Now that the mega banks have been bailed out, there is growing pressure in the US and the EU to cut back on state deficits. In the US, which is now under the constraints of of it highest burden private debt burden in recorded economic debt burden (i.e., level of debt related to size of GDP), a reduction in government spending runs a clear risk of a debt deflation — where the economy shrinks because consumers and businesses cut back of spending to reduce their debts. In theory, if the government retrenched and triggered a debt deflation, the US government could reverse course and return to a policy of fiscal stimulus, in part because it has a sovereign economy with its own currency.
The situation is very different in the EU, were the burdens of private debt are lower but burdens of public debt are higher. Moreover, as my friend Marshall Auerback argues below, the economic situation is fundamentally different for each nation in the European Union, because the common currency, together with the accompanying centralized bureaucracy, which is necessary to manage that currency, constrains the ability of individual state governments, like that of Spain, to respond to their own peculiar conditions.
I find Auerback’s analysis to be deeply troubling, because it makes sense. I have viewed the EU from the other end of the telescope since 2005, and my greatest impression has been one of its economic benefits — I have seen at the local level in rich and poor countries alike how a rising tide was lifting all boats. To be sure there were inefficiencies and waste, like excessive and shoddy construction in Spain and unfinished projects in Greece, and chaos in Italy, but all in all, what has impressed me the most was level of positive atmosphere in all the EU countries I have visited and lived in. When the EU is growing, the system of open borders; free movement of labour and capital, and a common currency works like oil in an economic engine; rich countries, like the Netherlands, can transfer funds to poorer countries, like Greece. Smaller economies can run big deficits without worrying about the value of their currency.
But, if Auerback is right, when overall growth slows or reverses, the EU engine gets sand in its gears, and as its internal friction increases, it slows down even more. Moreover, the EU’s complex centrally controlled nature naturally makes the engine less adaptable to changing conditions. If he is right, this could spell real trouble.
Deficit Terrorism Could Kill the Euro
Roosevelt Institute Braintruster Marshall Auerback is a market analyst and commentator.
New Deal 2.0, January 21, 2010
Phi Beta Iota: The world and its populations are trapped right between an Industrial Era “too big to fail” set of governments and corporations and central banks, and a fragmenting complexity and speed of decomposition local landscape that begs for adaptive localized decision-making. We are in an interruggum between the collapse of the old systems of governance and the emergence of new bottom-up networks that would include Open Money and dismiss the fraudulent scarcity and hoarding characteristic of traditional money.