Friday, December 28, 2012

Grillo ergo sum

So in reply to Monti's Agenda, Beppe Grillo has decided he also ought to come up with a programme. Grillo's '16 points' is a pretty depressing read, confirming the total lack of any innovative thinking on the Italian political scene at the moment. Grillo's party basically represents the traditional 'antipolitica' - populist, pseudo-Poujadiste hatred of the political class - which has long been a powerful force in Italy, coexisting oddly with what has actually been a very stable party system for a most of the post-war period.

Italians have comparatively very low levels of trust in their political leaders, yet take a very long time to replace them. The last big political earthquake was in 1992-94, when the post-war political elite revolving around Giulio Andreotti and the slightly younger cohort of Bettino Craxi and Arnaldo Forlani was swept away by the Tangentopoli revelations of entrenched and often spectacular corruption. After the 1994 elections, a new elite based around Berlusconi's dominance of the right (alongside the former Fascist Gianfranco Fini and the Northern separatist Umberto Bossi), former Christian Democrats Romano Prodi and Pierferdinando Casini in the centre and the d'Alema generation of ex-communists on the left, took control and remained at the commands until now. A TV news programme in the UK in 1994 would have featured figures such as John Major, Michael Heseltine, Tony Blair and Gordon Brown. Italian telegiornali still revolve around Berlusconi, Fini, and Casini on the centre-right, and Bersani was already a minister in the first Prodi government elected in 1996.

The forthcoming elections look likely to change all this, with Bossi now off the scene (largely due to illness)) and Berlusconi fighting a last battle to remain relevant. But the novelties on the political scene - Grillo and Monti - seem themselves to be fighting the battles of the past. Monti, himself just short of 70, represents the generation of Eurocrats responsible for designing European Monetary Union, determined to apply the orthodox medicine of austerity to reassure the markets and senior European partners that Italy will keep its side of the eurodeal. Grillo, a comparatively youthful 64, proclaims a sweeping condemnation of the entire Italian political class, and offers a programme in which 10 of the 16 points are focused on reducing the financial costs of professional politicians and eliminating political parties from the decision-making process. On the economy, Grillo suggests a referendum on the euro, a guaranteed minimum income (in which currency?), a stop to big infrastructure projects and a vaguely defined programme to help small and medium-sized businesses. As an economic programme, this could have come straight out of the vague autogestionaire thinking of 1970s eurocommunism.

Faced with this choice, emigration looks the best bet for Italians who have not yet claimed their pensions. Torn between a dour and self-interested technocracy and an opportunistic and ignorant populism, the only viable choice is Bersani's stale recipe of timid liberalization and maintenance of a notoriously unjust and unbalanced welfare state. More than ever, Italy is suffering from its failure to develop a mainstream, social democratic, egalitarian and pro-market party on the left. The PD is trying to become this, but remains trapped by its conservative Catholic wing on the right and its traditional communist wing on the left, neither of whom seem to understand how markets need to be regulated in the modern age.

Thursday, December 27, 2012

Privatize and be damned

The Italian elections are looming, and amidst the chaos of elite manoeuvrings there is the glimmering of a policy debate (a bit of a rarity in Italian election campaigns). Mario Monti, despite announcing he would not personally stand in the elections (being a life senator, he will be in parliament anyway) has nailed his colours to the mast publishing an 'agenda' (basically a manifesto) and inviting party lists to commit to electing him Prime Minister once the new parliament is formed.

Interestingly, Monti's programme has already been condemned as 'statist' by Alberto Alesina and Francesco Giavazzi, the economist duo that have spent the last few years vainly demanding liberalization and reform of the Italian economy. Alesina and Giavazzi's argument is that the Italian state acts as a break on economic activity, and a large-scale programme of privatization is needed to liberate Italians from one of the heaviest tax-burdens in the OECD. Rather than taxing the income of productive sectors and then giving them free services, for A % G richer citizens should be offered lower tax rates and invited to take out private insurance policies for healthcare and pay market-based fees for school and university. Mmm, it would be fascinating if that had ever been tried somewhere - then we could maybe get to see what would happen! Of course we have the natural experiment of the US, whose healthcare system is the most expensive and almost certainly the least efficient of any advanced nation. And sure, it has great universities, but I can't remember any studies showing US private high schools as being better than the largely state-funded systems in Europe.

But actually it's even worse than that. Privatization can be at best a modest improvement (for instance, airlines in the 1980s and telecoms, for the most part), a lot of the time, pretty disappointing (utilities without adequate regulation), and sometimes, totally catastrophic (UK railways, Russian... well, just about everything). The point being that even if you believe the market is likely to perform better than the state, privatization isn't enough on its own - it needs to be done properly. And the institutions that determine whether or not a privatization is done properly are precisely the same ones that determine whether or not a state company will fail. So privatization and liberalization in themselves don't solve anything, unless you manage to solve the original problem which is the failure of the political system to nationalize or privatize, regulate or liberalize, efficiently.

So to take an example, cited in the comments to A & G's article, car insurance in Italy before 1994 was a cartel regulated by the state, which fixed prices and allowed insurance companies to enjoy profits without competitive pressure. Then, liberalisation came along with the removal of price controls, and hoopla! Italian car insurance prices increased by 464% in less than two decades. The reason presumably being that the state failed to regulate competition properly in the market, and therefore the removal of price ceilings left the insurance companies free to fix prices at a higher level.

What makes Alesina and Giavazzi sure that privatization in Italy would not be just as bad as statism? No idea. But the fact is that wholesale privatisation - especially of delicate sectors like healthcare and education - would be an accident waiting to happen unless Italy manages to reform its politics. And pushing hard for American-style solutions, precisely when the US is in almost as bad a mess as Italy, doesn't seem politically smart to me.

Monday, December 24, 2012

The Voice of Albert Hirschman

So one of my most admired social scientists has died, at the ripe old age of 97: see obits here, here and here. I have nothing much to add to the various tributes that have appeared, but I thought I'd give my own personal take on Hirschman's work, because it was probably amongst the most inspiring scholarship I've ever read and provided the backbone for my doctoral thesis on the creation and collapse of the Union of the Democratic Centre (UCD).
The UCD was the party that guided the Spanish transition to democracy and then fell apart, providing an almost unique example of a political party doing the hard bit of establishing an organisation on the ground, winning elections and government power, and then self-destructing in the most puzzling way. After months searching in vain for a theoretical framework that could make sense of this event (the party politics literature provided none, given parties' tendency to survive and stick around, rather than collapse) a friend suggested reading Hirschman's Exit, Voice and Loyalty. The usefulness of the framework was immediately obvious, since what I was trying to explain was why some members of the party had decided to exit, rather than stay inside the party (loyalty) exercising voice to turn things around. What I came up with was a loose framework that identified variables influencing the likelihood of exit (alternative electoral strategies, the openness of the electoral system to founding new parties, alternative sources of campaign and party funding). What I couldn't so easily explain was why some members stuck with the party, rather than exercising the exit option, even when the party's electoral decline meant that exit had become the dominant strategy. In other words, I couldn't explain loyalty, and neither, as Brian Barry argued, could Hirschman, or at least, not within a maximizing framework.
Hirschman's work constantly pushed at the tensions between economics and the other social sciences, and that is why his writing was so insightful. During Hirschman's career, mainstream economics moved steadily away from the kind of qualitative and conceptual analysis he deployed, and entrenched itself in a highly mathematical approach in which departures from maximizing behaviour were considered aberrant, the error term. Yet Hirschman insisted on studying precisely such behaviour, and the ways in which it interacted with classically rational action. As well as EVL, Hirschman's next book, Shifting Involvements, sought to understand the waves of collective action that drove political change, such as the student mobilizations of the late 1960s and 1970s. Shifting Involvements implied that individuals could be carried along by tides of collective activism, which were followed by periods of demobilization and relative apathy. In a similar vein, The Passions and the Interests looked at the ways in which rationalist thought had suppressed more romantic, emotive social behaviour as capitalism took root in the 17th and 18th centuries.
In other words, what Hirschman was interested in doing was understanding the variability of human behaviour. What economics and political science have spent the last few decades doing is assuming away this variability, and cramming the full range of social action into a narrow framework which is conducive to mathematical reasoning, but pretty useless for understanding and, especially, predicting social behaviour. In a sense Hirschman's passing reminds us of what the social sciences have lost over the last couple of decades in which the maestro, despite maintaining his emeritus position at Princeton, enjoyed his semi-retirement. It may be asking too much to hope for another Hirschman to come along, but we should at least try and encourage young scholars to take on the big questions with the same ambition and openness. Sadly we seem to be doing the opposite.

