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Selective Amnesia on Debt Relief in today’s EU

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In the ongoing Euro Zone drama, the sovereign debt held by Greece is the crux of the issue occupying centre stage. The economy of Greece has seen its debt-to-GDP ratio increase from around 120 per cent in 2010 to nearly 180 per cent today.

Greece, as is well known, belongs to a polity which calls itself the European Union and in theory conceived of itself as a community based on democratic ideals and political solidarity in the spirit of shared responsibility and distributive justice.

All that in theory or on paper. The practice however, is a different story. Germany, the main creditor of Greece, is still insisting, as we speak, that Athens must agree to more painful austerity measures and reforms, and be made to pay for past profligacy before any sort of debt relief can be put on the table. There seems to be a sort of selective amnesia at work here, given that Germany benefited not so long ago from more lenient terms from its Western allies (which included Greece) than it is now prepared to offer. The photo below is revealing: it was taken in 1953, some eight years after the end of World War II, a destructive unnecessary war provoked by Germany itself.

It is an undeniable historical fact that Germany has been the major beneficiary of debt write-off in the 20th century, not excluding Greece as a creditor, and not to speak of the Marshall Plan which helped the whole continent get back on its economic feet. This is a fact often overlooked by Greek bashers of all stripes and conveniently forgotten today.

It is also a fact that Greece’s present financial situation is the result not only of profligacy but also of a toxic combination of austerity policies that have caused its GDP to fall by more than a quarter and continuous increases in debt. These do not reflect new resources coming into the economy, but loans extended to enable Greece pay on the interest on previously incurred debt, which then get piled on to the earlier principal amount and further compounded. Almost everyone but the Germans now recognises that this level of debt is simply unsustainable and some of it must be written off.

It bear mentioning that this was a common practice in the ancient world till the Romans at the height of their imperial power put an end to it. But the German leadership and most of the people protest that this is unacceptable use of taxpayers’ money (ignoring the fact that most of the debt has gone to repay banks in their own and other “core” European countries) and will create moral hazard problems, leading other debtor countries in Europe to try and do the same. In reality is concern is more political than economic; a misguided fear that left-leaning groups may resurface in a Europe; in reality what has resurfaced are fascist leaning parties (usually anti EU) who promise law and order devoid of social justice.

But beyond serving as a reminder of German hypocrisy, the photo above offers a more important lesson: These sorts of things have actually been dealt with successfully before. “I’ve seen this movie so many times before, it is very easy to get hung up on the idiosyncrasies of each individual situation and miss the recurring pattern.” said Carmen M. Reinhart, a professor at the Kennedy School of Government at Harvard who is perhaps the world’s foremost expert on sovereign debt crises. She is convinced that it is a general lesson about the nature of debt that crises end and economies improve only after the debt is cut.

And what is “the recurring, historical pattern?” This: major debt overhangs are only solved after deep write-downs of the debt’s face value. The longer it takes for the debt to be cut, the bigger the necessary write-down will turn out to be. Nobody should understand this better than the Germans. It’s not just that they benefited from the deal in 1953, which underpinned Germany’s postwar economic miracle. Twenty years earlier, Germany had defaulted on its debts from World War I, after undergoing a bout of hyperinflation and economic depression that helped usher Hitler to power. Indeed, nations in economic depression will often look for a savior who usually turns up to be a tyrant. This is a lesson that one would have hoped the Germans had not forgotten so fast.

The next two charts are instructive here:

cdb1

cdb2

The 20th century offers a rich road map of policy failure and success addressing sovereign debt crises. The good news is that by now economists generally understand the contours of a successful approach. The bad news is that too many policy makers still take too long to heed their advice — insisting on repeating failed political policies first that end up harming economic solutions.

I would preface this piece by mentioning that not being an economist myself, I have culled the economic facts from various public documents and statistics as mentioned throughout. In any case, let us consider two crucial 20th century economic events: one in the 1930s, in which Germany unilaterally defaulted on its external debt; and another in the 1950s when, as the above photo illustrates, Germany was granted substantial debt relief on very generous terms that enabled it to recover and grow into the powerful economy that it now is.

The first story has its origins in the peace conference after the First World War, leading to the Treaty of Versailles, which imposed 132 billion gold marks ($33 billion), of reparation payments on Germany. This was the “transfer system” famously excoriated by economist John Maynard Keynes in his Economic Consequences of the Peace, who presciently warned that this would create economic and social devastation in Germany and fuel the rise of a dictatorship bent on revenge.

