Life in the Liquidity Trap

In Europe, frustration is growing almost by the day over the endemic recession. Unemployment is an unending problem, especially among the young, which at least in part explains the rise of the EU skeptics all over the continent. The only solution to the perennial crisis that Europeans seem to be able to come up with is to keep growing government, an idea that would only compound the continent’s structural economic problems and send them further into the territory of industrial poverty and stagnation.

Unsurprisingly, earlier this month the European Central Bank weakened its growth forecast. There is absolutely no doubt that this was an unwelcome piece of news at the time, and frustration among the EU leadership over the stagnant economy has only been growing since then. This is especially true of the central bankers at ECB, an institution that is making increasingly risky policy decisions the longer the crisis persists. The EU Observer explains:

European Central Bank (ECB) chief Mario Draghi has said he is prepared to use more unconventional measures to spur growth in the eurozone. “We stand ready to use additional unconventional instruments within our mandate, and alter the size and/or the composition of our unconventional interventions should it become necessary to further address risks of a too-prolonged period of low inflation,” he told MEPs on Monday … He said loose monetary policy will only be stopped “when we have complied with our mandate” which is to keep inflation at close to 2 percent. Currently inflation is at 0.4 percent.

It is important to remember that the ECB was created in the late 1990s as an institution of monetary conservatism. Its policy goal was limited exclusively to the preservation of price stability. It had no authority to provide funds to governments that ran deficits in excess of the balanced-budget requirement in the EU constitution (a.k.a., the Stability and Growth Pact). It was also beyond the bank’s realm of authority to fight unemployment, which meant a ban on trying to stimulate GDP growth.

Today, the ECB has broken through every boundary on its policy mandate. It has participated in vast funding schemes for deficit-ridden states in the euro zone. It has issued a guarantee to buy an unlimited amount of Treasury bonds issued by any “troubled” euro-zone state, thus de facto making a promise for future monetary expansion way beyond what the Federal Reserve ever did during the height of its QE programs.

The ECB has also cut interest rates on overnight liquidity deposits that banks make with the ECB. These interest rate cuts have gone so deep that they are now negative: banks literally have to pay the ECB to accept deposits.

The last move reeks of desperation. But doing all this has not been enough of a monetary expansion to get the EU economy going, so the bank added a program for favorable lending that was supposed to provide funding for entrepreneurs eager to make massive expansions to their operations – all they lacked was the cash to do it.

Or so the ECB thought. The EU Observer again:

The ECB has taken a series of steps since the summer to try and boost the economy and head off deflation, including interest-rate cuts and cheap loans to banks. In early September the Frankfurt-based bank cut rates further and announced it planned to buy asset backed securities (ABS). However its lending programme was deemed to have faltered when 255 eurozone banks last week only borrowed €82 billion of the €400 billion available.

And why did they not borrow more? Well, according to Draghi banks are afraid to look less solvent than they must in the upcoming “stress tests”. There is actually a grain of truth in that: banks that borrow but cannot lend won’t make any money on the interest margin. However, what Draghi fails to mention is that banks cannot find people and businesses to lend to simply because Europe’s families and entrepreneurs live in a stagnant economy. So long as stagnation prevails there will be no prospect of profits on new business investments.

In fact, according to Eurostat national accounts data, gross fixed capital formation – the national accounts variable that reports productive business investments – has been falling almost uninterruptedly since 2008. In fixed prices the decline is 16.8 percent from ’08 to 2013.

By contrast, data from the U.S. Bureau of Economic Analysis shows that businesses in the United States increased their investments in 2013 over 2008. The increase was a marginal 1.9 percent, adjusted for inflation, but that is a major sign of health relative European business investments.

To make the difference even more clear: in Europe gross fixed capital formation has decreased in five of the past six years since the Great Depression started; in the United States it has increased in four of the past six years.

No wonder Mario Draghi is getting desperate. But he has now effectively run out of options, proving what I said already in early June: Europe is now officially in the liquidity trap. That means two things: monetary policy is completely impotent and there will be no way out unless and until legislators reform away the enormous and very burdensome welfare state. And those reforms will not happen. So long as the welfare state remains, people are massively disincentivized from working and incentivized to live on welfare. The government budget is structurally in deficit and the massive supply of liquidity in the economy makes it very cheap for government to do nothing about that deficit.

I have said it before, sometimes frustratedly, that Europe is becoming the next Latin America, an economic wasteland filled with the remains of squandered prosperity. But while parts of Latin America are rising again (think Chile and Brazil) Europe continues its slow  decline. And the ECB’s desperately-cheap-money policies are not exactly helping.

EU Fails the Young Unemployed

Scottish voters narrowly said no to independence. This was the better outcome: an independent Scotland governed by the Scottish National Party and Labour would have build a full-fledged Scandinavian welfare state, paid for in good part with revenue from oil taxes. It would have been a bad deal for the Scottish people, especially since they were apparently planning on staying part of the EU.

By remaining part of the United Kingdom the Scotsmen will be better off the day Britain leaves the EU. British taxes are still at the lower end in Europe, its welfare state is not quite as elaborate as in, e.g., Scandinavia and there is still a tradition of individual responsibility and opportunity left there. By seceding from the EU, Britain would have a future at least as bright as that which lies ahead for the United States once we are through this laggard recovery and back in full gear again.

In fact, the list of reasons for member states to leave the EU grows longer almost by the day. The latest addition is the so called “youth guarantee”, a feeble and typically statist idea to reduce youth unemployment. From the EU Observer:

Outgoing EU commissioner for employment Laszlo Andor on Wednesday (17 September) defended EU-wide efforts to tackle youth unemployment amid critical remarks from MEPs. Andor told deputies that the so-called youth guarantee “is well on track and is already bringing results”. He noted many of the programmes in the policy are set for adoption this year. He also said national authorities expected to send the commission “concrete information” by the end of the month on the estimated number of young people who stand to benefit. Submitting and getting the commission to adopt operational programmes is important because it entitles member states access to EU funding.

This is a good summary of what the “youth guarantee” is all about. The EU taxes its citizens (visa member states) then spends the money on putting young men and women on subsidized employment. Employers get cheap labor that they could not afford without the subsidy – and cannot afford when the subsidy ends – while government can formally count the tax-sponsored “employees” as no longer unemployed.

This is a classic example of “active labor market policy”, ALMP. Like most other bad economic ideas it has its roots in Sweden, which by the way at 27.6 percent has the eighth highest rate of youth unemployment in the EU (according to Eurostat, second quarter 2014).

The EU Observer again:

So far only France and Italy fit the description. Launched last year, the guarantee is the EU’s response to persistent record high unemployment rates among the under-25s. It aims to find young people work or training within four months after graduation or after being laid off. “In principle the youth guarantee is a very positive thing for young people, but national leaders lack the political will and ambition to properly implement it,” Allan Pall, secretary general of the Brussels-based European Youth Forum, told this website.