Saturday, November 24, 2012

Catalonia: a nation with a state?

After spending the last few weeks observing the slow-moving collapse of the Spanish state, the time has come to put down my unpublishable thoughts on the idea of Catalan independence. Like in any debate on nationalism, these thoughts are part rational, part emotional, and like in any debate relating to identities, someone will probably be offended (for this reason I never blog on the Middle East). So here goes.

The first point is that there is something vaguely insane about using the term 'independence' to describe the putative creation of a Catalan state. As a small European economy, Catalonia would be totally dependent on its neighbours for trade, and assuming it is allowed to seamlessly remain in the European Union, it will have little to no real decision-making power over the issues of the future of the Eurozone and the European integration process in general. Even more than that, nearly four centuries of political integration into the rest of Spain has meant that the Catalan economy is deeply interconnected with the rest of Iberia. Again, decisions made outside Catalonia - potentially by a bitter Spanish electorate sour at the 'divorce' - will have a major effect on its future.

That of course doesn't mean Catalonia can't be a successful state in economic terms. Given the Catalans' famed parsimony, it was predictable that the debate on 'independence' has actually revolved around the economic consequences of the split with Spain. As one of the richer regions in Spain, located closer to the main European markets than other regions, there is every chance the Catalan economy will do just as well if not better outside of Spain. But here's the rub - Spain is in colossal economic trouble, and Catalonia, notwithstanding the supposed 'fiscal dividend' it would gain from no longer subsidizing poorer Spanish regions, is not significantly less exposed to the problems facing the Southern eurozone. Like the rest of Spain, it had a housing boom and bust, its government has racked up huge deficits since the crisis, and its wage costs are uncompetitive. However well the secession negotiations could go, the new Catalan state will remain in the group of troubled Eurozone economies, and all the signs are that these economies will take a very long time to return to growth. NB, no Catalan nationalists are advocating leaving the euro or defaulting on their share of the debt.

The economic crisis has clearly acted as a trigger for the calls for independence, but of course Catalan nationalism has long been about much more than economics. The centrality of the Catalan language and hostility to the reactionary nationalism of the Spanish right have been if anything more important in the period since Franco's death, in which Catalonia, like other 'historic nationalities' in Spain, has acquired significant powers of self-government. The autonomy enjoyed by the Catalan government, the Generalitat, has allowed it to push hard on linguistic policy, ensuring that recent generations of Catalans have been educated in the Catalan language (as well as learning a Catalan-centric version of Spanish history). Until recently, most Catalans were quite happy with their status as a decentralized region within Spain, which correponded to the largely dual national identity of the population (with the plurality of Catalans regarding themselves as both Catalan and Spanish in some measure). The push to independence marks a significant radicalization of Catalan national claims, and although it has clearly been building as a strand of Catalan identity over the past couple of decades, the shift towards independence of the centre-right CiU party led by Artur Mas is a major departure.

So the elections will be worth watching for signs of hesitation amongst the electorate. It is true now that a sizable majority of parties currently present in the Catalan Parlament are advocating independence, but these parties represent a percentage of the electorate which is clearly superior to the numbers expressing support for independence in the opinion surveys we have available. So the question is, will CiU be able to drag its more conservative electorate to the pro-independence camp? The weakness of the two main anti-independence parties - the Spanish Popular Party and the Catalan affiliate of the Socialist Party - makes them unlikely beneficiaries of any hesitance in the Catalan nationalist electorate. But it will be worth taking a close look at turnout. The Catalan population is actually fairly divided between a majority of Catalan speakers and a large minority of Castillian speakers, many of whom are now migrants from Latin America, rather than from Southern Spain as in the past. Will Spanish-speaking or Spanish-identifying Catalan citizens really want to go for an independent state? Will the older generation of Andalusian-born immigrants who have historically supported the Spanish national level parties really accept independence? It is true that Catalan nationalism is more civic and inclusive than, say, Basque nationalism, but how would non-Catalan speakers feel about the official status of Castillian in a new independent state?

The debate so far has barely registered these themes. In fact one of the oddest features of the campaign has been the intervention of overseas-based academics, most notably the economist Xavier Sala-i-Martin, becoming vocal and emotive advocates of Catalan 'patriotism', revealing an uncharacteristic lack of seny (Catalan for a kind of pragmatic common sense). Nationalism is ultimately an emotive construct which fits ill with rational debate. For this reason, debate around identities is rarely conducive to sensible decision-making, as the history of the last couple of centuries has clearly established. Catalonia does not have to fall into the kind of disastrous traps of other secession processes, but the insouciance with which such a major change is being contemplated suggests a lack of awareness or a short historical memory.

Monday, October 15, 2012

Whilst Europe abandons it


The Economist may have discovered that the right social democratic institutions can achieve equality and efficiency, but the European Union, where social democracy was invented, is running as hard as it can in the opposite direction. Witness Olli Rehn's astonishingly reality-challenged assessment of austerity here.

Under the remarkable title 'Europe lays the foundations for growth' Rehn comes up with a series of implausible statements, including 'now is not the time to turn away from policies that have led to this improvement (what improvement?) and that are contributing to a gradual return of confidence in the euro area'. The essence of what Rehn is saying is that austerity might have negative effects on growth, but that that only 'merits further study', and that basically the PIIGS are in a mess because of their own economic weaknesses, and the crisis is nothing to do with EU or ECB policy.

So a debt boom in the mid-2000s had nothing to do with the ECB adopting a policy that gave monetary stimulus to Germany whilst giving the Eurozone periphery negative real interest rates. OK then.

Rehn, of course, as a Finn should know something about social democracy. He should also remember the financial crisis and employment shocks suffered by Nordic countries in the 1990s. But luckily for Finland, they were able to address these problems whilst the rest of Europe was growing, so Spaniards and Greeks had some cash to buy Nokia mobile phones (does Finland make anything else?).

Spain and Greece will have to manage on their own. That they are ill-equipped to do that is hard to miss at this point. Once again, Nobel-prize winning Europe is not up to the task. If the EU survives all this in anything like its current shape, it will be a miracle.

The Economist discovers social democracy

Interesting to see The Economist lauding Sweden: The new model. Sweden has a generous welfare state, strong trade unions, and high living standards. What's more, at the moment Sweden is one of the few advanced democracies that is growing and has a budget surplus. So it's about time some of the mainstream commentariat starting to notice what was going on.

In fact Sweden is not really an outlier or an exception. If we look around the advanced democracies, the best performing countries have been those with the most generous welfare states and most entrenched trade unions (Sweden, Netherlands, Finland, and of course Germany). In contrast the countries with deregulated financial markets, weak trade unions and limited welfare states are mostly suffering, and the PIIGS of the Eurozone periphery, despite popular myth, also have weak unions and patchy social coverage.

So the crisis, in fact, has exposed the bankruptcy of the free market, anti-social model that has dominated politics and economic policy since the 1980s. Strangely, political leaders have failed to catch on, and continue to plug the same snake oil, in the guise of 'structural reform', which has brought disaster. The misery of the current recession, instead of sparking a search for equitable solutions, has instead led to a descent into masochistic and self-defeating austerity policies, with a bit of free market liberalism thrown in. After 2-3 years of this medicine has failed to turn around any of the economies it has been applied in, a rethink is overdue. Unfortunately it will probably take total social breakdown (probably in Greece and/or Spain) before the humble pie is consumed.

'via Blog this'

Monday, October 1, 2012

Stress-testing European democracy

One thing we have learned so far in the Great Recession is that stress tests for banks are pretty much a waste of time, because nobody seems to take them that seriously. Like all other estimates of the depth of our financial crisis, the stress tests understate the scale of banking losses and overstate their ability to withstand further shocks. Current estimates of Spanish banks' shortfall -  around 60 billion euros - are scarcely believable, given that the collapse of the housing bubble in Ireland - a country with a tenth of the population of Spain, was over 50 billion. So much for stress tests for banks.

But we are doing quite a lot better at stress-testing the democratic regimes of periphery countries. Yes, that's right, those countries with the most recent experience of dictatorship, the ones whose democracies are scarcely two generations old. Greece, Spain and Portugal began the 1970s, the last great economic crisis, as authoritarian regimes of varying degrees of brutality. By the time the years of stagflation were over, dictators had been booted out of all three countries and replaced by democracies which, on the whole, have been as successful as anyone observing events in the 1970s could have hoped.

