Reporting From The Edge Of Catastrophe

There’s lot’s of economic stuff this morning worth sharing. First, the view that austerity is bad for us is starting to make it beyond the pages of obscure blogs and Krugman’s column. Here’s one from a historian in Bloomberg News:

…“common sense” tells us that growth requires private investment. After all, everybody knows that an unequal distribution of income is a requirement of comfortable existence for the masses.

As British author John Lanchester explained, when the “jet engine of capitalism was harnessed to the oxcart of social justice” after World War II, the lives of ordinary people got better, and the “most admirable societies that the world has ever seen” were born. Everybody knows that “the prosperity of the few is to the ultimate benefit of the many.” To which I say, baloney.

Growth has happened precisely because net private investment has been declining since 1919 and because consumer expenditures have, meanwhile, been increasing. In theory, the Great Depression was a financial meltdown first caused, and then cured, by central bankers. In fact, the underlying cause of this disaster wasn’t a short-term credit contraction engineered by bankers. The underlying cause of the Great Depression was a fundamental shift of income shares away from wages and consumption to corporate profits, which produced a tidal wave of surplus capital that couldn’t be profitably invested in goods production — and wasn’t invested in goods production.

In terms of classical, neoclassical, and supply side theory, this shift should have produced more investment and more jobs, but it didn’t. Paying attention to historical evidence allows us to debunk the myth of private investment and explain why the redistribution of income has become the condition of renewed, balanced growth. Doing so lets us see that public-sector incentives to private investment — say, tax cuts on capital gains or corporate profits — are not only unnecessary to drive economic growth; they also create tidal waves of surplus capital with no place to go except speculative bubbles that cause crises on the scale of the Great Depression and the recent catastrophe.

This too from Robert Skidelsky:

Politicians are masters at “passing the buck.” Everything good that happens reflects their exceptional talents and efforts; everything bad is caused by someone or something else.

The economy is a classic field for this strategy. Three years after the global economy’s near-collapse, the feeble recovery has already petered out in most developed countries, whose economic inertia will drag down the rest. Pundits decry a “double-dip” recession, but in some countries the first dip never ended: Greek GDP has been dipping for three years.

When we ask politicians to explain these deplorable results, they reply in unison: “It’s not our fault.” Recovery, goes the refrain, has been “derailed” by the eurozone crisis. But this is to turn the matter on its head. The eurozone crisis did not derail recovery; it is the result of a lack of recovery. It is the natural, predictable, and (by many) predicted result of the main European countries’ deliberate policy of repressing aggregate demand.

That policy was destined to produce a financial crisis, because it was bound to leave governments and banks with depleted assets and larger debts. Despite austerity, the forecast of this year’s UK structural deficit has increased from 6.5% to 8% – requiring an extra £22 billion ($34.6 billion) in cuts a year. Prime Minister David Cameron and Chancellor George Osborne blame the eurozone crisis; in fact, their own economic illiteracy is to blame.

Unfortunately for all of us, the explanation bears repeating nowadays. Depressions, recessions, contractions – call them what you will – occur because the private-sector spends less than it did previously. This means that its income falls, because spending by one firm or household is income for another.

In this situation, government deficits rise naturally, as tax revenues decline and spending on unemployment insurance and other benefits rises. These “automatic stabilizers” plug part of the private-sector spending gap.

But if the government starts reducing its own deficit before private-sector spending recovers, the net result will be a further decline in total spending, and hence in total income, causing the government’s deficit to widen, rather than narrow. True, if governments stop spending altogether, deficits will eventually fall to zero. People will starve to death in the interim, but the budget will be balanced.

This view has been pretty much frozen out of the debate up until now and the politicians either didn’t understand it or were too chicken to confront it. But the result is horrible and now that the Eurozone is falling apart (at least partially due to this banrupt worldview), it’s looking more likely that it’s about to become a catastrophy.

Here’s Dean Baker today

The European Central Bank (ECB) has been working hard to convince the world that it is not competent to act as a central bank. One of the main responsibilities of a central bank is to act as the lender of last resort in a crisis. The ECB is insisting that it will not fill this role. It is arguing instead that it would sooner see the eurozone collapse than risk inflation exceeding its 2.0 per cent target.

It would be bad enough if the ECB’s incompetence just put Europe’s economy at risk. After all, there are tens of millions of people who stand to see their lives ruined because the bureaucrats at the ECB don’t understand introductory economics. But the consequences of a euro meltdown go well beyond the eurozone.

At the very least, the chaos following the collapse of the euro will mean a second dip to the US recession. The loss of the European export market, and the likely surge in the dollar that will result from a worldwide flight to safety, would be enough to turn a weak positive growth number into a negative.

However, it is also likely that the financial panic following the collapse of the euro will lead to the same sort of financial freeze-up that we saw following the collapse of Lehman Brothers. In this case, we won’t be seeing unemployment just edge up by a percentage point or two, we will be seeing unemployment possibly rising into a 14-15 per cent range. This would be a really serious disaster.

That’s quite a prediction. His solution is sufficiently outside the mainstream that it’s doubtful it will be considered although you might be surprised to read what it is. (Particularly in light of this.) Do read on. It’s fascinating … and scary.

We are likely on the verge of a Very Big Deal with what’s happening in Euroland. The political system is locked up, mostly because of a case of political malpractice on the part of those who should have learned from their own legacy and nihilism on the part of those who seem to want to bring on the rapture. So we wait and watch and hope for the best.

At least some sane voices are rising above the din. The question is if it’s too late.