So… the European Central Bank is buying Spanish and Italian government bonds this week. Whilst that appears to have given short term relief to the bond markets, to me this is simply prolonging the inevitable agony that is bound to result eventually from continuing to extend further credit to nations that are already, quite clearly, broke.
The ECB has made it clear it is intervening in this way with extreme reluctance – it was never designed to be a lender of last resort to individual governments within the EU and it does not have any political mandate to take on such a role. But apparently it can’t bear facing the bloodbath that would have ensued in the short term had it refused.
The European Union was set up with very clear rules stating that the debt-to-GDP ratio of member states should not exceed 60% and the deficit in general government finances should not exceed 3% in any year, with the additional requirement that general government finances should be close to balance or in surplus in the medium term. Yet Eurostat figures for 2010 report that the Irish budget deficit was a whopping 32.4% of GDP, the Greek budget deficit ratio was 10.5%, and Spain’s was 9.2%. On the other measure of fiscal prudence and stability, the Greek debt to GDP ratio was 142.8% whilst Italy recorded 119.0%, although Spain came in only just above the allowed limit at 60.1%.
So why have the central bankers capitulated and allowed these ratios to grow dramatically above the prescribed limits? In many cases, the real explosion in deficits came after the financial crisis, and was permitted based on the Keynesian view of public spending working in a counter-cyclical fashion.
The trouble is that the expanding deficits have not proved to be short term, and have not obeyed the Keynesian model of bringing forth the growth in output and tax revenues that would be necessary to bring them back into line with the Treaty rules.
Sorting out this mess of excess debt is going to require action on a scale that politicians are reluctant to admit to their voters, and that the voters themselves find totally unpalatable, as they have got used to spending more than they earn, and having social services funded by government debt, combined with increasingly long retirements, frequently funded by a dwindling pool of working age taxpayers.
As Gavin Hewitt, Europe Editor at the BBC wrote on 8 August, ‘It is certainly true that Europe’s leaders have failed to tell their electorates the scale of the change that will be required. The public sector will have to be slashed. Spending on a whole range of desirable projects will be cut.’
In June this year the Greek government was forced to pass an austerity package in order to get the last instalment of its 110 million euro bail out from the EU and the IMF. Without this, the country would have been forced into default. But despite the severity of the situation, polls showed that 80% of the Greek population opposed the austerity measures, and there were significant riots in Athens with violent clashes.
Similar scenes have emerged from the UK in the last few days, with looters rampaging through the streets of London and other major cities, led by youths who feel disenfranchised and hopeless as unemployment in the 18-25 year old range has soared above 20%. In this case, if asked, they would probably say they want the financial system to collapse – as they see governments, businesses and banks as being ‘against them’, without having any clear concept on the social and political structure they would want to put in place if the current capitalist system were to meltdown!
Philosophically, one of the theoretical advantages of the Communist system was that those in charge could force medicine upon the populace for its own good – although it never really seemed to work that way in practice. Similarly, there have been very few benevolent dictatorships, despite their theoretical appeal since the days of Plato.
In 2007 we saw the consequences in the Western nations of lending people more than they could service in interest payments, let alone repay, with disastrous defaults, and the whole Western banking system pushed to the verge of collapse. It seems that we are heading inexorably towards another debt crisis, but this time driven by certain European governments, in collusion with the ECB. So who will the voters blame this time – and at what cost to democracy and the market economy?