Two Cheers For Fiscal Austerity: Part I.
By Anthony de Jasay
Putting things in absurdly comic terms may highlight their truth more than serious argument ever could. Frédéric Bastiat’s mock advocacy of a “negative railway” made the idea of protecting horse drawn transport from the advance of technology unforgettably laughable. The notion of a “negative factor productivity,” applied to the state as a supposed factor of production, could be similarly enlightening, though far less funny.
Much of the systemic and secular theme starts from the widely shared impression that the 2008 mayhem was due to the inability of free markets to stay in equilibrium, or to regain it when once lost. The contrary view, namely that it was due to the markets not being free enough, having been interfered with, for instance, by strong government sponsorship of mortgage lending to insolvent first-time house buyers, is not given much of a hearing. If markets are by their very nature unstable—and too many people from George Soros down to village school teachers are sure that they are—self-regulation cannot be trusted. A consensual welcome mat is laid out for a boundless procession of new regulations, mostly in the financial services area where markets are the most sensitive because transactions costs are the lowest.2
In recent gropings for a “new order” to replace the banker-ridden greedy capitalism, two items have stood out in a somewhat startling fashion: the “battle to defeat the market” and the Greek incident as a forerunner of the sovereign default threats that will rattle the eurozone and that, for no very evident reason, must at all costs be resisted “to save Europe”.
On the first of these headings, the German government has repeatedly cast the financial market in the role of a hostile force that upsets stability. Instability must not be tolerated; the politics of the democratic state must fight the dark forces of the market. It must, and will, defeat them. The first step to this end is to drive back “speculation”. Hence the German interdiction of short selling of sovereign debt securities and of “naked” speculation. These are puerile measures showing an appalling lack of common sense. Fortunately, they are ineffective, for a transaction banned in Frankfurt can migrate to London. Should London succumb to moral browbeating about European solidarity—a most unlikely prospect—the transaction could move to Singapore or any other place whose computers can talk to those in the rest of the world. However, the general failure in Continental Europe to grasp the true role and effect of speculation is symptomatic of the counter-productive mindset that dominates policy-making in the area.
How did speculation “against” Greek government bonds work? If it was successful at all, it must have sold Greek bonds before they crashed and bought them back after they crashed. By selling high and buying low, speculators damped down the high price to some extent, and shored up the low price to some extent, reducing each way the volatility that would have prevailed if the speculators had not speculated it down. Frau Merkel spoke as if it had been the speculators who had made Greece crash. Obviously, they did nothing of the sort and could not have done so if they had tried. The market for Greek government debt collapsed because it realised, much too late in the day, that Greek public finances looked hopeless even in their window-dressed form. Like shock-absorbers, the speculative “short” position opened up at the outset and closed again after the event, has softened the impact of what was becoming apparent, i.e. that the Greek state was rushing headlong towards default. It was not by “combating the speculators” that it could be stopped and reversed.
Why, however, was it so important to reverse it? Why would the “new order” of tightly regulated and neutered capitalism, with markets obedient to the will of governments offer better results?
It was proclaimed as axiomatic that Greece must be saved, and it was “saved” by European governments, the Commission and the IMF jointly putting up 110 billion euros to ensure the redemption of Greek state debts for an initial three years. As far as one can see, this gesture “saved” the European banks and the diaspora of Greek shipping magnates from losing the money they rashly and thoughtlessly invested in Greek bonds. It did not “save” the Greek economy from anything worse than reverting from the euro to the drachma on a devalued basis, thus making the competitive position of the country a little less hopeless. It did not “save” the eurozone from its basic weakness, namely that member countries with different cost structures have to live with the same currency—like a fixed exchange rate graven in granite—and the same central bank discount rate. Postponing Greek default by three or five years will cost the rescuer governments a substantial percentage of 110 billion euros which they will lose when Greek sovereign debt will inevitably be “restructured”.
It is also treated as axiomatic that if Greece defaults, Portugal, Spain, perhaps Italy and even others will follow suit “by contagion”. But there is nothing contagious about a country failing to balance its books. Though bandying about meaningless words like “contagion” and “toxic” is not particularly helpful to sentiment, it does not cause sovereign default to spread from one country to another if such default was not written on the wall to start with. Default by California would not cause Illinois to default; it is the state of the public finances of Illinois that would cause it.
Misunderstanding, the loss of common sense, the thoughtless swallowing of populist rhetoric and pompous pseudo-expertise seem to be guiding the great enterprise of remodeling capitalism and liberating us from the cruel dictatorship of markets that will fail and fail again unless held tightly under control. Perhaps there was a case for a sharp look at the rules, constraints and distorted incentives without which the mayhem of 2008 could not have happened. What the great enterprise of renewing and reforming is about to do instead is to find ways and means for cluttering up the economy worse than it ever was. Fortunately, like the patient who survives intensive medical treatment, the European economy will not stop in its tracks even if it is shot in the foot by its caring but bemused political masters.
This was the title of Lenin’s famous pamphlet which he wrote in 1902 on strategies for the Russian communist movement.
Like Cato the Elder who seldom failed to add to a speech that “by the way, Carthage ought to be destroyed”, French and German political leaders seldom miss an occasion for urgently demanding the adoption of a worldwide “Tobin tax” to increase transactions costs. Fortunately, other G20 governments simply shrug off this proposal as being almost too silly to be discussed.
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For more articles by Anthony de Jasay, see the Archive.