Be Euro-Scared, Very Euro-Scared

August 11th, 2011 at 8:28 pm David Frum | 31 Comments |

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I have spent the past two days at the annual retreat for Canada’s finance minister, Jim Flaherty, at Gatineau near Ottawa. Participants included prominent Canadian business and financial leaders, economists and academics, experts from the nonprofit sector, and officials from the Ministry of Finance.

The retreat is conducted on “Chatham House rules,” ie, no quotation of any particular person. But I can share some general observations I carried away from the conversation.

1) Step outside the United States, and America’s debt problem rapidly tumbles down the list of things that people worry about. They worry above all about a crisis in the Euro, secondly about a double-down US recession, thirdly about a lost half-decade of slow growth through the Western world.

2) How scared are you about the Euro? Be more scared. The world can probably cope with a default by Greece alone, but if a Greek default triggers defaults elsewhere in the Euro periphery, the shock could topple banks around the world. Portugal, Ireland, Greece and Spain have issued huge amounts of Euro-denominated debt. That debt has been bought by banks throughout the world, not just European banks. For example, the big US banks have exposure to PIGS debt that altogether amounts to about two-thirds of their capital.

3) The 2009 stimulus failed to deliver the results it should have, largely as a result of bad program design: it arrived too slow and too much of it sustained existing state government programs, rather than being invested in projects that multiplied their effects through the economy. The economists and the business leaders agreed that government stimulus spending can work-if it arrives fast enough, if it is spent right, and if it is terminated promptly. Canada’s 2009 stimulus spending passed the test, participants believed; America’s stimulus did not.

4) Even very conservative minded business leaders outside the US are baffled by the sudden US enthusiasm for balancing budgets in the throes of the recession, tighter money in the face of collapsing domestic demand, and the dogmatic opposition to any new revenues at any time for any reason.

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31 Comments so far ↓

  • advocatusdiaboli

    Your 4 points all ring true to me David. Well done. But now the question: so how do the presidential hopefuls from all parties measure up to solving those problems? My assessment is they are all striking out from all 3 parties so far. This is ominous but let’s hope someone gains some clarity and soon.

    • Bunker555

      Does Canada have a President. I thought they held an election recently. Or, are you talking about the US. Which three parties do you mean? GOP hopefuls?

  • JimBob

    Frum wants more free money and dollar debasement. That always works.

  • bluestatepastor

    Not having much of a background in economics (i.e., nothing formal beyond a freshman survey course), I really appreciate articles like this one. It’s helpful to gain a wider international perspective on this important issue.

  • armstp

    1) there is no real deficit or debt crisis in the U.S. Sure there is a high deficit because of the loss in tax dollars primarily because of the recession, but this will largely correct itself with growth and get back down to more normalized levels as the economy returns. There is a longer-term deficit problem regarding healthcare costs and the bulge in the population retiring.

    2) Eurozone is a problem, but it seems to be over-hyped. Things will improve over time. So far we are dealing with countries that only represent a very small part of the GDP of Europe. Italy and Spain are not in trouble.

    3) Actually the stimulus did exactly what it was suppose to do, which is to stimulate the economy and stop the free fall. It saved or created 3 million jobs and helped get the economy growing again in a fairly rapid timeframe. Without the stimulus the unemployment rate could have hit 15%. It could have been bigger and not had the tax cuts, which were a waste.

    4) As per point one there is absolutely no reason to be so concerned about the deficit and debt right now. The best way to deal with the deficit is to get the economy growing faster. The deficit and debt have only become an issue because the Republicans have made it one. They are using it as a wedge issue for purely political purposes.

    • cdorsen

      The problem with stimulus spending is that it may dump some liquidity into the market which can, and possibly in our own case, did keep things from falling more. But, it is a temporary hold. It is sort of like giving crutches to someone that can’t walk without examining why they cant walk.

      If you give them crutches to help them walk while they heal from a broken leg, it will keep them up, the leg will heal, and they will come out stronger. If you give them crutches because they are paralyzed from the waste down, it may be able to hold them up temporarily, but eventually they will fall down again unless you can cure the paralysis.

      Our stimulus did not cure the paralysis. It was only a crutch holding our economy up, but you can’t stimulate forever. Eventually, we will fall down again and there will be no more stimulus available. And, sometimes it’s easier and more motivating to learn to walk when you are starting from the ground. You will never learn to ride a bike until you take the training wheels off that are holding you up.

      Sorry, if this is over analogous, but I think it makes the point.

      • armstp

        Enacting emergency stimulus like all the developed countries in the world did was the best solution. It was better than doing nothing. Sure the deficit creeped slightly higher, but it might have went even higher from an even greater loss in tax dollars if we went into a complete free fall and actually went into a depression.