Until now. Unemployment of 25% in Spain and Greece, well over 50% youth unemployment, a total GDP contraction in Greece of 25% since 2007, and more austerity to come.

I'm still pretty confident of democracy in Spain and, as far as I can tell, Portugal. And I think Italy, with all its huge failings as a political system, has far too powerful a democratic majority to regress to where it was in the 1930s.

But Greece, I have to say, really worries me now. Stories of the police referring citizens to the viligante arm of Golden Dawn, and the recent polls placing the thugs as third party ahead of PASOK, set my hair on end. In Spain, democracy is being stressed in different ways - not only on the streets, with increasingly tense demonstrations by the real victims of the crisis, the young (and a nostalgically brutal response by the police), but also with the Catalan challenge to the 1978 constitutional settlement, which has the potential to create political chaos.

Not only are we unlearning the economic lessons of the 1930s, as Paul Krugman keeps reminding us, we are also unlearning the political ones. When placed in an impossible situation, there is no guarantee voters will respond with trusting patience in the established elites when there are political entrepreneurs out there with easy solutions to their problems. So far, only Angela Merkel amongst major European leaders has survived an election since 2008. In Greece, rapid turnover has decimated the party system and opened up a huge space for the worst kind of racist nationalist demagoguery. And the worst thing is, that the mainstream parties are, generally speaking, at a loss to respond to the crisis, so we can hardly blame people for turning to the alternative.

There's more at stake here than economic growth. The EU elites need, as Samuel L. Jackson might say, to 'wake the f*** up'.

Friday, August 3, 2012

Italy and the EU Debt Crisis

Long commentary piece on the Euro crisis to be published this autumn:

In 2012, the Eurozone crisis has begun to follow a predictable script. First, a member state begins to show signs of financial stress, with a growing public deficit and debt burden alarming markets. The spike in borrowing costs sparks a policy response by the member state government, raising taxes and cutting public spending, which depresses economic activity further. The resulting poor growth data leads to further increases in borrowing costs. When these costs hit an unsustainable level, the European Union institutions intervene by lending the struggling country bailout money, in return for further commitments to reduce the deficit.  A further fiscal squeeze follows, sending the debtor nation into what economist Paul Krugman describes as a ‘death spiral’.

Friday, July 20, 2012

New Labour, new sellout

If you wanted any further confirmation of where New Labour took us, this news item (Former Labour Minister walked through revolving door to Olympic shambles firm G4S) should do the trick. Not only did John Reid defy any form of political ethics by running the Home Office and then taking up a directorship with a company that makes money out of contracts with the Home Office, but that company was G4S, whose level of incompetence rivals that shown by Reid as Health Minister when he gave British doctors a pay rise way higher than they had dared hope for. As a Director of G4S, Reid is presumably playing a role in extending the private security firm's feckless grip over more and more government functions which it performs inefficiently but profitably.

If there is anything in there which sounds at all principled or related however tangentially with the Labour and socialist tradition, then it is very well hidden. New Labour did a lot of good, but in the end it embraced, enhanced and entrenched the cynical money-grabbing culture left behind by the Thatcher and Major governments. What a missed opportunity.

Friday, July 13, 2012

Not dunblogging yet

Lack of recent posts not down to their being a lack of things to talk about - unfortunately - but because of a paper I needed to finish. And here it is:

Liberalization within Diversity: Welfare and Labour Market Reforms in Italy and the UK

Elisabetta Gualmini and Jonathan Hopkin


Are advanced democracies converging on a liberalized economic model, revolving around increasing penetration of markets and the decline of egalitarian institutions (Baccaro and Howell 2011)? An extensive literature has examined institutional change in the advanced industrialized economics, examining the impact of Europeanization, globalization and other structural economic changes on the different models of welfare capitalism found in the OECD countries. This debate has tended to polarize between proponents of convergence, who argue that common pressures push advanced democracies to adopt similar policies and institutions, and scholars who emphasize of the resilience of the distinct models of welfare capitalism that evolved in the industrial age, although some recent scholarship seeks to bridge this divide. At the same time, there is increasingly firm evidence that the distribution of income in advanced democracies is becoming more unequal, sparking a lively debate on how inequality can be measured and explained (OECD 2011).

Sunday, July 1, 2012

Diamond geezer

Bad news for Bob Diamond (E-petition for public inquiry into bankers’ misdeeds « Debtonation: The Global Financial Crisis).

One of the big advantages of the banking fraternity is that the top bananas are largely unknown to the public, so that their misdeeds are rarely presented to the public in personalized terms (unlike politicians). There is huge public anger towards banks and bankers, but no obvious faces to plaster over the front pages for the baying mob to rage at.

Until now. Well, to be fair, Fred 'the Shred' Goodwin took the flak for a few months, if you can call a lost knighthood, a broken window, and a multi-million pound pension 'flak'. But then, nothing until the Libor scam produced Barclays and its egocentric CEO as main villains. Sacrificing Bob Diamond will probably have no material effect on the way banking works in this country, but at least one of the smuggest faces of  extractive finance would lose its grin.

The key point about Diamond is that he is either complicit in financial corruption, or he is a hopeless manager. What, after all, is the £17 million salary for, if the man can't prevent his own employees from running up £290 million fine? But he has also made the key mistake of attracting attention to himself, probably out of sheer vanity. He'll therefore have to take the rap at some point.

A footballing lesson

So Spain triumph again.

Not just triumph, but crush an Italian side that in turn had crushed the fancied Germans the other side. Maybe a game too far for the azzurri, they looked tired and barely got into the game. But how on earth do you play against this team?

And team is the operative word. Great international sides of the past have often been associated with one great player: Pelé's Brazil, Maradona's Argentina, Cruyff's Holland, Zidane's France and so on. And sure, Xavi and Iniesta have stood out in particular. But what is striking about Spain is that they could probably put out two elevens that would give any other team a game. Villa breaks a leg? Never mind, there is Jordi Alba. Torres is out of form? Who cares, we'll just play 8 attacking midfielders and let Fabregas and Silva score the goals. Puyol injured? No worries, play Arbeloa alongside Piqué and Ramos. If Casillas ever got hurt, you would get Pepe Reina, maybe the best keeper in the Premiership. Arsenal's Arteta doesn't even make the squad. In the end, Italy's players expended so many resources to get to the final they had little energy left, Spain could rotate and give key players a break without missing a kick.

God knows what would have happened had England encountered this team.

Sunday, June 24, 2012

An End to Risk-Free Tax Evasion

Just a quick thought on the Jimmy Carr story - one interesting feature is that the Revenue have decided to claw back tax on his K2 and other similar schemes, in such a way that they may end up paying more than they would have done had the scheme never been hatched.

Of course, this suggests one very useful property of anti-evasion strategy: increase the risks. Up to now, the worst thing that could happen to people caught evading is that they have to pay what they were trying to avoid. If the penalties are made more severe, then it becomes more of a gamble: you may pay nothing, but you may pay so much that you would have been better settling for the tax everyone else has to pay. It would then be very reckless for tax advisors to innovate, saving the authorities a lot of resources.

A question of political will, but the public mood is certainly furious on this one.

Friday, June 15, 2012

So much for dynamic provisioning

Nice piece in Bloomberg by Jonathan Weil (The EU Smiled While Spain’s Banks Cooked the Books), pointing out the perverse effects of the Spanish regulatory practice of demanding that banks adjust their accounts for the potential vagueries of the economic cycle ('dynamic provisioning'), supposedly giving them a buffer against downturns.

Turns out that Spanish banks were able in this way to hide their losses from the popping of the housing bubble until quite recently. Has this helped smooth the financial consequences of the downturn? No need to answer that question.

All this goes to show that tweaking accounting practices is never going to achieve much if the financial system is based on the kind of Ponzi schemes we've been seeing in the past two-three decades. Governments are going to have to start getting on top of what banks do, and providing better regulatory and fiscal incentives to real investment in real productive activities. How do they do this? Don't ask me, I'm not an economist.

Wednesday, June 13, 2012

Sinn should repent

Hans Werner Sinn (Germany Can’t Fix the Euro Crisis - provides us with yet further evidence that important voices in Germany simply don't get it, on multiple levels. First, he doesn't get it on the economic level, by espousing policies that have already failed and basing his reasoning on unbelievably crude notions of how debt works (the 'liability principle'). Second, by committing a political and historical howler that Karl Whelan rightly calls him on.

