The rest of the world is holding its breath as the eurozone continues wobbling along the brink of deflation. In fact, numerous member states are already experiencing what it means to let “it” happen again. With the region stuck in depression since 2008, Euroland authorities are writing fresh world records in failing to improve the well-being of their citizens. The only thing that keeps rising in the eurozone is indebtedness—as the unsurprising consequence and symptom of its collective austerity insanity.

But that is not how the German authorities, or for that matter German economists, view the world. Blatantly ignoring the dismal facts that their favored medicine has produced, they never tire of calling for more of the same: austerity, austerity, and another extra dose of austerity please. By contrast, anything that might possibly help to turn fortunes around gets rejected out of hand as conflicting with the requirements of stability-oriented policymaking. In Germany, neither facts nor economic theory matter at all, it seems. Policy prescriptions simply have to match the ruling austerity-cum-competitiveness ideology, no matter what.

Hans-Werner Sinn, president of Munich’s IFO think tank, provided us with a fresh sample of German economic wisdom about a month ago, calling on Germany’s Chancellor Angela Merkel to stop ECB President Mario Draghi from even trying to regain control over its primary price stability mandate, defined as “below but close to two percent” inflation. Eurozone HICP inflation is currently running at only 0.3 percent. But even the thought of the ECB purchasing government bonds is giving rise to hyperinflation fears among German economists, it seems. It’s all a matter of principle and firm belief.

Professor Sinn is known to readers of Germany’s tabloid Bild-Zeitung as the country’s smartest economist. As if to confirm this popular verdict, Professor Sinn was at least making one valid point in his FT op-ed: namely, that the ECB has finally stopped ignoring super-low inflation while the eurozone’s political leadership remains stuck in denial. As the political authorities continue dreaming their austerity-boosts-growth delusion, the ECB (at last) has started devising actions intended to stop the nightmare reality from getting worse. To be sure, it is not an enviable position for any central bank to be in. The ECB is learning the hard way that not having a euro treasury partner means doing the tango on your own (which may look somewhat curious, if not ridiculous). But perhaps some central bankers have come to realize that not even trying to solo-dance might be judged as gross negligence should the eurozone end up sinking into full-blown deflation and chaos.

Professor Sinn reminds his fellow German citizens that they may petition the German Federal Constitutional Court in case they fear that their country’s Basic Law gets trampled upon. The law says that Germany can transfer monetary policy to a European institution that is independent and committed to the primary goal of price stability. This would seem to open up the interesting possibility that the court, if petitioned by its citizens, could also force German politicians to take action against the Bundesbank for failure, as part of the Eurosystem, to effectively stem deflation. Of course this is not exactly what Professor Sinn has in mind. It is utterly inconceivable that Germans, supposedly scared of nothing else in the world but hyperinflation, could ever worry too much about the opposite threat wreaking havoc across Europe—even as destructively-low inflation has been the reality for quite some time now.

And then there is Otmar Issing, formerly a professor of economics at Würzburg University and chief economist at the Bundesbank and then the European Central Bank. His recent FT op-ed is a response to worldwide calls on Germany to change its steadfastly-held austere fiscal stance and finally help the eurozone to recover. Here is Professor Issing’s diagnosis of the situation: continue reading…

There’s growing pressure on Germany to spend more to support Europe – and for good reason. But it’s proving to be a hard sell to the country’s leaders.

Germany’s budget is balanced and the government insists that its current policy stance is the best it can do – for itself, the eurozone and the world at large. The government’s mantra is that a balanced budget inspires confidence, which in turn propels growth. That’s not actually happening of course, as is plainly visible for anyone to see, yet the ongoing stagnation and sense of crisis felt across the eurozone have only encouraged the German government to repeat its flawed logic.

The rest of the world is not amused, especially eurozone members that have been at the receiving end of Germany’s economic policy wisdom and have been more actively pushing against its gospel of austerity of late.

For much of the time since the euro was launched in 1999, Germany has depended on foreign purchases of its exports for its own meager growth, particularly when domestic demand stagnated for much of the 2000s, just as it does today. But Europe’s biggest country has not been willing to return the favor, as public and private investment remain severely depressed. Even as the government has just cut its own growth forecast for this year and next, it also signaled its continued stubborn refusal to change course.

A nation of surpluses

That protracted stagnation in domestic demand helped cause Germany to run up huge and persistent current account surpluses, averaging about 7% of GDP since 2006. Germany’s current account surplus, on pace to be the world’s largest for a second year in a row, is significantly bigger than China’s, which has declined sharply as a share of GDP from 10% to 2% since the financial crisis.

