The past few weeks have witnessed turmoil in international debt markets. I am always reluctant to use the term ‘markets’ for it assumes a rational gathering of buyers and sellers acting with full information in the interests of the economy. This is not the case, the ‘markets’ are shop floor traders working on behalf of investment companies with very specific interests; making as much money for themselves. The five senior US hedge fund managers who paid themselves €5bn in bonuses toward the end of last year are the ‘market’. But, for the sake of analytic clarity I will use the term ‘market’ to describe the collection of interests of those with the ability to invest or withhold capital for investment. And, make no doubt about it, one of the primary problems facing various European economies is the ongoing investment strike by private actors and the inability of the democratic state to generate the necessary fiscal resources required for public investment. Both are systematically connected – liberalised wholesale money markets and the fiscal crisis of the state.
The turmoil we are witnessing in European debt markets is the outcome of investors worried they may never get their money back. So, they are calling in old debts. But, why are they so worried about the ability of democratic states to pay back debt? The answer to the latter question has been answered by everyone from George Soros to Martin Wolff. Some states such as Greece and Ireland will not be able to pay back debt as they cannot grow their economy at a sufficient rate. They are economically and fiscally in the same position as California in the US without the embedded federal-fiscal support of a United States. Europe is a monetary union without fiscal union. Therefore it lacks the systematic support structure to avoid the weaker regions being picked off by those who hold financial power.
The money spent on saving the banks has produced a sovereign debt crisis. Democratic states are trying to reduce the debt accumulated by reckless banks (made possible by aggressive liberalisation of mortgage and financial money markets) by cutting current and capital expenditure. This means less money for pensions, social welfare, health, education and public sector pay. Societies are being asked to cut their standard of living to reduce the debt accumulated by the financial sector. The latter, had to be saved, the argument goes, because if they were not, the US and European economy would have collapsed, just like Iceland. But, is not Iceland in a better shape today than most European economies?
But, taking the reality that markets have forgotten about Iceland for granted, the following fact remains: sovereign democratic states are facing a fiscal and economic crisis because of the private financial sector. The finance market (those who hold financial assets – money power) remains intact, capital requirements have not been increased, a financial transaction tax has been avoided and the bonus culture in our banks remains. Their mistakes are being paid for through taxpayers money. The state has become a debt collection agency on behalf of financial markets to ensure the secure free flow of money-liquidity. Yet, this ‘liquidity’ is not being invested but hoarded.
However, there is an inherent contradiction at the heart of what financial markets actually want from the state. Policy makers and politicians talk about the ‘market’ as though it were a conscious actor capable of collective negotiation. They are not. On the one hand ‘markets’ are asking for fiscal consolidation – cuts in public spending and the living standards of taxpayers – in European countries. This is because they are worried about not getting their money back. A few years ago, investors were happy to buy Greek bonds on the assumption that the asset bubble, keeping the global economy ticking over, would continue forever. Markets are greedy herds who chase after and invest in economic bubbles – from the ICT bubble in the late 1990s to the house price bubble after 2001. They are not the rational actor that economic textbooks assume (most economists have zero experience of finance-business. They are akin to a surgeon who has never cut open a patient).
Capital investors were happy to buy European government bonds when they had ‘certainty’ about getting a return. They assumed that the monetary union was stable enough to ensure a convergence of interests rates and therefore equated all Euro government debt as the same. When it became obvious that a monetary union was nothing more than a shared currency, investors began to pick off the weaker states who rapidly accumulated the debt of their banking partners. Investors now lack ‘certainty’ about their investments.
But, what does this ‘certainty’ that investors require actually mean? It is quite simple: ‘certain to make a profit’. In actual practice, what economists call certainty (full information about costs and benefits) for those investing in an economic bubble can act as a drag on investment. The entire financial industry during the house price bubble required ignorance. It was necessary for investors to not fully understand or know what was contained in the bundle of their asset acquisitions (i.e. a mortgage of €300,000 provided to someone with no income security in Kansas). Ignorance became a public good as it enabled everyone to get rich on cheap credit for a few years.
So, investors are motivated by making a profit not some rational-efficient abstract notion of ‘certainty’. They are certain not to make a profit on sovereign debt when they know that the country cannot afford to pay back a loan. Hence, the rise in interest rates on government bonds in those countries who are perceived to be economically weak: Ireland, Portugal, Spain, Italy and Greece. Countries such as Belgium (who have not had a government for almost 18 months) are too close to the core of Europe to be considered a weak investment. So, in the assumption that these economies are weak, policy makers (ECB, EU Commission, IMF) in true Hayekian style are encouraging the state to do nothing for investment but do everything to remove ‘structural barriers’ to market efficiency-competition.
Structural reform was the quid pro quo of the European central bank purchase of Italian bonds last week. It is demanding that its ‘rigid’ labour market be overhauled i.e. adopt the type of ‘free labour market’ akin to the UK. What this means is increase the insecurity of employees and encourage greater casualisation of employment. No thought given of course to the relationship between the UK liberal labour market and the generation of London youths rioting last week. The focus is on reducing public debt through cuts in expenditure and increasing growth through the flexibilisation of the labour market.
