Megan McCardle talks about the difficulties facing people from poor backgrounds in moving up the ladder.
Another thing I would add to this list would be geographic mobility. One of the major differences between people in the lower, middle, and upper classes is how much they travel. Often, you'll find that middle and upper class families are spread across the country. They are willing and able to travel, and this means they can take advantage of opportunities that don't exist if you don't move. If you're only looking for jobs in only one area, you're hurting you're chances.
Also, It's kinda obvious to say, but poor people often come from poor places. If you're poor and never move you wake up each morning in Lone Pines SD, or Detroit, or rural Alabama.
Partly, I think that this lack of mobility is due to the fact that upper and middle class people are not as dependent on local support networks, whether that is relatives or friends or the church. Also, they have the resources to move, as well as to still stay in touch with family: they can afford a cross-country plane ticket to come home for the holidays. Middle and upper class people also have those connections in places outside their local community: schoolmates (say from college), relatives, co-workers who can tell them about job opportunities that they wouldn't be aware of otherwise, help them settle in, and can make moving less of an alienating experience.
When you grow up in W. Baltimore, or Appalachia, and you and every one you know has never been anywhere else, that anywhere else can seem foreign in a way that the middle class and the upper class just don't see.
Wednesday, December 14, 2011
Skyrim
An article on why Skyrim is singlehandedly keeping us in a recession. I haven't posted alot recently. The Mage's College needs my help retrieving the Staff of Magnus.
I saw someone down at the Occupy protests with a sign that said "We're for... Oh cool, MW3 is out". We'll at least he can rest assured knowing he's still doing his part to bring down the capitalist war machine.
I saw someone down at the Occupy protests with a sign that said "We're for... Oh cool, MW3 is out". We'll at least he can rest assured knowing he's still doing his part to bring down the capitalist war machine.
Sunday, December 11, 2011
This is Absurd
So Draghi, the president of the ECB, has decided not to support governments to reduce their debt. Instead, he's going to lend to banks. This basically means that he intends to deal with the effects of the sovereign debt crisis (the risk of triggering a bank run), rather than the underlying problem (their assets are bad). Apparently, this guy thinks the way to deal with a sovereign debt crisis does not in any way involve dealing with the sovereigns.
Draghi is completely correct when he calls plans that involve lending to the IMF or the EFSF "tricks". It's just that so are the things he's decided to do instead- which amount to providing the banks with free credit and allowing them to cut their cash reserves. This is not always the best way to help someone get out of debt. Both options present moral hazards- one for borrowers, one for lenders. Why not do the trick that actually works?
Even if you are trying to punish profligate national governments, it still amounts to an attempt to cut the yields on public debt. This amounts to still trying to fix the problem (thankfully), just without transparency and with a fair amount of extra-legal arm wrenching. As Nicolas Sarkozy helpfully pointed out...
"Italian banks will be able to borrow [from the ECB] at 1 per cent, while the Italian state is borrowing at 6–7 per cent. It doesn’t take a finance specialist to see that the Italian state will be able to ask Italian banks to finance part of the government debt at a much lower rate."
If that wasn't bad enough, the ECB couldn't even provide unanimity in cutting its rate to one percent. Demonstrating a commitment to prevent inflation can cut the yields on sovereign debt, but not in a situation where the markets think that tight monetary policy will result in a default. These debts are not payable with only two percent inflation. The ECB was never going to do an about face and suddenly decide to start targeting nominal GDP, but they could have at least demonstrated that they had a concern not only for the euro, but also the actual economy that backs it up.
There are two ways to deal with this crisis: either the ECB can provide aid through monetary policy (increasing inflation so that their euro denominated debt is worth less), or European heads of state can deal with it through fiscal policy by directly transferring funds to the at-risk countries (so that they owe fewer euros). The second is politically impossible.
Draghi is completely correct when he calls plans that involve lending to the IMF or the EFSF "tricks". It's just that so are the things he's decided to do instead- which amount to providing the banks with free credit and allowing them to cut their cash reserves. This is not always the best way to help someone get out of debt. Both options present moral hazards- one for borrowers, one for lenders. Why not do the trick that actually works?
Even if you are trying to punish profligate national governments, it still amounts to an attempt to cut the yields on public debt. This amounts to still trying to fix the problem (thankfully), just without transparency and with a fair amount of extra-legal arm wrenching. As Nicolas Sarkozy helpfully pointed out...
"Italian banks will be able to borrow [from the ECB] at 1 per cent, while the Italian state is borrowing at 6–7 per cent. It doesn’t take a finance specialist to see that the Italian state will be able to ask Italian banks to finance part of the government debt at a much lower rate."
If that wasn't bad enough, the ECB couldn't even provide unanimity in cutting its rate to one percent. Demonstrating a commitment to prevent inflation can cut the yields on sovereign debt, but not in a situation where the markets think that tight monetary policy will result in a default. These debts are not payable with only two percent inflation. The ECB was never going to do an about face and suddenly decide to start targeting nominal GDP, but they could have at least demonstrated that they had a concern not only for the euro, but also the actual economy that backs it up.
There are two ways to deal with this crisis: either the ECB can provide aid through monetary policy (increasing inflation so that their euro denominated debt is worth less), or European heads of state can deal with it through fiscal policy by directly transferring funds to the at-risk countries (so that they owe fewer euros). The second is politically impossible.
Saturday, December 10, 2011
The Euro Game
The EU told David Cameron to get in line, and Cameron walked out. The problem is he may have accidentally walked out of the EU. There has been a lot of back and forth about this, as the Lib Dems have used this to attack their partners in the coalition. I want to be clear that I think Cameron lost this fight before it even began, but nonetheless we should talk about why.
Over the last couple days it has become increasingly clear that the conflicts between the Euro core and countries like Britain are not really about any particular euro-problem, but rather about the EU itself. The "reforms" that Cameron was asked to sign on to were neither necessary, nor very good ideas. Handing over control over such an important sector for Britain as the financial industry was never going happen. And that's exactly why it was brought up.
What's going on is not a debate about the balance of power between the EU and national governments, but rather the balance of political power within the EU As the membership of the EU has increased, and as France has suffered a prolonged period of relatively dismal growth, it has seen it's influence within the EU decrease. It's share of the GDP within the European Union is less than 16%, of population it is half that. This will only get worse as Europe continues to expand, and as Eastern European countries continue to close the gap between them and the more developed countries to the west. And yet, France still expects to wield a wildly disproportionate amount of power with the EU.
The membership of Britain doesn't help. Not only is the UK the largest economy in Europe after Germany and France (until recently it was larger than France, but it had a really nasty great recession), but it is the most important member of the liberal bloc that generally is in opposition to France. It is also the only country large enough to be a partner with Germany, who holds all the cards right now. Removing Britain from the equation improves the political math considerably.
