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What to do about the Euro

Giancarlo Elia Valori

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[yt_dropcap type=”square” font=”” size=”14″ color=”#000″ background=”#fff” ] A [/yt_dropcap]fter the North American subprime crisis, European countries suffered two simultaneous shocks: the customers of those “toxic” assets – mainly European assets – discovered that most of their assets were completely presumed, while the US economic crisis made the substantial EU exports to that market decrease significantly.

As usual, recession leads to an increase in public deficit, because tax revenue decreases while, in time of crisis, public expenditure for subsidies and welfare cannot but increase.

Hence the global recession of 2007, caused by the United States, led to the first real crisis of the Euro.

When adjustments of exchange rates are no longer possible, in the Eurozone the mitigation of imbalances is entrusted to the EU structural funds for low-income regions – funds scarcely suitable for specific needs and too complex to be used by local governments.

Hence the Euro was born as an intrinsically deflationary currency and the only nation winning the single currency battle was Germany which, shortly before the start of the European single currency phase, had depressed wages severely and had created the well-known “mini-jobs”.

With an inflation rate and a labor cost already lower than those of the other future Euro members, it immediately created an optimal and stable differential as against the ”South’s Euro”.

Currently the Euro conceals, but not solves this asymmetry.

Hence very low inflation in Germany and a related very low interest rate, which have further increased German competitiveness compared to the South’s Euro area.

Therefore the EU Member States which had not prepared themselves for the single currency recorded inflation rates much higher than the German ones but, thanks to the single currency, recorded lower interest rates, thus financing the cost of crisis with debt.

The Euro was a good currency for incurring debt, but a bad currency for exporting.

Furthermore, this was the reason why the public debt increased also in Italy but, unlike the lira time, the Italian debt securities were held in the Eurozone surplus countries and not by the Italian customers of public debt securities.

At that juncture, the crisis broke out in Greece which, with the then Prime Minister Papandreou, had overtly and naively “cooked the books”.

Instead of funding Greece immediately at a low cost, so that it could overcome the crisis, and then allowing it to redress its accounts, the Sarkozy-Merkel axis imposed very harsh “austerity measures” on Greece which had to pay very high rates on the market. Hence, for international markets, the Greek default became a very concrete possibility.

If Strauss-Kahn had not been unfairly defamed by a special relationship between Sarkozy and Obama – who was afraid of a brave EU showing guts – the low-interest loan to Greece would have been a reality and there would not have been the first “Euro-branded” default. A default which paves the way for others.

It will be the project in progress for other “weak” economies, the rush towards bankruptcy and default.

International markets have got so accustomed to gain money quickly and easily from a national default of the Eurozone that they are rubbing their hands in view of the next country falling into that spiral.

Hence the Euro is a currency which amplifies internal crises between high rates and rising national deficits. It also signals to financial markets that there exists a great chance of short-term high profits – almost usurious ones, if usury were not a criminal offense also on international financial markets.

Hence while the Euro, as conceived today, is a sign of the end for the weakest countries of the single currency area, it is not true that over-spending by the countries already weakened by the Euro has worsened the crisis, as the current economic theories make us believe.

Data shows that, after 2007, the countries called PIIGS (Portugal, Italy, Ireland, Greece and Spain) had a debt/GDP ratio fully comparable with the one preceding the Euro introduction. Hence we do not accept explanations on “immoral” countries which “spend beyond their means.”

The crisis broke out and expanded because a currency created for the monetarily strongest countries, with remarkable trade surpluses, was not suitable for nations having different productive configurations and very little surpluses.

Therefore the crisis of the single currency and its economies does not result from the “non-restrictive” and profligate policies of some PIIGS governments.

A that juncture, the quite unusual idea emerged among European bureaucracies that deficit spending of the public sector – the only known driver to stimulate the economies under crisis – had the immediate effect of increasing taxes, thus leading to an increase in savings and a reduction in consumption.

This is the expansionary austerity school of thought, which is currently the best known one in contemporary economic analysis.

It is generally based on subjective (and psychologically questionable) assessments which are transposed into the macroeconomic environment, where everything is very different from the people’s spending or saving attitudes.

You cannot infer the behavior of an entire organism from one single cell, as it is well-known that all organisms are not simply clusters of similar cells.

Again according to the expansionary austerity school of thought, it is believed that deficit reduction will be interpreted by taxpayers as a reduction in taxes to pay.

