Tag Archives: University of London

Why Club-Med Cuts Won’t Work; 3 Possible Euro Zone Scenarios

It is conventionally assumed that the euro zone crisis arose because Club-Med governments have been too profligate. If only they had been as cautious as northern European countries, the argument runs, they would have retained their export competitiveness. A recent carefully researched paper, popularly known as the RMF Report and compiled by academics at the University of London, SOAS, shows this view to be entirely without foundation, professor George Irvin writes in a recent blog post.

“In effect, we face three possible euro zone scenarios.”

George Irvin

“Inter alia, the Report investigates the relationship between Club-Med current account (external) deficits, government deficits and the countries’ total stock of debt. Club-Med governments have not been wildly profligate: Greece, Spain and Portugal all have government deficits lower than the UK, and with the exception of Greece, their net public debt-GDP ratios are running at 60% or less,” professor Irvin points out.

The key point, however, is that much of Club-Med debt is held by the private sector: nearly 90% of all debt in Spain, 85% in Portugal and over 50% in Greece.

Moreover, less than half of all Spanish debt has been contracted abroad (in contrast to Portugal and Spain where the overseas proportion is much higher).

Secondly, a far higher proportion of private debt is relatively short-term, meaning it will need to be refinanced sooner than much of the public debt.

In Spain, private profligacy has mainly to do with a sharp rise in private investment resulting from the housing boom.

In Portugal and Greece, by contrast, private investment growth was much less important; in essence, private savings have contracted to finance rising consumer demand. Nor is there anything surprising in these patterns—until 2008, the UK experienced both a private housing boom and a private savings collapse to sustain consumer demand.

All-round austerity starting with government deficit reduction has become the official answer to the problems of the euro zone.

But as the case of Ireland demonstrates, severe cuts reduce aggregate demand and induce further economic contraction, thus lowering government revenue faster than expenditure.

The main argument used by euro zone deficit hawks—since devaluation is no longer possible—is that public cuts will restore the competitiveness of Club-Med countries.

Once again, the problem is that where everyone practices fiscal retrenchment, aggregate demand throughout the euro zone contracts. Because so much of the euro zone’s trade takes place within it (ie, is ‘intra-trade’), what may benefit one country taken singly cannot benefit all simultaneously.

Competitive wage-cutting has much the same effect as beggar-thy-neighbor devaluation did in the 1930s. And with the poor performance of the US economy increasing competitive pressures in the rest of the world, Club-Med countries cannot easily increase net exports outside the euro zone.

In effect, we face three possible euro zone scenarios.

The first is a decade of very low growth and high unemployment all ’round. The danger is that in a decade’s time, Europeans will be so thoroughly disillusioned with the European project that it will fall apart politically.

The second scenario is default—whether partial or full. A partial default or debt restructuring exercise will, minimally, involve losses for creditor banks in Germany and France and necessitate further bailouts. Maximally, debtor-led full default would lead some Club-Med countries to leave the euro zone, entailing the possible demise of the single currency.

Alternatively, growing German resistance to ‘bailouts’ and a serious falling out with Paris over its export-led growth model might lead Germany to quit the euro and revert to its beloved DM.


George Irvin is a retired professor of economics. He is now honorary Professorial Research Fellow in Development Studies at the University of London, SOAS.


The third scenario is fundamental reform of the euro zone: the establishment of a genuine European Treasury with a substantial budget and fiscal powers and reform of the ECB, starting with the emission of federal euro-bonds.

It is becoming increasingly clear that if the euro is to be saved, this is the path Europeans will need to adopt.

By contrast, universal fiscal retrenchment enforced by levying fines on ‘profligate countries’ fails to address the real issues.


But will European political leaders listen?

By George Irvin



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Filed under International Econnomic Politics, National Economic Politics

Merkelomics, The Euro Zone And The United States

As the US have got its “Obamanomics,” the euro zone now have its “Merkelomics.” This observation was first made by professor of economics, George Irvin, who is a sharp critic of Germany‘s policy and especially the politics of the German chancellor, Angela Merkel. In George Irvin’s view, the euro zone led by Germany is trying to fix the problems of the economy by implementing American style solutions.

“At least the USA had Alexander Hamilton and James Madison to shape its structure—today, Europe has Angela Merkel and Nicolas Sarkozy. I’m not optimistic.”

George Irvin

I’ve had a number of comments on my blog about my piece on Merkelomics, Irvin writes. I shall ignore the one which says “all debt is bad” – has the person in question has ever had a mortgage?

Let me take the more serious point made by one commentator who clearly wants the  euro zone to succeed—a sentiment I share fully.

The commentator says: “I believe the fault in your analysis is that you don’t see the euro zone as a national economy in the making. If you were, you would’ve realized that it doesn’t matter whether euro zone exports originate in Germany or some other euro zone country.”

My reply? I do indeed wish that the euro zone were a national economy in the making and that I could praise the Germans for their export-led growth model. That German industry is admirably efficient I have no doubt (far more so than the UK).

But perhaps I can best explain the case for euro zone reform in the following manner. Below is a short “thought experiment.”

Let us assume—you can tell I’m an economist—that the contemporary USA were like the euro zone, that there was little labor mobility, no Federal Treasury, that Congress was weak and that power lay almost entirely with the individual states (as indeed it did in the late 18th century).

Let us further assume that because there was no Treasury but only a Central Bank, there was no federal borrowing and that individual states had to finance themselves through taxation and state bond issues.

In such a world, the “rating agencies” would look at the trade statistics of the various US states.

Suppose that most US state-level trade was with other states (which it is) and that Michigan and Ohio (which produced mainly manufactures) had enormous trade surpluses while the relatively poor states of Louisiana and Mississippi (which produced mainly fish) ran persistent trade deficits.