Of course they do. The EU has created this and expects that member states share the cost for it. First Brussels strong-arms member states into jobs-destroying austerity programs – thus saving the welfare state at the expense of full employment – then Brussels comes back and tries to mandate that those same member states spend money on artificial, tax-subsidized employment for the young men and women who could not find jobs because of austerity.

Back to the EU Observer:

Meanwhile, the jobless trend remains stubborn with one in two youths still unable to land a job in either Greece or in Spain. Spain (53.8% in July 2014) now has the highest youth unemployment numbers, overtaking cash-strapped Greece (53.1% in May 2014). Italy, Croatia, Portugal, and Cyprus are not far behind. Overall EU numbers indicate that more than one in five young people still cannot find a job.

Here are the numbers from Eurostat for the EU states that so far have reported youth unemployment for the second quarter of 2014:

2014Q2
Spain 53.1
Greece 52.7
Italy 41.5
Croatia 39.8
Portugal 35.6
Cyprus 35.2
Slovakia 30.9
Sweden 27.6
Ireland 26.8
Finland 25.6
Belgium 23.1
Poland 23.1
Slovenia 22.3
Bulgaria 21.9
France 21.5
Lithuania 21.3
Latvia 21.1
Hungary 20.0
Estonia 18.4
Britain 16.0
Czech Rep. 15.5
Malta 12.4
Denmark 12.3
Luxembourg 12.0
Netherlands 10.6
Germany 7.9

It is worth noting that the Greek unemployment rate has fallen almost ten percentage points in two years. A good part of the reason, though, is that young Greeks emigrate, even to such formerly deplorable economies as Romania.

Overall, the youth unemployment rate in EU-28 is 21.7 percent and 22.9 for the 18-state euro zone. By comparison, America’s youth unemployment rate has fallen to 13.5 percent, down 3.1 percentage points in a year. That is twice the reduction in the EU-28. But more importantly, of the 26 reporting EU states, seven saw youth unemployment rise in the past year, and that includes Germany. The Netherlands reported unchanged unemployment since second quarter 2013 and only eight states reported a decline bigger than that in the United States.

To further highlight the lack of an EU-wide trend of declining youth unemployment, please note that almost one in three young men and women who went from unemployment in Q2 of 2013 to a job in Q2 of 2014 lived in Britain. In Q2 of 2013 Britain was home to only 9.3 percent of all the unemployed youth in the EU, a fact that reinforces the point that Britain, with its strong currency, moderate taxes and Anglo-Saxian economic and social traditions, does not belong in the European Union. It belongs in a trans-Altantic relationship with its culturally proximate friends in North America.

As for the rest of the EU member states, they would be well advised to develop an orderly plan for dissolving the super-state structure before Marine Le Pen becomes the next French president and destroys the euro by reintroducing the franc.

Rise of the EU Skeptics

The political momentum has definitely turned against a unified Europe. Exhibit #1 is the referendum in Scotland:

Travelers to Scotland, beware. In buses, pubs and street rallies, people have only one thing on their mind these days: Scottish independence. They wear bumper stickers with “Yes” or “No thanks”, dye their hair white and blue, sing folk songs and hand out leaflets. Posters are everywhere. For the yes camp, it is about a nation going its own way, breaking away from a political elite in Westminister. To “naysayers”, it is a foolish decision instigated by populists, that will ruin two nations for generations to come. Both camps are virtually equal, with pollsters saying the referendum on Thursday (18 September) can go either way. The referendum will also have an impact on other independence-minded regions in the EU, such as Catalonia in Spain and Flanders in Belgium. Scotland will set a precedent for how Brussels deals with territories breaking off from an EU member state.

Alas, Exhibit #2, the independence movement in Catalonia:

Around 1.8 million Catalans took to the streets of Barcelona on Thursday (12 September) calling for the right to vote on independence. The demonstration marks the beginning of a critical period in Barcelona-Madrid relations. Dressed in red and yellow – the national colours – people shouted “in-inde-indepedencia!” and “volem votar!” (we want to vote) while waving the Catalan independence flag. Almost a quarter of the 7.5 million Catalans celebrated Catalan National Day – La Diada – in the streets of Barcelona, according to the local police forces. The day commemorates Catalonia’s loss of independence in the War of the Spanish Succession in 1714, exactly 300 years ago. Earlier this year, the Catalan Parliament voted two-thirds in favour for a consultative referendum to be held on 9 November, asking the Catalans “whether Catalonia is a state” and “if yes, whether that state should be independent”. The central government in Madrid, however, has said that it has ”all the mechanisms in place” to prevent such a vote.

Catalonia is the most prosperous region in Spain, having paid a big price for the country’s ill-designed austerity measures. It would be foolish of the Madrid government to try to suppress the Catalonian independence movement. A much better way forward is to recognize the undercurrent of anti-EU sentiments that also fuel this independence movement. The harsh austerity policies over the past couple of years where imposed on Spain by Brussels; if Spain was independent of the EU or at least had the backbone to stand up to their mad policy ideas the Catalonians would have much less of a reason to want to secede.

Anti-EU sentiments also played a major role in Sweden, our Exhibit #3. Last Sunday’s election sent nationalist Swedish Democrats skyrocketing to a position as the nation’s third largest party. In addition to their criticism of the current immigration policies in Sweden, the SD party is the only outspoken party against Swedish EU membership. They loosely resemble other EU-critical parties, such as Exhibit #4 in Germany:

Germany’s anti-euro party Alternative for Germany (AfD) got a further boost on Sunday (14 September) entering two more state parliaments following regional votes. “We are a party that is renewing the political landscape in Germany where people turn their back to traditional parties that have lost their profile,” said AfD party head Bernd Lucke. “One can’t deny it anymore: the citizens are thirsting for political change,” he added. Preliminary results suggest the right-wing party secured around 10.6 percent of the vote in Thuringia state and 12.2 percent in Brandenburg. The two states are traditionally seen as a power base of support for Chancellor Angela Merkel’s Christian Democrats. Founded 19 months ago, the AfD manifesto calls for a scrapping of the euro in favour of the German Deutsche Mark. The eurosceptic party has strongly criticised the eurozone bailouts and opposes the concentrated power base of the EU institutions in Brussels.

So long as the economic crisis continues it will be close to impossible for pro-EU politicians to gain back the momentum. And, as I have repeated ad nauseam, the crisis will not end until they structurally reform away the welfare state. Which, again, won’t happen.

The sad part of this is that the movements trying to roll back the EU for the most part want to do it to protect their national welfare states from EU-imposed austerity. The only real exception is UKIP which fundamentally is a libertarian party. But everywhere else the goal is to localize control over fiscal policy so that they can perpetuate their own version of the standard, redistributive welfare state.

