The hidden key to understanding Europe’s crisis – and ours

Summary:   The response by major national governments to the Greek crisis is rational, and inevitable.  It has nothing to do with Greece, and everything to do with these government’s own debts and deficits.  This is the key to understanding the crisis.

{Trantor’s} dependence upon the outer worlds for good made it increasingly vulnerable … and Imperial policy became little more than the protection of Trantor’s delicate jugular vein.
Foundation by Isaac Asimov

Imperial Rome was dependent on grain markets, esp imports from Egypt, which became a major part of imperial policy.  Similarly today the major nations depend on the debt markets, and their government’s primary task becomes protecting the flow of credit to fund their deficits — and maintaining the stability of their massive debts.  Ideology and law must give way to this necessity.  We saw that in America’s response to the 2008 crisis; we see that today in Europe’s response to the Greek crisis.  Greece is small, but its default or exit from European Monetary Union might disturb the delicate stability of the sovereign debt markets (based on the false confidence in government promises).  See here for a report on the dimensions of the problem.

Reforms to ensure long-term stability are for a future day, and hence play no role in the American and European policy measures so far.  First things first, esp for frightened people operating with plans or maps.

About the latest bail-out for Greece

The program’s primary effect is to shift Greece’s loans from private hands (e.g., banks and insurance companies) to public balance sheets.  That eliminates the risk that Greece might be unable to rollover its debts and fund its deficits, or do so only at lethally high interest rates.  This also relieves the pressure on those financial institutions.  And future losses from Greek default (of some sort) will fall on the public, not politically powerful private interests.

If the package — loans to Greece and austerity by the Greeks — succeeds, the cost of these loans and guarantees will be zero.  Perhaps even profits, as the lender’s cost of funds is less than the rate charged Greece. 

If the package fails, governments will take bigger and bolder steps.  They have many tools in the box, such as…

  • Limit banks’ ability to lend to speculators.
  • Limits on who can speculate, and maximum position limits.
  • Controls on the flow of capital within and across borders.

They will do whatever the situation requires.  What are the unknowns, the factors to watch?

  • How will the German people react to this massive bailout?  Most did not like its smaller predecessors.
  • How will the recipients fulfill their end of the deal?  Spain already has 20% unemployment, an odd point to implement austerity programs.
  • How will their economies react to region-wide austerity?  Will economic decline wash away any effect of the austerity programs?

Other posts about the European crisis

  1. Can the European Monetary Union survive the next recession?, 11 July 2008
  2. The periphery of Europe – a flashpoint to the global economy, 8 February 2010
  3. Would a default by the US government help America?, 21 February 2010
  4. A great speech by the PM of Greece. How soon until an American President says similar words?, 3 March 2010
  5. We might default on our governments’ debt in the future. Do you know how often we’ve done so in the past?, 5 March 2010
  6. Governments cannot go bankrupt, 2 April 2010
  7. Our government’s finances are broken. How do we compare with our peers?, 8 April 2010
  8. The EU does Kabuki for Greece. Is it the next domino to fall?, 14 April 2010
  9. About the Euro crisis: the experts are wrong; the German people are right., 7 May 2010

Afterword

  • For more about the end of the post-WWII era, see the FM reference page here.
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