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     Sep 28, 2011


THE BEAR'S LAIR
The US needs Ordnungspolitik
By Martin Hutchinson

The resignation a week ago of Jurgen Stark, Germany's representative on the executive board of the European Central Bank (ECB), was due to a failure by the ECB to follow the German concept of Ordnungspolitik.

In the German view, Ordnungspolitik - which may roughly be translated as the politics of order - demanded that Greece be treated harshly because of its failure to follow even the most basic rules of euro membership, while the ECB should avoid risking its credit standing by investing in the debt of tottering Mediterranean countries. It's a very useful concept; its presence explains much of Germany's extraordinary economic success, and its recent

 
absence explains many of the failures in the remainder of the West.

Ordnungspolitik is not a traditional attribute of German economic life. While the great Otto von Bismarck was undoubtedly a devotee, under Kaiser Wilhelm II economic policy was determined largely by the whims of the kaiser himself and his leading ministers at any given moment; consequently it tended to be somewhat arbitrary. Under the Weimar Republic, the breakdown of political and social order extended to the economic sphere. There was no Ordnungspolitik about Rudolf von Havenstein's creation of the great inflation; he simply printed money in order to meet the government's day-to-day bills.

Then after a brief period of order following the December 1923 establishment of the rentenmark (which since it was itself a fiat currency might have failed completely without a certain degree of faith in the Ordnungspolitik of the system) Germany fell into the Great Depression followed by the Third Reich, an embodiment if ever there was one of government by whim and expediency.

The champion of Ordnungspolitik, who cemented it irretrievably into German economic life, was its aged post-war chancellor Konrad Adenauer (Ludwig Erhard was always supposed to be the architect of Germany's economic miracle - he certainly liked people to think so - but Adenauer was unquestionably the boss and setter of the philosophical tone.) Under Adenauer, the Bundesbank (central bank) was set up with two features the US Federal Reserve lacks - a unitary decision-making structure and an ownership by the German Lander (the country's 16 federated states) that prevented national parliamentarians or even the national government from direct meddling.

In consequence, German monetary policy was always the tightest in Europe and no monetary slack was left for the state to run excessive budget deficits. German industrial relations were also organized by Ordnungspolitik; unions were given seats on German company supervisory boards, but pay bargaining thereby became largely consensual, with far fewer major strikes than in Britain or France.

The social market economy produced a somewhat more redistributive tax system than in Britain and the United States, so its combination with Ordnungspolitik (which limited tax evasion) produced remarkable social and industrial peace, as well as enviable economic success.

In the 1990s, the system seemed to break down. The German industrial system came to seem inflexible, as the Anglo-American model produced unprecedented prosperity and stock markets roared ahead. In retrospect, it is clear that the problem was not the German economic system, which reacted adequately to the changes of the 1990s, but the immense costs imposed on West German industry and society by Helmut Kohl's foolish 1990 decision to unify the West and East German marks on a 1:1 basis, and the massive subsidization of East Germany that resulted therefrom. In any case, by 2005 the costs of East German reunification were beginning to decline, and German's labor competitiveness was again improving rapidly against its luckless fellow members of the euro.

Coming from a background of Ordnungspolitik, the German public naturally sees Greece's hopeless economic position as being the result of corruption and unfair subsidization of failure from the European Union budget. Conventional commentators, notably the Financial Times and The Economist, urge the Germans to rise above this view or, if this is not possible, the German government to impose a bailout solution on them. For the average journalist, Greek disorder and sunshine is greatly preferable to German regulation and gloom.

There are two problems with this approach. First, it does not work. Given the level of Greek uncompetitiveness, no amount of subsidization will restore Greece's ability to pay its way economically while remaining a member of the euro; it will simply relapse into a perpetually subsidized basket case, to the great moral detriment of the Greek people and the even greater financial detriment of northern European taxpayers.

Second, even a cursory examination of the current world economy should convince us that the German approach to economic management is in most respects correct. Rather than regarding it as an eccentric anachronism, citizens of less well-managed polities - one thinks notably of the United States, Britain, France and the Mediterranean European countries - would do well to adopt its principles and thereby reform their own economic arrangements.

In the US and Britain, for example, Ordnungspolitik is the quality most notably lacking in financial markets. It should be a basic principle of sound financial management that the gambling activities of modern trading should not take place in institutions benefiting from deposit insurance. The US$2.3 billion loss from a rogue trader at UBS has demonstrated again that such activities should be confined to hedge funds or other privately owned operations in which capital is provided by principals willing to lose everything if their trading desks blow up.

My partner in authorship, Kevin Dowd, believes that abolishing deposit insurance would eliminate this problem, but that would simply transfer the risk to retail depositors, who have neither the power nor the knowledge to prevent problems. The only true solution is a system of Ordnungspolitik, either regulatory or much better self-regulatory, in which speculative trading activities and deposit taking are not permitted to coexist in the same institution.
Monetary and fiscal policies have in recent years suffered from an acute lack of Ordnungspolitik. In a well-ordered system, governments do not run budget deficits except at times of deep recession, when demands for social amelioration are greatest. Similarly, well-ordered monetary policies allow for negative real interest rates only fleetingly, and certainly do not back the global monetary system into a corner in which the solution to the problems of excessive monetary stimulus is held to be more monetary stimulus. Paul Volcker, German by ancestry, understood the demands of Ordnungspolitik; his successors have lamentably failed to do so.

Similarly in the housing market, Ordnungspolitik demands that the institution making housing loans retains some interest in the creditworthiness of the borrower. In a well-ordered system, it would not be necessary for the originating bank to retain a substantial percentage of the loan itself because the bank would understand it had a responsibility to ensure that the credit was sound, and a legal liability if too many of its loans turned out not to be sound. In the US system, in which lawsuits are brought for frivolous claims and the government both provides quasi-guarantees of home mortgages and issues innumerable vague but legally binding rules about who should get them, the locus of responsibility is lost, resulting eventually in a collapse of the system.

The Solyndra affair (the California-based company suspended its operations in August, leaving the United States government as its largest creditor) is another example of Ordnungspolitik being neglected, to the great detriment of the system and taxpayers. Germany has various systems under which loans are handed out to entities whose activities are thought beneficial to some policy objective or other, but in Germany there are bureaucracies whose job is to vet the loans for soundness, and those bureaucracies are not overruled by politicians benefiting from campaign contributions.

As in the Weimar Republic or the Third Reich, lack of Ordnungspolitik in US economic management bears a primary responsibility for our current troubles. The principle provides an excellent guideline for questions currently thought to be of great difficulty.

Greece must be expelled from the euro and allowed to find its own level with a new drachma. Interest rates must immediately be brought up to well above the level of inflation while rigorous programs of public spending cuts must be combined with the closure of tax loopholes to restore integrity in public finances. Slush funds for housing and green energy must be wound down immediately. The Volcker Rule must be rigorously enforced on the largest global banks, so that trading is pushed off into systemically insignificant hedge funds where it belongs.

Konrad Adenauer believed in capitalism, but he understood that capitalism required order in order to thrive. It is a lesson we urgently need to re-learn.

Martin Hutchinson is the author of Great Conservatives (Academica Press, 2005) - details can be found on the website www.greatconservatives.com - and co-author with Professor Kevin Dowd of Alchemists of Loss (Wiley, 2010). Both are now available on Amazon.com, Great Conservatives only in a Kindle edition, Alchemists of Loss in both Kindle and print editions.

(Republished with permission from PrudentBear.com. Copyright 2005-11 David W Tice & Associates.)

 


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