In short: the way things are going now it is a safe bet that the EU will be history long before the European welfare state.

A Note on Poverty

In the last quarter of the 20th century large parts of the world lifted themselves out of poverty. China and India are the best known but far from the only examples. Countries like Malaysia, Indonesia, Vietnam and Korea elevated themselves to a standard of living that for most of the population meant life in the global middle class. The Soviet sphere collapsed and allowed hundreds of millions of people from Saxony to Sakhalin to pursue happiness unhindered by government.

Now the prosperity train is slowly making its way through the African continent. Its effect is still marginal, but global corporations have discovered pockets of economic environments in Africa where they can actually set up operations with reasonable prospects of stability and profit.

While this is happening, the old industrialized parts of the world have mismanaged their prosperity. Latin America offers a split image with Argentina and Venezuela sinking into the holes of socialism while Chile and Brazil are examples of economic progress. The United States is still an economic superpower but has over the past 25 years allowed its government to grow irresponsibly large. It is still manageable and we are moving forward economically, but not at the pace we could.

Europe is the black sheep of the industrialized family, having squandered its prosperity for the sake of income redistribution. While Europe has not yet sunk into abject poverty, and probably never will, the continent has entered a stage of economic stagnation that it will take a very long time to get out of. In fact, the European economy is beginning to resemble some of the less oppressive countries in the Soviet sphere – not in terms of political oppression, but in terms of the destructive presence of government in the economy. Europe has, partially and unintentionally but nevertheless destructively, adopted the static statism that characterized countries like Poland, Czechoslovakia and Hungary before the Iron Curtain came down.

The stagnant nature of the European economy and the slower-than-capacity growth rates in the United States and Canada are all self inflicted. The fatally erroneous belief that government has a productive role to play in the economy inhibits the creation of prosperity in parts of the world where, fundamentally, the conditions for creating prosperity are better than anywhere else. This structural mismanagement of some of the world’s wealthiest economies have ramifications far beyond their own jurisdictions. By keeping their economies from growing, Europe’s political leaders hold back demand for products from countries on the verge of climbing out of poverty. By holding back the forces of prosperity, America’s political leaders prevent the creation of a surplus that otherwise could provide funds for development and investment projects in developing countries.

Instead of unleashing the prosperity machine we know as capitalism and economic freedom, governments in Europe and North America spend far too much time trying to preserve their welfare states. When their government-run entitlement programs promise more than taxpayers can pay for, they resort to growth-hampering austerity measures, aimed not at reducing the presence of government in the economy but at saving the very structure and philosophy of the welfare state. The result, again, is stagnation and industrial poverty.

The First World’s obsession with the welfare state thus prevents the proliferation of prosperity to parts of the world still struggling in poverty. By means of economic freedom, nationally and globally, the relatively wealthy can help the poor toward a better life. This cannot be stressed strongly enough; if accounts of the demerits of the welfare state are not enough to turn our political leaders in favor of economic freedom, then perhaps a new report on global poverty can help. Published by an organization called ATD Fourth World, Challenge 2015: Towards Sustainable Development that Leaves No One Behind provides a painfully direct account of abject poverty around the globe. The authors do not exhibit any deeper understanding of what causes poverty, but the parts of the report that tell the story of poverty from the “ground level” are definitely worth reading.

More than that, they provide a stark contrast to the destructive policies used in Europe and North America to preserve the welfare state. Instead of raising taxes and putting more of our own people on welfare, we owe it to the rest of the world to maximize our creation of prosperity. We can only do that by relieving our own population of the shackles of artificial redistribution. With more wealth, higher incomes and a growing standard of living we will have more money to trade with developing countries, as well as more surplus to donate to and invest in productive development projects in the poorest parts of the world.

Economic freedom has elevated billions of people from abject poverty to a respectable standard of living. It has elevated millions into true prosperity, and thousands upon thousands to almost unlimited wealth. It can do the same for those still in poverty. All it takes is that we in the most prosperous nations of the world sort out our priorities and responsibilities.

Sweden at the Crossroads

Sweden holds a national election on Sunday, September 14. The current parliamentary majority, a center-right coalition called The Alliance, is set to lose its majority. A three-party group of red-and-green socialists is expected to come in a few parliamentary seats short of majority, leaving the next prime minister and his cabinet dependent on nationalist, self-proclaimed “socially conservative” Swedish Democrats.

Not a lot has been said about the election outside of Sweden. This is unfortunate, because the country that American liberals used to tout as their role-model society is on the brink of a social and economic disaster up and above what any European country has experienced since the military coups in Greece and Portugal in 1967 (not counting the Balkan War).

I have covered Sweden in scattered articles, and my new book Industrial Poverty has an entire chapter on the crisis of the Swedish welfare state. However, time constraints have precluded me from analyzing the situation there in more detail on this blog. Therefore, I am grateful that the Economist reports on the pending election and its consequences. Unfortunately, the reporting is not entirely accurate:

For a decade Sweden could plausibly claim to be Europe’s most successful economy. Anders Borg, the (formerly pony-tailed) centre-right finance minister since 2006, likes to trot out numbers for his time in office: GDP growth of 12.6%, a rise in gross disposable incomes of almost 20%, a budget moving into surplus and a public debt barely above 40% of GDP.

I have no idea where they get these numbers from. But I also do not see what is so impressive with them. A GDP growth of 12.6 percent in eight years is less than 1.5 percent per year if you factor in the compounded growth effect. According to Eurostat National Accounts data, GDP growth has averaged just over 1.3 percent per year since the center-right government won the 2006 election. Private consumption has increased a bit faster, but only at the expense of a doubled debt-to-income ratio for Swedish families. In 2000 the debt-to-income ratio was approximately 90 percent; ten years later it had doubled. (By comparison, the U.S. debt-to-income ratio topped out at 140 percent before the Great Recession began.) In my new book Industrial Poverty, which has an entire chapter on Sweden, I adjust consumption growth for a constant debt ratio. The result is a staggering loss of spending (you will have to buy the book to get the details…) which shows that the only reason why the Swedish economy has grown a bit faster than the EU average over the past decade is that Swedish families have accumulated a lot more debt.

In fact, from 2006 to 2012 household debt as share of GDP grew by 22 percent, faster than in two thirds of EU countries. By 2012 Swedish households are the seventh most indebted in the EU; an extrapolation of the 2006-2012 trend would place Sweden among the top five in 2013 (for which no complete data has been reported yet).

Debt-driven growth is not the way forward, especially since the debt drive is based on an out-of-control real estate market. Swedes have access to mortgage loans that only cost them interest payments, and the Swedish central bank has the most aggressive in the EU – after the ECB – in pushing more cash out into the economy. Long story short: there is nothing to brag about in the Swedish economy.