Meanwhile Germany’s has gone the other way, and its leaders do not see anything wrong with that. Rather, the government views it as evidence of the country’s sound policies and restored competitiveness. Eurozone partners are invited to follow the German lead. They are told to balance their budget, liberalize their labor markets and improve their own competitiveness.

There is something fundamentally wrong about this prescription. continue reading…

From Dimitri Papadimitriou today in New Geography:

Will Lindsay Lohan Save Greece?

It’s September, but island beaches from the Aegeans to Zante are still buzzing in Greece. Mykonos has been the summer’s Go-To spot for superstars and supermodels; the mainland and cities are also seeing the British and Europeans coming back.

Greece’s reemergence on the tourist circuit and the celebrity-watch sites has brought travel revenue, which accounted for 12 billion euros through April, actually above the previous peak in 2008. And, based on arrivals, the national tourism agency predicts that visitors will account for 13 billion euros this year.

So did the appearance of Lindsay Lohan and friends in the Greek isles signify, as one newspaper put it, a template for Greece’s economic recovery?

It didn’t. It’s even still possible that Greece’s economic troubles have yet to hit bottom — no one really knows. There is one definite, though. Even with a dramatic increase in its significant tourism industry, the dance floor under Greece’s summer parties has been resting on a breathtakingly shaky foundation.

Read the rest here.

The supporting research mentioned in the piece is from the Levy Institute’s latest strategic analysis: “Will Tourism Save Greece?“

It has been pretty clear since at least the spring of this year that the ECB was keen to see the euro weakening. At the time the euro stood near to $1.40. Policymakers in a number of euro area member states issued calls for a more competitive exchange rate, directing barely hidden criticisms in this regard at the ECB.

The ECB itself ever more forcefully asserted that international factors, including euro strength, were largely responsible as the bank’s price stability misses got ever crasser. Either through direct references to the euro’s exchange rate expressing discomfort about its strengthening, or by highlighting that the prospective monetary policy stances on either side of the Atlantic were on diverging paths, inviting the markets to bet on the dollar and against the euro, Mr. Draghi applied his magic in talking the euro down.

The latest package of ECB easing measures introduced in early June steered the euro overnight rate closer to zero, raising the euro’s attractiveness as a funding currency for carry trades. All along Mr. Draghi has held out the prospect of some kind of quantitative easing even beyond the credit easing measures promised to be unleashed in the fall. As inflation has declined even more and the so-called recovery stalled once again, the beggaring for a weaker euro has brought some visible success: in late August the euro was approaching the $1.30 mark.

Should the Euro Weaken?

Should the euro have weakened, should it weaken even more? The euro area as a whole, which is the relevant entity here, does not lack international competitiveness. Most common measures suggest that the euro is valued about right in its recent range. Certainly the euro area’s soaring current account surplus together with inflation close to zero – and lower than in competing economies – suggest otherwise. Are the world economy and global trade booming and overheating so that more relief through even bigger euro area export surpluses might seem warranted and welcome?

Quite the opposite. continue reading…

In a recent interview, C. J. Polychroniou asked Dimitri Papadimitriou about the idea that Greece is on the verge of economic recovery:

Both the International Monetary Fund (IMF) and the European Commission (EC), in their assessments of the performance of the Greek economy, appear more optimistic on the future of Greece because of the deceleration of the negative growth and a very slight decline of the unemployment rate, even though this was due to using statistics based on the new census that has resulted in demographic adjustments, and not due to growth in employment.

An artificial positive sign on Greece that indicates nothing about Greece’s economic condition, yet it was celebrated as a sign of recovery, was the primary budget surplus and “going back to the financial markets” for a new issue of bonds. The budget surplus was achieved at the cost of creating many damaged lives. On the other hand, going back to the markets was purely a public relations exercise, since the interest cost of almost 5 percent of the new bonds was much higher than that paid on the bailout funds. Moreover, the bonds were implicitly guaranteed by the ECB because they could be used as collateral to the ECB for lower-cost bank borrowing. Finally, the demand for these bonds reflected the current state of excess global liquidity available and not because investors considered Greek bonds as a good risk. The latter is in concert with the well-known adage in Wall Street that at times of “excess liquidity, even turkeys can fly.” All in all, even if the economy were to have hit bottom, this does not necessarily mean it is out of the woods and to a better outlook for its future.

