If I may be allowed to indulge in some small Latin, this article should start
with a new pig Latin phrase that implies that the voice of the people (vox
populi) is anathema to their ability to service national debt (pox
debitum).
In Part 1, I wrote about the significant failings of popular movements to
establish the primacy of longer-term prosperity over the expedience of
near-term welfare, inevitably choosing expediency over efficiency.
The expectation that a people confronted with hardships would
make every attempt to wiggle out of the situation rather than confront matters
a bit more directly is the main reason for markets to panic on every occasion
that a democracy encounters hardships.
Last week's graphs showed clearly the widening credit spreads of various
Western democracies in this column. Over the weekend, fears of the European
contagion spreading to the next possible victim, Ireland, were discernible in
last week's startling decline in bond prices. The country's largest-selling
newspaper, the Irish Independent, reported on Sunday as follows:
The
Government has denied for the second time in 24 hours that it is in bailout
talks with the EU, after the BBC reported yesterday that "preliminary talks" on
financial support are taking place.
The BBC report made the unsubstantiated statement that recourse to the EU
bailout fund was "no longer a matter of whether but when". But a spokesman for
the Department of Finance was adamant last night: "There are no talks on an
application for emergency funding from the European Union."
It
then quotes a slew of economists who have a slightly different view and
assessment of the Irish situation:
Nobel laureate Joseph Stiglitz said
Ireland is in a "dismal" position and there is little chance that the
Government's measures to reduce the budget and bail out banks will be a
success.
"The austerity measures are weakening the economy, their approach to bank
resolution is disappointing," Stiglitz, a Columbia University economics
professor, said in an interview in Hong Kong today. "The prospect of success is
very, very bleak" for the government's plan to resolve the problem, he said.
The newspaper then quotes Simon Johnson, a former chief economist at the
International Monetary Fund (IMF) as saying the following:
"For the
sake of the Irish people, it's time to go to the IMF. If you go in now and if
you go in with your partners, you will get a good deal. You may not get such a
good deal next week. It would have been a much better deal if they'd gone in
February because Ireland wouldn't have had to go through all this discretionary
tightening along the route."
While he agreed with the Governor of the Central Bank, Patrick Honohan, that
the IMF might not change the policies already being implemented by the
Government, he warned that this situation would not last.
"It's not untypical that countries wait too long and find themselves in more
desperate straits. If you bring the IMF in this weekend, then Mr Honohan is
exactly on target, but the longer you wait, the longer the politicians
prevaricate, the worse it's going to be for everyone."
He is
referring to the very democratic process of countries filing their national
budgets. With the government looking at other austerity measures in the new
budget to be unveiled early next month, speculation is rife that the political
opposition will likely push for the bill being rejected in parliament, which
would in turn automatically trigger elections.
The obvious implication of political fracture in Ireland and the possibility of
the government going back on its austerity plans is the main reason for markets
to fret.
All of which brings this article to a favorite question of mine that has been
posed rather a lot recently to a bunch of my associates - "what is the most
important lesson from Japan for the past 20 years?"
We're all Japanese now - redux
Last year, I wrote about the Japanese style of broad market intervention as the
new standard for capitalists around the world (see
"We're all Japanese now", Asia Times Online, September 5, 2009).
Perhaps I was too subtle in that article because everything since then has only
reiterated the simple truth that folks don't seem to have learnt the proper
lesson from the Japanese malaise of the past 20 years.
Here is what Paul Krugman wrote in his blog as recently as October 28, 2010:
David
Wessel has an article asking what Milton Friedman would say about quantitative
easing, and concludes that he would have been in favor. But I was struck by
Friedman's 1998 remarks about Japan, in which he basically said that increasing
the monetary base would do the trick:
"The Bank of Japan can buy government bonds on the open market ... " he wrote
in 1998. "Most of the proceeds will end up in commercial banks, adding to their
reserves and enabling them to expand ... loans and open-market purchases. But
whether they do so or not, the money supply will increase.... Higher money
supply growth would have the same effect as always. After a year or so, the
economy will expand more rapidly; output will grow, and after another delay,
inflation will increase moderately."
