In his most recent blogpost, liberal economist Brad DeLong writes that he has long criticized some of his more conservative peers for endlessly saying “the time is always 1931 and that we are always Austria,” referring to Creditanstalt, the Austrian bank whose bankruptcy is widely held to have led to the domino-like bank failures of the 1930s Great Depression.
Reacting to the current crisis in Europe, DeLong, a U.C. Berkeley professor and former Clinton administration Treasury official, rather frantically admits we’ve arrived in Austria in 1931. His sense of urgency unmistakable, he writes:
“The Federal Reserve needs to buy up every single European bond owned by every single American financial institution for cash before the increase in eurorisk leads American finance to tighten credit again and send us down into the double dip.”
It remains to be seen whether Fed Chairman Ben Bernanke heeds DeLong’s recommendation, and whether such a move would be sufficient to protect the American economy from Europe’s financial contagion, but it does underscore the gravity of Europe’s, and the world’s, economic crisis.
Saxo bank chief economist Steen Jakobsen, quoted in a recent blogpost by Mike Shedlock, bracingly and succinctly describes today’s economic problem: “the world has [a] major funding gap.” There simply isn’t enough money in the world, or rather, there isn’t enough dumb money in the world.
Jakobsen cites estimates from independent trading houses that Spain and Italy’s combined funding needs total 400 billion to 500 billion euros over the next two to three years.
The Europeans seem to think there is just one source for a funding need that large: China. Within hours of the eurozone leaders’ Greek rescue summit two weeks ago, French President Nicolas Sarkozy reached out to his Chinese counterpart for financial support of the European Financial Stability Facility, the Eurozone’s main bailout vehicle. But the Chinese poured ice water on the investment merit of this idea in an interview China’s sovereign wealth fund gave Al Jazeera this week. The Also Sprach Analyst blog transcribes a most telling part of that interview with the fund’s economist Jin Liqun:
“Labour laws are outdated … incentive systems are totally out of whack … why should some [eurozone] members’ people have to work until 65 or longer, whereas in some other countries they are happily retired at 55, languishing on the beach? This is unfair … Chinese people are working very hard…”
In further remarks, Liqun made it clear the risks of such an investment could not be justified within the policy guidelines of his fund. The entreaties have not ended though. International Monetary Fund Managing Director Christine Lagarde is currently in Beijing with her financial pitch book, urging Europeans to fill the political void left by the resignations of the Greek and Italian prime ministers in the hopes of instilling greater confidence in Chinese investors.
But the Chinese, besides having plenty of economic problems of their own to deal with, must be looking at the situation and saying: “We’re not the only ones with deep pockets.” What about Germany and other northern European economies that are stable and prosperous? If they’re not willing to take care of this problem, why should we?”
And they would have a point. In the heart of the U.S. economic crisis, the U.S. government bailouts of AIG, Washington Mutual, GM and Chrysler were highly unpopular. But they were politically possible because Americans understand these corporations to be American entities. Germans don’t really feel responsible for Spanish or Italian banks. Americans bristled at paying for what was seen as someone else’s irresponsible risks. But Germans are outraged at paying for another country’s profligate welfare state.
For all these reasons, the market has been far too quick to react positively to news of rescue plans. The political will does not exist to fix this problem and Europe lacks the institutional authority to fix it in the face of political opposition–in contrast to America’s strong executive authority.
So the European contagion is likely to progress to the point of bankruptcy, and DeLong’s Creditanstalt analogy may be apt. It is sobering to consider that the economic weakness that gave rise to the Great Depression in turn led to fascism, totalitarianism and world war. When the Germans reoccupied the Rhineland, Germany’s European neighbors had no appetite to fund a military response at a time when Hitler’s army would have fled for the hills.
Military threats abound today as well and historians might one day wonder why it is that at exactly the time the European model was crumbling, the U.S. chose to weaken itself with similar policies such as President Barack Obama’s health-care overhaul or President George W. Bush’s prescription drug plan.
Europe’s decades-long experiment in living beyond its means has brought us to this dangerous place. America’s shorter career in profligacy gives it time to take precautionary measures before it too lacks the means and will to keep its society solvent and strong.