And so, Sarkozy decided to get into a tiff on very favorable ground. He chose to bring up the financial industry not for any constructive reason, but because its just such damn good politics. There's no easier way to cast the other guy as the villain as putting them on the same side as the banks. Sarkozy also knows that the British would never be willing to compromise when it comes to the financial industry, it's just too important a part of their economy.
The trick here is to get Germany to take your side, because they hold the whole balance of power between the liberals and the integrationists. And that's exactly what's happened. Cameron has come away looking petulant and childish, even complaining that the other members shouldn't get to use EU facilities if they don't invite him. Sarkozy, meanwhile, has set himself up as the very embodiment of European unity and togetherness, when actually he's taking advantage of the financial crisis for crass political gain.
The consequences of Britain retreating from a position of influence would be dire. It would deprive Germany of any partner within the EU except France; it would mean that there would be no large player around which the smaller EU countries could gather; and it would not result in a EU that would sign up for a free trade pact with Britain, but rather would turn the EU into a protected market for French products.
Poland, on the other hand, has demonstrated it has an understanding of the politics of the crisis. Without actually conceding anything, Tusk cozied up with Germany to avoid being thrown out into the cold by France. This is the right time for Cameron to buy Angela Merkel some flowers and start soliloquizing her beauty. Just close your eyes.
Over the last couple days it has become increasingly clear that the conflicts between the Euro core and countries like Britain are not really about any particular euro-problem, but rather about the EU itself. The "reforms" that Cameron was asked to sign on to were neither necessary, nor very good ideas. Handing over control over such an important sector for Britain as the financial industry was never going happen. And that's exactly why it was brought up.
What's going on is not a debate about the balance of power between the EU and national governments, but rather the balance of political power within the EU As the membership of the EU has increased, and as France has suffered a prolonged period of relatively dismal growth, it has seen it's influence within the EU decrease. It's share of the GDP within the European Union is less than 16%, of population it is half that. This will only get worse as Europe continues to expand, and as Eastern European countries continue to close the gap between them and the more developed countries to the west. And yet, France still expects to wield a wildly disproportionate amount of power with the EU.
The membership of Britain doesn't help. Not only is the UK the largest economy in Europe after Germany and France (until recently it was larger than France, but it had a really nasty great recession), but it is the most important member of the liberal bloc that generally is in opposition to France. It is also the only country large enough to be a partner with Germany, who holds all the cards right now. Removing Britain from the equation improves the political math considerably.
And so, Sarkozy decided to get into a tiff on very favorable ground. He chose to bring up the financial industry not for any constructive reason, but because its just such damn good politics. There's no easier way to cast the other guy as the villain as putting them on the same side as the banks. Sarkozy also knows that the British would never be willing to compromise when it comes to the financial industry, it's just too important a part of their economy.
The trick here is to get Germany to take your side, because they hold the whole balance of power between the liberals and the integrationists. And that's exactly what's happened. Cameron has come away looking petulant and childish, even complaining that the other members shouldn't get to use EU facilities if they don't invite him. Sarkozy, meanwhile, has set himself up as the very embodiment of European unity and togetherness, when actually he's taking advantage of the financial crisis for crass political gain.
The consequences of Britain retreating from a position of influence would be dire. It would deprive Germany of any partner within the EU except France; it would mean that there would be no large player around which the smaller EU countries could gather; and it would not result in a EU that would sign up for a free trade pact with Britain, but rather would turn the EU into a protected market for French products.
Poland, on the other hand, has demonstrated it has an understanding of the politics of the crisis. Without actually conceding anything, Tusk cozied up with Germany to avoid being thrown out into the cold by France. This is the right time for Cameron to buy Angela Merkel some flowers and start soliloquizing her beauty. Just close your eyes.
Monday, December 5, 2011
The 50s
When using the 50s and 60s as an example of income equality, please be careful. Using household income fails to pick up on the fact that households were made up of two people, with very unequal incomes and opportunities.
Sunday, December 4, 2011
Immigrant/Emmigrant Advantages
I think it's interesting that America, and the emerging economies of India and China have some of the same advantages, just in reverse. America, an immigrant country, has a large population of people who have connections with others in other the country they came from. China, an country with a large emigrant population, there is this network of connections abroad, as well people who went abroad and came back with experience and ideas from the outside world.
Both immigrants and emigres provide their countries with clear advantages. As The Economist explains....
"This is because the diaspora networks have three lucrative virtues. First, they speed the flow of information across borders: a Chinese businessman in South Africa who sees a demand for plastic vuvuzelas will quickly inform his cousin who runs a factory in China.
Second, they foster trust. That Chinese factory-owner will believe what his cousin tells him, and act on it fast, perhaps sealing a deal worth millions with a single conversation on Skype.
Third, and most important, diasporas create connections that help people with good ideas collaborate with each other, both within and across ethnicities."
These connections help a country take advantage of the opportunities of international trade.
Aside from these international networks, the clear advantage to being a destination for the driven and upwardly mobile is that these people actually work and pay taxes here. And for the countries they come from, they can be a source of foreign direct investment and remittances.
And this is what both countries need. America has the tools to invest in people, such as capital and good higher education, but it needs more people who have the enterprise to take advantage of this.
And India and China and the rest of the developing world need capital. If immigrants know about some good investments abroad, it can help alleviate the depressing returns on capital we're getting right now, and allow us to counteract the effects of an aging population. And if India and China can get well-targeted capital, they'll see increasing productivity from labor.
In the section quoted above, the economist talks about a person living abroad who can quickly spot an opportunity to sell something in the country they live in. But it works the other way too. One thing you can say about Americans is that we are great at consuming. We have access to an incredible breadth of products that are not marketed abroad. A person who comes here might realize that the people back home might really enjoy some of the things we've got here. And know how to sell it to them.
Both immigrants and emigres provide their countries with clear advantages. As The Economist explains....
"This is because the diaspora networks have three lucrative virtues. First, they speed the flow of information across borders: a Chinese businessman in South Africa who sees a demand for plastic vuvuzelas will quickly inform his cousin who runs a factory in China.
Second, they foster trust. That Chinese factory-owner will believe what his cousin tells him, and act on it fast, perhaps sealing a deal worth millions with a single conversation on Skype.
Third, and most important, diasporas create connections that help people with good ideas collaborate with each other, both within and across ethnicities."
These connections help a country take advantage of the opportunities of international trade.
 |
| Chinese and Indian diaspora populations. From The Economist |
And this is what both countries need. America has the tools to invest in people, such as capital and good higher education, but it needs more people who have the enterprise to take advantage of this.