The US provided credit to Germany and also reduced the amount of these debt through the Dawes Plan over 1924-29, which enabled Germany to make these reparation payments by borrowing from abroad. However, when Wall Street crashed in 1929, the US demanded full repayment of its loans, which rapidly became impossible and generated the forces leading to the fall of the Weimar Republic. In 1931, as the external public debt to GDP ratio reached 100 per cent, fiscal austerity to make transfer payments and service the debt pushed the country into Depression. Reparation payments were cancelled in August 1932, but the creditor payments remained in the form of short term debt that was continuously rolled over.

In 1933, the Nazi government in Germany declared unilateral default on all its sovereign debts and instituted capital controls. Interestingly, this default paved the way for a major debt write-off by the US and UK, cancelling a significant proportion of debts of 19 of their World War I allies in 1934 (see Chart 1 above). Of these countries only Finland repaid its debts in full. A recent study by Reinhart and Trebesch (Sovereign debt reduction and its aftermath, Harvard Kennedy School Working Paper, June 2015) has shown that this led to significant improvement in the economic landscape of these countries. They also note that debt write-offs are much more effective in generating economic growth and higher credit ratings than softer options like maturity extensions and interest rate reductions.

The second episode, initially mentioned in this piece, is even more relevant to the present times: I refer to the London Debt Agreement of 1953 that saw the abolition of all of Germany’s sovereign external debt. This was the outcome of negotiations of Germany with 20 of its creditors (including Greece and Italy, and even Pakistan). The conference was the outcome of lessons learned by the US and other creditors in the interwar period, particularly the economic and political dangers of forcing countries into depression through austerity generated by the need to repay debts.

Germany at that time held a significant amount of pre-war debt (mostly incurred for reparation payments and taken on by the Nazi government) as well as slightly more than half of the total debt that was the result of US Marshall Plan soft loans to revive the economy, which had already contributed to infrastructure reconstruction. As Chart 2 above indicates, there was significant write-off of both kinds of debt: the pre-war debt was reduced by 46 per cent and the post war debt by 52 per cent. The remaining debt was converted into very easy terms: DM 2.5 billion carrying no interest; DM 5.5 billion at 2.5 per cent annual interest; and DM 6.3 million at 4.5-5 per cent annual interest. No compound interest was charged for the long period when debt had not been services (since the default of 1933, and a five year grace period was provided until 1957, during which only DM 567.2 million would have to be paid each year.

As one German economist has noted, “The result of this debt-trade-link was a substantial contribution to Germany reaching full employment very quickly, thanks to a strong export performance”. (Jurgen Kaiser, One made it out of the debt trap: Lessons from the London Debt Agreement of 1953 for the current debt crisis, FES International Policy Analysis Paper June 2013)

Greeks are now justifiably shocked that the country that they had treated so generously when they were its creditors is now choosing to take such a hard and punishing line with them. It is true that the London Agreement took place in a Cold War context in which it was politically important to strengthen West Germany as an alternative to the Communist East. Nevertheless, the recognition of shared responsibility that was originally the underlying philosophy of the agreement was crucial in making it so effective and its outcomes so satisfactory.

Obviously the spirit of shared responsibility does not exist any longer even if the group continues to consider itself a community and a union that cares for the common good. Perhaps even more than German selective amnesia, this lack of genuine solidarity is the present real problem of the EU. The urgent question “what kind of political community are we?” remains to be answered, and not only on paper but in practice.

 

Note: this article, slightly modified has already appeared in Ovi Magazine

Professor Paparella has earned a Ph.D. in Italian Humanism, with a dissertation on the philosopher of history Giambattista Vico, from Yale University. He is a scholar interested in current relevant philosophical, political and cultural issues; the author of numerous essays and books on the EU cultural identity among which A New Europe in search of its Soul, and Europa: An Idea and a Journey. Presently he teaches philosophy and humanities at Barry University, Miami, Florida. He is a prolific writer and has written hundreds of essays for both traditional academic and on-line magazines among which Metanexus and Ovi. One of his current works in progress is a book dealing with the issue of cultural identity within the phenomenon of “the neo-immigrant” exhibited by an international global economy strong on positivism and utilitarianism and weak on humanism and ideals.

