is so large that even bridging the domestic gap between prices and opportunity costs, or introducing equivalent import tariffs, domestic competitiveness cannot be restored? In that extreme case, there is simply no longer a case for protection, but only a case for wage restraint, or productivity promotion, or other competitiveness-enhancing measures.

What difference can it possibly make, from a competitor's economic viewpoint, whether a country is internationally super-competitive because of low wages – whether due to high unemployment, or low unionisation, strike prohibition or authoritarian rule – or high productivity, because of state subsidies or exchange rate undervaluation – whether due to direct controls or Central Bank market intervention? The prices at which China is willing to trade are what they are, the US can take them or leave them. If there is an advantage from US trade with China when China’s competitiveness is due to its low wages it will still be there when it is due to exchange rate undervaluation instead. Or not, as the case may be. Or won’t it?
Obviously when a country signs an international trade Treaty, or joins a Common Market, and a fortiori a Currency Union, concerns about fairness will induce all signatories to adopt general common rules enhancing competition, promoting institutional harmonization and economic convergence, preventing or limiting state subsidies, as well as tariff and non-tariff restrictions, while retaining the ability to introduce protectionist measures in cases of failure to comply with these rules. But Paul Krugman confuses the moral and legal right to implement a protectionist trade policy, in the face of unfair under-valuation, with the economic case for it.

The economic case for protectionism, or the lack of it, must be the same regardless of the ultimate source of a competitor’s super-competitiveness. And, by the way, I do not believe that Paul Samuelson might have referred to "nations ... effectively steal[ing] jobs from other countries" only in the case of under-valuation: any devaluation, if successful in improving the trade balance, exports unemployment regardless of whether it leads to an undervalued or an overvalued or an appropriate exchange rate.

Against Scroogenomics

Joel Waldfogel, Professor of Business and Public Policy at Wharton, Pennsylvania, makes a powerful case against buying Christmas presents: see his Scroogenomics – Why you should not buy presents for the holidays (Princeton University Press, 2009, review), and his earlier article "The Deadweight Loss of Christmas" (American Economic Review, December 1993, 83, 5, pp. 1328-1336).


Ebenezer Scrooge and Bob Cratchit

Waldfogel argues that “gifts may be mismatched with the recipients’ preferences”. We are worse at buying for other people than we are at buying for ourselves. As a result, a gift is likely to “leave the recipient worse off than if she had made her own consumption choice with an equal amount of cash. In short, gift-giving is a potential source of deadweight loss”. Waldfogel estimates, on the basis of a survey given to Yale undergraduates, gift-giving losses between 10 percent and a third of the value of gifts. The most efficient are gifts from friends and “significant others”; the most inefficient are those from members of the extended family, who therefore would be better advised to give cash. On average about 18 per cent of the value of gifts is estimated to be a deadweight loss. Waldfogel’s latest estimate of seasonal presents in the US is $85bn, i.e. which on his reckoning involves a net loss of over $15bn a year, which obviously could be better employed in alternative private or public pursuits.

Speaking as an economist, I am ready to acknowledge that economists are inclined to be spoilsports and miserable sods. Professor Waldfogel is no exception.

First, most gifts are either objects predictably coveted by the recipient or novelties not yet experienced by her but recognized as superior by the giver, and just as likely to surprise and please the recipient.

Second, gifts give rise to reciprocal exchange and a whole network of social relations (see Marcel Mauss, Essay sur le don, 1924). Reciprocity in gift-giving, including Christmas presents, instead of compounding inefficiency, has the added benefit of affirming and strengthening bonds of love and friendship. An exchange of gifts whose prices cannot be precisely guessed leaves an open-ended balance: it is as if both parties opened a credit account with one another, on which they could overdraw in the future.

Third, presents are statements about the consideration and the status enjoyed by the recipient, regardless of a mismatching of gift and preferences. Besides, even unwanted gifts can be, and mostly are, re-cycled: a gift multiplier is set in motion in which the disappointed recipient (who cannot be made worse off by the present) can realize the full value of the unwanted gift by passing it on, while the new recipient is made happier at no extra cost. The circulation of unwanted gifts is a kind of segmented barter system, where circulation stops if and when a sufficiently appreciative recipient is found.

The real pain of seasonal gift-giving is its concentration on one or two weeks in the year, inevitably leading to a frantic last-minute search for suitable objects, first in one’s mind and then around the shops. Although the first search could be eliminated by publicizing personal wish lists, the second by diluting purchases over time.

Everybody interested in receiving appropriate presents should keep a public wish-list – say, on one’s website – of coveted objects, roughly ranked according to their perceived ratio between satisfaction expected from those objects and their estimated price. Then a potential giver could go down the list until he finds an affordable single item – this would take care of indivisibilities, unless givers pooled their resources – and possibly go further down the list as far as he can afford. An object would be removed from the list as soon as someone made an irrevocable commitment to give it, so as to avoid duplication.