Let's take the 'liability principle' first. Sinn suggests that bailouts would violate that principle, which reads that

'it is the creditors’ responsibility to choose their debtors. If debtors cannot repay, creditors should bear the losses.'

Fair enough. But I thought Germany was the big creditor here? Never mind. The 'liability principle' needs to be respected because

'If we give up the liability principle, the European market economy will lose its most important allocative virtue: the careful selection of investment opportunities by creditors. We would then waste part of the capital generated by the arduous savings of earlier generations.'

Well, I think it's a bit late for that one, don't you? The capital has already been wasted. Hard-earned German savings were funneled through the Eurozone financial system into unsellable apartment blocks in Spain and unsustainable public employment in Greece. That money has been wasted, so the only reason to refuse bailouts is to make future generations aware they could lose their investment if they are not careful which bank they give their money to. In that case, why not drop deposit insurance too? Then people will finally realize they need to perform due diligence with every pfennig they put in a bank.

All of that is in my view idiotic, but at least bears some relation to a recognizable theory. But the history part is really shocking. Sinn forgets that before the Marshall Plan - for which he at least expresses grudging gratitude - the US spent four years, nearly half its GDP and nearly half a million American lives fighting Nazism in Europe. Instead of punishing Germans for the crimes of their leaders, the country was helped back onto its feet. Has Germany responded to this generosity by doing it all again? No. Moral hazard apparently only works in economics.

The saddest part of all this is that really this should not be about Germany vs Greece, or anyone else. It should be about the people, across Europe, who have been taken for a ride by their political leaders and their financial institutions. Germans who could lose their jobs and savings are in the same boat as Greeks who have lost their jobs and their credit. Nobody should be punished because of a flawed institutional design that required them to exercise impossible prescience and restraint. Instead, people should be helped on their feet and the right institutions created. Germany, of all nations, should remember that.

Tuesday, June 12, 2012

From technocracy to populism

A blog post for the LSE's EUROPP blog:

In upcoming elections across the Eurozone periphery, voters are likely to react to austerity by replacing technocracy with populism | EUROPP

"As Spain lurches into economic and financial collapse only months after electing a new government with a landslide majority, the difficult relationship between crisis management and democratic politics once again comes into view. Spain’s rapid descent into economic meltdown has been greeted by anti-austerity commentators such as Paul Krugman and Martin Wolf as further evidence of the need for fiscal and monetary expansion on a massive scale in the Eurozone. But it also has important implications for the nature of democracy in the European Union...."

Saturday, June 9, 2012

The myth of moral hazard, or why punishing debtors is futile

This crisis, and its Eurozone variant in particular, is teaching us an awful lot about the political economy. Sadly, most of what we are learning is entirely at odds with the conventional wisdom which still informs policy. And a good part of the wrongheadedness that we are subject to revolves around the concept of moral hazard.

The plausible expectation of bailouts creates moral hazard, we are told. Yes, it does. There is plenty of evidence that big financial institutions take risks because they expect governments to pick up the pieces if everything goes pear-shaped. Certainly, if top bankers are anywhere near as smart as their paypackets suggest, they should lever up and max on risk, confident that governments will plug the gap if their bets go bad.

Trouble is, we also know that finance is also prone to bouts of irrational exuberance and panic. Moral hazard may exacerbate the exuberant parts of the cycle, but it also mitigates the panic when things turn bad. Part of (maybe most of) the reason that the Eurozone periphery is in such a self-fulfilling debt trap is that there isn't enough moral hazard around - investors are terrified that if their paper goes bad, they will lose everything. And so the downward spiral accelerates, making bailout infinitely more expensive as panic sets in.

What about governments? Well here the virtuous Northern economies in the Eurozone are afraid that bailouts now will encourage Southern sovereigns to ignore their fiscal problems in the future, leaving Germany and the others on the hook forever. Moral hazard here gives politicians an incentive to run deficits and buy popularity, whilst others pick up the tab.

The trouble with this one is that the politicians that are punished are not usually the ones who exploited moral hazard. Mariano Rajoy took over when Spain's fiscal situation was already out of control, yet he is the politician being exposed to popular anger now. For the anti-bailout policy to work, voters would have to be sophisticated enough to gauge how likely it is that a party's fiscal proposal at time t will result in another party having to impose brutal austerity at time t + 1. Very often, as in Greece, successive alternating governments are responsible for the fiscal mess. How can voters cast a partisan vote that sends the correct signal to politicians, so that the risk of irresponsible policy is averted? Do we really think that if this crisis ever ends Greek voters will become eager observers of fiscal rigour on the part of their politicians, anxious to avoid this all happening again? For this to happen some Greek politicians would have to offer voters fiscal prudence whilst others stuck to deficit-fuelled patronage politics, making elections a clear choice between happiness and hazard. That's rarely the way politics works.

In short, moral hazard is a red herring, and theorizations of its role in the crisis are crude, confused and make no historical sense. In the real world of politics and markets, when you get to the point where bailouts are necessary, it's far too late to worry about moral hazard. This is what we should be worrying about.

Wednesday, June 6, 2012

Angela's dilemmas and the nightmare scenario

The FT has a nice piece today about the loneliness of Angela Merkel, torn between seeing the Eurozone fall apart and taking decisions that would rescue the periphery but provoke a furious backlash at home. It is indeed easy to criticize Merkel for her cagey approach, which given the fear in the markets seems almost designed to make the costs of rescue as high as they could possibly be. I agree completely with these criticisms, but what people like Martin Wolf and Paul Krugman often miss - focused as they are on debating the stupid austerian policies advocated by many economists - is that this is a political process.

Merkel is not doing what is necessary, but the reason may not be just that she doesn't know what she's doing. First, she is a government leader in a consensus-oriented democracy, with coalition government and federal institutions, and like any other party leader she faces the constant threat of dissent from within her own party. Juggling these various threats to her position are probably her main concern, regardless of how much she understands about the nature of the Euro crisis. It could well turn out that a plan for economic recovery, involving massive bailouts, permanent ceding of German fiscal autonomy, and the collapse of the Euro's monetary conservatism, would cost her her job.

Second, even if Merkel understood what Krugman and Wolf eloquently argue day after day, and had the political authority to convince the German political class and electorate of what needed to be done, she would run into another problem - the European-level joint decision trap, Fritz Scharpf's well known conceptualization of the restraints on policymaking in federal states like Germany and intergovernmental organizations like the European Union. What if the European Commission, the ECB and the other Northern Euro member states said no? Merkel would have blown her political clout in Germany for nothing. Getting anything through the European institutions is complicated and time-consuming. Add the permanent subsidizing of the hapless 'Club Med' nations by the virtuous Weberians of Northern Europe, and you get a recipe for the worst kind of Euro-paralysis.

Finally, we get to a further dimension to the politics of crisis that has been widely ignored, even by the smartest commentators - democracy and the people (easy to forget about, I know). Even if all the dilemmas outlined above could be resolved, there is no way a solution to the Euro mess can be sustainable if it doesn't have popular support. So far, this point has been made most obviously in the struggling periphery, where elections have wiped out the governments responsible for crisis and austerity in Ireland, Spain and Greece, whilst Berlusconi has been forced out in Italy. Yet the same problem could easily arise in the North, as Geert Wilders' recent departure from the Dutch governing majority shows. If Merkel signs up for a Eurozone welfare state, there's every chance that an electoral earthquake could shake the German party system just as it already has in Greece.

Which brings me to my nightmare scenario. I still believe that politicians will blink before allowing the Eurozone to implode, wreaking havoc all around. The reason for this is that I think most policymakers are sufficiently aware of what the consequences could be, and are rightly terrified. But democratic elections are a cruder instrument for making decisions. Greek and German voters, exercising the democratic right to express their outrage, could place Europe in an impasse which would lead inevitably to the catastrophe we all fear. Popular pressure for intransigence in the North, to match popular pressure against austerity in the South, could place Europe's leaders in a chicken game that will end badly for everybody.

The only way out is leadership. Come out, explain to people what is going on, and hope for the best. But that has never been the way European integration works.

Thursday, May 31, 2012

The Eurozone: an economy without a state

In today's FT Martin Wolf, as ever, nails it (The riddle of German self-interest - One of the peculiar features of the crisis is that the Euro was created with the express purpose of facilitating financial and commercial integration, and yet at the first crisis the Eurozone institutions have refused to backstop the cross-border financial commitments that have been made, leading to a flight for safety which has created havoc. Didn't anyone think this could happen?