        Emergency stimulus is only suppose to be temporary to kick start the economy, which is exactly what it did. It stopped the job losses and got the economy growing again, which continues to this day.

        I would say it is more like giving food to someone who have fallen down starving and can’t move, so that they can get up and start looking for food on their own. It is not meant to continually feed the person, just get them going. And that is the case with this economy. The problem is that the economy is still moving slow, but is moving.

        I think what you are talking about is that we are some kind of structural economic problem that requires some kind of dramatic change, but that is not proven. We are likely just in a normal business cycle, granted a very deep one that will take time to completely turnaround. You help to stimulate demand and it plays on itself. Don’t forget this economy is still growing and would be growing even more if it was not for the recent EXTERNAL shocks (Europe, Japan, oil prices, etc.).

        The stimulus probably needed to be bigger to give a bigger jump start, given that we find out now that the economy actually went down (-10%) much more than we expected.

      • ottovbvs

        “Sorry, if this is over analogous, but I think it makes the point.”

        The only point it makes is that your understanding of economics is rather shakier than a man on crutches.

      • wileedog

        “Our stimulus did not cure the paralysis. It was only a crutch holding our economy up, but you can’t stimulate forever.”

        Certainly the opposite solution of amputating the legs entirely is hardly going to cure the paralysis either.

  • Frumplestiltskin

    armstp, no I think Frummy has it right about 3. Obama had to make a lot of concessions to get the 60 votes in the Senate and had too many tax cuts in it. I disagree with Frum about state transfers though, we have lost iirc over 600,000 government jobs as it was. I would have preferred no tax cuts and half state aid and the other half infrastructure and other programs but politically that would never have flown.

    I am curious why David has such an old picture of the Eurozone, Britain does not even have the Euro so that is just an old picture of the EU circa what the 1990s? Hell, it does not even have the countries of Kosovo or Montenegro on the map.

    • armstp

      I think most of us on here would agree that there should have been more spending on stuff like infrastructure rather than on lower multiplier tax cuts.

      However, my point is that the stimulus did work and did exactly what it was suppose to do. It delivered the results it exactly was designed to do. Stop the free fall. It was never designed to fill the entire output gap.

      Now you can argue that it should have been bigger or could have been designed differently, but it still delivered on what that plan was suppose to do. Again, stop the free fall.

      • ottovbvs

        “Stop the free fall. It was never designed to fill the entire output gap.”

        Of course that’s what it was intended to do and that’s what it did. The notion that it was going to cover the entire output gap is absurd in the context of an economy as big as ours . Do the sums. It was $800 billion spread over three years basically so what’s $800 billion divided by $45 trillion. I’ll give you a clue. Not much.

        • armstp

          Otto,

          The output gap is how much the difference between where the economy fell to versus where it would have been had there been no recession.

          Actual GDP
          2007 14,074
          2008 14,222 (+1.05%)
          2009 14,140 (-0.5%)
          2010 14,439 (back to close to normal levels of growth – average is about 2.5% over the last 50 years)
          2011 14,993 (CBO estimate) looks to come in close to 1.5-2.0% (but could be higher depending on second half)

          Without the recession if growth would have been about 2.5% GDP would have been 14,425 in 2008. At 2.5% growth it would have been 14,786 in 2009. In 2010 it would have been 15,156.

          The total output gap if adding up the difference between actual and what it would have been if growth continued at 2.5% is:

          2008 $203 bn
          2009 $646 bn
          2010 $717 bn

          The number the Administration originally came up with was an total output gap of about $1.4 trillion; ie. if the stimulus was about $1.4 trillion it would have 100% covered the GDP that was lost over the couple of years of the recession. As it was the actual stimulus was about half of what it should have been to cover the entire GDP lost due to the recession.

      • PatrickQuint

        The American Recovery and Reinvestment Act of 2009 did not bring the country to recovery-level GDP growth or unemployment and it did not engage in significant reinvestment, with only a fraction of the bill going to investing in anything.

        The Recovery and Reinvestment Act succeeded at neither. It (along with the huge deficit spending) stopped the freefall, but it did not bring a recovery as the title suggests it should have. As it stands, Purchasing Power Parity per capita is stagnant, with GDP growth of 2% or less barely outstripping the estimated population growth of about 1%. Considering the distribution of the GDP growth I wouldn’t be surprised to hear that the standard of living of your average American is slipping.

        • armstp

          Why do you think the economy is not recovering?

          It certainly has. We are back to positive growth. The jobs losses have stopped and a net 1.5 million new jobs have been added. Economic conditions are clearly better than they were in 2008 and 2009, when financial markets were frozen and demand was falling off a cliff.