The problem with gifts, Waldfogel argues, is that the donor of an unwanted gift seldom gets a feedback from the recipient’s disappointment, and never learns; with a prior indication of individual preferences there would be no need for such a feedback. The incentive to keep a wish-list up-to-date is the resulting maximization of individual satisfaction from the total gifts received. Moreover, potential givers would be more generous than they would be otherwise, given the certainty of their gifts being well received.

Diluting purchases over time is perfectly possible, but hard for some people. A dear aunt of mine used to have a capacious and apparently inexhaustible “gift cupboard” always at hand, but I find it very hard to accumulate suitable gifts over time, since giving at once is an irresistible urge. One possible solution is to give presents throughout the year whenever an attractive and suitable object is found, instead of giving at Christmas, and to make oneself known for that particular habit.

Whatever you do, give widely and generously this Christmas, just as Ebenezer Scrooge did in the end. My token gift to you is a set of the collected posts from this Blog, “Transition – April-December 2009”, downloadable from my Website under Publications Miscellaneous.

A Very Happy Christmas to all my readers, and a Smooth Transition to a Super New Year.

European Bail-Outs: Unaffordable, Illegal, Conditional

The possibility of sovereign default within the Eurozone is still being contemplated uneasily by economic commentators. “Is the Greek crisis the beginning of a deeper sovereign debt crisis that could destabilise the Eurozone?” Paul de Grauwe (Leuven University) argues convincingly that “… with Eurozone government debt standing at 85% of GDP at the end of 2009, the Eurozone is miles away from a possible debt crisis. Things are different in some individual countries, in Greece in particular, a country with a weak political system that has been adding government debt at a much higher rate than the rest of the Eurozone and that in addition has a debt level exceeding 100% of GDP. So, while the Eurozone as a whole is no closer to a debt crisis than is the US, some of its member states have been moving closer to such a crisis.” Fair enough, especially considering that Greece has been cooking the books before and after joining the Eurozone, its government has just rejected any serious macroeconomic maneuvre, and is heading for a budget deficit/GDP ratio now officially set at 12.6% of GDP but more likely to reach 15%, and poised to exceed 130% government debt/GDP ratio.

Paul de Grauwe then asks: “Is it conceivable that a debt crisis in one member country of the Eurozone triggers a more general crisis involving other Eurozone countries? My answer is that yes, it is conceivable, but that it can easily be avoided.” His reassuring stance, unlike his optimism on sovereign default, is utterly unconvincing.

Paul is confident that a general crisis would be avoided because “A Eurozone bailout is likely”. “The other Eurozone governments are … very likely to bail out Greece out of pure self-interest. There are two reasons for this: First, a significant part of Greek bonds are held by financial institutions in Eurozone countries; these institutions are likely to pressure their governments to come to their rescue. Second, and more importantly, a failure to bail out Greece would trigger contagious effects in sovereign bond markets of the Eurozone. … The local sovereign debt crisis would trigger an avalanche of other sovereign debt crises. I conclude that the Eurozone governments are condemned to intervene and to rescue the government of a member country hit by a sovereign debt crisis.” This is arbitrarily selective pessimism, a worse case scenario for contagion – without the support of precedents – turns out to be a best case scenario for the likelihood of a bail-out. Paradoxically, Paul’s pessimism on contagion transforms itself into excessive optimism about a European bail-out.

What about the cost? Paul de Grauwe tells us that a bailout is affordable: in the unlikely event that Greece defaults on the full amount of its outstanding debt, “a bail-out by the other Eurozone governments would add about 3% to these governments’ debt – a small number compared to the amounts added to save the banks during the financial crisis.”

Would it be legal? Paul de Grauwe dismisses the no-bail-out clause of Art. 103 as “a misreading of the Treaty. The no-bail-out clause only says that the EU shall not be liable for the debt of governments, i.e. the governments of the Union cannot be forced to bail out a member state. But this does not exclude that the governments of the EU freely decide to provide financial assistance to one of the member states. In fact this is explicitly laid down in Article 100, section 2.” “Eurozone governments have the legal capacity to bail out other governments, and in my opinion they are very likely to do so in the Eurozone if the need arises.”

Here are three strong objections, on the affordability, legality, and conditionality of a European bail-out.

The bail-out of a country like Greece is affordable – but only up to a point: we should consider that 3% of an average 85% of GDP is a non-neglibible average 2.55% of their GDP on top of their already excessive deficit/GDP ratio which most of them are already required to reduce by extant excess-deficit procedures decided by Ecofin. And an affordable bailout of a country like Greece could be followed or accompanied by the bailout of another country in Paul’s list of troubled economies, “Spain, Ireland, Portugal, Belgium” [not Italy, thanks Paul, but why not?], or even an EU member outside the Eurozone, like Latvia, for which a similar case for a bail-out could be made, and has been made repeatedly over the last year. Or - sooner or later on current trends - the UK.

Art. 103 is adamant: “The Community shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of any Member State…”. The misreading is by Paul de Grauwe: Art. 103 states unambiguously that the Community not only shall not be liable, but shall not assume other Members' public liabilities – thus including necessarily any unilateral aid or support. It also rules both bail-out and unilateral “assumption” of the same obligations by Member States as well as by the Community.