It is a shaman-style reasoning – however, without avoiding media influencing citizens or without thinking they save or not for reasons other than the irrational bet on the reduction in State deficit, which anyway depends on a political choice.

Hence as long as the governments’ interest rates to refinance their debt are set by unspecified “markets,” which are interested in increasing interest rates to enhance their gains, there is no way out.

So, what can be done? If the Euro countries were funded directly by the ECB, at rates similar to those used by the private banking system, financial resources equal to 5% of GDP would be released.

Even a uniform tax system among the Euro countries would be essential for this purpose.

However, neither the first nor the second option is possible in the current Euro regulatory framework. Hence what can be done?

This is the reason why the exit of some countries from the Eurozone and their return to national currencies must be considered without making an issue of it and overdramatizing.

By calculating the loss of competitiveness of a post-Euro lira or peseta, we record a comparative loss of approximately 14% – hence nothing very severe.

Provided, however, that the Bank of Italy has well-designed plans already available for the possible exit from the Euro – something in which we do not believe at all.

Unfortunately Guido Carli passed away.

Hence, it is worth reiterating that Euro crisis was generated by excessive private and public debt held by non-European hands.

Therefore, as from 2010, all the countries hit by the Euro crisis had accumulated current account deficits while, coincidentally,   those which had current account surpluses did not record financial crises.

In fact, the crisis materialized with a sudden stop of capital flows between the Eurozone countries.

A stop which took the form of a generalized increase in risk premiums.

The end of flows immediately raised doubts on the solvency of banks and governments which depended on foreign loans from abroad, for example those who were accumulating current account deficits.

Inevitably the crisis also increased the debt/GDP ratio.

The monetary union enabled global imbalances to expand rapidly without anyone noticing it, because the Euro “conceals” the differences between the countries using it.

Hence, also as a result of the inefficient European bureaucracy, the loss of trust vis-à-vis the countries recording deficits increased.

Hence, without a “lender of last resort”, each monetary shock tends to be amplified and the Euro is precisely a currency without a lender of last resort.

A currency in which no international investor believes, unless it represents the individual economies and the single public debt of the Eurozone countries.

Therefore the crisis is bound to get worse, considering that the increase in risk premiums and interest rates produces a budget deficit which, in turn, increases the risk premium and interest rates.

It is worth adding that the countries’ typical and natural response to this situation would be devaluation which, obviously, is not possible with the Euro.

Has a currency which cannot be devalued ever existed?

It is still the “Napoleonic myth” of the single currency for the whole Europe which, however, the French Emperor supported with bayonets, just as the US dollar is currently backed with the North American Armed Forces’ global rayonnement.

Therefore, the debt denominated in Euros is increasingly similar to a foreign currency debt, as in those sudden stop crises which often occurred in Third World countries.

Hence the link between banks and governments in the Eurozone has amplified the crisis.

The cost of financing the deficit increased and this made the deficit rise.

Only Mario Draghi’s “whatever it takes” at the end of July 2012 made the Euro a “safe haven currency”, because he made it clear that the “lender of last resort” existed and was the ECB Governor. In the meantime, however, the other major international currencies had been depreciated by 30%.

Furthermore, the proposals to solve the single currency crisis are often paradoxical.

They range from Joseph Stiglitz, who wants Germany to leave the Euro so as to enable the old remaining single currency to devalue.

With the same current rules? It is impossible.

Hence shall we wait for a courtesy by Germany, which would have no interest in leaving the single currency, which deprives it of European competition?

Naivety of the New World. Germany will never leave the Euro, which enables it to bring dangerous competitors for exports into line (such as Italy).

While President Ciampi – an extraordinary man who has recently passed away and whom I still regret – was visiting the Great Wall, the German Prime Minister, Schroeder, arrived in China to sign the agreements for the expansion of the German car-making industry in China.

Better and more autonomous intelligence would be needed to defend ourselves from competitors-allies.

According to Paolo Savona and Luigi Zingales, two Euros should be created, one for the “rich” North and the other for us poor countries of the South.

Furthermore, sometimes Zingales speaks of various Euros. Would they all have the same value?

Possibly becoming quasi-national currencies? Nevertheless also the countries in the South have significant budget and debt differences, as well as different production logics.

Certainly better than before, with the Euro, but not much better.

Conversely Basevi thinks of a European Debt Agency (EDA) purchasing – on the secondary market (where raiders have already made good profit) – up to 60% of debt in relation to each EU country’s GDP.