Certainly the history of financial globalization offered a few hints. Eric Helleiner's excellent book States and the Emergence of Global Finance details the myriad ways in which governments backstopped the increasing financial integration of the period after the 1970s, most notably by stepping in to halt financial crises with bailouts. These bailouts confirmed governments' commitments to the newly integrated financial order and gave investors the confidence to continue treating the global financial arena as a properly functioning market.

The saddest thing about this whole crisis is that it underlines the fatal lack of understanding on the part of policymakers, and the academics who advised them, of how markets actually work. They designed institutions which essentially, like in Alan Greenspan's 'flawed' model, relied on market participants behaving rationally (whatever that means). Rational behaviour is, of course, difficult to define and operationalize, but one thing that we know for sure is that piling money into indebted states with a history of reneging on commitments and overinflated real estate markets was obviously outside any meaningful theory of the self-regulating market. It's time to recognize that the theory was wrong, and that the Eurozone, like any other economy, needs a government.

Wednesday, May 30, 2012

Why Spain is bust and Italy is only broke (again)

Despite a bad auction today, Italy seems overall in better shape than the rest of Southern Europe as the FT recognized today (Are Italy and Spain decoupling? | Brussels blog). It has run a primary deficit ever since the early 1990s, something way beyond the abilities of the other periphery countries at the moment. The reason for this is, ironically, the fact that Italian public debt has been at crisis levels for a couple of decades - Italy faced a huge fiscal crisis back in the early 1990s, which was resolved thanks to fiscal reforms and spending adjustments pushed through by more or less technocratic governments headed by Giuliano Amato, Carlo Azeglio Ciampi and Romano Prodi. Italy would never have qualified for the Euro had it not made this herculean effort. And although Berlusconi failed to maintain this downward pressure on the debt, his governments continued to run primary surpluses up until the crisis of 2008.

Clearly Italy has intractable structural weaknesses and the future is far from rosy. But at least it didn't delude itself with a glorious decade of debt-fuelled growth, like its Mediterranean neighbours to the East and West. This made the reckoning a lot easier to cope with, particularly since Italian banks don't seem to have abandoned their traditional caution when it comes to home loans and consumer credit. Things are bad, but not as bad as they could be, and if Italy is dragged into default, it will largely be the result of Eurozone-wide contagion, rather than its own specific weaknesses.

Anyway, the point of this post is largely to crow about the fact that I made this point a couple of years ago.

Monday, May 28, 2012

Spain heading for bailout

It's hard to imagine anything more inevitable than Spain needing a bailout, and soon. The Rajoy government's latest trick - recapitalizing a bankrupt bank, Bankia, with bonds from a near-bankrupt state, Spain, is probably the final straw for investors who are paying attention. Bankia, in turn, has been suggesting that one way to return to profitability is to reduce its tax liability: in other words, to help the Spanish government get its money back, they will endeavour to pay less money to the Spanish government.

This is what hiring the likes of de Guindos achieves. After all, employees of institutions like Lehman Brothers are essentially trained to make money through tax avoidance/arbitrage and clever accounting, rather than generating real wealth through smart investment. The Spanish government is now in the hands of people whose ignorance and arrogance led the country into this mess, in both the political and the financial institutions. Rajoy turned a blind eye whilst corrupt regional leaders like Camps and Aguirre fuelled real estate booms which paid for their vote grabbing and created the conditions for today's tragic scenario.

Now it's all down to Europe. Will they blink, or will they bail? Almost certainly they will bail, just like in Greece, but in such a way as to make recovery impossible. If they let Greece go, who will buy into Spain? The endgame approaches.

Thursday, May 24, 2012

An explanation of moral hazard that even Angela Merkel can understand

So, Europe still doesn't want to face up to the Euro crisis. In simple terms, the contours of the problem are that a) there will be depression and potentially meltdown if the Southern European debt crisis isn't resolved and b) resolving the Southern European debt crisis would create moral hazard. So we will have a) because we don't want the outcome of b). This takes the superficial form of pretending that beating up on Greek politicians will improve their economy and solve the debt problem.

The trouble is that a) also creates moral hazard, and b) doesn't necessarily exacerbate it. The former is shown by the experience of Lehman Brothers, which I blogged about at the time (yes, this blog is well into middle age in blog years). The catastrophic effect of the Lehman collapse more or less ensured that western governments would never let a major financial institution fold ever again. So the moral hazard effect was the opposite of what  we expected. If Greece is allowed to collapse, it will most likely create major upheavals in the financial system, and policymakers are very likely to decide, a la Lehman, that they don't want to go through that again. So Spain, Italy and the rest will feast on moral hazard.

The second point is that Greece being bailed out now would probably not have anything like the perverse moral hazard effects people like Merkel fear. After all, Greece has been in recession for 5 years, has living standards that are back to those of a decade ago, 25% unemployment, and a future of stagnation ahead. Do we really think Greeks will interpret a bailout as an invitation to spend like crazy and have to go through the whole experience again, just because in the end they were bailed out?

Of course, the real problem with the moral hazard argument is that we are not talking about a person, but a country. If Greek institutions suck, it's because Greece has not managed to create good institutions. Do individual Greeks need to be impoverished in order to encourage them to overcome all their collective action problems and build a Swedish/German style state? Do we really think it's that simple? Decades of political science literature still leaves us pretty uncertain about how you get good institutions. Although one thing we do know is that they are usually correlated with economic progress rather than collapse.

Tuesday, May 22, 2012

No democracy please, we're Europeans

So David Cameron wades in on the Greece crisis - sense of irony failure there I think.

Anyway, the Greeks are coming under pressure to vote for mainstream, pro-austerity parties, despite having voted for something else less than a month ago. This tells you everything you need to know about the role of democracy in the Eurozone.

In fact, the decline in democratic accountability is not an accident: it is the result in part of a certain demobilization of mass electorates in western countries, which has a variety of structural causes, but in part also of the determination of powerful interests to remove popular consent from a range of key economic decision making arenas. This, in turn, exacerbates the trend towards popular apathy, or at least resignation.

So currently, a set of institutions of 'governance' in the Eurozone have not only allowed a disaster to take place, but have also blocked any proper discussion of alternative ways out of the disaster. So the key actor in the management of the crisis is the ECB, an entirely unelected and unaccountable body with a tight connection to the world of finance, and largely impermeable to other interests. What makes you think that an institution like the ECB would ever be inclined to adopt policies in the interests of the non-rich majority of the Eurozone population?

The role of electorates, in the ECB/Merkel view, seems to be to elect governments that will follow policies the ECB, and by extension financial interests, want, even if this is going to lead to all of the burden of adjustment falling on the bottom 90-odd%. The Euro system was deliberately designed in this way to avoid politicians responding to popular demands for spending and low taxes. Clearly popular policies are not always in the long term interests of an economy, but surely it is the job of the democratic institutions to determine what those are?

What we have now is a technocratic approach to government which is not only democratic, it is very likely applying the wrong policies. If we have to have wrong policies, let's at least choose them through democratic means. And who knows, given the chance people might surprise the political class and the economics profession by choosing governments and policies that work in their interests.

Friday, May 18, 2012

The impossibility of austerity

One of the best pieces I've read on the Southern Europe debt crisis: EconoMonitor : EconoMonitor » Europe’s Depressing Prospects: Two Reasons Why Spain Will Leave the Euro

The following (a quote from Ambrose Evans-Pritchard) is particularly eloquent:

Berlin seems to think it can lock in a current account surplus with Club Med in perpetuity. Clearly, such as an arrangement is mathematically impossible within a currency union – unless Germany is willing to offset the surplus with flows of money for ever, either through fiscal transfers or loans or investment. These flows have been cut off.

So simple, and yet so difficult for many powerful people to grasp.

I still think Germany and the EU powers that be will blink first. But if they don't change course soon this will be a catastrophe.

The politics of crisis

So with the collapse of the Greek party system attention is turning to the politics of the crisis. About time. There's an interesting paper by Mian, Sufi and Trebbi about crisis provoking inequality and then political polarization, which in turn blocks reforms and makes exiting from crisis more difficult (Political constraints in the aftermath of financial crises | vox).  A couple of thoughts.

First, I'm not sure inequality provokes political polarization, at least at the level of the party system. The US, everyone's favourite case, seems to back this theory, until you consider that the Democrats have actually been moving rightwards over the past quarter-century - they just haven't been moving quick enough to keep up with the Republicans, who are dropping off the edge of the democratic spectrum. Sure, there is a lot of potential for inequality to result in polarization, but when an institutionalized party system fails to pick up on this potential, it won't emerge.