The only sector that is thriving in Sweden is the exports industry. They, on the other hand, are increasingly operating as an isolated sector from which little more than tax revenue trickle down.

The Economist again:

[The center-right government] has overturned Sweden’s old image as a high-tax, high-spending Socialist nirvana. Twenty years ago public spending took an eye-watering 68% of GDP; today the figure is heading to 50%. Although the tax burden remains high by international standards, top rates have been cut, as have corporate taxes. Taxes on gifts, inheritance, wealth and most property have been scrapped.

This is a bad case of statistical trickery. The reason why government spending reached two thirds of GDP in 1994 is that the country’s GDP had been contracting for three years at that time, that unemployment exceeded 15 percent and that there had been no major cuts in income security programs. During the three years that followed that 1994 figure government spending was cut by an equivalent of five percent of GDP. That would be $850 billion here in the United States.  Later, the Swedish government laid off one fifth of the employees in its socialized health care system. Replacement ratios in income security systems were pushed down from 90 percent of your current income to 50 percent in the worst case and nowhere more than 80 percent. Student-to-teacher ratios grew in public schools and the number of hospital beds per 100,000 citizens was reduced to the lowest level in the European Union.

If you make such heavy spending cuts you will no doubt see a decline in the ratio of government spending to GDP.

On the tax side, the Economist perpetuates the mythology that Sweden has cut its top income tax rates. In 2013 the top rate was still 60 percent, a figure that anyone can find who is willing to examine Swedish tax tables. What has been cut is the tax burden at the lower end: Sweden now has its own version of the American Earned Income Tax Credit. However, its effect has been the same as the EITC, namely to increase the discouraging marginal effect in the income tax system. While it is cheaper to live on a low income, the price tag on a promotion or an education has risen significantly.

Ignoring reality on the ground in Sweden, the Economist is surprised that Swedish voters seem ready to hand government over to the green-socialist left. Needless to say, the magazine struggles to explain the predicted election outcome:

Although the polls have narrowed sharply in the closing days before the September 14th election, all the signs are that Swedes will toss out the centre-right alliance in favour of a centre-left government led by the Social Democrats. … Inequality has risen fast, as almost everywhere—but Swedes care about this more than most. Mr Reinfeldt boasts of the creation of 300,000 private-sector jobs, yet unemployment is stubbornly high at almost 8%, and far worse among immigrants and the young.

The number for job creation is flat wrong. According to Statistics Sweden, quarterly workforce data, a total of 227,000 jobs have been added to the Swedish economy from first quarter of 2007 to first quarter of 2014. Of those jobs, only 47 percent are full-time permanent positions. The rest are temporary, primarily low-wage service jobs. Furthermore, youth unemployment – which government has tried to manipulate down – persists around 25 percent, which is close to the EU average.

With all this in mind, there is no doubt that Sweden is better off today than it would have been under a left-wing government over the past eight years. The social democrats and their prospective coalition partners – the greens and an unapologetic communist party – have promised to raise a slew of taxes as soon as they get into office. Among the more controversial proposals is to return the payroll tax for young workers from its current rate of ten percent to the normal rate three times higher. It is difficult to estimate what the actual effect of this would be on the Swedish labor market, but the attempts made thus far point to 10-20,000 lost jobs for people between high-school age and 25.

Again, Sweden would be better off under the current Alliance government, but it is, frankly, not very difficult to provide better policy than socialists whose idea of growth and prosperity is a higher tax bill. What Sweden truly needs is a turn in the libertarian direction, with major reforms to dismantle the welfare state. Such reforms would start with privatization of the country’s anorectic health care system, proceed with a strengthened – and truly private – school choice system, then privatize the country’s costly and inefficient income security system, and top it all off with a major tax reform that would cut the current world’s-highest tax burden in half.

Such reforms, however, will have to wait until there are true libertarians in Sweden’s parliament. And that won’t happen over night.

Industrial Poverty – New Book!

Today my book Industrial Poverty: Yesterday Sweden, Today Europe, Tomorrow America is officially available. You can order it directly from the publisher or through Amazon. An ebook version is on its way out, too, but why wait when you can get the real thing now?

In his foreword, Cato Institute senior fellow Michael Tanner writes:

Larson provides convincing evidence that the welfare state, and misguided policy choices by Europe’s governments, turned a regular recession into a systemic economic crisis. During the seemingly prosperous first years of the European Union, few people could foresee the problems ahead, and even fewer viewed these developed countries as struggling with a form of poverty. However, during this stubborn economic recession, GDP growth in many European countries slowed (or even stopped), private consumption stalled, government spending surged, and unemployment rates among the young increased. This book helps us to better understand the current situation facing Europe today, one far more complicated than the austerity versus stimulus dichotomy that is so often imposed.

And that is the most important point I hope readers will take away from this book. Europe’s crisis is not just a recession – it is the result of decades of bad policy compounded slowly into an ultimately unbearable burden for the private sector. There is plenty of evidence for this. Europe’s decline during the Great Recession is not new, but the logical continuation of four decades of slow but inevitable stagnation. The U.S. economy is on a similar, but more recent trajectory and still has the dynamics to recovery (albeit modestly) from the recession.

With slower growth it becomes more difficult for Europeans (and Americans) to increase, and eventually maintain their high standard of living. Stagnant economies also produce less surplus that can be used for aid to poor nations, either through government or through charitable donations. Trade also suffers negatively, hitting primarily low-income nations first.

Another side of economic stagnation with global repercussions is high, persistent unemployment. More than one in five young men or women in the European Union is unemployed. Overall unemployment remains stubbornly above ten percent. While the United States is experiencing declining unemployment rates, job growth is still far from as strong as it normally would in a recovery. With unemployment remaining high, it becomes increasingly difficult for Europe to provide opportunities for immigrants from poorer parts of the world.

With the two largest economies in the world tentatively on a path to long-term stagnation, the consequences for the rest of the world could be serious, especially in terms of the ability to provide disaster relief, aid and development funds. This paper suggests that the long-term stagnation is the fault of the industrialized countries. Given that the people of the prosperous nations of the world have a moral obligation to help those in abject poverty, it is immoral to fail to address the cause of long-term stagnation.

In other words, what is happening in Europe is not just a matter for the poor 500 million souls who live there, but for the rest of the world. It is of vital importance to all of us that Europe today, and the United States very soon, get their macroeconomic act together and remove the hurdles to growth and prosperity that the welfare state has created.

Yes, the welfare state. It is the root cause of Europe’s many problems. Their crisis is, to put it plainly, self inflicted. Over its more than half-century long life, the welfare state has fundamentally transformed large parts of the economic landscape. It has changed work incentives by means of both taxes and entitlements. Income-security programs, much larger in Europe than in the United States, have weakened people’s motives for participating in the workforce. The redistributive nature of the income-tax system discourages entrepreneurship and the pursuit of high-end professional careers.