On the basis of these securities, it issues its own bonds, the blue bonds, while for the part exceeding their debt over the 60% acquired by EDA, the countries issue their red bonds autonomously.

The blue bonds would be “liquid” and safe (Why? Where is the EDA underlying fund?), while the red bonds would have a higher risk profile and thus would pay a higher interest rate.

However, the global market of financial securities is not made up of fools.

And it is not clear from where the premium for the blue bonds would come.

And where the red bonds would be sold, with such an interest as to rapidly recreate the old huge public debt.

Hence if we leave the Euro and a new lira is recreated, devaluation would be approximately 27% as against the European currency.

The price of raw materials could rise by the same rate, but we should consider the length of contracts and the specific role played by ENI for oil and energy.

Bank deposits could still be denominated in euros – the law permits to have bank deposits in foreign currencies – and the new lira could have legal tender as the old currency designed by Silvio Gesell which the more stood “still”, the greater value lost.

The drive towards exports would be important, but there would be enough euros available to buy technologies or other items abroad.

In short, we need to think rationally to an upcoming withdrawal from the Euro, without pro-European myths and with an accurate analysis of our national interest in the short and medium term.

Advisory Board Co-chair Honoris Causa Professor Giancarlo Elia Valori is an eminent Italian economist and businessman. He holds prestigious academic distinctions and national orders. Mr Valori has lectured on international affairs and economics at the world’s leading universities such as Peking University, the Hebrew University of Jerusalem and the Yeshiva University in New York. He currently chairs "La Centrale Finanziaria Generale Spa", he is also the honorary president of Huawei Italy, economic adviser to the Chinese giant HNA Group and member of the Ayan-Holding Board. In 1992 he was appointed Officier de la Légion d'Honneur de la République Francaise, with this motivation: "A man who can see across borders to understand the world” and in 2002 he received the title of "Honorable" of the Académie des Sciences de l'Institut de France

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Economy

3 trends that can stimulate small business growth

MD Staff

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Small businesses are far more influential than most people may realize.

That influence is felt well beyond Main Street. Small businesses make up 99.7 percent of all businesses in the U.S., and these firms employ nearly half (48 percent) the workforce, according to the 2018 Small Business Profile compiled by the U.S. Small Business Administration.

In addition, take a look at recent trends and developments in technology. It’s clear that these changes can give entrepreneurs that extra leverage to scale up. Here are three to consider.

Big companies have big opportunities for small firms

Back in the 20th century, a large company would get things done in this very straightforward way. Wherever there was a need, they hired someone directly to perform that task, whether it was a driver or an accountant.

Under today’s leaner models, these big companies are finding it’s much more efficient to partner with other firms to fulfill certain needs. According to Deloitte, 31 percent of IT services have been outsourced, as well as 32 percent of human resources. This increasing acceptance of outsourcing is a huge growth opportunity for small businesses owners.

For example, Amazon recently announced it is actively seeking and helping entrepreneurs who are willing to deliver packages as their contractors. The mega retailer will even go as far as helping with startup costs so long as these smaller firms deliver their packages. Landing a contract with a big corporation is a significant milestone for any company, but starting out with that lucrative contract is sure to let these startups hit the ground running.

Better connections for greater flexibility

When today’s entrepreneur has a new role to fill, they’re not confined to the talent pool in their immediate community. Because we now have the tools and connectivity to work from anywhere, a business owner can expand the search across multiple states!

What’s more, these flexible, work from anywhere options can give business owners the inspiration to do things differently. Having greater collaboration means having access to more options to fit specific needs.

For example, what is the very nature of being a small business owner? It’s dealing with a fluctuating volume of work. Tapping into the talent pool of freelancers to work on these specific, short-term tasks and projects is easier than ever, because for a segment of workers, freelancing is increasingly becoming a way of life. Freelancers currently make up 36 percent of the workforce, according to a study from Upwork. And, if trends maintain, most Americans will be freelancers by 2027.

Thanks to remote options with easy access to talent, small businesses can easily set up temporary or ongoing as-needed work arrangements. When you partner with Dell for your computing needs, you’ll get the expert help and support so you can set up the perfect flexible workspace system.

More automation brings better efficiencies

Without a doubt, new technology works in favor of small businesses and entrepreneurs because they have many tools at their disposal to automate labor intensive processes, be more productive and cut costs. For example, entrepreneurs can use software to process client payments and even set up automated payments, saving hours and costs associated with collecting, processing and reconciling under the traditional paper check payment system. That translates into a more efficient billing department that can spend more time focused on complex issues.