And India and China and the rest of the developing world need capital. If immigrants know about some good investments abroad, it can help alleviate the depressing returns on capital we're getting right now, and allow us to counteract the effects of an aging population. And if India and China can get well-targeted capital, they'll see increasing productivity from labor.
In the section quoted above, the economist talks about a person living abroad who can quickly spot an opportunity to sell something in the country they live in. But it works the other way too. One thing you can say about Americans is that we are great at consuming. We have access to an incredible breadth of products that are not marketed abroad. A person who comes here might realize that the people back home might really enjoy some of the things we've got here. And know how to sell it to them.
Saturday, December 3, 2011
Inequality and Innovation
Alex Tabarrok, and Tyler Cowen, over at Marginal Revolution believe that there has been a great stagnation in innovation in recent decades. Except in IT, we haven't had the same level of innovation as during decades that saw the invention of the automobile or flight, or antibiotics. We don't have new innovations, and that's what's hurting our economy.
Matt Yglesias has been consistently arguing that inequality is making it hard to get new products into people's hands. Essentially, too many Americans don't have the means to consume the hot new product. Too many new inventions (such as smartphones, which is one of his examples) aren't accessible for the majority of Americans. We have new innovations, but they are unaffordable.
I'm sure this argument has been made by one of these people somewhere, but I wonder if growing inequality in the United States is a threat to innovation. And particularly the development of the kinds of products that create lots of jobs and provide real benefits for lots of people. Traditionally, the middle class in America has been a great engine for driving the creation of innovative products. They have enough disposable income to be able to buy a new product, but not so much that there isn't pressure to make it cheap.
Henry Ford made his fortune creating a car that the average American could afford. Remember that the innovation here wasn't the automobile, it was how to make automobiles cheaply. Later, Toyota hit it big creating cheap, fuel efficient cars that average Americans wanted. But now Toyota is developing fuel efficient cars that most people really can't afford (the Prius). Wealthy Eco-conscious consumers are a niche market.
The upper class will reward you for creating cool new gadgets, but the middle class then force you to go back to basics and figure out how you can make it as efficiently as possible. There isn't the same incentive to do this if the middle class isn't spending the same share of income as it was before. Today, power windows come standard, but I wonder if rear-view parking cameras or hybrid drives will ever reach the point where they aren't considered luxuries. It is when inventions become accessible for the great majority of people that can really transform society, from the automobile, to affordable jet travel, to the computer.
This makes inequality all the more pernicious. When there are lots of new things you can buy with alot of money, but few new things you can buy with some money, inequality increases in some non-obvious ways. And in a way that doesn't really show up in statistics about inequality. Too many of our innovators are working to serve the top brackets rather than average Americans.
On the flip side, In other parts of the world, such as India, we're new innovations designed for their rising middle class, and for the poor - "frugal innovation". These include mobile banking in Africa, or mobile monitors for irrigation systems in India. And these innovations have the capacity to really improve the lives of ordinary people.
Matt Yglesias has been consistently arguing that inequality is making it hard to get new products into people's hands. Essentially, too many Americans don't have the means to consume the hot new product. Too many new inventions (such as smartphones, which is one of his examples) aren't accessible for the majority of Americans. We have new innovations, but they are unaffordable.
I'm sure this argument has been made by one of these people somewhere, but I wonder if growing inequality in the United States is a threat to innovation. And particularly the development of the kinds of products that create lots of jobs and provide real benefits for lots of people. Traditionally, the middle class in America has been a great engine for driving the creation of innovative products. They have enough disposable income to be able to buy a new product, but not so much that there isn't pressure to make it cheap.
Henry Ford made his fortune creating a car that the average American could afford. Remember that the innovation here wasn't the automobile, it was how to make automobiles cheaply. Later, Toyota hit it big creating cheap, fuel efficient cars that average Americans wanted. But now Toyota is developing fuel efficient cars that most people really can't afford (the Prius). Wealthy Eco-conscious consumers are a niche market.
The upper class will reward you for creating cool new gadgets, but the middle class then force you to go back to basics and figure out how you can make it as efficiently as possible. There isn't the same incentive to do this if the middle class isn't spending the same share of income as it was before. Today, power windows come standard, but I wonder if rear-view parking cameras or hybrid drives will ever reach the point where they aren't considered luxuries. It is when inventions become accessible for the great majority of people that can really transform society, from the automobile, to affordable jet travel, to the computer.
This makes inequality all the more pernicious. When there are lots of new things you can buy with alot of money, but few new things you can buy with some money, inequality increases in some non-obvious ways. And in a way that doesn't really show up in statistics about inequality. Too many of our innovators are working to serve the top brackets rather than average Americans.
On the flip side, In other parts of the world, such as India, we're new innovations designed for their rising middle class, and for the poor - "frugal innovation". These include mobile banking in Africa, or mobile monitors for irrigation systems in India. And these innovations have the capacity to really improve the lives of ordinary people.
Friday, December 2, 2011
Market Forces Are Not "Undemocratic"
Euro Crisis and the Transformation of European Democracy - from the Atlantic, by Heather Horn
And she quotes from this article in Le Monde by constitutional rights professor Dominique Rousseau.
"What are we seeing? That the markets delegate political management of society to politicians; that these men, because they are elected by the people, think themselves to be free in their decisions; that, as long as these decisions don't infringe upon their interests and remain compatible with their projects, the markets let them govern; that day when politicians take decisions which contradict [these interests], the markets dismiss them without care; and--which Marx didn't even dare to imagine--that the markets replace elected politicians by Lucas Papadémos, former vice president of the central European bank, and by Mario Monti, former European commissioner."
So, of course, "En clair, il s'agit de plouto-républiques!".
I keep hearing the argument, not just from writers but far more importantly from politicians such as Angela Merkel or Nicolas Sarkozy. They dislike the fact that their agendas are essentially dominated by movements in bond markets, and are finding that having any control over them involves doing a bunch of things which they dislike, and wouldn't make if they had a choice.
The thing is, governments have to operate in the real world, which requires difficult decisions and pragmatism. When the people run the government- a democracy- they are the ones who have to deal with these harsh choices. The reason democracy was such a revolutionary idea was because it involved trusting the difficult choices of running a state with the people.
The fact that their options are constrained by limited resources, and the willingness of people to lend them money, is not anti-democratic. A democracy has every right to ask individuals to lend it money- this is called issuing bonds. Or it can require people to give it money- this is called taxes. If it chooses to ask individuals, then they can give their money or not as they so choose. And if they don't trust the people to keep their word, and pay them back, then they won't.
Why don't they trust it? Because of the bad decisions made by the people before, and the fact that the people really aren't that trustworthy. They want generous benefits and low taxes, but you can't have both, and so you borrow money. Until you reach the point where it becomes evident that the debt is so high that it either can't or won't be repayed. If the people don't want to have to worry about the difficulties of financing their debt, they don't have to borrow money.