But, back to the relationship between fiscal consolidation and investment. Just think about this for a moment. Countries need investors to buy their bonds but have accumulated so much debt that their economies are stagnant. They can offer investors a specific choice; consolidation or growth? That is, democratic states can, if they wanted, assert their political authority and start bargaining with the ‘market’ rather than bend down to its demands. It can start negotiating for an investment strategy. But, like any negotiation, actors need to start from a position of security (i.e. increase their collective bargaining power). There is no point walking into a poker game with €5 when everyone else at the table has €50000.
The security necessary for democratic states in Europe to bargain with markets requires the collectivisation and Europeanisation of debt. Europe needs to issue Eurobonds. What this means is that Europe, as a monetary union, must make it possible for each member to borrow money on international money markets at the same interest rate. This can only occur with the support of Germany. But, the German centre-right government is wedded to an old school Hayekian notion of how markets and states interact with one another. The German government is perhaps the biggest obstacle to resolving the European political-economic crisis. Policymakers seem obsessed with a state-do nothing and markets-do everything assumption. It is presented as technically too difficult for citizens to understand. But, when unpacked it is quite simple. What is lacking is the political courage to change the status quo. The market is united whilst the political is divided
Let us assume that political elites in Europe eventually act on the realisation that it is not possible for the Euro to survive whilst each member state issues its own bonds and receives differential interest rates in a capital-market that is totally free to move across borders. Unless there is political-democratic unity to bargain with markets the endgame will be years of unemployment, stagnation and all the resulting social chaos that will ensue. Europe needs to negotiate with markets and make them an offer they cannot refuse. That is, they need to offer them the opportunity to make a profit through a collective investment strategy to enhance employment growth. Europe can develop a European wide strategic investment bank to generate the revenue for a European wide energy revolution. If you were an investor and had two choices which would you choose:
- No interaction with the state as they quietly reduce public debt, decrease living standards, reduce collective consumption and drive down demand in the economy – all in the name of balanced accounts (i.e. the state behaves like an accountant) or
- Strategic interaction with the state to develop an investment plan to revolutionise the production of energy across Europe leading to increased growth, demand and employment (i.e. the state behaves like a strategic planner).
I have no doubt that investors would choose the latter option if the European polity had the political courage to think beyond Hayekian market assumptions. The markets will continually demand consolidation whilst the political is not capable of offering a collective growth enhancing (and in their minds – a new bubble) opportunity. This is the crucial point. The markets if forced to choose between fiscal consolidation or economic growth will always choose economic growth. This was made clear to me last week (in the gym of all places). I was talking to an investor at a Swiss bank about the Euro debt crisis. I put the following question to him: what would you prefer if forced to choose; fiscal consolidation in member states or investment in a strategic plan for growth. Without any hesitation he choose the latter. This is what all those ageing politicians in Dál Eireann and Brussels fail to realise. They assume they can do nothing and this is broadly supported by conservative economists.
The European political realm (the markets are just feral vultures who behave according to much the same logic as the London rioters) is wedded to the Hayekian assumption that some European countries got drunk and therefore must deal with the hangover. Hayek assumed that economic bubbles emerge because of poor public policy decisions by central banks and state intervention (in actual fact it was aggressive financial de-regulation in mortgage, housing and finance markets) in the economy. When these bubbles burst unemployment will rise and economies stagnate. The policy of the state or those with the political-executive capacity to act is to do nothing. The market will eventually correct itself, entrepreneurs will eventually provide the market with investment opportunities. In the meantime the democratic state should ignore unemployment and just wait for an enlightened business man to solve its problems. This is the basis of European public policy and it is wrong.
Hayek argued that governments should do nothing when a bubble bursts to avoid another bubble emerging. But, the new bubble is here already – public debt. So, doing nothing always results in doing something – in this case allowing those with market power dictate political choices. So, I put it to European political elites – do the following: issue Eurobonds to increase the collective bargaining power of European democracy over financial markets. Construct a European Investment Bank to generate the revenue for a revolution in green energy – starting with the use of solar. Enter a negotiation with the ‘market’ over investment opportunities for European growth and the restructuring of debt. Make a strong political statement of intent that Europe will become the site of a future energy revolution. Thus, give those with capital an offer they cannot refuse and make them an instrument (a means) to a democratic end goal – a carbon free world.
The general point is that the political democratic state has the capacity, if it chooses, to become a strategic industrialist but only if it occurs at regional-European level. Concepts of state planning frighten the hell out of orthodox economists because they live in a world of categories. But, it is high time to move beyond the juvenile choice between Hayek-do nothing and a Keynes – national state investment dichotomy. Markets want growth not consolidation. This can occur through the democratic using the economic realm for a green energy revolution.