Let Dell equip your small business with the right tech tools, tailor made for your venture and backed with support, so you can focus on running your business.

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Transitioning from least developed country status: Are countries better off?

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The Least Developed Countries (LDCs) are an internationally defined group of highly vulnerable and structurally constrained economies with extreme levels of poverty. Since the category was created in 1971, on the basis of selected vulnerability indicators, only five countries have graduated and the number of LDCs has doubled.  One would intuitively have thought that graduation from LDC status would be something that all LDCs would want to achieve since it seems to suggest that transitioning countries are likely to benefit from increased economic growth, improved human development and reduced susceptibility to natural disasters and trade shocks.

However, when countries graduate they lose international support measures (ISMs) provided by the international community. There is no established institutional mechanism for the phasing out of LDC country-specific benefits. As a result, entities such as the World Bank and the International Monetary Fund may not always be able to support a country’s smooth transition process.

Currently, 14 out of 53 members of the Commonwealth are classified as LDCs and the number is likely to reduce as Bangladesh, Solomon Islands and Vanuatu transition from LDC status by 2021. The three criteria used to assess LDC transition are: Economic Vulnerability Index (EVI), Human Assets Index (HAI) and Gross National Income per capita (GNI).  Many of the forthcoming LDC graduates will transition based only on their GNI.  This GNI level is normally set at US $ 1,230 but if the GNI reaches twice this level at US $ 2,460 a country can graduate.

So what’s the issue?  A recent Commonwealth – Trade Hot Topic publication confirms that most countries graduate only on the basis of their GNI, some of which have not attained significant improvements in human development (HAI) and even more of which fall below the graduation threshold for economic development due to persistent vulnerabilities (EVI).  This latter aspect raises the question as to whether transitioning countries will, actually, be better off after they graduate.

Given the loss of ISMs and the persistent economic vulnerabilities of many LDCs, it is no surprise that some countries are actually seeking to delay graduation, Kiribati and Tuvalu being two such Commonwealth countries despite easily surpassing twice the GNI threshold for graduation.

How is it possible that a country can achieve economic growth but not have appreciable improvements in resilience to economic vulnerability?  Based on a statistical analysis discussed in the Trade Hot Topic paper, a regression model, based on all forty-seven LDCs, was produced.  The model revealed that there was no statistically significant relationship between economic vulnerability and gross national income per capita.  The analysis was repeated just for Commonwealth countries and similar results were obtained.

Most importantly, analysis revealed that there was a positive relationship between GNI and EVI. In other words, increases in wealth (using GNI as a proxy) is likely to result in an increase in economic vulnerability.  This latter result is counterintuitive since one would expect more wealth to result in less economic vulnerability.

So what’s the take away?

The statistical results do not necessarily imply that improving the factors affecting economic vulnerability cannot result in improvements to economic prosperity.  It does suggest, however, that either insufficient efforts have gone into effecting such improvements or that there are natural limits to the extent to which such improvements can be effected.

One thing is clear, the multilateral lending agencies should revisit the removal of measures supporting climate change or other vulnerabilities for LDCs on graduation, since the empirical evidence suggests that countries could fall back into LDC status or stagnate and be unable to achieve sustainable development. Whilst transitioning from LDC status should be desirable, it should not be an end in itself. Rather than to transition and remain extremely vulnerable, countries should be resistant to such change or continue to receive more targeted support until vulnerabilities are reduced to more acceptable levels.

What are your thoughts?

Commonwealth

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Economy

U.S. policy and the Turkish Economic Crisis: Lessons for Pakistan

M Waqas Jan

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Over the last week, the Turkish Lira has been dominating headlines the world over as the currency continues to plunge against the US dollar. Currently at the dead center of a series of verbal ripostes between Presidents Donald Trump and Recep Tayyip Erdogan, the rapidly depreciating Lira has taken center stage amidst deteriorating US-Turkey relations that are wreaking havoc across international financial markets. Considering Pakistan’s current economic predicament, the events unfolding in Turkey offer important lessons to the dangers of unsustainable and unrealistic economic policies, within a dramatically changing international scenario. This holds particular importance for Pak-US relations within the context of the impending IMF bailout.

