Today on the Eurozone Crisis
By Arnold Kling
The best case scenario is that those countries bite the bullet and restructure their debt now, since to delay is to make any restructuring much more painful and expensive than it needs to be.
Pointer from Mark Thoma.
Salmon complains that as far as the latest plan is concerned, “the commitment is still vague.” What I want to suggest is that for the politicians, vagueness is a feature rather than a bug. This reflects a fundamental misalignment between political incentives and economic requirements.
What markets and the economy need are policies that resolve uncertainty. That way, people know who is going to take a hit. Most important, they know where they can invest with confidence going forward.
What politicians need are vagueness and opacity. Having a clear, well-defined policy exposes the politician to the people who are hurt by that policy. Thus, instead of producing a balanced budget today, you produce a plan to produce a plan to balance the budget down the road. Instead of restructuring sovereign debt, you make a commitment that everyone will be made whole, without explaining how that commitment will be honored.
For example, the United States managed to make its insolvent banks whole (for now, at least), using a massive subsidy from the Fed. I agree with David that the best analysis of this comes from Jon Stewart. Naturally, this subsidy was made as vague and opaque as possible. The Fed will tell you that this was necessary to prevent runs on the weakest banks. But in fact the motivation was much more that the Fed wanted to avoid the political resistance that would have built up had people actually known what it was doing.
In the Eurozone crisis, the political leaders face a delicate challenge. If they are too vague, the markets will be skeptical, and the crisis will continue. If they are too precise, they will expose themselves to backlash from the public. So far, they have erred on the side of vagueness. This may surprise people who expect technocratic excellence, but it is a natural outcome, just as the failure of the U.S. to fix its budget problems is a natural outcome.