True, a discretionary bail-out is allowed by Art. 100 – and, for that matter, by art. 119 even for non-Eurozone members – but not automatically. Such a discretionary bail-out requires three conditions: 1) a recommendation to that effect by the European Commission, 2) unspecified and therefore arbitrary “exceptional occurrences” – suggesting more of a swine flu pandemics than financial pandemics; and 3) a qualified majority vote by the Council. Paul de Grauwe fails to mention such conditions.

Finally, presumably the “assumption” by EU authorities or Member States of responsibility for a bailout would have to be accompanied by the EU and or Member States' ability to impose conditions on economic policy and especially on the fiscal policy of the bailees. Angela Merkel effectively expressed this requirement by proposing “a huge transfer of sovereignty to the centre, when she said that the EU should have a right to intervene in a situation like [the current Greek situation] (presumably in exchange for a bailout guarantee)”, see Wolfgang Munchau, FT 14 December. Writing in Handesblatt yesterday, Sebastian Dullien and Daniela Schwarzer “make the case that a clear rule should be established on the conditionality of support. The rule should forsee that the country temporarily loses sovereignty over fiscal policy to the European Commission or the Eurogroup, which should be given a veto power over national budget for a specified post-crisis period.” (Eurointelligence.com, 16 December).

Markets obviously do not believe there is going to be a European bail-out – or Greece would not have to pay a 250 points premium on its debt over the rate on German bonds. And if markets do not believe in a bail-out, why should investors who have received that premium because of such a disbelief benefit from a bailout? Let them take the full risks with the premium that has gone with it.

Having said all this, one can only agree with Paul de Grauwe’s bottom line, that “... the Eurozone governments should make clear where they stand on this issue. Not doing so implies that each time one member country gets into financial problems the future of the system is put into doubt.” Brussels transparent and clear rules should replace those - arbitrary, discretionary and unpredictable - that in our post of 30 November we called ”Moscow rules”.

A non-bail-out bail-out?

In our latest post (30 November) we discussed the possibility of a European bail-out in case of sovereign default by an EU member state, regardless of EMU membership. As it happens, The Economist of 3 December has a piece under Economic Focus on precisely “What would happen if a member of the euro area could no longer finance its debt?”.

The Economist recalls “That famous headline from the Daily News ran after President Gerald Ford refused to bail out New York City in October 1975, when the city was close to bankruptcy ... “: “Ford to City: Drop Dead.” “Within weeks Ford relented. Behind the belated rescue lay a fear that default by New York would hurt the credit of other cities and states, and perhaps of America.“

At present even high deficit and high debt countries like Greece, Ireland and Latvia can borrow at no more than 2-3 percentage points over the 3.1% rate on German bonds – hardly a danger signal yet – but this might not last forever, especially in view of their poor wage competitiveness.

The Economist acknowledges the ““no bail-out” clause that prohibits one country from assuming the debts of another [art. 103 of the Treaty establishing the European Community, see our earlier post]. That makes Greece’s public finances a matter between it and its creditors. Any promise, tacit or otherwise, of a bail-out by others would only encourage more profligacy (a view that mirrors Ford’s initial stance towards New York). In principle, a default by Greece or by any other euro-zone country would not threaten the euro any more than default by New York City in 1975, or California today, would mean the end of the dollar. Indeed, membership of the euro could help make debt-restructuring more orderly, since it would remove currency risk from the equation.”

But The Economist suggests an alternative, which is what actually happened to New York: “The non-bail-out bail-out”. Meaning: technical default, with some debt-holders not getting their money back, and a drastic fiscal squeeze. “The city had to cut public services, shed jobs, freeze pay, abandon capital projects and raise taxes to make sure it could pay back the federal loans. Such belt-tightening had proved necessary even in the months before the rescue. When it came, the president could claim that “New York has bailed itself out.”

“It is easy to imagine a similar kind of hard bail-out, should a euro-zone country ever run short of cash.” “It would be hard to sell [the bail-out] to voters in rescuing countries unless, as in New York’s case, the interest rates on bridging loans were punishingly high.” “A tough-love bail-out would still need someone with deep pockets to provide the cash. Given the state of public finances even in more stable countries, such as France, that cannot be taken for granted. Germany is better placed but would be unwilling to act alone.”

The Economist is confused and confusing. Would there or would there not be a bail-out? This is the question. Even unilateral aid from Germany would have to be authorized by the Council, for it not to be prohibited by art. 103 of the Treaties establishing the European Community (see our earlier post). That conditions for a bail-out, if any, would have to be tough, or be preceded by self-imposed austerity, is another matter. The defaulting country can always turn down financial assistance if it does not like the conditions, but they may still be preferable to no bail-out.

The Economist fails to provide an answer. The crux of the matter – as pointed out in last week’s post, is the absolutely discretionary nature of a bail-out, depending exclusively on a Council’s decision on “exceptional occurrences”, on a recommendation by the European Commission.

And, in view of their analysis, what for?