Terribly Nice

English as she is spoken (i.e. in England), rather than American English, or even the bizarre ‘European’ English that emanates from Brussels, is full of expressions such as terribly funny, or terribly good. It’s odd to make the leap from the word terrible, used as an adjective, to something that becomes positive when ‘ly’ is added. To a foreigner, it must all seem terribly confusing.

Almost as confusing as listening to the financial pundits on CNBC Europe rail against LTRO2, now in full swing to the tune of one trillion euros. Confusing because the identical process of quantitative easing (QE) in the U.S. and U.K. sailed through unscathed, apart from the usual mutterings of the Tea Party. In effect, this ‘manufactured money’ is where banks are refinancing (thus the R in LTRO) to soak up bad loans, or more specifically risks on bond holdings.

At an interest rate of one percent, if a bank borrows one billion of funny money, it has an exposure of ten million. All this cheap cash is being used to write down sovereign debt. Which eases the pressure on the EU as a whole, avoiding the bizarre risks of contagion, a strategy devised to mount a concerted attack on the European single currency. It also helps economic recovery, from a crisis the US and UK finance industry provoked in 2008.

So it’s unsurprising that the London and New York powerhouses, backed to the hilt by U.S. rating agencies, are unhappy. They are all in fact very pissed off puppies, because there are many open bets on the demise of the euro. As Mr. Clemens once said, “rumors of my death have been greatly exaggerated.” A particular source of angst are Credit Default Swaps, or CDS―now directed at sovereign debt rather than property.

One perspective on the innards of the European Economy.

It was in this context that I went this week to listen to what Paul Krugman had to say, as he passed through Lisbon to receive a triple(!) honorary doctorate.

Weighed down by the medals of the three universities of Lisbon, each award about the  size of a clay pigeon, the Nobel Prize winner started off by saying he’d never worn so much hardware in his life.

I was expecting a stronger acceptance speech, given Krugman’s columns in the New York Times, but what he in effect did was express a regret about how poorly economists have done in this present crisis. And to that end his speech was brutally honest, almost apologetic. The gist was that the lack of clear direction from economists, who should have understood their economic history better, placed decision-support in the hands of investment bankers, whose knowledge of history is a mumbo-jumbo of charts and trends, and decision-making in the hands of politicians, blown willy-nilly by the fatuous breeze of the polls.

In the midst of these thoughts, I discovered that there are both saltwater and freshwater schools of economic thought. The former from the great universities of the US East Coast, the latter from Chicago, Minnesota, and the like. My preference for saltwater is well established, as long as I am not forced to drink it.

Krugman has repeatedly spoken out against austerity, specifically as a way to resolve what has been going on in Europe. He struck me as an economist with a very clear social conscience, a great concern for the consequences of such policies on the ordinary person. Yesterday’s figure of 24% unemployment in Spain, or 35% youth unemployment in Portugal, very much reinforces these points. As does the perplexing notion of an economic recovery in the US with stubbornly high unemployment.

Globalization has a history, begun in the days of The India Road. Likewise, the history of employment shifts in Europe, the rise of Asia, and present redistribution of jobs within SE Asia, helps us understand what is happening now. Company growth and increased local employment may still be positively correlated, but it is often a weak link. I have an old Japanese car, that will next year emerge from teenage. Old cars need new parts. In this case, what it needed would cost me around twelve hundred dollars in Lisbon. I bought the new part from a store in Southern California two days ago, for eighty-nine dollars. UPS will get sixty for shipping it. To London, where I don’t expect customs duties to be levied. Along the road, there are scores of corporations and individuals just like myself, which half a century ago would need to abide by local rules. And local jobs are lost.

In parallel with the Krugman lecture, I found a very interesting paper this week, called This Time is Different: A Panoramic View of Eight Centuries of Financial Crises. Although it was published in 2008, prior to the sovereign debt collapse, it provides a profound historical perspective on national debt―and as we (apparently don’t) know, history repeats itself.

Looks like we didn't discover sex after all. Two centuries of sovereign debt, from a group of sixty-six countries from six continents.

I’ll only burden you with this one picture, which is pretty cool. The recent spike on the graph is not shown, but we see a two hundred year pattern of boom and bust. In this case the boom is the low bit, the bust (as any self-respecting bust should) is both salient and erect. Some of these peaks are associated to wars, some are not. The swing in the graph, called the variance, is pretty much what happens to oxygen in water, when the system becomes unstable.

One of the messages I take home from the report is that we are all peripherals. When the ill wind blows, it lives up to its reputation and blows nobody any good. The group effect (ok, call it contagion) is almost instant, a vertical surge, like a child’s fever. The recovery is slower and faltering, as if the patient keeps forgetting to take the pills.

George Soros wrote years ago that there were two problems with economic predictions. One was that of self-fulfilling prophecies (a prediction that sugar will go up will make it go up when we all rush to the store). Or a similar but opposing effect, e.g. a discredited politician’s plea for increased consumer spending due to a contracting economy results in further belt tightening.

The second problem is that in economics, the right solution may not be the one that works best. Very possibly due to the first problem. Paul Krugman brought in a further element of confusion, the moral high ground. By doing what is morally right, economic recovery will finally free us, after appropriate penance. This is very much the line we hear from Germany―protestant fire and brimstone: profligate nations should be made to suffer, and through that suffering redemption will come. It may, but not in this world.

The India Road QR links for smartphones: point your camera and click.

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