I think part of the problem here is that people really don't understand the market, and they assign it an agency it doesn't possess. The bond market is not some pundit who is debating the kind of society we should have with you. It is simply a reflection of the general assessment as to whether bond holders are going to be payed back. You can raise taxes, or reduce benefits, and, as long as it looks like it's going to stabilize the countries finances, interest rates will fall. This is not plutocracy, it is reality.
When these politicians and pundits decry the bond market as undemocratic they are simply saying, "wouldn't it be nice if we didn't live in a world where there's all these things we want but can't afford". That's not democracy, that's daydreaming.
And she quotes from this article in Le Monde by constitutional rights professor Dominique Rousseau.
"What are we seeing? That the markets delegate political management of society to politicians; that these men, because they are elected by the people, think themselves to be free in their decisions; that, as long as these decisions don't infringe upon their interests and remain compatible with their projects, the markets let them govern; that day when politicians take decisions which contradict [these interests], the markets dismiss them without care; and--which Marx didn't even dare to imagine--that the markets replace elected politicians by Lucas Papadémos, former vice president of the central European bank, and by Mario Monti, former European commissioner."
So, of course, "En clair, il s'agit de plouto-républiques!".
I keep hearing the argument, not just from writers but far more importantly from politicians such as Angela Merkel or Nicolas Sarkozy. They dislike the fact that their agendas are essentially dominated by movements in bond markets, and are finding that having any control over them involves doing a bunch of things which they dislike, and wouldn't make if they had a choice.
The thing is, governments have to operate in the real world, which requires difficult decisions and pragmatism. When the people run the government- a democracy- they are the ones who have to deal with these harsh choices. The reason democracy was such a revolutionary idea was because it involved trusting the difficult choices of running a state with the people.
The fact that their options are constrained by limited resources, and the willingness of people to lend them money, is not anti-democratic. A democracy has every right to ask individuals to lend it money- this is called issuing bonds. Or it can require people to give it money- this is called taxes. If it chooses to ask individuals, then they can give their money or not as they so choose. And if they don't trust the people to keep their word, and pay them back, then they won't.
Why don't they trust it? Because of the bad decisions made by the people before, and the fact that the people really aren't that trustworthy. They want generous benefits and low taxes, but you can't have both, and so you borrow money. Until you reach the point where it becomes evident that the debt is so high that it either can't or won't be repayed. If the people don't want to have to worry about the difficulties of financing their debt, they don't have to borrow money.
I think part of the problem here is that people really don't understand the market, and they assign it an agency it doesn't possess. The bond market is not some pundit who is debating the kind of society we should have with you. It is simply a reflection of the general assessment as to whether bond holders are going to be payed back. You can raise taxes, or reduce benefits, and, as long as it looks like it's going to stabilize the countries finances, interest rates will fall. This is not plutocracy, it is reality.
When these politicians and pundits decry the bond market as undemocratic they are simply saying, "wouldn't it be nice if we didn't live in a world where there's all these things we want but can't afford". That's not democracy, that's daydreaming.
Thursday, December 1, 2011
Moral Hazard
I just think it's interesting that the worries about "moral hazard" are so completely different on different sides of the Atlantic.
Over here, we worry that bailing out the creditors (who were owed tons of money that wasn't repayed) because they were too big to fail is a moral hazard. They don't have the proper incentive to minimize their risk knowing that they have free insurance courtesy of Uncle Sam.
Over there, they worry that bailing out the debtors (who owe tons of money that they can't repay) because they are too big to fail is a moral hazard. They don't have the proper incentive to not borrow so much money knowing that their tab is going to be picked up by Germany.
When governments make a bad loan go away it presents a moral hazard in both directions. When someone picks up the drunks tab for him, the bartender doesn't have to pay the price of his bad decisions (in letting this guy have a tab) as well. There doesn't seem to be enough talk about the moral hazard of bailing out Greece or Portugal or Spain or Italy as it concerns the creditors. The European banking system let not very creditworthy countries go deeper and deeper into debt they couldn't or wouldn't repay.
The Eurozone got into this crisis because spreads between debt in the strong core (Germany) and the weak periphery (Portugal, Italy, Greece, and Spain), were too low. Not only that, European sovereign debt was allowed to be used as "core capital", essentially risk free, when it wasn't. There was the assumption that if worse came to worse they would be bailed out. And whadya know.
Right now, we have a situation in which efforts to rescue the euro are being held up over concerns that not forcing these profligate governments to pay their debts themselves, there won't be the proper incentive to run a responsible budget. But at the same time, we're not going to let their banks, where their citizens keep all their money, take substantial losses and probably go bust. And face the proper incentive to not make such poor investments in the future.
So, the CDU/CSU coalition that runs Germany, has decided to play brinksmanship, and insist on harsh austerity measures partly to make these countries feel the pain of their bad decisions. But there is always the assumption that Germans who put their money in the hands of idiotic bankers are not at risk of loosing their money for their bad decisions.
They assumed that countries would be honor bound to pay of their tab, when that's not how the world works. Countries often default on their commitments. And so, Angela Merkel intends to force them to pony up. She has decided to allow bankers to claw their money back by essentially threatening to break the drunk's legs if he doesn't settle his tab. But private creditors shouldn't get to count on support from their government to avoid suffering losses, unless we want to make gunboat diplomacy a regular feature of international finance.
The way to avoid moral hazard is to let people go into bankruptcy and then sort it out there. But we're not going to do that right now because then the world would end. We can at least learn something, though.
It seems that everyone acknowledges that the Greek government behaved atrociously in going so deeply into debt. And after they get bailed out, we're going to make sure they don't do it again. But people still haven't acknowledged that German and French bankers behaved atrociously in assuming that they could money lending money to Greece but not accept any risk. And after Greece gets bailed out, we need to make sure they aren't going to do it again. And from now on we're going to remember that countries default, it happens. But lets just admit that large scale government intervention to save the euro will leave the integrity of the market deeply compromised in many different ways, and presents many different moral hazards.
If the German government is going to monitor Greece's budget, lets have Greek banks monitor German banks. Or we could just stop worrying about whose fault this all is and just fix it, instead of trying to decide whose fault this all is right now.
Over here, we worry that bailing out the creditors (who were owed tons of money that wasn't repayed) because they were too big to fail is a moral hazard. They don't have the proper incentive to minimize their risk knowing that they have free insurance courtesy of Uncle Sam.
Over there, they worry that bailing out the debtors (who owe tons of money that they can't repay) because they are too big to fail is a moral hazard. They don't have the proper incentive to not borrow so much money knowing that their tab is going to be picked up by Germany.