In another segment, Polychroniou and Papadimitriou discussed a recent Levy Institute report that features a proposal to reform and expand co-operative banking in Greece:

Greek banks remain fragile and undercapitalized, thus unable to help the economy recover. A recent Levy Economics Institute publication strongly endorses co-operative banking for Greece as a much-needed alternative financing model for start‐up and existing small enterprises and as an all-important poverty policy alternative. Does the American experience with co-operative banking support this recommendation for Greece?

In the United States, there are no co-operative banks per se. There are what we call Credit Unions and Community Development Banks. Credit Unions have been established throughout the United States and are very successful and mostly unaffected by the subprime financial crisis of 2007-09. They were originally established to serve customers who possessed some common characteristic, i.e. employees of a large organization such as the UN, or big business – IBM – or a locality, Hudson Valley in upstate New York and so on. By now depositors do not need to share a common characteristic. The present credit unions are not very big and serve their local customers since they are geographically focused. Community development banks are very similar and provide banking services to individuals and businesses with limited credit history, such as start-up businesses, firms in agricultural and remote regions, or to inner cities that big banks do not find it profitable to extend their services to. They are doing quite well serving the interests of the unbanked.

Co-operative banks are mostly a European phenomenon and some have become very important in their respective countries and quite large. Others continue their mission of providing services, especially depository and lending functions, to people and areas that large banks shy away from. The most successful are in Germany. There is serious interest from these German co-operative banks to establish their model and operation in Greece. We don’t really need them. We can establish the Greek co-operative bank system very much different than the one we now have, which did not perform well all the time. Our proposal for cooperative banking in Greece incorporates a strong regulatory and supervisory structure, fully transparent, guided by a strong and professional board that will serve the liquidity needs not in the form of “red loans” (κόκκιναδάνεια), but to promote regional entrepreneurship. These banks would contribute to restarting the engine of economic growth, especially within the European framework of the social economy. It has been shown that the large systemic banks in Greece are still in the process of strengthening their balance sheets and have created the credit crunch I mentioned earlier.

Read the rest of the interview here.

Related: “Co-operative Banking in Greece: A Proposal for Rural Reinvestment and Urban Entrepreneurship” (pdf)

See also this policy brief from 1993, co-authored by Hyman Minsky, Dimitri Papadimitriou, Ronnie Phillips, and L. Randall Wray: “Community Development Banking: A Proposal to Establish a Nationwide System of Community Development Banks” (pdf)

Dimitri Papadimitriou, after noting the ongoing failure of austerity policies in Greece, shares the results of a recent study led by Rania Antonopoulos on the effects of implementing direct job creation programs of various sizes in the beleaguered country. In one scenario, a 300,000-job program (in the low-to-medium-sized range of the  policy options examined) would have reduced the ranks of the unemployed, once the likely multiplier effects are taken into account, by 30 percent if the program had been implemented in 2012, and GDP would have been increased by 4 percent. And the cost?

To run this impressive game-changer, Greece would have to net spend a little over 1 percent of its GDP. That’s a relatively modest stimulus. Other nations, when faced with hard times that didn’t come close to the distress in Greece today, have launched stimulus programs that were far larger. Germany and Brazil invested 4 percent of GDP, the U.S. 5 percent, and China invested 13 percent of GDP.

The program could feasibly be funded by a dedicated EU employment fund, the issuance of special-purpose tax-backed zero coupon bonds, or a temporary suspension of sovereign debt interest payments. Even if the government borrowed the funds, the debt-to-GDP ratio, the measure of health most important to European leadership and financial markets, would improve.

In case you didn’t catch that: investing in a direct job creation program of this size, even if it were funded by increased borrowing (not the best approach, according the authors), would still actually reduce the size of Greece’s public debt relative to its economy — something troika policy has so far failed to accomplish — because the economy would be growing faster than the debt. And the bigger the program, the greater the debt-ratio-reduction effect: had Greece implemented a 550,000-job program in 2012, its debt-to-GDP ratio would have declined by 9 percentage points — all in the course of reducing unemployment in Greece by nearly two-thirds.

Read the rest of Papadimitriou’s article here.

For the study in question, see: “Responding to the Unemployment Challenge: A Job Guarantee Proposal for Greece“

ElStat, the Greek statistical institute, has recently published a flash estimate for GDP in the second quarter of 2014. In current euro prices, GDP keeps falling by 2.5% against the same quarter of 2013. We already know many will claim this as a success of the austerity plans, since the fall is now slower than in previous quarters … but output is still falling.

It is also interesting to note that the flash estimate has also revised GDP in the first quarter of 2014, lowering it by 1% against the previous GDP estimate (see chart). The revision is larger on the current price GDP, against constant price GDP, which implies that the new estimate of the fall in prices is larger than it was.