          We are just in a slower recovery than anyone would like, but we are still in a recovery.

          By the way average GDP growth for the last 50 years is about 2.5%, so at 2% we are not far away from average growth rates.

  • Smargalicious

    Let Europe be the lesson for America: decades of socialism only results in massive failure.

    Here is just one example of the results of 40+ years of entitlement programs in America:

    http://stlouis.cbslocal.com/2011/08/11/feds-called-in-to-curb-eastside-crime/

    • armstp

      The only problem with your thesis is that most of Europe is actually doing very well economically right now. In fact, the countries that tend to have some of the highest tax collection in Europe are doing the best and certainly doing better than the U.S.

      • Smargalicious

        army, you’re conveniently forgetting about the non-comparative tax bases.

        Slightly less than half of America’s citizens are taxpayers. The rest are parasites.

        So, tax the 49% of folks who do pay taxes MORE??

        Absurd.

        • armstp

          Everyone in the U.S. pays taxes. They pay consumption taxes and if they work they pay payroll taxes. Not everyone in the U.S. pays federal income taxes because their incomes are too low or if they are rich they take advantage of tax loop holes. Federal income taxes only make up less than half of the taxes the federal government takes in, so everyone in this country pays a pretty large amount of taxes and nobody are, as you say “parasites”.

          By the way your 49% number is bullshit. In 2009 47% of “households” in the U.S. did not pay federal income taxes. That numbers was artificially inflated in 2009 because of all the tax breaks and rebates like “cash for clunkers” that the government offered in that one year to stimulate the economy. If you go back to a more normalized year like 2007, it was closer to 35% of households in America did not pay federal income taxes.

          Go check the numbers on your own if you would like.

  • forgetn

    David

    What foreigners are noticing is that America is ungovernable. American politicians are only able to get elected, but they are incapable of governing. A new recession and higher unemployment will almost certainly lead to a GOP White House; who will see its primary role to cut tax for the constituency which elected them. But like all past republican administrations they will do nothing to cut expenditure.

    At any rate as for as the GOP is concerned, and as so well expressed by Dick Cheney “Deficits do not matter”

    that’s it.

  • ottovbvs

    More Euro panic mongering. Earlier this week we had 48 hours of panic about French downgrades (no matter the rating agencies all denied it) and French long bond rates are around 3%. Not exactly a country on the brink. The Euro is not going to disappear even if in a worst case scenario Greece and a couple of others exited it (and even that’s unlikely). But suppose they did, this would actually have the paradoxical effect of strengthening the currency by removing the weaker links. Sure there’s a lot of Greek and other European debt held by French and German banks but it’s almost certainly manageable since these banks are effectively guaranteed by their govt’s. One source of panic creation has been eliminated in that France and several other countries have shut down speculation against these banks by short sellers. Germany already has a ban on naked shorting. As for US bank exposure I think Jamie Dimon and others would say that a lot of it is covered by CDS. I’m not saying there aren’t big problems out there but they get magnified by things like fatuous downgrades, electronic/proprietary trading and media hype and produce results like those we’ve seen over the past couple of weeks that has produced a completely oversold US market.

    ” Even very conservative minded business leaders outside the US are baffled by the sudden US enthusiasm for balancing budgets in the throes of the recession, tighter money in the face of collapsing domestic demand, and the dogmatic opposition to any new revenues at any time for any reason.”

    They are right to be baffled. It’s completely stupid in the face of a slowing economy when the US can effectively borrow money for nothing.

  • dailyMuckraker » David Frum Might be My Favorite Blogger

    [...] on a roll for the last 3 months. I hate quoting entire posts from someone else, but Frum’s thoughts are too important not to be spread throughout the whole of the Intraweb. I have spent the past two [...]

  • Stewardship

    Isn’t most of the stimulus locked up in bank vaults? I haven’t seen much evidence of bank lending to the business community. I’ve harped on this several times in this forum: US corporations have socked away about $2 trillion. They aren’t spending it either.

    Congress needs to focus on two things: create incentives to get banks to start doling out the minted bills and policies that will get corporations to invest in infrastructure and capital goods.

    Gingrich had it right last night. This needs to be tackled today…not prolonged through November 2012 for the benefit of our party’s candidates. Any elected official who intentionally drags their feet on turning our economy around should be charged with treason.

    • ottovbvs

      “I haven’t seen much evidence of bank lending to the business community. I’ve harped on this several times in this forum: US corporations have socked away about $2 trillion. They aren’t spending it either.”