When governments make a bad loan go away it presents a moral hazard in both directions. When someone picks up the drunks tab for him, the bartender doesn't have to pay the price of his bad decisions (in letting this guy have a tab) as well. There doesn't seem to be enough talk about the moral hazard of bailing out Greece or Portugal or Spain or Italy as it concerns the creditors. The European banking system let not very creditworthy countries go deeper and deeper into debt they couldn't or wouldn't repay.
The Eurozone got into this crisis because spreads between debt in the strong core (Germany) and the weak periphery (Portugal, Italy, Greece, and Spain), were too low. Not only that, European sovereign debt was allowed to be used as "core capital", essentially risk free, when it wasn't. There was the assumption that if worse came to worse they would be bailed out. And whadya know.
Right now, we have a situation in which efforts to rescue the euro are being held up over concerns that not forcing these profligate governments to pay their debts themselves, there won't be the proper incentive to run a responsible budget. But at the same time, we're not going to let their banks, where their citizens keep all their money, take substantial losses and probably go bust. And face the proper incentive to not make such poor investments in the future.
So, the CDU/CSU coalition that runs Germany, has decided to play brinksmanship, and insist on harsh austerity measures partly to make these countries feel the pain of their bad decisions. But there is always the assumption that Germans who put their money in the hands of idiotic bankers are not at risk of loosing their money for their bad decisions.
They assumed that countries would be honor bound to pay of their tab, when that's not how the world works. Countries often default on their commitments. And so, Angela Merkel intends to force them to pony up. She has decided to allow bankers to claw their money back by essentially threatening to break the drunk's legs if he doesn't settle his tab. But private creditors shouldn't get to count on support from their government to avoid suffering losses, unless we want to make gunboat diplomacy a regular feature of international finance.
The way to avoid moral hazard is to let people go into bankruptcy and then sort it out there. But we're not going to do that right now because then the world would end. We can at least learn something, though.
It seems that everyone acknowledges that the Greek government behaved atrociously in going so deeply into debt. And after they get bailed out, we're going to make sure they don't do it again. But people still haven't acknowledged that German and French bankers behaved atrociously in assuming that they could money lending money to Greece but not accept any risk. And after Greece gets bailed out, we need to make sure they aren't going to do it again. And from now on we're going to remember that countries default, it happens. But lets just admit that large scale government intervention to save the euro will leave the integrity of the market deeply compromised in many different ways, and presents many different moral hazards.
If the German government is going to monitor Greece's budget, lets have Greek banks monitor German banks. Or we could just stop worrying about whose fault this all is and just fix it, instead of trying to decide whose fault this all is right now.
How to Save Europe
There are two things that I think need to be part of any realistic attempt to stabilize Europe
1. The ECB needs to print more money, some of the debt has to be inflated away
2. The risks of sovereign default for private bond holders needs to be reduced
And any solution cannot rely on
1. The continued cooperation of European Countries, because they can't get along
2. Amending the treaties, because that would take too long and would be impossible anyway
3. Asking governments for money, because they don't have it or won't give it
You need to find a way to raise funds without individually asking European countries for money. If you do, you're going to have the same problem that you always have when trying to raise money for public goods. Each would benefit if everyone chipped in, but there is an incredible incentive to defect and not chip in yourself. Contributors to the EFSF bear all the costs, but only gain some of the benefit of a stable Euro. Also, the EU doesn't have the power to tax or a treasury, like the Federal Government in the United States does. So it can't get money that way.
The ECB may not be able to ask or force European countries to give it euros, but what it can do is just print them. European countries need Euros to pay their creditors, and the ECB can make as many euros as it wants. The only tax it can do is an inflation tax.
What happens then is that value of Euros declines (inflation), and anyone who has anything denominated in Euros looses money. But this, at least, falls mostly on people and countries who have things. And reduces the actual debts of European countries because their debts are denominated in euros. This is how sovereign countries usually weasel out of their commitments, it should work here too.
Although this is kinda similar to defaulting, this should be preferred by bond holders. Inflation can usually be limited, so the bond holders only loose some of their value, rather than defaults where there is every incentive for the defaulting country to go big. Also, a weaker euro should make Europe more competitive, giving a boost to exports and reducing imports. The southern countries have needed a weaker currency for a long time now, but instead have been stuck with a strong currency that is more of a benefit for northern countries like Germany with a positive trade balance.
The problem is that the ECB is legally prohibited from giving money to governments to pay down their debts. What it can do, however, is give the euros to the IMF which can then give the euros to governments. The ECB has printed euros before to place in certain IMF vehicles, although nothing on this scale. As far as I know, the ECB doesn't actually have to ask anyone's permission to do this. And this solution doesn't involve the EU or it's member nations deciding anything or working together.
The IMF has a great deal of experience rescuing (successfully and unsuccessfully) troubled countries. It can give countries like Spain or Italy or Portugal euros in exchange for the kinds of long-term reforms that will help them pay back their debts. The IMF is also not another European country, and I think a little distance would be good for whoever is trying to figure out a solution to this whole mess. When the people in these rescued countries, who have to put up with austerity and labor market reforms and all sorts of other unpopular dictats from unelected technocrats, start protesting at least it won't be against each other. Because goodwill among Europeans is already in dangerously short supply right now. And everyone hates the IMF anyway.
1. The ECB needs to print more money, some of the debt has to be inflated away
2. The risks of sovereign default for private bond holders needs to be reduced
And any solution cannot rely on
1. The continued cooperation of European Countries, because they can't get along
2. Amending the treaties, because that would take too long and would be impossible anyway
3. Asking governments for money, because they don't have it or won't give it
You need to find a way to raise funds without individually asking European countries for money. If you do, you're going to have the same problem that you always have when trying to raise money for public goods. Each would benefit if everyone chipped in, but there is an incredible incentive to defect and not chip in yourself. Contributors to the EFSF bear all the costs, but only gain some of the benefit of a stable Euro. Also, the EU doesn't have the power to tax or a treasury, like the Federal Government in the United States does. So it can't get money that way.
The ECB may not be able to ask or force European countries to give it euros, but what it can do is just print them. European countries need Euros to pay their creditors, and the ECB can make as many euros as it wants. The only tax it can do is an inflation tax.
What happens then is that value of Euros declines (inflation), and anyone who has anything denominated in Euros looses money. But this, at least, falls mostly on people and countries who have things. And reduces the actual debts of European countries because their debts are denominated in euros. This is how sovereign countries usually weasel out of their commitments, it should work here too.
Although this is kinda similar to defaulting, this should be preferred by bond holders. Inflation can usually be limited, so the bond holders only loose some of their value, rather than defaults where there is every incentive for the defaulting country to go big. Also, a weaker euro should make Europe more competitive, giving a boost to exports and reducing imports. The southern countries have needed a weaker currency for a long time now, but instead have been stuck with a strong currency that is more of a benefit for northern countries like Germany with a positive trade balance.
