Greece Will Default, Again

Ashoka Mody, a visiting professor of International Economic Policy at the Woodrow Wilson School of Public and International Affairs, Princeton University, has very clearly summarized the continued predicament of the Greek economy in a recent Project Syndicate post, here.

Excerpt:

… “the very premise of the current deal and the expectations it sets out are wrong. First, the notion that there is a smooth transition path for the debt/GDP ratio from 200% (current) to 124% (in 2020) is fanciful. Second, even if, by some miracle, Greece did reach the 124% mark by 2020, the claim that its debt will be “sustainable” is absurd.”

For the moment the German government is willing to continue to finance Athens, as Nouriel Roubini notes, because as long as Spain and Italy remain vulnerable, a Greek blowup and/or euro exit could spark contagion of interest risk premiums and defaults in the Eurozone south before the German election of September 2013, jeopardizing Ms. Merkel chances of winning another term.

But assuming that the Greek unsustainable mid-term financial pseudo equilibrium can survive until next fall, despite a forecast of – 6% of real GDP growth this year and – 4% in 2013 (according to the IMF which has been repeatedly over optimistic in its past projections), the end of next year will be a time of reckoning.

The question is: wouldn’t an exit of Germany (and possibly of some other northern countries) from the euro be more advantageous for all the European economies than an exit of a heavily indebted southern country whose debt in euros would be magnified (in its own currency, thus relatively to its tax receipts and GDP) by the inevitable large depreciation of this newly recreated national currency, leading to a severe bankruptcy that could also jeopardize its creditors and start a contagious process in the South?

As I claimed in several past posts, Germany is the key.

Downsizing America?

Washington Post’s reporter Steven Mufson suggest, tongue in cheek, to sell Alaska in order to solve the U.S. debt problem.

“Selling real estate at top dollar is all about timing, and now’s a great time to unload the 49th state. The federal government, which owns 69 percent of Alaska, could cash in on the vast, resource-rich state at a time when oil prices are high and wild salmon is flying off the shelves at Whole Foods. Selling Alaska could fetch at least $2.5 trillion and maybe twice that amount, enough to lop off a huge chunk of the national debt and perhaps as much money as President Obama and House Speaker John Boehner hope to save or raise over the next decade.”

Among potential buyers one would find the Russian Federation, China, OPEC nations (“it would boost the cartel’s share of the world oil market and enhance the group’s pricing power”) and even Donald Trump, or the Alaskan citizens themselves, in an “employee buyout” or “citizens’ buyout”.

The idea is not so absurd as it would seem. After all:

“Selling off the national furniture isn’t unusual or far-fetched in other parts of the world. When governments spend beyond their means, the International Monetary Fund usually rolls up and offers aid, often with a condition: Sell state-owned assets. Sometimes that means the state-owned airline or phone company. After the fall of communism, Eastern European countries sold off state-owned enterprises.”

And:

“In 1803, France was in a position that should sound vaguely familiar. France, the superpower of continental Europe, had suffered a severe setback in Haiti, where fighting had exacted a steep cost in lives and treasure. Napoleon wanted to bring the troops back home to confront England. So rather than maintaining all of his far-flung empire, he decided to sell the Louisiana Territory — including part or all of 14 modern-day U.S. states — to us for $15 million.”

The problem is, however, that it wouldn’t solve the U.S. budget problem for long, given that the deficits from 2013 through 2017 would add $3.44 trillion to the national debt.

“We’d be bumping our heads against the ceiling again in six years — assuming, plausibly, that Democrats and Republicans can’t agree on a budget deal and fiscal deadlock continues.”

 My comment:

Instead of shrinking the U.S. state on the extensive (geographical) margin, maybe it would be better advised to shrink it first on the intensive (Expenses/GDP) margin.

But in assets management terms, selling Alaska could be a good move. According to David Barker, an economist at the University of Iowa, who wrote a 2009 paper on “Was the Alaska Purchase a Good Deal?”:

“The purchase of Alaska from Russia for $7.2 million, ridiculed in 1867 as “Seward’s Folly,” is now viewed as a shrewd business deal. A purely financial analysis of the transaction, however, shows that the price was greater than the net present value of cash flow from Alaska to the federal government from 1867 to 2007. Possible non-financial benefits of the Alaska purchase are also examined.”

One lesson of this “economic science fiction” debate is that considering the state as a firm and trying to maximize its value is now on many minds, as states’ problems are intensifying.

Read Mufson’s column here.

Perma-slump Eurozone

 Ambrose Evans-Pritchard does it again, signing a most remarkable article in the Telegraph. “Europe clings to scorched-earth ideology as depression deepens” explains how, “like the generals of the First World War, Europe’s leaders seem determined to send wave after wave of their youth into the barbed wire of tight money, bank deleveraging, and fiscal austerity à l’outrance”.

Excerpts:

“The Eurozone has crashed into double-dip recessions.  …

The North has been engulfed at last in the contractionary holocaust it imposed on the South. …

The labour share of total income has fallen to a 60-year low, eating away at demand. This is a formula for perma-slump. …

Debt dynamics are deteriorating at a frightening pace across half Europe. …

Europe’s curse is that Germany has a massively undervalued exchange rate within EMU, and therefore has different needs, and yet controls the policy levers for everybody. …

A wiser Germany would see that it cannot force the brunt of adjustment on the South without causing a contractionary bias to everybody.  …

The Latin alliance could force an end to German-imposed contraction policies at any time …  but that would require an entirely new leadership in France, willing to sacrifice the illusion of Franco-German condominium and the foreign policy catechism of the last half century.  …

Italy faces a slow lingering death. Citigroup says the economy will contract by 1.2 pc in 2013, and again by 1.5 pc in 2014, with near zero growth thereafter, endin in debt restructuring anyway. France will stagnate until 2016.

If this is what lies in store, there is no further reason to hold EMU together. It should be dismantled in an orderly way after Christmas before it does any more damage.”

There is much more to read and ponder in the article. Evans-Pritchard provides examples and data that illustrate his main points.

The whole article is a must read here.

Breakup and Optimal Size of Countries

Gary Becker and Richard Posner develop stimulating analyses here.

Becker notes that:

“Political interest groups tend to be less able in smaller countries in distorting political decision in their favor. This is partly because smaller countries are more homogeneous, so it is harder for one group to exploit another group since the groups are similar. In addition, since smaller nations have less monopoly power in world markets, it is less efficient for them to subsidize domestic companies in order to give these companies an advantage over imports. The greater profits to domestic companies from these subsidies come at the expense of much larger declines in consumer well being.”

But there is another, more important, economic reason for that. In small countries the ratio of lobbying expenses to the market access that regulations control is much higher than in very large countries. In Europe, for instance, as centralized regulations replace national ones, the cost of lobbying the regulatory authorities is divided by 27 (the number of countries in the European Union). With such a fall in the lobbying costs, the volume of lobbying at Brussels can explode. Interest groups that previously could not be created and run efficiently and lobby (because of the cost implied; see Olson) now can enter the lobbying market profitably. Rent seeking increases accordingly as I explain in my recent book "Euro Exit".