Self determination and innovation are replaced by sloth and indolence.

This is a new perspective on the European crisis, a perspective that I spend my entire book explaining. The usual question “why isn’t anyone else saying this?” is easily answered: it is only recently that we have access to enough information, enough economic data, to piece together a hypothesis about the welfare state’s long-term effects on its host economy. Especially in view of the Great Recession it is now possible to study broader economic trends and the long-term macroeconomic effects of the institutions that constitute the welfare state. In this new wealth of information, a pattern is emerging, suggesting that while the welfare state can have short-term positive effects on economic growth, its long-term effects are undeniably negative.

In particular, it now appears to be possible to identify a “point of no return” beyond which the welfare state pushes an economy over the line, from the realm of GDP growth into perennial stagnation.

For more on that, and for more on what life looks like under Industrial Poverty, buy my book today!

Consumers Drive U.S. Recovery

On Friday I reported that the European Central Bank has downgraded its growth forecast for the euro zone. This wraps up a summer of bad economic news from Europe, all together showing that there is no recovery under way. At the same time, as I have explained in a series of blogs elsewhere (Ode to the American Economy, parts one, two and three), the United States continues its sleepwalk out of the Great Recession.

The differences between the U.S. and EU economies are striking. A review of the most recent Eurostat quarterly national accounts data shows that the American economy is not only outgrowing its European counterpart, but it is also in the healthier position of being dominated by consumer spending.

Let us begin with GDP growth (using the single-currency euro zone as the proxy for Europe):

LB 9814 GDP

Over the past 20 years for which Eurostat provides quarterly, inflation-adjusted data, there are three episodes where the United States outgrows Europe. The first episode was the heydays of the ’90s, when our unemployment was trending below four percent. Europe was struggling with twice as high unemployment rates and, in fairness, the remaining issues with Europe’s reunification. That said, with the right fiscal policies the 18 current euro-zone countries could easily have enjoyed the same forceful growth as the U.S. economy was producing.

The second episode of faster U.S. growth comes between the Millennium and Great Recessions. Many would attribute this to the housing bubble, and I am inclined to agree to some extent. However, it is important not to forget the Bush tax cuts, which in two phases – 2001 and 2003 – created a one-two punch of multiplier and accelerator effects on economic activity.

Unfortunately, this was also a period of excessive federal spending. The U.S. government grew its budget by 6.7 percent per year, on average, from 2001 to 2009, with the heaviest spending growth allocated to the latter half of that period. Indirectly, this drew resources away from private-sector growth, which partly explains the weakening of GDP growth from the top in early 2004.

As for Europe, the bump in growth right before the Great Recession is not easily explained. As shown in the two charts below, neither consumption nor exports were strong enough to produce that bump.

The third episode of American dominance is the one we are in right now. Amazingly, at a GDP growth rate mostly below 2.5 percent per year, we are leaving Europe in the dust. The difference is easily explained: after the serious dip early in the recession, U.S. fiscal policy has basically been neutral, with only marginal movements in taxes and spending. In fact, after the American Recovery and Reinvestment Act, President Obama has been the fiscally most frugal president since before Reagan. The states have also held back their spending, and even though most states still struggle with budget problems the overall trend in taxation is weakly in favor of lower taxes.

From this viewpoint the American economy has actually for the most part benefited from the Congressional deadlock and President Obama’s passion for playing golf. Our federal government is doing the American economy a favor by doing nothing. It would of course, be better if they cut taxes, reformed away entitlement programs and deregulated, but in lieu of that it is better that they continue to do nothing while we go about our business and slowly bring this economy back to something that resembles full employment.

Europe, on the other hand, is continuing to suffer from years of government-saving austerity. Their tax hikes and spending cuts have been motivated by a desire to keep as much as possible of the welfare state through the Great Recession, with little or no regard for what happens to the private sector. The European people and their businesses are now paying the price in the form of almost zero growth, eleven percent unemployment and a grim outlook on the future.

Adding insult to this national-accounts injury, the next chart shows the role of private consumption in each of the two economies:

LB 9814 Cons

There is a simple way to show the importance of private consumption in an economy. Subtract GDP growth from the growth rate of private consumption per period observed, in this case quarters. Sum up the difference per period and divide by the number of periods. If the resulting number is negative, it means that GDP grows faster on average than private consumption; if it is positive the opposite is true. An economy where consumption grows at least as fast as GDP is an economy where the consumer is the key economic agent, where he enjoys a high degree of economic freedom and where, therefore, the free market is a major player in the rest of the economy. In a consumption-drivene economy, the dominating end purpose of productive economic activity is to win over consumer spending on a free market, hence private businesses have to operate as free-market entities as well.

The U.S. consumption growth ratio is 1.3, meaning that for the period observed here, private consumption growth exceeds GDP growth by 1.3 percent per quarter, on average. By contrast, the euro-zone economy has a ratio of -0.7, showing that growth is driven by other variables than private consumption.

Is that “other variable” exports? Let’s take a look:

LB 9814 Exports

Interestingly, since the Millennium Recession there has been no major difference in the growth rate of U.S. exports and exports from euro-zone countries. The growth rates are high, especially compared to GDP growth, which means that for the slow-growing euro-zone economy the exports sector has helped keep growth up. This explains why GDP in the euro-zone countries outgrow their own private consumption, but since strong exports growth does not translate into household spending (if it did, private consumption would grow on par with exports) this means that the euro-zone economies are increasingly dependent on foreign markets to grow at all.

With its strong private-consumption growth, the U.S. economy has a big leg up on the European economy. We are, simply, a domestically dominated economy and are much less vulnerable to ups and downs of the international business cycle. Europe’s GDP, on the other hand, basically stands and falls with spending on other continents.

Furthermore, with as big a government sector as the Europeans have, their austerity policies which raise taxes – thus diminish the private sector – and cut government spending actually depress GDP in two ends.

The compounded effect on GDP is, as shown here, rather depressing. Pun intended.

ECB Weakens EU Growth Forecast

Analysts are grasping for explanations of why the European economy has once again stalled. The European Central Bank, which has lowered its forecast for GDP growth in the euro zone, suggests that this weakening is not part of a trend, but an aberration from a trend:

First, activity in the first quarter was subject to an unusual upward effect from the low number of holidays (as the entire Easter school holiday period fell in the second quarter) and from the warm winter weather that had boosted construction. Neither of these upward effects in the first quarter was sufficiently captured by seasonal or working day adjustment. As they unwound in the second quarter, this dampened growth. Second, negative calendar effects related to the more than usual number of “bridge days” around public holidays in many euro area countries may have reduced the number of effective working days in May, a factor that was not captured by the working day adjustment.