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Honorouble Justice Petric: Opening the Vienna Process conference on Int Women’s Day

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It is a great honour for me to have the opportunity to address you today at an International conference on behalf of the organizers – International Institute for Middle East and Balkan Studies (IFIMES), fastest developing European media platform – Modern Diplomacy and other two co-organisers, not present today. I convey to you their all-hearted greetings with the wish that the conference be fruitful and successful.

I also take this opportunity to thank Ambassador Emil Brix, Director of the Vienna School of International Studies for collaboration.

I wish wisdom and foresightedness to today’s conference entitled “Europe – Future Neighbourhood: Disruptions, Recalibration, Continuity”. The topic of today’s event – second in the newly established Vienna Process – is important, not only for Europe but for the whole world. Given that our institute has a Special consultative status with ECOSOC in the UN, and that my country is soon to take up the EU Presidency, our obligation is even greater to deal with such topics.

Excellences and friends,

Today we mark an important historic date; International Women’s Day. I am truly delighted and honoured that we have so many ladies among the moderators, panellists, partners and viewers. Our daughters, sister and mothers are not only nicer, but are the brighter half of the mankind, too. Happy and organically healthy International Women’s Day to each and everyone of you!

And now, before closing, let me express our appreciation that our four partners are again with us: Diplomatic Academy Vienna, Modern Diplomacy, Culture of Peace and European Perspectives. Among the academia, media and other associated partners from 4 continents, we are indeed honoured to partner with the important Specialised Agency of the United Nations – UNIDO, as well as with the world’s second largest multilateral system after the UN, that of the OIC on this event.

This, second consecutive, gathering of the Vienna Process in its birth place – capital of Austria, is the best basis for our next step: conferences in Geneva in May and in Barcelona in September this year.  

Special thanks to our key-notes; Commissioner Várhelyi, State Presidents Vella of Malta and Meta of Albania, as well as Excellency Zannier – our newly apointed Director for Euro-Med for chairing the important, first Panel, on cross-Med cooperation, Miss Mazlic of Al Jazeera and Ms. Harvey of Ban Ki-moon Center for charing other two highly topical panels.

Due appreciation goes to our fellows in Brussels, London, New York, Ottawa, Athens, Geneva, Paris and in Vienna for making this event and our Process possible.   

Finally, a sincere thanks to all our panellists today. There valuable exchanges will be mutually beneficial to all of us gathering today for the battement of our common future and security in Europe and beyond.

Thank you.

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New constructivism needed towards Europe’s East

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Authors: Eugene Matos de Lara and Audrey Beaulieu

On the historic date of 0March 08th – International Women’s Day, a large number of international affairs specialists gathered for the second consecutive summit in Vienna, Austria. This leg of the Vienna Process event titled: “Europe – Future – Neighbourhood at 75: Disruptions Recalibration Continuity”. The conference, jointly organized by four different entities (the International Institute for Middle East and Balkan Studies IFIMES, Media Platform Modern Diplomacy, Scientific Journal European Perspectives, and Action Platform Culture for Peace) with the support of the Diplomatic Academy of Vienna, was aimed at discussing the future of Europe and its neighbourhood in the wake of its old and new challenges.

This highly anticipated conference gathered over twenty high ranking speakers from three continents, and the viewers from Australia to Canada and from Chile to Far East. The day was filled by three panels focusing on the rethinking and revisiting Europe and its three equally important neighbourhoods: Euro-Med, Eastern and trans-Atlantic (or as the Romano Prodi’s EU Commission coined it back in 2000s – “from Morocco to Russia – everything but the institutions”); the socio-political and economic greening; as well as the legacy of WWII, Nuremberg Trials, the European Human Rights Charter and their relevance in the 21st century,

The event was probably the largest gathering since the beginning of 2021 for this part of Europe.

Along with the two acting State Presidents, the event was endorsed by the keynote of the EU Commissioner for European Neighbourhood and Enlargement, Excellency Olivér Várhelyi. The following lines are short transcript of what he has said opening the Vienna Process event:

The COVID-19 (C-19) has brought numerous challenges to the table in terms of cooperation, adaptation but, mostly, resilience. As the crisis may be considered as a breaking point by some, European Commissioner for Neighborhood and Enlargement, Excellency Várhelyi, insisted on the opportunity emerging from it for the European Union (EU) and Eastern Europe to reinforce their collaboration to build a more stable area of “shared democracy, prosperity, stability and peace”. 

Throughout the crisis, the European Union has been a key actor for Eastern Europe and its response to the virus, providing the region efficient economic and physical support, which have allowed thousands of lives to be saved. However, despite the necessity of this help, the European Union has more significant projects and ambitions regarding its relation with Eastern Europe states. 