The problem is that the ECB is legally prohibited from giving money to governments to pay down their debts. What it can do, however, is give the euros to the IMF which can then give the euros to governments. The ECB has printed euros before to place in certain IMF vehicles, although nothing on this scale. As far as I know, the ECB doesn't actually have to ask anyone's permission to do this. And this solution doesn't involve the EU or it's member nations deciding anything or working together.
The IMF has a great deal of experience rescuing (successfully and unsuccessfully) troubled countries. It can give countries like Spain or Italy or Portugal euros in exchange for the kinds of long-term reforms that will help them pay back their debts. The IMF is also not another European country, and I think a little distance would be good for whoever is trying to figure out a solution to this whole mess. When the people in these rescued countries, who have to put up with austerity and labor market reforms and all sorts of other unpopular dictats from unelected technocrats, start protesting at least it won't be against each other. Because goodwill among Europeans is already in dangerously short supply right now. And everyone hates the IMF anyway.
Wednesday, November 30, 2011
Are CEOs overpaid?
They are arguing about this over at MR. Are CEOs paid their value added?
I think this has a lot to do with sample size. When deciding how much a CEO is worth, the board has to make its decision on a relative small amount of evidence. They base their decision on past performance, but the problem is that that people don't have enough years of past performance to be statistically significant. When your conclusions are based on small amounts of evidence, you are going to overestimate the effect of the variable on the results.
Essentially, results vary partly because of randomness. For example a company may have a good quarter or a bad quarter for reasons that have nothing to do with the CEO, and for factors that you can't control for. The shorter time period you look at, the more randomness you are going to see and therefore the quality of CEOs will seem to vary more. If you look at a longer time period you're going to get something called "regression to the mean" also known as "reversion to mediocrity". As in when random variation starts to fade away, everyone starts to look more average.
And when hiring someone, you're paying them for their expected future performance, knowing that a good CEO could well mean a difference of billions of dollars in profits for shareholders. But, that guy who did so well at that other company was probably doing better than his average. Part of it was due to luck. If a CEO has a particularly good quarter, the next one will probably be worse, and vice verse for a bad one. Over time, as you start to control for randomness, people become less exceptional. And you see they aren't worth paying exceptionally large salaries.
The problem is that people aren't around long enough for "reversion to mediocrity" to set in enough. And people routinely fail to take regression to the mean into account. This leads them to overestimate the effect of individuals, whether in business or sports or politics. The man at the top on an organization is less important than people think. And so companies spend too much money attracting top performing CEOs only to watch "reversion to mediocrity" set in.
A CEO that can really improve the company and its stock value would be worth a great deal of money. The problem is you can't tell who that CEO is. And if you pay them for performance, much of that is just randomizing their salary.
I'm not saying that a persons success or failure is not affected by hard work and ability (like a conservative would argue) or on connections and corruption (like a liberal would argue). But lets not forget the importance of Lady Fortune as well.
I think this has a lot to do with sample size. When deciding how much a CEO is worth, the board has to make its decision on a relative small amount of evidence. They base their decision on past performance, but the problem is that that people don't have enough years of past performance to be statistically significant. When your conclusions are based on small amounts of evidence, you are going to overestimate the effect of the variable on the results.
Essentially, results vary partly because of randomness. For example a company may have a good quarter or a bad quarter for reasons that have nothing to do with the CEO, and for factors that you can't control for. The shorter time period you look at, the more randomness you are going to see and therefore the quality of CEOs will seem to vary more. If you look at a longer time period you're going to get something called "regression to the mean" also known as "reversion to mediocrity". As in when random variation starts to fade away, everyone starts to look more average.
And when hiring someone, you're paying them for their expected future performance, knowing that a good CEO could well mean a difference of billions of dollars in profits for shareholders. But, that guy who did so well at that other company was probably doing better than his average. Part of it was due to luck. If a CEO has a particularly good quarter, the next one will probably be worse, and vice verse for a bad one. Over time, as you start to control for randomness, people become less exceptional. And you see they aren't worth paying exceptionally large salaries.
The problem is that people aren't around long enough for "reversion to mediocrity" to set in enough. And people routinely fail to take regression to the mean into account. This leads them to overestimate the effect of individuals, whether in business or sports or politics. The man at the top on an organization is less important than people think. And so companies spend too much money attracting top performing CEOs only to watch "reversion to mediocrity" set in.
A CEO that can really improve the company and its stock value would be worth a great deal of money. The problem is you can't tell who that CEO is. And if you pay them for performance, much of that is just randomizing their salary.
I'm not saying that a persons success or failure is not affected by hard work and ability (like a conservative would argue) or on connections and corruption (like a liberal would argue). But lets not forget the importance of Lady Fortune as well.
Quotes
Megan McArdle
"The current plan on the table, as I understand it, is for the PIIGS to get bailouts in exchange for letting the more solvent countries step in and run their budgets if they violate budget rules. I can see how this could work, but I can also see how that might be the last straw, and that if the central countries actually tried to execute on this authority, they might find that it doesn't actually exist . . . while their guarantees of that debt very much do. The EU, in fact, has a rather long history of creating toothless institutions that everyone ends up ignoring."
Yeah, Germany can't really force sovereign countries to do anything. It's only lever is its willingness to give them money, and they aren't really very willing anyway. Also, countries don't like surrendering fiscal sovereignty. It can have really bad effects, just ask Suharto.
Karl Smith
"The Eurozone is now a single currency area in name only. Worse, the national central banks do not have the power to control monetary policy. Which means by American or British standards there is no monetary policy in Europe right now. There is regimented chaos."
Karl Smith argues that the ECB can no longer control monetary policy. And that there is no Eurozone-wide monetary policy. The price of Euros in different Euro countries is diverging, and that this is a prelude to the formal break up of the single currency.
From the previous post, Karl Smith
"By that I mean the ECB is no longer controlling the marginal cost of funding and that indeed the cost of such funding is rising much higher than the official 1.25% rate, at least up to 2.25% and perhaps as high as 6 – 7%."
"At the crux of the problem seems to be the inability to arbitrage away differences in funding costs between institutions and countries because of malfunctioning in the European Repo market."
Essentially, if I understand him, and I don't, Europe is so fractured along national lines that households and firms in different European countries are facing radically different interest rates. Also, that the ECB just can't get the liquidity out, let alone out into the real economy, because of a break down in the actual mechanics of trading because you can't find good collateral. People trade sovereign debt mostly as a fairly safe asset to post as collateral for other trades. But sovereign debt in the Eurozone is not the same, and it's not that safe, and there's deep uncertainty as to how unsafe it actually is.