(Remember, this story is allegorical.)

Ohio and Louisiana might initially both have AAA+ ratings, but because Louisiana was dirt poor and suddenly was struck by a hurricane causing coastal devastation, its economy became a basket case and its tax receipts collapsed.

George Irvin

In consequence, the rating agencies downgraded Louisiana’s dollar bonds, making it nearly impossible for the state to borrow. Nor could Louisiana export its way out of trouble because, as part of the dollar zone, it could not devalue.

Drastic cuts (internal depreciation) would make it even poorer and more likely to default.

So Louisiana—-together with Alabama and Mississippi— needed help from richer states like Ohio and Michigan. But Ohio, Michigan and various other ‘northern states’ were not without internal problems, and their citizens were reluctant to help the “lazy and feckless southerners.”

Nor would they let the Central Bank buy the bonds issued by these poorer states … until a major crisis occurred.

I leave the reader to finish the story. Needless to say, the crucial point is that the USA is not in the above situation because it has the economic institutions necessary for operating a federal economy.

At least the USA had Alexander Hamilton and James Madison to shape its structure—today, Europe has Angela Merkel and Nicolas Sarkozy.

I’m not optimistic.

By George Irvin

(Read also: The Logic of Merkelomics)

George Irvin is a retired professor of economics and for many years was at ISS in The Hague. He is now (honorary) Professorial Research Fellow in Development Studies at the University of London, SOAS.

Original post at the EUobserver.com.


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Filed under International Econnomic Politics, National Economic Politics

Who's Hiding In The Sherwood Forrest?

Many of you have probably heard of the “Robin Hood tax—now under study at the European Commission—a well-chosen term for what economists refer to in their jargon as a Currency Transactions Tax or Tobin tax.” But political leaders in both Europe and U.S.A seem to avoid the issue, caught in a squeeze between the public opinion and pressure from the big financial corporations.

“A Robin Hood tax is Obama’s lifeline.”

George Irvin

A taxation of financial transactions is the agenda again, as it always is in troubled economic times. In Europe most people favor a so called “Tobin tax” at the moment, but the strong forces of the financial industry is as always fighting back. So, who will win this time? Well, that depends on how many men the “Robin Hoods of politics” are hiding in the Sherwood Forrest. Here’s professor George Irvin to explain:

The basic idea is that the word financial market is now so large that taxing it at some minuscule rate (0.05%, or 50 euro cents in every €1,000 traded) would rake in billions, Irvin writes in his latest blog post at EUobserver.com.

Just to give you some idea, the Bank of International Settlements (BIS) estimates that in 2007 the world’s yearly currency transactions totaled US$800tr (that’s fifteen time world GDP, or nearly a quadrillion dollars) of which 80% is purely speculative.

A 0.05% tax on this annual turnover would yield 400 billion dollars (about €250bn) each year, enough to fight poverty, deal with global warming and have shed-loads of money left over for repairing our government budgets.

Because almost all such trades are computerized, software already exists for collecting such a tax wherever it takes place.

And even if financial markets were able to avoid tax on half that sum, we’d still be getting US$200bn per annual. It’s a no-brainer, really.

The pros and cons

Or is it?

A lot of bankers and financial journalists oppose it. In essence, the “devil’s advocate” argument against such a tax consists of four questions:

(1) will the proceeds reach the right people?

(2) is 0.05% high enough to stop speculative activity?

(3) will the bankers find a way of “passing it on”? and

(4) can it work unless the US supports it?

“Will it reach the right people?” is always a concern, but to reject a Robin Hood tax on those grounds is a bit like rejecting aid to the victims of the Haitian earthquake on the grounds that some small percentage of them are thieves.

Is 0.05 high enough? That’s a good question: James Tobin originally proposed 1% in the 1970s, then decided two decades later than 0.1 would be enough to “place grit in the wheels of the speculators.”

If not, there are at least two remedies.

First, the tax could be varied according to the type of trade involved, with higher rates on, say, short-term derivatives than long term futures contracts.

Secondly, to avoid foul play, such a tax could be complemented by a new bankruptcy regime requiring unsecured creditors and other counter-parties to be forcibly and swiftly converted into shareholders, until the failed institutions are adequately recapitalized.

Will bankers “pass it on”? The answer is that where the tax is low and the market highly competitive, it probably won’t be worth their while? After all, Britain levies a stamp duty of 0.5% on everyday share trades, and nobody argues that that banks and brokers ‘pass it on’ to the average citizen.

Banks and brokers “take a fee” on such trades, just as they do on currency trades, but the fee is paid by the counter-party.

What if the U.S. doesn’t play ball?

Finally, can it work if the US is opposed?

George Irvin is a retired professor of economics and for many years was at ISS in The Hague. He is now honorary Professorial Research Fellow in Development Studies at the University of London, SOAS.

But who in the U.S. is opposed? Tim Geithner, Obama’s Treasury Secretary, seems opposed, but he’s an ex-banker who has worked closely with Bush’s Treasury Secretary, Hank Paulson.

Larry Summers, Obama’s chief economic adviser, was an early advocate of a Tobin tax.

Obama himself is keeping quiet for the moment because he’s anxious not to make any more Congressional enemies.

If Germany, France and Britain—all of whom support some form of Robin Hood tax—were to proceed unilaterally, it is hard to see how the U.S. could oppose it.

Moreover, with the US budget deficit approaching 10% of GDP and much of the U.S. press calling for budget balance.

A Robin Hood tax is Obama’s lifeline.

Who’s betting billions against the euro at the moment? The big financial speculators, that’s who!

A Robin Hood tax is both quite feasible, and it imaginatively reflects the public’s desire to make the speculators pay for the havoc they have caused.

By George Irvin

Original blog post.

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