Second, although there is plenty of evidence of political parties actually forming a pro-liberalization cartel, rather than polarizing, whilst inequality rises, this can't necessarily hold forever. In Greece, we have seen what happens when the crisis hits extreme levels - people reject existing parties and vote for minor, usually more radical, political forces. So the effects of crisis could well produce polarization, but first the existing party system - which have so far tended to cartelize around austerity and further liberalization - has to collapse. I don't think Greece will be the only case, but so far the cartel is holding in Spain, Italy and Portugal (and in Ireland to a lesser degree). So far elections in western countries have almost always overthrown the incumbent, but have also almost always returned the established opposition. In Greece, it took a third post-crisis election to usher in the crazies. We'll see if that happens elsewhere - Italy 2013 is a good candidate.

Finally, it's not surprising that political parties are struggling to impose 'reforms'. First, these reforms won't necessarily produce much growth - their impact is likely to be marginal in the short run. The fact that liberalization measures are associated with the ideas and institutions that brought us casino capitalism and unsustainable housing bubbles doesn't help. But the second point is that even if the reforms were a good idea, political parties in western democracies no longer have the legitimacy and authority to impose them against the predictable opposition of affected groups. The last 30 years in the west have seen not only liberalization, but also party decline, with party membership, voter partisan identification and voter participation all falling across western countries. Parties are not what they once were, as Philippe Schmitter put it a few years back. We are facing a situation of unprecedented economic stress with not only indebted governments, but tired and fragile political institutions. Not good.

Fox: fair and balanced

Not much blogging recently - there is too much to blog about...
But I did have time to pen a letter to the FT responding to Liam Fox's ridiculous piece about German economic strength: here it is.

Friday, May 4, 2012

Can Trade Unions be 'extractive elites'?

Acemoglu and Robinson's latest epic is sitting on my desk. They've helpfully set up a blog about the book, with comments and responses to reactions, including Francis Fukuyama's surprisingly powerful hatchet job. Anyway, their latest post comments on a review by the Economist's Buttonwood column, which suggests that present-day examples of 'extractive elites' - the key concept in Why Nations Fail - are bankers and public sector trade unionists.

Like the first one. The second one, not so much.

A & R are receptive to the first idea, on grounds that most informed opinion seems to accept by now - that super-rich bankers that brought the world economy to its knees through reckless gambling may be a good example of an extractive elite, ie one that 'extracts resources from the many for the few'. I think that is a pretty hard case to rebut, given recent experience.

What I don't get at all is how public sector unions can fall into the same category. After all, even in countries with a small public sector, we are still talking about 'many' people here. The more people that have to extract resources, the less people are left to extract resources from. Put another way, the bigger the group is, the more the group has to 'internalize' the consequences of its extractive behaviour. This is the reason why successful extractive elites have to be - well - elites.

The second point that needs making is that unions, battered by the negative press of the last 30 years or so, are ripe for a rebranding. A & R reasonably enough state that they 'don't know the answer' to the question of what role unions can play in dealing with the current problems of inequality and stagnation. Respectfully, I suggest that we in fact know quite a lot about unions. We know that the countries that have the highest union density have emerged the healthiest from the financial crisis (Germany and small Northern European states such as Sweden), whilst countries with weak unions are in a terrible mess (the UK and the Southern European countries all have small and declining union membership). We also know that union density is highly correlated with higher median earnings:

(courtesy of Think Progress)

All the evidence is that having strong unions is a big advantage in the recent period, both for equality and for overall economic performance. Of course, there could be all kinds of endogeneity problems here (eg, unions decline where they become disfunctional), but on balance higher union membership has to be a good thing, because 'encompassing' unions internalize the costs of their behaviour, incentivizing pro-growth policies.

In short, unions are the opposite of extractive elites. Even in the worst case, they can't extract that much without damaging themselves in the process. Strange that the Economist can't see the difference between unions and bankers.

Sunday, April 29, 2012

How to avoid compromise

So Sebastian Mallaby comes up with the usual 'why don't they compromise' story in the FT (Forget euro woes – brace for taxmageddon - The US is set to embrace fiscal chaos because of the likelihood that the November elections will maintain current legislative gridlock. If only the two sides would 'compromise'.

Rudimentary game theory would suggest that to compromise only makes sense if the other side is willing to give anything up. The Republicans have made it pretty clear that lower taxes for the only groups experiencing income growth is a non-negotiable condition for any deal. Oh, and don't let the government touch my Medicare.

Actually what the Republicans have managed to do is pretty clever. Imagine a centre-left and a centre-right party who need to 'compromise' for problems to be solved. How do you ensure the compromise benefits you? By adopting a more extreme position, and persuading the other side to agree to the mid-point between the two. That way you get more or less what you wanted, and the other side gets next to nothing out of the 'compromise'.

Compromise in the current US climate means that the Democrats sign up to the Republicans' ideal policy of 20 years ago. This strategy works for two reasons: first, the press doesn't call them on it, and people like Mallaby buy the 'why don't they compromise story'. Second, the Republicans have so many nutters in the party that they have a credible commitment to extremism, leading responsible Democrats to give up on the idea of any real compromise. You could throw in a third: the Democrats are themselves reliant on support from the super-rich, which further disinclines them to force the issue.

This is a strangely relativist type of politics. Policy reflects the mid-point between two positions, no matter how crazy they are. The fact is that the US has the most expensive healthcare in the advanced world and the lowest taxes, but Republicans insist that nothing should be done about either. That's your deficit. If the media refuse to address this, then disaster is the only possible outcome. The FT shouldn't be part of this.

Friday, April 27, 2012

Politics against markets - again

With the imposition of technocracy in the Southern periphery of the Eurozone and the challenge from extreme right parties in France and Holland, commentators are starting to notice that there is a legitimacy problem in European politics (for instance, Tony Barber Europe must confront crisis of legitimacy - Political parties were accepted by mass publics in the postwar period because they guaranteed economic progress and security through the welfare state; the turn to austerity breaks this pact and throws the party system into disarray.

To which I might add - welcome to the real world. The crisis of legitimacy in mainstream party politics is not a novelty, but represents trends that have been present for quite a while (even a quarter of a century in some cases). Parties are challenged because of two parallel and inter-related trends: the decline of mass participation through political parties, and the success of an economic theory that was inimical to the idea of popular intervention in economic policy. Markets would provide individuals with choices, but collective action to shape markets should be minimized, and where possible, eliminated.

In response to the depoliticization of economic policy through institutions like independent central banks, fiscal rules and European-level regulation, demands for popular participation in the management of the economy could no longer be articulated through the mainstream parties which had, almost without exception, bought into the new model. Not surprisingly, voters that were unhappy with the new arrangements turned to 'outsider' parties, and outsider parties, again unsurprisingly, tended to be populist and often extremist. A common theme in the populist turn, above and beyond the ignorant racism to which they often appeal, is the demand for an end to the 'cosy cartel' of the mainstream parties, and protection against markets (usually in the form of opposition to globalization and immigration).

So the trend towards populism has old roots, although the crisis and the absurd reliance on austerity to respond to it has thrown fuel on the fire. In dire economic times, governments tend to be thrown out. If oppositions offer no alternative to incumbents, then populist success is to be expected. If anything, it's surprising that Marine Le Pen won only 2-3% more votes than her father had in much happier economic times a decade ago.

All this points, at least for me, to one conclusion: that the attempt to take the politics out of economic policy has failed. It has failed economically, that much is obvious, but it has also failed politically, by alienating people from a political process that they sense is designed to ignore their views. The crisis is not just the result of reckless greedy private bankers, it is also a failure of the central bankers who were protected from democratic pressures because that was supposed to allow for better policy.

We need new economic institutions, and we need to build popular support for these new institutions. Politics and markets have got to be made to coexist.

Tuesday, April 24, 2012

Wednesday, April 11, 2012

European democracy?

So, a busy week next week. First up, a conference on the Euro crisis at Brown University. I'm going to be on a panel entitled Can Europe survive the Euro? I thought it might be an idea to write down a few ideas beforehand, so here they are:

Being British is not usually a qualification for balanced comment on the state of the European Union and, particularly, the Eurozone. However, UK nationality and residence does provide an interesting vantage point on the Euro’s problems, particularly for those of us who are instinctively pro-European. Unlike in more traditionally pro-integrationist countries, supporters of the EU have had to try very hard to justify pro-European arguments to a largely sceptical population. Ignoring the risks and costs of EU membership has never been an option.