I have a lot of respect for the macroeconomists at the ECB, but frankly, this is below what we should expect of them. Calendar days and weather always vary – some claim that the bad performance of the U.S. economy in the first quarter of this year was due to the unusually cold winter. In reality, that growth dip was more than likely the result of businesses trying to adjust to the impact of Obamacare. By contrast, the slow growth numbers in the European economy are part of a trend of economic stagnation. A 30,000-foot review of what the European economy looks like is a good way to become aware of that trend.

The profession of economic has to some degree drifted away from the bigger-picture thinking that characterized its earlier days in the 20th century. While econometrics is important, there is too much emphasis on it today, drawing attention away from longer, bigger trends and the kind of institutional changes that characterize Europe today. Based on this broader analysis, my conclusion stands: Europe is not going to recover until they do something fundamental about their welfare state. Or, more bluntly: so long as taxes remain as high as they are and government provides entitlements the way it does, there is no reason for the productive people in the European economy to bring about a recovery.

The problem with short-sighted, strictly quantitative analysis is that it compels the economist to keep looking for a reason why the economy should recovery, as if it was a law of nature that there should be a recovery.

This problem is reflected in the ECB forecast paper:

Regarding the second half of 2014, while confidence indicators still stand close to their long-term average levels, their recent weakening indicates a rather modest increase in activity in the near term. The weakening of survey data takes place against the background of the recent further intensification of geopolitical tensions (see Box 4) together with uncertainty about the economic reform process in some euro area countries. All in all, the projection entails a rather moderate pick-up in activity in the second half of 2014, weaker than previously expected.

It would be interesting to see the results of a survey like this where the questions centered in on the more long-term oriented variables that focused on people’s ability and desire to plan their personal finances. I did a study like that as part of my own graduate work, and the results (reported in my doctoral thesis) were interesting yet hardly surprising. When people are faced with growing uncertainty they try to reduce their long-term economic commitments as much as possible. This results in less economic activity today without any tangible commitment to future spending.

Since I do not have the resources to study consumer and entrepreneurial confidence in Europe at the level the ECB can, I cannot firmly say that people in Europe today feel so uncertain about the future that they have permanently lowered their economic activity. However, my survey results corroborate predictions by economic theory, and the reality on the ground in Europe today points in the very same direction. In other words, so long as institutional uncertainty remains, there will be no recovery in Europe.

The ECB does not consider this aspect. Instead they once again forecast a recovery, just as assorted economists have done for about a year now:

Looking beyond the near term, and assuming no further escalation of global tensions, a gradual acceleration of real GDP growth over the projection horizon is envisaged. Real GDP growth is expected to pick up in 2015 and 2016, with the growth differentials across countries projected to decline, thanks to the progress in overcoming the fragmentation of financial markets, smaller differences in their fiscal policy paths, and the positive impact on activity from past structural reforms in several countries. The projected pick-up in activity will be mainly supported by a strengthening of domestic demand, owing to the accommodative monetary policy stance – further strengthened by the recent standard and non- standard measures – a broadly neutral fiscal stance following years of substantial fiscal tightening, and a return to neutral credit supply conditions. In addition, private consumption should benefit from a pick-up in real disposable income stemming from the favourable impact of low commodity price inflation and rising wage growth.

A key ingredient here is “smaller differences in … fiscal policy paths” and “a broadly neutral fiscal stance”. This means that the ECB is expecting an end to austerity policies across the euro zone, an expectation that has been lurking in their forecasts for some time now. But austerity has not ended, nor have the budget deficit problems that brought about austerity. The austerity artillery is not as active now as it was two years ago, but it has not gone quiet. France, e.g., is currently in a political leadership crisis because of the alleged need to continue budget-balancing measures.

France also indicates where the fiscal trend in Europe is heading. If the radical side of the French socialists could have it their way they would chart a course back to big-spending territory. But they would also couple more spending with even higher taxes, in order to avoid conflicts with the debt and deficit rules of the EU Stability and Growth Pact. While technically a “neutral” policy, the macroeconomic fallout would be a further weakening of the private sector – in other words a further weakening of GDP growth.

Another aspect that the ECB overlooks is the effects of the recalibration of the welfare state that has taken place during the austerity years. I am not going to elaborate at length on this point here, but refer instead to my new book where I discuss this phenomenon in more detail. Its macroeconomic meaning, though, is important here: the recalibration results in the welfare state taking more from the private sector, partly in the form of taxes, and giving less back in the form of lower spending. As a result, the private sector is drained, structurally, of more resources, with the inevitable result that long-term GDP growth is even weaker.

None of this is discussed in the ECB forecast paper, which means that we will very likely see more downward adjustments of their growth forecasts in the future.

There would be no problem with the ECB’s erroneous forecasts if it was not for the fact that those forecasts are used by policy makers in their decisions on taxes, government spending and monetary supply. The more of these “surprising” downward corrections by forecasters, the more of almost panic-driven decisions we will see. Alas, from EUBusiness.com:

The European Central Bank cut its forecasts for growth in the 18-country euro area this year and next, and also lowered its outlook for area-wide inflation, at a policy meeting on Thursday. The ECB is pencilling in gross domestic product (GDP) growth of 0.9 percent in 2014 and 1.6 percent in 2015, the central bank’s president Mario Draghi told a news conference. “Compared with our projections in June, the projections for real GDP growth for 2014 and 2015 have been revised downwards,” he said. The bank said inflation was expected to be 0.6 percent this year — a lower rate than the 0.7 originally forecast, Draghi said.

And therefore, the ECB decided to cut its already microscopic interest rates. Among their cuts is a push of the overnight bank lending rate further into negative territory, so that it now stands at -0.3 percent. But all these measures, aimed at injecting more cheap credit into the European economy, will fall as flat on their bellies as earlier interest-rate cuts. The problem is not that there is not enough liquidity in the economy – the problem is, as mentioned earlier, that the European economy suffers from institutional and structural ailments. Those are not fixed with monetary policy. Yet with the wrong analysis of the cause of the crisis, Europe’s policy makers will continue to prescribe the wrong medicine and the patient will continue to sink into a vegetative state of stagnation and industrial poverty.

Right and Wrong about Europe

Last Friday I explained that Europe appears to be on its way back to Big Spending country. One major reason is that the policies practiced so far during the Great Recession have proven to be sorely inadequate. Another reason is that Europe suffers from a bad case of conventional wisdom, the default position of which is that there is nothing more important in the economy than the welfare state. As a result, when austerity policies, specifically designed to save the welfare state, fail to do just that while also failing to reignite the economy, voters and political leaders turn to erstwhile solutions such as more government spending. Led there by conventional wisdom, not solid analysis, they are certain to only do more harm to an already ailing patient.