From an IMF working paper by M. Singh, link from MR.
"Post-Lehman, there has been a significant decline in the source collateral for the large
dealers that specialize in intermediating pledgeable collateral. Since collateral can be
reused, the overall effect (i.e., reduced ‘source’ of collateral times the velocity of collateral)
may have been a $4-5 trillion reduction in collateral. This decline in financial lubrication
likely has impact on the conduct of global monetary policy."
There has been a decline in the velocity of collateral which has a similar effect to a decline in the velocity of money. After Lehman, people want to have as few intermediaries that they might be exposed to as possible. If you post some collateral when I lend you money, I can then pledge your collateral as collateral for someone to lend me money, and so on. And money is created. But this chain has gotten shorter because after Lehman people are less sure about whether everyone in the chain is going to be here tomorrow to repay.
Or it's clear at this point that I don't know what I'm talking about.
"The current plan on the table, as I understand it, is for the PIIGS to get bailouts in exchange for letting the more solvent countries step in and run their budgets if they violate budget rules. I can see how this could work, but I can also see how that might be the last straw, and that if the central countries actually tried to execute on this authority, they might find that it doesn't actually exist . . . while their guarantees of that debt very much do. The EU, in fact, has a rather long history of creating toothless institutions that everyone ends up ignoring."
Yeah, Germany can't really force sovereign countries to do anything. It's only lever is its willingness to give them money, and they aren't really very willing anyway. Also, countries don't like surrendering fiscal sovereignty. It can have really bad effects, just ask Suharto.
Karl Smith
"The Eurozone is now a single currency area in name only. Worse, the national central banks do not have the power to control monetary policy. Which means by American or British standards there is no monetary policy in Europe right now. There is regimented chaos."
Karl Smith argues that the ECB can no longer control monetary policy. And that there is no Eurozone-wide monetary policy. The price of Euros in different Euro countries is diverging, and that this is a prelude to the formal break up of the single currency.
From the previous post, Karl Smith
"By that I mean the ECB is no longer controlling the marginal cost of funding and that indeed the cost of such funding is rising much higher than the official 1.25% rate, at least up to 2.25% and perhaps as high as 6 – 7%."
"At the crux of the problem seems to be the inability to arbitrage away differences in funding costs between institutions and countries because of malfunctioning in the European Repo market."
Essentially, if I understand him, and I don't, Europe is so fractured along national lines that households and firms in different European countries are facing radically different interest rates. Also, that the ECB just can't get the liquidity out, let alone out into the real economy, because of a break down in the actual mechanics of trading because you can't find good collateral. People trade sovereign debt mostly as a fairly safe asset to post as collateral for other trades. But sovereign debt in the Eurozone is not the same, and it's not that safe, and there's deep uncertainty as to how unsafe it actually is.
From an IMF working paper by M. Singh, link from MR.
"Post-Lehman, there has been a significant decline in the source collateral for the large
dealers that specialize in intermediating pledgeable collateral. Since collateral can be
reused, the overall effect (i.e., reduced ‘source’ of collateral times the velocity of collateral)
may have been a $4-5 trillion reduction in collateral. This decline in financial lubrication
likely has impact on the conduct of global monetary policy."
There has been a decline in the velocity of collateral which has a similar effect to a decline in the velocity of money. After Lehman, people want to have as few intermediaries that they might be exposed to as possible. If you post some collateral when I lend you money, I can then pledge your collateral as collateral for someone to lend me money, and so on. And money is created. But this chain has gotten shorter because after Lehman people are less sure about whether everyone in the chain is going to be here tomorrow to repay.
Or it's clear at this point that I don't know what I'm talking about.
Why Was The Default Voluntary?
Essentially, the ECB decided Greece would default, but it wouldn't trigger Credit Default Swaps. As in it's a default but we aren't going to call it a default. Credit Default Swaps, by the way, are simply insurance issued by one private party to another. If Greece defaults, and you have a CDS on Greece, the insurance pays out.
Only this time it didn't. Because when your investment went up in smoke, the ECB redefined the meaning of the word "fire". There really is no direct reason for the ECB should do this. When a sovereign like Greece defaults the people who issued the swaps lose money, and the people who bought them gain. And it's not clear why one should be favored over the other. Presumably the ECB is trying to save some at risk institutions that issued insurance they can't pay out, but there are also many European institutions that bought the swaps.
This is incredibly harmful in that it prevents anyone thinking of buying European debt from hedging against the possibility of default. Demand for European debt will sink, and the interest rates on European debt will go up even more. And when the ECB changes the rules mid-game, it creates uncertainty about investing in Europe and people don't want to play anymore. This lack of trust in European institutions is now a structural problem.
The question here is why would these Eurocrats be so daft? Are they being daft?
Personally, I hope they are. The idea that the ECB is playing favorites is less worrying than a Europe that can't handle the default of even a relatively minor player. I don't think the ECB worries that a Greek default would be catastrophic, but rather that it might be catastrophic. Its worth remembering how little the people overseeing these financial crises really know about what is going on, and exactly what the result of triggering these Credit Default Swaps would be. It's hard to figure out what the full extent of liabilities across European institutions to a Greek default are, before it happens.
In the back of their minds is the fear that there is another AIG waiting to go off. And Europe may not have the tools to quickly rescue a collapsing bank if the sovereign country lacks either the will or the resources to do so. And I'm sure that in this fear ridden environment, a European bank with exposure in the case of Greece technically defaulting could get out of its commitments by jacking up the doom in private conversations with the central bankers.
Only this time it didn't. Because when your investment went up in smoke, the ECB redefined the meaning of the word "fire". There really is no direct reason for the ECB should do this. When a sovereign like Greece defaults the people who issued the swaps lose money, and the people who bought them gain. And it's not clear why one should be favored over the other. Presumably the ECB is trying to save some at risk institutions that issued insurance they can't pay out, but there are also many European institutions that bought the swaps.
This is incredibly harmful in that it prevents anyone thinking of buying European debt from hedging against the possibility of default. Demand for European debt will sink, and the interest rates on European debt will go up even more. And when the ECB changes the rules mid-game, it creates uncertainty about investing in Europe and people don't want to play anymore. This lack of trust in European institutions is now a structural problem.
The question here is why would these Eurocrats be so daft? Are they being daft?
Personally, I hope they are. The idea that the ECB is playing favorites is less worrying than a Europe that can't handle the default of even a relatively minor player. I don't think the ECB worries that a Greek default would be catastrophic, but rather that it might be catastrophic. Its worth remembering how little the people overseeing these financial crises really know about what is going on, and exactly what the result of triggering these Credit Default Swaps would be. It's hard to figure out what the full extent of liabilities across European institutions to a Greek default are, before it happens.