Tuesday, April 10, 2012

The politics of tax cuts

One of the most interesting features of politics in the UK and US over the past few years has been the politics of tax-cutting. Thatcher and Reagan appeared to make big political gains out of it, and here New Labour was so spooked by the tax issue that they committed to not raising income tax. The interesting point is that tax cuts play well politically even though they are, almost by definition, regressive. The personal allowance change in the last UK Budget is a wonderful illustration of this. By raising the tax threshold, the Conservative-Liberal Democrat government was able to claim to be taking low-income families 'out of tax'.  In a sense, this was true (although only in a sense - income tax is only a small part of the tax burden of the low-paid). But, if we take the bigger picture into account, it is no longer true in any reasonable sense.

The first point about all this is that tax cuts tend to benefit every taxpayer proportionately, which means that their effect is regressive - high income groups pay more tax, and if there is a proportionate tax cut, most of the cut will therefore go to them. In the case of the UK budget, there was an adjustment to higher rate tax thresholds to limit the benefit to higher-rate taxpayers, but the raising of the tax threshold otherwise benefited all income tax payers.

The second point is that poorer families tend to have fewer taxpayers than wealthier families. The poorest, of course, generally have no taxable income, whilst lower paid workers often are the sole taxpayer in the household. So the benefited of the threshold change has tended to go disproportionately to the middle income household, as the Resolution Foundation show in this chart:

(chart tweeted by James Plunkett of the Resolution Foundation, 21 March)

The third point is that the poorer families tend to consume a bigger proportion of government spending, and the opportunity cost of tax cuts is cuts in government spending, which affect wealthier families far less on the whole (although probably more than they think).

So overall, an apparently progressive measure is in fact rather regressive (and politically astute, since it concentrates gains in the middle-high income group whilst rhetorically evoking help for low paid workers).

What can the left do about this? It's a tricky one. The point is that most people have no real understanding of where government money goes, and therefore underestimate the costs to them of cuts in government spending to pay for tax cuts. People also fail to understand how much most voters are actually subsidized by the wealthy through higher rates of tax - it's in the interests of most voters to vote for higher taxes, provided they are not regressive, yet the appeal of a tax cut is always strong.

So the left has got to dream up ways of making the benefits of tax and spending clearer to people. One thought is the government's recent suggestion to give voters a breakdown of how government spends tax money in their tax demands. Actually, I think that's a great idea! Information about spending, if extended to show exactly how much redistribution people are actually getting through the tax system, could help justify more government interventions. The left has got nothing to hide from voters having more information, since most voters gain from centre-left policies. So my proposal is an estimate of how much government spending people get in their various activities (health, education, pensions, etc) alongside people's tax bills. There must be some neat way of doing it that would get the idea across.

Sunday, April 8, 2012

How to win over the squeezed middle: subsidize first time buyers, tax landlords

Labour have benefited a good deal from the Tories' ill-judged budget - the latest polling gives them a ten point lead, although this is largely a function of the Tories' loss of preferences rather than Labour gaining much. Ed Miliband still inspires little confidence in voters, but it's interesting to see that the sheen is wearing off David Cameron at last.

Anyway, what Labour needs is redistributive policy ideas that are easy to sell, and can win over voters in both richer and poorer areas of the country. So here's one. Why should landlords get a tax break on their second, third, fourth mortgages, but hard-pressed homeowners get no tax breaks on their mortgages? This is simply crazy. Sure, many people have invested in buy-to-let as part of their financial planning, and they will protest at this, but are they really an electorally significant bloc, and in particular, are they the kind of people that Labour are likely to win over?

I've not done the numbers, but my guess is that some kind of tax break for new homeowners (easily done, has to be first mortgage after some cut-off-date), paid for by reducing or removing entirely the tax break for buy-to-let landlords, could be a real vote winner, especially in wealthy areas (where the tax break would, of course, be proportionately worth more). I think removing mortgage tax relief for first homes was probably the right thing back in the 1980s and 1990s, but what has happened is that whole generations (basically anyone much younger than me) are being excluded from the housing market, whilst current taxation asks nothing of people whose homes have gone up in value. Now asking older homeowners to pay higher tax on their paid-for properties is political suicide, so my plan focuses on making a small, generally wealthy group pay instead. If we want to be conservative about it, we could leave some of the landlord tax breaks intact - for instance allowing mortgage interest deduction just on one buy-to-let mortgage. And we could phase it in so that big investors would have time to adjust their portfolios and not get bankrupted by the change (though quite why they need such protections is a fair question).

An obvious difficulty here is that tax breaks for homeowners will, all else equal, push prices up and negate the beneficial effect. But if the change to buy-to-let rules is gauged properly, it would lead to people getting out of letting and releasing properties onto the market. In high cost areas this would be particularly likely, so it would also have the effect of opening up the housing market in the areas where there are most labour shortages. Done right, the net effect might leave prices roughly stable whilst redistributing access to the market from buy-to-let investors to people in the squeezed middle who are currently forced to rent.

So, Ed and Ed, what are you waiting for?

Saturday, April 7, 2012

My London vote

This could swing the election...

Right, given that the London vote is quite a bit more complicated than a parliamentary election (ie, which candidate has the best chance to beat a Tory, right I'll vote for him/her), this requires a little bit of thought.
We have effectively four votes (it's explained - not terribly well - here), and this gives us a bit of scope to present a more nuanced account of our preferences. So here goes.

Mayoral vote: here we have two shots, a first and a second preference. My first preference is probably for the Green Jenny Jones, since the main area that the mayor has power over is transport, and the Greens have the only reasonable transport policy (in another words, one that doesn't push everyone that isn't in a car out of the way). But given that she can't win, I'll give my second choice to Ken, as the realistic candidate to beat Boris (I'm assuming Brian Paddick's association with the desperately unpopular Lib Dems, and his attempt to cover up racism in the Met back in 2004, makes him an unlikely winner). Oh, and I am a Labour Party member....

For the Assembly vote, we have a more complicated arrangement, where we vote for both constituency and PR members. My constituency vote is for Labour, since my guess is that in Enfield and Haringey it will be a straight Conservative-Labour fight (again Lib Dems presumably damaged by their serial errors and spinelessness in government). My PR vote is again Green, since they're sure to get some representation under PR, but unlikely to win a constituency seat. The official website doesn't explain if there is any compensation for constituency losers in the PR vote (as in Germany, Scotland and Wales, or Italy 1994-2006), but I don't think there is, and in any case I would give Green representation higher priority than Labour representation in London, given the importance of transport issues where the Greens are in my view the only serious party.

So there you have it, the people have spoken.

Friday, April 6, 2012

The ECB's inflation target explained to credulous teenagers

Yes, the ECB has decided that now it has mastered the art of depression-prevention (OK, it was Ben Bernanke that said that, but whatever) it can turn its attention to educating the public at large about the dangers of having inflation higher than 2%.

ECB: Price stability - why is it important for you? from Euro Challenge on Vimeo.

Thursday, April 5, 2012

What education is really about

When you're tired of the Gradgrinds and bureaucracy, along comes Noam to remind you why you became an educator in the first place. Watch and enjoy (preferably with a mug of tea).

Wednesday, April 4, 2012

Spain, again

Now that Greece is off the front pages for a few days, we all turn our attention to Spain (Spanish bonds hit by poor auction -

Spain's problems are rather different from Greece's, and those differences are now widely understood: Spain had a balanced budget and a small public debt before the crisis, but ran up a crazy amount of private debt, largely backed by a property bubble in a largely saturated housing market. The result is that Spain has a British-style deleveraging recession, which is starting to become a sovereign debt crisis too as investors wonder whether it can sustain high budget deficits in the absence of growth.

The irony of all this is that the markets now that austerity won't work, but insist on it anyway. What do I mean by this? That investors want some kind of guarantee that deficits will be reduced so that the state debt burden will be sustainable, but know perfectly well that retrenchment now will make the recession worse, making everything less sustainable.

So what indebted governments need is a mechanism for convincing the markets that deficit reduction will come, but not yet. This mechanism has to be some kind of credible European-level institution, that can commit to both sovereign solvency and growth. The current German obsession with punitive deficit reduction strategies is the last thing we need, since the alternative - euro exit and default - is in no-one's interests, yet may end up happening anyway because of the impossibility of everyone deleveraging at once.