      Does it occur to you that the reason corporations are not borrowing might not be unconnected with the fact that they are sitting on mountains of cash and already have plenty of spare capacity. There is no shortage of credit available from the banks. Gingrich has no idea of what he’s talking about as usual. Corporations don’t invest in new capacity when they already have sufficient to meet demand. D-E-M-A-N-D is the problem VIZ:

      “Even very conservative minded business leaders outside the US are baffled by the sudden US enthusiasm for balancing budgets in the throes of the recession, tighter money in the face of collapsing domestic demand”

      Most of the stimulus btw has been spent. The $800 million was divided up roughly into 350 billion tax cuts, as similar amount for infrastructure and the balance transfer payments to the states.

  • LFC

    armstp said… 1) there is no real deficit or debt crisis in the U.S. Sure there is a high deficit because of the loss in tax dollars primarily because of the recession, but this will largely correct itself with growth and get back down to more normalized levels as the economy returns. There is a longer-term deficit problem regarding healthcare costs and the bulge in the population retiring.

    No, it will not largely correct itself. All you have to do is look at the Bush/GOP Congress record of adding debt. Here’s the debt increases we saw under Republican policies, including those sneaky Social Security and Medicare surpluses that were “borrowed”:
    2002: $421B
    2003: $555B
    2004: $596B
    2005: $554B
    2006: $574B
    2007: $500B
    2008: $1,017B (Boom!)
    2009: $1,885B (KABOOM!!!)

    Looking at 2003-2007 (tax policies in place and pre-collapse), that’s an average annual deficit of over $550B. And note that this was with a real estate bubble pumping out unrealistic and unsustainable tax revenues.

    I do agree that Medicare is a very important problem to be addressed. It’s just that we also have a huge structural deficit and we must address. That means both increased revenues and reduced spending.

    • ottovbvs

      “No, it will not largely correct itself.”

      I agree it won’t just correct itself. On the other hand the size of the problem is being vastly exaggerated. A return of the economy to nominal full capacity, expiry of ALL the Bush tax cuts, closing some loopholes like those on carried interest, and modest but real cuts (~$150 billion a year) would give us deficits around 2% of GDP which is what they averaged until 2001.

    • armstp

      LFC,

      You are not really paying attention to the numbers. You have to look at what happened to tax revenues.

      In 2009, the government’s total tax revenues fell by 20% or by about $450 billion. Given the deficit of about $1.4 trillion that means that just the decline in tax revenues was responsible for 35% of the deficit.

      Add back that $450 billion in lost tax revenue and that takes the deficit downs to about $1 trillion. Now if you look at the one time stimulus spending of about $300 billion in each of the last couple of years, which goes away, that takes the deficit down to about $700 billion a year. GDP is currently about $14.5 trillion. That makes a $700 billion deficit about 4.8% of GDP. The average deficit for the last 60 years is about 2.5-3% of GDP.

      Now if you assume that while those tax dollars are coming back and the economy is also growing at say 2% a year, by say 2014 GDP should be about $15.7 trillion, so a $700 billion deficit on a $15.7 trillion GDP gets you to a deficit of 4.4% of GDP, still high, but not too far away from the normalized 60 year average and that is without any significant cost cuts. Cut only $200 billion out of spending or get rid of the Bush tax cuts and that would get you too a very manageable $500 billion, deficit which would be about 3.1% of GDP by 2014.

      I am sticking with my statement, even without major spending cuts, we get most of the way back to a more normalized deficit per GDP and that is assuming only 2% growth in GDP (60 year average is 2.5%). If growth is closer to a slightly higher 2.5% over the next 4 years then you do not even have to make the spending cuts to get to a more normalized deficit per GDP.

  • sinz54

    I still remember how the American Left used to hold up Europe as the next world superpower that was going to show us backward, capitalistic Americans how Democratic Socialism could really work.

    Remember Jeremy Rifkin’s book, “The European Dream: How Europe’s Vision of the Future Is Quietly Eclipsing the American Dream”?

    http://en.wikipedia.org/wiki/The_European_Dream

    Someone should ask Jeremy Rifkin when he’s going to publish “The Chinese Dream”.

    • ottovbvs

      “I still remember how the American Left”

      Re writing history again Sinz? This fear of European union was fairly widespread on left and right not to mention the fear of Japan overtaking us which was also shared by left and right. If anything fear of the Japanese was more pronounced on the right than the left. You’re such liar it laughable.

    • baw1064

      Isn´t that just the opinion of one person? One wouldn’t have to look too far to find a few people who believe all sorts of strange stuff. But nothing that Jeremy Rifkin has said or written has had any influence on my opinion on any subject.

      But to the substantive point: I think it’s pretty much agreed that among large industrialized countries, the U.S. is by far the most politically conservative. So, is it the most successful?