In the back of their minds is the fear that there is another AIG waiting to go off. And Europe may not have the tools to quickly rescue a collapsing bank if the sovereign country lacks either the will or the resources to do so. And I'm sure that in this fear ridden environment, a European bank with exposure in the case of Greece technically defaulting could get out of its commitments by jacking up the doom in private conversations with the central bankers.
European Federal Oversight, Not Assuring
The proposals being pushed mainly by Germany that involve federal oversight of national budgets for Eurozone members does not strike me as something that should assure anyone thinking of lending money to Europe.
According to the German narrative, a list of various non-German countries that for some reason we have decided does not include France, due to moral weakness, went deeply into debt implicitly guaranteed by Germany. This was not simply because of poor leadership, but rather because of poor decisions by those leaders forced on them by the people of those countries. Democracy should die now that it found the keys to the treasury.
Actually they found the keys to the German treasury, those crafty Greeks. To remedy this, German will oversee the budgets of these creditors to make sure they exhibit proper Germanic temperance.
I'm not really interested in if this narrative makes sense, maybe something on that later. What I am worried about is whether this federal oversight will be constructive, and will it drive down the price of European debt. For several reasons, I think no. Actually, it could be quite harmful.
To start off with, I think that this oversight will amount to shallow austerity rather than deep structural reforms. German and French banks own a lot of debt that they wish they didn't and wish they could get out of. They need to get their money back. The long term, less important. What Europe in general, and the countries like Italy, Greece, and Spain in particular, needs to focus on is increasing competitiveness. For example reforming Europe's two-tier labor market. These are longer term problems, but they need to be addressed. Short term austerity, however, would be down right harmful.
Also, I don't think that Germany will help these countries' competitiveness because they are competitors. Sure, they want to see these countries do well, but not if it means attracting businesses with low taxes or low wages. You can already see this in Franco/German insistence that Ireland raise corporate income taxes. It seems that the word competitive is often preceded by the word unfair in the EU. Just imagine the moral outrage if one of these countries managed to attract a major investment from Opel.
But most importantly, taking away national sovereignty is not going to increase the nation's willingness to pay. And sovereign debt crises are about willingness not ability to pay. Already in Greece we see the social contract under stress. If you are going to ask people to sacrifice through higher taxes or lower benefits, then you need to give them some sense that they are doing it in the interests of their nation. And you need to give them some control as to how.
According to the German narrative, a list of various non-German countries that for some reason we have decided does not include France, due to moral weakness, went deeply into debt implicitly guaranteed by Germany. This was not simply because of poor leadership, but rather because of poor decisions by those leaders forced on them by the people of those countries. Democracy should die now that it found the keys to the treasury.
Actually they found the keys to the German treasury, those crafty Greeks. To remedy this, German will oversee the budgets of these creditors to make sure they exhibit proper Germanic temperance.
I'm not really interested in if this narrative makes sense, maybe something on that later. What I am worried about is whether this federal oversight will be constructive, and will it drive down the price of European debt. For several reasons, I think no. Actually, it could be quite harmful.
To start off with, I think that this oversight will amount to shallow austerity rather than deep structural reforms. German and French banks own a lot of debt that they wish they didn't and wish they could get out of. They need to get their money back. The long term, less important. What Europe in general, and the countries like Italy, Greece, and Spain in particular, needs to focus on is increasing competitiveness. For example reforming Europe's two-tier labor market. These are longer term problems, but they need to be addressed. Short term austerity, however, would be down right harmful.
Also, I don't think that Germany will help these countries' competitiveness because they are competitors. Sure, they want to see these countries do well, but not if it means attracting businesses with low taxes or low wages. You can already see this in Franco/German insistence that Ireland raise corporate income taxes. It seems that the word competitive is often preceded by the word unfair in the EU. Just imagine the moral outrage if one of these countries managed to attract a major investment from Opel.
But most importantly, taking away national sovereignty is not going to increase the nation's willingness to pay. And sovereign debt crises are about willingness not ability to pay. Already in Greece we see the social contract under stress. If you are going to ask people to sacrifice through higher taxes or lower benefits, then you need to give them some sense that they are doing it in the interests of their nation. And you need to give them some control as to how.
Tuesday, November 29, 2011
EFSF increasing risk for private creditors
In the wake of the Greek default, has the EFSF lost its ability to drive down bond yields of peripheral members?
When the Eurozone decided to impose loses on private creditors, and private creditors alone, I think it lost any ability to help its member states finance themselves. Because the more bonds the EFSF buys, the more bonds are ring fenced from write offs, and the higher the write offs for private creditors have to be in order to get sovereign debt down to a level that can actually be payed.
Whenever the IMF or the EFSF purchases bonds, it automatically decides its going to be senior to all other creditors. And everyone who already owned the debt suddenly finds themselves in a lower tranche. I don't think people want this kind of "help".
Rather than driving down bond yields, when the EFSF buys bonds of a country, its yields should go up. If Greece owed me money, and it was lent money from Germany, I would worry for the same reason I would worry if Greece was lent money by a loan-shark. If its not going to pay somebody, its the person who won't break their legs.
If the EFSF is going to buy bonds, it should buy them after a default, not before. Or, preferably, it should have accepted the same losses as it forced on private creditors. That would have assured the markets that there would be significant political pressure against defaulting. Or best of all, buy Greek debt and burn it in exchange for reforms.
When the Eurozone decided to impose loses on private creditors, and private creditors alone, I think it lost any ability to help its member states finance themselves. Because the more bonds the EFSF buys, the more bonds are ring fenced from write offs, and the higher the write offs for private creditors have to be in order to get sovereign debt down to a level that can actually be payed.
Whenever the IMF or the EFSF purchases bonds, it automatically decides its going to be senior to all other creditors. And everyone who already owned the debt suddenly finds themselves in a lower tranche. I don't think people want this kind of "help".
Rather than driving down bond yields, when the EFSF buys bonds of a country, its yields should go up. If Greece owed me money, and it was lent money from Germany, I would worry for the same reason I would worry if Greece was lent money by a loan-shark. If its not going to pay somebody, its the person who won't break their legs.
If the EFSF is going to buy bonds, it should buy them after a default, not before. Or, preferably, it should have accepted the same losses as it forced on private creditors. That would have assured the markets that there would be significant political pressure against defaulting. Or best of all, buy Greek debt and burn it in exchange for reforms.
A Lengthy Indictment of Our Century
In a fit of self indulgence, random thoughts on politics and economics. Because I am very important. As for why, I find our politicians interesting for the same reason you can't look away from a car crash. Hopefully, this will remain unread. There are already many places where people can become ill informed. Well, that's all.
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