Sunday, April 1, 2012

The UK's Conservative Government: An Apology

It's no good, I have to admit defeat. Despite four years of increasingly desperate blogging in favour of Nordic social democracy, Keynesian macroeconomics and Hull City AFC, I have reluctantly come to the conclusion that all three causes are lost. Hull have lost their last four games and are now five points off the playoff places. Let's check the evidence on the other two.

When David Cameron became Prime Minister, I confidently predicted that his deficit reduction programme would be socially divisive and economically counter-productive. The deficit, I claimed, could get bigger if public spending cuts crushed demand and therefore economic growth. And loading most of the strain onto spending cuts, rather than balancing that out with progressive tax increases, would punish the most vulnerable and increase poverty and inequality. Cameron, with the misguided support of Clegg's Lib Dems, was burying Britain in a self-perpetuating slump which would make recovery impossible, tear apart the fabric of society, and leave the deficit just as high as before. Moreover, the Tories' proximity to the wealthy and the financial elite in particular would mean that the effect of policy would be deeply regressive, leaving the City's government subsidized bonus culture intact whilst no serious effort would be made to get the rich to pay their fair share.

In view of the experience of the two years since the last election, there's no escaping the fact that I was completely wrong on all counts. The brave measures taken in the budget to help hard-working job creators whilst drawing a line on excessive pasty-eating, and the courageous decision to pre-empt the bullying of Labour's union paymasters by emptying the nation's petrol stations beforehand, simply confirm that fact. I humbly apologize to the Conservative party and promise to support them for the rest of my days.

Wednesday, March 28, 2012

John Kay: did the lucky generation make its own luck?

John Kay is admirably self-critical of his baby-boomer generation in today's FT (My generation should repay its good luck). He grew up in an age of growth where the state took care of his education, the job market provided opportunities, and housing was cheaper (and mortgages quickly devalued by inflation). His generation now enjoys a comfortable retirement (notwithstanding griping about the 'granny tax'). The luckless younger generations face tuition fees, a competitive and polarized job market, higher taxes, unaffordable housing, and poor pension prospects.

All of this is well known to those who care to think about it, although remarkably absent from the political debate. But there is a reason politicians choose to ignore it: baby-boomers are, and have been, far more politicized than their children. Not only are they more likely to vote now, they are more likely to have been politically mobilized in the past: remember that today's retirees could easily have been on the barricades in 1968, on the picket lines in the 1970s, or indeed marching with CND in the 1980s. The anti-globalization movement of a decade ago is a pale imitation.

So Kay is right when he claims that:

"Most parents want to give their children opportunities to live a life better than their own. But when we act together, we aggressively pursue our own interests at the expense of our children and grandchildren: a bizarre paradox of perverse collective action."

Maybe it is more pragmatic than perverse. Baby-boomers' surest way of giving their own children opportunities is to increase their own private wealth, rather than campaigning for social democracy. This ensures that opportunities will be unequally distributed, unlike in the post-war period. For each individual family, it makes perfect sense: if you hang on to your privileges, you can hand them over to your children, without the risk that your losses could be redistributed to the children of others. Think about it: if your kids can afford to go to university, why subsidize others to compete with them for the best jobs?

Democracy is not old enough for us to have had much experience of differential mobilization amongst generations. Although collective action may come in waves, as Albert Hirschman claimed, we don't know this for sure. It may have been a unique and irrepeatable phase of our historical development, which provided the active generation with institutions that would protect them through their own lifetime. If that is the case, the young will suffer badly for their failure to stand up for their peers in the way their grandparents did.

Tuesday, March 27, 2012

Paper on party cartels

And here, finally, is the paper.

Great meeting (19th Conference of Europeanists) in Boston, the world may be in a mess but there are a lot of people out there who understand what's going on. Gives you hope.

Friday, March 23, 2012

No blogging, but a paper

I've been writing a conference paper, hence the blogging silence. Will post shortly, in the meantime here's the abstract to whet your appetite:


This paper assesses the response of political parties in advanced democracies to the post-2007 financial and economic crisis. It suggests that the mainstream parties in western countries have yet to update their economic policy paradigms, remaining within the narrow range of policy positions considered appropriate through the 1990s and early 2000s. It then develops a theory of party politics to explain this lack of change, drawing on Katz and Mair’s concept of the cartel party. It is argued that parties form a cartel around market liberal policies as a response to their own organizational weakness, and make institutional changes to entrench this cartel. Faced with a changing political and economic environment, parties remain locked into a set of ideas, policies and discourses which responded as much to party leaders’ organizational needs as to the validity of the ideas themselves.

Tuesday, March 13, 2012

Inside the German mind

In case you're completely flummoxed as to why Germany insists on the self-defeating austerity policy, and have read too much Paul Krugman, you should really check out this great policy brief from the European Council for Foreign Relations - it explains the German economic policy paradigm and its roots in the tradition of ordoliberalism.

The conclusion: don't expect the Germans to give way on this. You have been warned.

The Tao of Neoliberalism

OK, I don't really know what a Tao is. But hear me out.

The persistence of neoliberalism's 'Zombie ideas' (see Quiggin, Crouch, Krugman) despite abundant evidence of its failure is a source of frustration for those of us on the left who never liked it even when it seemed to be working. It's also an interesting intellectual puzzle: why do ideas change, and why isn't the obvious failure of ideas a source of change?

One think strikes me as I read through Crouch's book - a divergence between any informed assessment of the record of neoliberalism on the one hand (clearly negative) and the attractiveness of neoliberalism as an idea on the other. So Crouch defines neoliberalism's dominant idea thus:

'that free markets in which individuals maximize their material interests provide the best means for satisfying human aspirations, and that markets are in particular to be preferred over states and politics, which are at best inefficient and at worst threats to freedom'.

What's not to like? Especially since you can always come up with a reason why the problem might be down to state action of some kind, given the regulatory and fiscal role of the state in advanced democracies. I guess the point is that if the idea of individual aspiration and a poor opinion of politicians are part of your world view, than the collapse of the particular variant of financialized market economy witnessed over the past 5 years is probably not enough to shake you from that belief, especially since the alternatives are widely perceived to be discredited too.

The problem is that academic political economists know a lot more about the historical record than the average voter does, and there is no point in assuming that voters are going to come to the same judgement - they don't have time to read Quiggin, Crouch and Krugman (alright, a few read Krugman). Voters never understood Keynesianism, so why would they understand neoliberalism? To achieve change, we need a mythical story about social democracy that sounds as good as the mythical free market - a vehicle for aspiration of a better life. If nobody has ever explained to voters how a better life doesn't always come through a market, than we can't expect neoliberalism to die the death it deserves.

Wednesday, March 7, 2012

Trade-off or free lunch?

Not much blogging at the moment, in part because I'm writing a paper and need to focus on that. So, I'll blog about the paper. Here goes.

The paper is provisionally entitled 'Equality and Efficiency in Advanced Democracies: Revisiting the Leaky Bucket Hypothesis'. We (Mark Blyth, Seth Werfel and I) address Arthur Okun's classic book 'Equality and Efficiency: The Big Trade-off', which as the title suggests, argues that equality and efficiency are fundamentally in tension, with higher efficiency tending to imply higher inequality, and viceversa. We don't agree. A long tradition in comparative political economy suggests that not only is the trade-off not clearly visible in the data, but that the relationship may actually be the opposite, with equality and efficiency tending to move together (or 'trade in').

This paper is a follow-up to Hopkin and Blyth 2012, which just came out in the Review of International Political Economy. There we argued that rather than a straight trade-off, there is a curvilinear relationship between equality and efficiency across advanced countries: countries can combine efficiency and equality, inefficiency and inequality, or efficiency and inequality. So, for instance Northern European welfare states tend to have low inequality but also high levels of economic efficiency (what Peter Lindert calls a 'free lunch', in which equality doesn't have an apparent efficiency cost), whereas in English-speaking countries efficiency is combined with high inequality (a trade-off). Moreover, some countries, particularly the newer OECD members and the Southern European nations, manage to combine high inequality with low levels of efficiency (an expensive and lousy lunch?). In other words, there are a range of combinations to choose from, rather than a stark trade-off between equality and a good economy.

In the current paper we try to move beyond this in two ways. First, we use panel data to see whether our cross-sectional results hold over time. Second, we try to predict why increases in efficiency produce different effects in different cases. The results so far suggest that the three combinations seem to be present over time, that movements along the curve produce trade-ins and trade-offs, depending on the country's level of efficiency, and that we have a tentative explanation for why that is.

On which, more later...