In 2020, the EU issued a proposal on the Eastern partnership mostly focused on resilience which unfolds in five pillars. The first pillar is addressed to the reinforcement of investments in the economy and connectivity. It, notably, aims to “further enhance support to small and medium enterprises”. These are EU’s backbone, accounting for over 90% of the business activities; the EU hosts 24 million small businesses. This economic machine together generates more than half of the EU’s GDP. The EU has great interest to keep them afloat during the C-19 crisis. 

The EU parliament in December 2020 reported on the need for the Commission to reevaluate their support to these medium and small enterprises. They need more resources to overcome bureaucratic requirements that will exponentially burden their ability to thrive during and past C-19. Small businesses are recognized as indispensable to achieve innovative and sustainable goals. An example of this are initiatives to incentivize companies to take up e-commerce, yet only 17% of the small businesses in the EU have digitized commerce.  

The second pillar is related to investments in the green transition. While Western Europe has demonstrated a positive approachregarding Paris Agreement goals, Eastern Europe seemed more reluctant. This attitude couldbeexplained by theirstaple-basedeconomy and by more significant matters on their plate, such as corruption and the reinforcement of the rule of law. Thus, the second pillar bridges with the first pillar since environmental issues should influence the investments and the development of small and medium enterprises and the development of the economic sphere. 

The third pillar is about investing in digital transformation. The digital world iscontinuallyevolving, and states need to adapt to this reality, especially considering it could be a pivotal instrument to get the economy back on track. The pandemic has been a great opportunity for countries to develop their digital sector. Enterprises have had to beingenious and proactive in adapting their activities to this new reality, which could be a game-changer for the future. Countries will have to grasp this opportunity and make the best out of it. Investing in technologies could also be profitable to other goals that have been set, such as investments that need to be done in the reinforcement of the rule of law, credible justice reforms and efficient public administration (fourth pillar). Indeed, digitization of information combined with robust cybersecurity platforms is the key to more opened and more transparent administrations. In parallel, other strategie swill need to beelaborated in order to enhance respect of the rule of law and reachdemocratic standards, in fact, a key point to the enlargement of the EU.

Finally, the fifth pillar is about investing in fair and inclusive societies. Eastern Europe countries are real mosaics in terms of ethnicities, religions and languages. Inequalities and social cleavages between these groups are still omnipresent in most Eastern Europe societies, and they need to be addressed to build a more united Europe. Several Eastern European states have elevated policiesthat bridge social ethical and cultural differences in the first place both in their national and EU integration political agenda. Indeed, bridging social gaps isa fundamental action in managing differences and for the upbringing of a healthy democracy.

The next reunion regarding the partnership will take place next fall and focus on three critical matters: recovery, resilience and reform. Although the COVID-19 crisis cannot forever guide interstates initiatives, its consequences have forced the world to adapt to several new realities. Consequently, European countries will need strong measures to recover, and those should be translated by measures addressing the creation of employment and economic growth to stay competitive in international markets. As the EU Commissioner Várhely imentioned, “socio-economic recovery is the absolute priority”, so we should also be expecting opportunities to reform social and political norms to face not only new issues but also trends that were very present in the past that are now simply accelerating.

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What to Do with Extraterritorial Sanctions? EU Responses

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One of the important decisions of the new US administration was its revision of the sanctions policy inherited from President Donald Trump. The “toxic” assets of the departed team include deterioriated relations with the European Union. The divisions between Washington and Brussels have existed since long before Trump’s arrival in the White House. The EU categorically does not accept US extraterritorial sanctions. Back in 1996, the EU Council approved the so-called “Blocking Statute”, designed to protect European businesses from restrictive US measures targeting Cuba, Iran and Libya. For a long time, Washington avoided aggravating relations with the EU, although European companies were subject to hefty fines for violating US sanctions regimes.