In this situation, clear and crisp crisis analysis is more important than ever. That is the only way to a working solution to the crisis. Unfortunately, the road to such solutions still runs through analytical neighborhoods where arguments about what cause the crisis sprawl in all directions. My blog article from last Friday quoted one example, Dan Steinbock of the India, China and America Institute. This week, Steinbock continues his contribution in the EU Observer::

In the United States, the global financial crisis was unleashed by real estate markets and the financial sector, which caused a dramatic contraction and massive mass unemployment.

That is a superficial explanation. The root cause was a fundamental misinterpretation of a macroeconomic trend. From the late 1970s through the Millennium recession the swings in the American business cycle gradually became weaker. This has been interpreted as a shift to more stable growth, which policy makers in the United States used as a basis for liberalizing the country’s credit markets. One part of this liberalization was an expansion of subprime mortgage lending, a reform that makes sense if the expectation is high GDP growth and as a result high growth in disposable income, then the risks associated with subprime lending are well contained. The debt-to-income ratio would not reach alarming levels, perhaps not even grow at all.

There was just one problem. The trend that was interpreted as growth stabilization was also a trend of weakening growth. In the 2000s the American economy grew at about half the pace of the ’90s. This led to a relative weakening of the ability of American households to keep up with debt payments. Therefore, it is incorrect to say that this was a financial crisis – it was a macroeconomic crisis that was mismanaged and misinterpreted by key political leaders.

It is important to keep this in mind, because it has consequences for how to get the U.S. economy out of the Great Recession. Steinbock lauds the Obama administration for its “stimulus package”, which…

included spending in infrastructure, health and energy, federal tax incentives, expansion of unemployment benefits and other social welfare provisions. It boosted innovation and supported competitiveness.

Frankly, there is no evidence of this. The bulk of the money spent through the American Recovery and Reinvestment Act went to fill revenue gaps in existing government spending programs, at the federal level as well as in the states. This borrowed money may have prevented a massive tax increase, which would have been the other conventional-wisdom option, but it certainly did not expand spending. On the contrary, what was a temporary jump in GDP growth during the stimulus spending, but as soon as it was over the growth rate reverted to pre-stimulus levels. It was not until late 2013 that the very first signs of some sort of recovery were visible. That recovery, though, which is still continuing, is far weaker than it should have been. Why? More on that in a moment. For now, back to the EU Observer, where Steinbock claims that the United States…

was able to rely on common fiscal and monetary policy. When one state got into trouble, it could turn to others for support. Of course, the crisis supported some states and hurt others, but the common institutions worked.

I have worked for state-based think tanks for eight years now, and I have carefully studied state fiscal policy for at least as long. To be perfectly honest, I have no idea what Steinbock is talking about here.

Let’s continue to listen to him, though. Maybe he makes more sense when he turns to discussing Europe:

When the 2008/9 crisis hit Europe, the core economies relied on their generous social models, but structural challenges were set aside. That ensured a timeout but boosted threats. In spring 2010, the crisis was still seen as a liquidity issue and a banking crisis. So Brussels launched its €770 billion “shock and awe” rescue package to stabilise the eurozone. As the consensus view grouped behind Brussels, I argued that the rescue package was inadequate and the austerity policy too strict. Further, it ignored multiple other crisis points. And it was likely to result in demonstrations and violence in southern Europe.

While he is correct about the political fallout of the crisis, he is far too vague on the economic variables that drove the European economy into the ditch. As I explain in my book Industrial Poverty (order your hard copy now or get your ebook version very soon!) the cause of the European crisis is to be found in the structure of the welfare state. This structural ailment is present in the American economy as well, though not as pronounced, but it explains why the Western economies experienced a growth slowdown in the 1980s (EU) and on the heels of the Millennium Recession (U.S.).

So long as the structural problem remains, there will be no recovery in the European economy. The United States has been able to recover despite the weight of government, an aspect that Steinbock misses. He does, however, make a good point about mistakes made by the European Central Bank:

[The] European Central Bank (ECB), led by its then-chief Jean-Claude Trichet, moved too slowly and hiked rates instead of cutting them. When the ECB finally reversed its approach, precious time and millions of jobs had been lost. Subsequently, Trichet’s successor, Mario Draghi, cut the rates and pledged to defend euro “at any cost.” Markets stabilised, but not without huge bailout packages, which divided the eurozone.

Trying to stuff as many explanations as possible of Europe’s perennial crisis into the same article, Steinbock then proceeds to point in many different directions at the same time:

As Barroso and his commissioners began to argue that “the worst was over,” Brussels hoped to reinforce the trust in euro and the EU and deter the rise of the eurosceptics. But hollow promises resulted in a reverse outcome. What’s worse, both Brussels and the core economies failed to provide adequate fiscal adjustment amidst the global crisis and the onset of the eurozone debt crisis, which made bad mass unemployment a lot worse and continues to penalise demand and investment. Further, neither liquidity support nor recapitalisation of the major banks has mitigated the worst insolvency risks in the region. Unlike in the US, many European economies, including Nordic ones, also continued to cut their innovation investments, thus making themselves even more vulnerable in the future. As the crisis spread to Italy and Spain, which together account for almost 30 percent of the eurozone economy, bailout packages could no longer be used. Rather, structural reforms became vital but since they were seen as a political suicide, delays replaced urgency.

Reduced spending on “innovation” is not nearly as important an explanation of the crisis as the structural fiscal imbalances of the welfare state. It is important to separate what matters from what does not matter. Otherwise, one cannot provide solutions to those who are in the position to put them to work.

Europe Goes Back to Big Spending?

Europe’s political leaders are getting increasingly desperate, especially since the European Central Bank’s aggressively expansionary monetary policy is proving ineffective. The more money the ECB prints, the worse the euro-zone economy performs.

The desperation is now at such a level that even the president of the ECB, Mario Draghi, is calling for EU governments to start big spending programs. Writes Benjamin Fox at EU Observer:

The European Central Bank (ECB) is preparing to step up its attempts to breathe life into the eurozone’s stagnant economy. During a speech in the US on Friday (22 August), ECB chief Mario Draghi called on eurozone treasuries to take fresh steps to stimulate demand amid signs that the bloc’s tepid recovery is stalling. “It may be useful to have a discussion on the overall fiscal stance of the euro area,” Draghi told delegates at a meeting of financiers in Jackson Hole, Wyoming, adding that governments should shift towards “a more growth-friendly overall fiscal stance.” “The risks of ‘doing too little’…outweigh those of ‘doing too much’”, he added.

Some trivia first. If you want to be rich, you have a condo on Manhattan. If you actually are rich, you have an oceanfront property in West Palm Beach. If you are genuinely wealthy you have a second home in Jackson Hole. The only people who live in Jackson Hole permanently are dyed-in-the-wool Wyomingites like former Vice President Dick Cheney (a very nice man whom I have had the honor of meeting a couple of times). It is a cold place with short, mildly warm summers and long, unforgiving winters. It is also breathtakingly beautiful.