Our last analysis of the Greek economy is available here

What will happen about fiscal policy after the tumultuous events beginning in 2010 or so in Europe and the end of Great-recession-era fiscal stimulus in the US? In the US, Paul Krugman and other economists debate the meaning of the CBO’s recent fiscal report, which, as Krugman points out, clearly show a drastic fall in the US deficit—to less than 3 percent of GDP at last check.

This brings us to the main subject of our post: an interesting article that seems to be out in the July issue of the Cambridge Journal of Economics (abstract—rather technical). I happened to run across this new study last week. It may be one of those cases in which an academic article has some implications for macro policy. The authors consider an inflation-targeting fiscal rule: they explore the outcome when government spending is always adjusted upward or downward, depending upon the actual inflation rate, according to an algorithm of sorts set in advance.

Before I go on, I should note the disclaimer that a paper of my own featuring fiscal targets also appeared last month in Metroeconomica, an international journal whose chief editors are based in Austria and Italy. I argue in the paper against deficit targets that restrict spending levels without regard to the strength of the economy. This notion that fiscal policy should aim for budget balance rather than good economic performance is the “Treasury view” lambasted, by the way, in another article in the same journal, penned by Suzanne Konzelman. I will try to outline the article on fiscal targets in terms of what I found in the process of working on my own paper. The post also includes an interactive model of how the rule in my own paper would work in a simplified version of the economy.

I am happy to see various parallels and hope the new piece is indicative of widespread interest in output-stabilizing policy rules, or at least non-austerity rules, and in stock-flow-consistent macro models, including the Levy Institute macro model. The differences between the policy rules and other assumptions in the two papers are numerous. Most importantly perhaps, Matthew Greenwood-Nimmo, the author of the new CJE article, considers a different type of rule. An inflation-targeting rule is the main fiscal policy rule considered in the paper. Inflation-targeting is certainly run-of-the-mill for monetary policy around the world, but as this IMF country-by-country list of fiscal rules now in force indicates, most actual rules simply specify low deficits or low ratios of the budget deficit to GDP.

The new CJE article notes, commenting on a fiscal policy rule from our former Distinguished Scholar Wynne Godley’s work with Canadian Marc Lavoie, that “it seems unlikely that the form of fiscal intervention advocated by Godley and Lavoie…could be fine-tuned to the degree required to achieve a point target in practice, as activating and deactivating public works projects, for example, is likely to generate a somewhat lumpy path of government spending [i.e., one that moved in big steps rather than smoothly]. For this reason, the use of a band target [a range, rather than a specific number] for fiscal policy seems more appropriate.”*

Specifically, Godley and Lavoie’s rule–published years ago in the Journal of Post Keynesian Economics and reprinted in 2012 and in a collection of papers by Godley —called for a level of government spending that would immediately fill the gap between actual and potential output—and hopefully keep unemployment low. In contrast, Greenwood-Nimmo adopts a rule with spending changes in specific amounts that go into force abruptly once inflation exceeds or drops below certain upper and lower bounds or thresholds.

continue reading…

Dimitri Papadimitriou introduces Jörg Bibow’s plan for the creation of a Euro Treasury:

It was only a matter of time until the euro area was hit with the kind of crisis from which it is still struggling to recover—this was understood well in advance, by many at the Levy Institute and elsewhere. The problem has always stemmed from a structural weakness in the design of the currency union: member-states gave up control over their own currencies but retained responsibility for fiscal policy. This situation rendered them subject to sovereign debt runs—which occurred when the fallout from a banking crisis fell squarely on euro area national treasuries—of the sort that countries controlling their own currencies do not face.

As we have pointed out previously, member-states are in some ways in the same situation as US states, which are forced to cut back when the economy contracts—that is to say, at the very moment when expanded public spending is required to place a floor under the economic collapse. But US states have the benefit of a treasury at the federal level that can spend without the same sovereign debt concerns (which the US federal government did, briefly, before succumbing in 2010 to a misguided notion of “fiscal responsibility,” not to mention congressional obstruction). The eurozone member-states, however, do not have the benefit of this treasury–central bank combination at the level of the central government—a lacuna Jörg Bibow addresses with the proposal outlined in this policy brief.

One challenge for “United States of Europe” or “complete the union”-type plans is their political toxicity, but Bibow has tailored his Euro Treasury plan so as to minimize the political vulnerabilities (this is not a transfer union) while preserving the principal benefit: ending the divorce between monetary and fiscal powers in the euro area. continue reading…