In his most recent statements, Mr. Erdogan has attributed his economy’s dire state of affairs as an ‘Economic War’ being waged against it by the United States. President Trump too has made it evident that the latest rounds of US sanctions that have been placed on Turkey are directly linked to its dissatisfaction with Ankara for detaining American Pastor Andrew Brunson. Mr Bruson along with dozens of others has been charged with terrorism and espionage for his purported links to the 2016 attempted coup against President Erdogan and his government.  There is thus a modicum of truth to Mr. Erdogan’s claims that the US sanctions are in fact, being used as leverage against the weakening Lira and the Turkish economy as part of a broader US policy.

However, to say that the latest US sanctions alone are the sole cause of Turkey’s economic woes is a gross understatement. The Lira has for some time remained the worst performing currency in the world; losing half of its value in a year, and dropping by another 20% in just the last week. Just to put the scale of this loss in to perspective, the embattled currency was trading at about 2 Liras to the dollar in mid-2014. The day before yesterday, it was trading at about 7 Liras to the dollar.

While the Pakistani Rupee has also depreciated quite considerably over the last few months, its recent drop (-17% against the dollar over the past 12 months) pales in comparison to the sustained and exponential downfall of the Lira. Yet, both the Turkish and Pakistani economies are at a point where they are experiencing an alarming dearth of foreign exchange reserves that have in turn dramatically increased their international debt obligations.

The ongoing financial crises in both Turkey and Pakistan are similar to the extent that both countries have pursued unsustainable economic policies for the last few years. These have been centered on increased borrowing on the back of overvalued currencies. While this approach had allowed both governments to finance a series of government investments in various projects, the long term implications of this accumulating debt has now caught up with them dramatically. As a result, both countries may soon desperately require IMF assistance; assistance, that in recent times, has become even more overtly conditional on meeting certain US foreign policy requirements.

In the case of Pakistan, these objectives may coincide with recent US pressures to ‘do more’ regarding the Haqqani network; or a deeper examination of the scale and viability of the China- Pakistan Economic Corridor. With regards to the latter, US Secretary of State Mike Pompeo has clearly stated that American Dollars, in the form of IMF funds, to Pakistan should not be used to bailout Chinese investors. The rationale being that a cash-strapped Pakistan is more likely to adversely affect Chinese interests as opposed to US interests in the region at the present. The politics behind the ongoing US-China trade war add even further relevance to this argument.

In the case of Turkey however, which is a major NATO ally, an important emerging market, and a deeply integrated part of the European financial system, there is a lot more at stake in terms of US interests. Turkey’s main lenders comprise largely of Spanish, French and Italian banks whose exposure to the Lira has caused a drastic knock on effect on the Euro. The ensuing uncertainty and volatility that has arisen is likely to prove detrimental to the US’s allies in the EU as well as in key emerging markets across South America, Africa and Asia. This marks the latest example of the US’s departure from maintaining and ensuring the health of the global financial system, as a leading economic power.

Yet, what’s even more unsettling is the fact that while the US is wholly cognizant of these wide-ranging impacts, it remains unfazed in pursuing its unilateral objectives. This is perhaps most evident in the diminishing sanctity of the NATO alliance as a direct outcome of these actions.  After the US, Turkey is the second biggest contributor of troops within the NATO framework. As relations between both members continue to deteriorate, Turkey has been more inclined to gravitate towards expanding Russian influence. In effect, contributing to the very anti-thesis of the NATO alliance. The recent dialogues between Presidents Erdogan and Putin, in the wake of US sanctions point markedly towards this dramatic shift.

Based on the above, it has become increasingly evident that US actions have come to stand in direct contrast to the Post-Cold War status quo, which it had itself help set up and maintain over the last three decades. It is rather, the US’s unilateral interests that have now taken increasing precedence over its commitments and leadership of major multilateral frameworks such as the NATO, and the Bretton Woods institutions. This approach while allowing greater flexibility to the US has however come at the cost of ceding space to a fast rising China and an increasingly assertive Russia. The acceleration of both Pak-China and Russo-Turkish cooperation present poignant examples of these developments.

However, while it remains unclear as to how much international influence US policy-makers are willing to cede to the likes of China and Russia over the long-term, their actions have made it clear that US policy and the pursuit of its unilateral objectives would no longer be made hostage to the Geo-Politics of key regions. These include key states at the cross-roads of the world’s potential flash-points such as Turkey and Pakistan.

Therefore, both Turkey and Pakistan would be well advised to factor in these reasons behind the US’s disinterest in their economic and financial predicaments. Especially since both Russia and China are still quite a way from being able to completely supplant the US’s financial and military influence across the world; perhaps a greater modicum of self-sufficiency and sustainability is in order to weather through these shifting dynamics.

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