Now for the real story… There is no doubt that Draghi is beyond worried. He should be: his monetary policy is useless. Europe is in the liquidity trap, and the European Central Bank’s expansionist monetary policy is part of the reason for this. For almost a year now Draghi has pushed the ECB to arrogantly violate the principles upon which the Bank was founded. He has printed money at a pace that by comparison almost makes Ben Bernanke look like a monetarist scrooge. More importantly, the ECB has de facto bailed out euro-zone countries even though that is very much against the statutes upon which the bank was founded. They have pushed interest rates through the floor, punishing banks for overnight lending to the bank, and they have a formal Quantitative Easing program in their back pocket.

Furthermore, the ECB was an active party in the austerity programs designed to save Europe’s welfare states in the midst of the crisis. Those programs exacerbated the crisis by suppressing activity in the private sector in order to make the welfare states look fiscally sustainable. Now Draghi is asking the same governments that he helped bully into austerity to stop trying to save their welfare states and instead be concerned with GDP growth.

Superficially this sounds like an opening toward a fiscal policy that uses private-sector metrics to measure its success. However, it is highly doubtful that Draghi and, especially, the governments of the EU’s member states, would be ready to actually do what is needed to get the European economy growing again. The first part of such a strategy would be to a combination of tax cuts and reforms to reduce and eventually eliminate the massive, redistributive entitlement programs that constitute Europe’s welfare states.

The second thing needed is a monetary policy that does not provide those same welfare states with a large supply of liquidity. The more cheap money welfare states have access to, the less inclined their governments are going to be to want to reform away their entitlement programs. On the contrary, they are going to want to preserve those programs as best they can.

Therefore, the last thing the ECB wants to do right now is to launch a QE program. Which, as the EU Observer story reports, is exactly what the ECB has in mind:

The Frankfurt-based bank is preparing to belatedly follow the lead of the US Federal Reserve and the Bank of England by launching its own programme of quantitative easing (QE) – creating money to buy financial assets.

This comes on the heels of the Bank’s new policy to increase credit supply to commercial banks on the condition that they in turn increase lending to non-financial corporations. The bizarre part of this is that in an economy that is stagnant at best, contracting at worst, there is no demand for more credit among non-financial corporations. It really does not matter if banks throw money after manufacturers, trucking companies, real estate developers… they are not going to expand their businesses unless there is someone there to buy their goods and services. If there is no buyer out there, why waste time and money on producing the product – and why take on debt to do it?

I have reported in numerous articles recently on how the European economy is not going anywhere. Growth is anemic with a negative outlook. Unemployment is stuck at almost twice the U.S. level and the overall fiscal situation of EU member states has not improved one iota despite more than three years of harsh, welfare-state saving austerity.

As yet more evidence of a stagnant Europe, Eurostat’s flash inflation estimate for August says prices increased by 0.3 percent on an annual basis. This is a further weakening of inflation and reinforces my point that unless the European economy starts moving again, it will find itself in actual deflation very soon. But the macroeconomic consequences of deflation set in earlier than formal deflation, as economic agents build it into their expectations. It looks very much as if that has now happened.

Deflation is dangerous, but it is not a problem in itself. It is a very serious symptom of an economy in depression. It is important to follow the causal chain backward and understand how the macroeconomic system brings about deflation. This blog provides that analysis; very few others attempt to do so. Ambrose Evans-Pritchard over at the good British newspaper Guardian has demonstrated good insight, and a recent article by David Brady and Michael Spence of the Hoover Institution provided some very important perspectives. But so far insights about the systemic nature of the crisis are not very widely spread.

The only advice being dispensed with some consistency is, as mentioned, the one about more government spending. Dan Steinbock of the India, China and America Institute is an example of the growing choir behind that idea. He does so, however, in a somewhat convoluted fashion. In an opinion piece for the EU Observer he discusses the macroeconomic differences between Europe and America, though in a fashion that almost makes you believe he is a regular reader of this blog:

Half a decade after the financial crisis, the United States is recovering, but Europe is suffering a lost decade. Why? In the second quarter, the US economy grew at a seasonally adjusted annual rate of 4 percent, surpassing expectations. In the same time period, economic growth in the eurozone slowed to a halt (0.2%), well before the impact of the sanctions imposed on and by Russia over Ukraine. Germany’s economy contracted (-0.6%). France’s continued to stagnate (-0.1%) and Italy’s took a dive (-0.8%). How did this new status quo come about?

He is correct about the American economy widening its gap vs. Europe, he is correct about the Italian economy, about the French economy, and about the stagnant nature of the euro-zone economy. What he does not get right is his answer to the question why the European economy has once again ground to a halt:

[In] the eurozone, real GDP growth contracted last year and shrank in the ongoing second quarter, while inflation plunged to a 4.5 year low. Europe’s core economies performed dismally. In Germany, foreign trade and investment were the weak spots. The country could still achieve close to 2 percent growth in 2014-2016 until growth is likely to decelerate to 1.5 percent by late decade. In France, President Francois Hollande has already pledged €30 billion in tax breaks and hopes to cut public spending by €50 billion by 2017. Nevertheless, French growth stayed in 0.1-0.2 percent in the 1st quarter.

I explained the weaknesses of the French and German economies already in January. Nothing has changed for the better since then, especially not in France.

Then Steinbock proceeds to make a brave attempt to explain the depth of the European economic crisis:

Fiscal austerity and falling consumer confidence are preventing domestic demand from rebounding, while investment and jobs linger in the private sector. Pierre Gattaz, head of the largest employers union in France, has called the economic situation “catastrophic.” As France is at a standstill, Paris has all but scrapped the target to shrink its deficit. … The new stance is to avoid an explicit confrontation with Germany, but to redefine austerity vis-à-vis budgetary reforms.

It is unclear what Steinbock means by this. He appears to miss the point that there are two kinds of austerity: that which aims to save government and that which aims to grow the private sector. The two are mutually exclusive, both in theory and in practice. One might suspect that Steinbock refers to the government-first version, since that is the prevailing version in Europe. However, that makes it even more unclear what Steinbock has in mind when he talks about “budgetary reforms” – an educated guess would be the relaxation of the Stability and Growth Pact so that the French government, among others, can spend more frivolously.

Such a relaxation would not contribute anything for the better. All it would do is open for more government spending. Steinbock does not make entirely clear whether or not he recommends more government spending. His article, however, seems to lean in favor of that, and I strongly disagree with him on that point for reasons I have explained on many occasions. Let’s just summarize by noting that if Europe is going to replace government-first austerity with government-first spending, then it opens up an entirely new dimension of the continent’s crisis. That dimension is in itself so ominous it requires its own detailed analysis.