Well, they did that: staring in 2000, the BOJ nearly doubled the monetary base
over a period of three years.
And the money just sat there. Banks did not, in fact, expand loans. In fact,
Japan's experience is a key element of the case against monetarism. Just
printing notes does not work when you're in a liquidity trap.
All
fair points, but slightly off topic because here is what Paul Krugman wrote in
the New York Times last week in an article entitled "Doing it Again" (emphasis
mine):
The case for a more expansionary policy by the Fed is
overwhelming. Unemployment is disastrously high, while US inflation
data over the past few years almost perfectly match the early stages of Japan's
relentless slide into corrosive deflation.
Unfortunately, conventional monetary policy is no longer available ... So the
Fed is shifting from its usual policy of buying only short-term debt, and is
now buying long-term debt - a policy generally referred to as "quantitative
easing."
... This time, much of the noise is coming from foreign governments, many of
which are complaining vociferously that the Fed's actions have weakened the
dollar ... the hypocrisy is so thick you could cut it with a knife.
As a practical matter, however, this foreign criticism doesn't matter much. The
real damage is being done by our domestic inflationistas - the people who have
spent every step of our march toward Japan-style deflation warning about
runaway inflation just around the corner. They're doing it again - and
they may already have succeeded in emasculating the Fed's new policy.
So there you have the nonsense of the Keynesians (to be differentiated from the
actual articles of Keynes, but that's another story for another day) in two
short articles. First Krugman suggests that monetarism is ineffective and then
quietly contradicts himself with a suggestion that it would be the magic
solution to America's problems if only it were allowed to work properly. That
whole federal government deficit-expansion thing is called a failure, you see,
because the rest of the economy didn't play ball.
Therein lies the core of the discussion of what the real lessons of Japan were
in the first place. To cut to the chase, the answer is political not economic
sclerosis.
The changing demographics of America broadly reflect the economic decline in as
many words as the decline we see in the case of Japan for the past 20 years. An
aging demographic requires stable income and for the sanctity of savings to be
maintained. That is the reason the Japanese government bailed out the banks -
not any great attachment to the businessmen themselves.
In turn, the rock-solid support of pensioners and those benefiting from fiscal
expansion (eg the construction industry) ended up becoming the dominant
political forces in Japan. Readers of my forum will note that this is precisely
the line of argument that various forum members ended up with in discussing the
apparent flip-flops of American polity in the most recent election.
This trajectory is well known and widely predicted; I wrote the "New
Brahmins" (see Asia Times Online, March 29, 2008) highlighting this
trend - and of course, this was hardly the first or only news outlet to express
such opinions. Banks are central to populist reactions because a store of
savings becomes doubly important to an ageing demographic; in the same way that
it did to Japan and now the United States.
With one part of the policy constrained - ie a predilection to protect banks -
comes the other side of the coin, namely the failure to stimulate balance sheet
expansion due of course to stagnant asset prices and the lack of credit
availability.
Low economic growth or stagnation is the easy result; it has the effect of
slowly drawing the noose around the mountain of debt that is accumulated
meanwhile. As the immediacy of debt repayment becomes more stringent, countries
have a choice of either collectively tightening their belts or else choosing to
resort to brinkmanship.
A better alternative is to allow banks to fail while protecting the interests
of depositors. The resulting decline of asset prices combined with a meaningful
adjustment of factor costs (wages, rents etc) allows the resumption of a fresh
economic activity much faster.
Blanket protection of banks doesn't deliver this result, but clearly
politicians feel constrained to do so in order to protect their voting base.
That nexus between savings administration and popular perceptions is quickly
emerging as the Achilles' heel of all democracies that find debt loads
unbearable.
Vox populi, pox debitum indeed.
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