The situation deteriorated significantly during the Trump presidency. At least three events served as a cold shower for the EU with respect to the bloc’s relationship with the US. The first was the unilateral withdrawal of the United States from the JCPOA—the “Iranian nuclear deal”. Trump renewed American restrictions on Iran in full, and then significantly expanded them. His demarche forced dozens of large companies from the EU to leave Iran; they were threated by the American authorities with fines and other coercive measures. Brussels was powerless to convince Washington to return to the JCPOA. The EU authorities were also unable to offer their businesses guarantees of reliable protection against punitive measures being taken by the US Treasury and other departments. The second event was Washington’s powerful attack on the Nord Stream 2 pipeline project. Trump has openly opposed the pipeline, although the Obama administration was also against the pipeline. Congress has passed two sanctions laws targeting Russian pipeline projects. The US Congress and the State Department directly warned European business about the threat of sanctions for participating in the project. In addition to Iran and Russia, concern in the EU was also caused by the aggravation of US-Chinese tensions. Brussels distanced itself from Trump’s cavalry attack on China. So far, US restrictions against “Chinese communist military companies”, telecoms and officials have minimally affected the EU. However, Washington aggressively pushed its allies to oust Chinese technology companies. It cannot be ruled out that in the future, US foreign policy towards China will become a problem for Brussels.

For the EU, all these events have become a reason to think about protection from extraterritorial US sanctions. The work on them was carried out by both European expert centres and the European Commission. Currently, we can talk about the formation of a number of strategic goals, the achievement of which should allow the European Union to increase its stability in relation to extraterritorial sanctions of the United States and other countries.

Such goals include the following:

Strengthening the role of the euro in international settlements. Already today, the euro ranks second after the dollar in international payments and reserves. However, unlike the United States, the EU does not use this advantage for political purposes. Many transactions between European businesses and their foreign partners are carried out in US dollars, which makes them more vulnerable to subsequent coercive measures. Calculations in euros could reduce the risk of transactions with those partners against whom the sanctions of the United States or other countries are in effect, but the sanctions of the UN Security Council or the EU itself do not apply. Here the EU authorities have laid serious groundwork and have a good chance of achieving their goal.

1.Creation of payment mechanisms, which cannot be stopped from the outside. INSTEX, a payment channel for humanitarian deals with Iran, is often cited as an example of such mechanisms. In 2020, the first transactions were made. However, success in this area raises questions. INSTEX has been widely advertised by EU politicians, but initial expectations were too high. The mechanism has not yet justified itself, even for humanitarian purposes. The Treasury Department can impose blocking sanctions against INSTEX at any time if it considers that the mechanism is being used to deliberately circumvent US restrictions against Iran. Switzerland’s SHTA mechanism, which is used for humanitarian deals with Iran, looks much better. It was created jointly with the Americans and it should not have any problems with functionality. However, regarding payment mechanisms in the EU, there are not only humanitarian transactions. There’s also the matter of plans to create secure transaction mechanisms in the trade of energy or raw materials; the question of what prospects these have for implementation remains.

2.Ensuring the possibility of unhindered settlements and access to other services for individuals and legal entities in the EU that have come under extraterritorial sanctions. In other words, we are talking about the fact that a citizen or a company from the EU, which fell, for example, under the blocking sanctions of the US Treasury, could make payments within the EU. Now European banks will simply refuse such transactions, and the courts are likely to side with them. In fact, the European Union wants to create infrastructure that has already been created, for example, in Russia. Moscow was considering the establishment of a national payment system even before the large-scale sanctions of 2014. Despite the limited weight of Russia in the global financial system, the country has its own sovereign payment system, which allows its own citizens to carry out transactions on its own territory.

3.Updating the 1996 Blocking Statute. In particular, we are talking about the development of an instrument of compensation for companies that have suffered from extraterritorial sanctions.

4.Creation of information databases in the interests of European companies under the risks of extraterritorial sanctions, as well as the provision of systematic legal assistance to companies that have come under foreign restrictions. In particular, we are talking about assisting European companies and citizens of the EU countries in defending their interests in US courts, as well as using other legal mechanisms, for example, within the WTO.

If necessary—balancing the extraterritorial measures of the United States or other countries with restrictive counter-measures.

However, the EU sanctions agenda is far from limited to the threat of extraterritorial sanctions. Ultimately, the United States is an ally and partner of the EU, which means that the opportunities for smoothing out crisis situations remain broad. Collaboration at the agency level is also highlighted as a recommendation. Moreover, after Trump’s departure, the United States may be more attentive to the concerns of the European Union.

The main priority remains the development of the EU’s own sanctions policy. Here many problems and tasks arise. The main ones include the low speed of decision-making and poor coordination in the implementation of sanctions. The centralisation of sanctions mechanisms in the hands of Brussels is becoming an important task for the European Commission.

The article is published as part of the Valdai Club’s Think Tank project, continuing the collaboration between Valdai and Observer Research Foundation (New Delhi).

From our partner RIAC

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