A primer on the European mess from Tyler Cowen

by Russ Roberts on December 5, 2011

in Podcast

The latest EconTalk is Tyler Cowen talking about the European crisis–how it happened and what might happen next.

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Greg G December 5, 2011 at 3:15 pm

Excellent interview. One of the very first points Professor Cowen makes is that the common currency cannot work without a common fiscal policy and a common electorate.

Many here at the cafe would like to see a radically shrunken and weakened federal government with some of those functions and powers going away and some going to the states. To what extent do people here think that might bring with it the risk of some of the economic problems and fragmentation that we see in Europe?

Single Acts of Tyranny December 5, 2011 at 3:31 pm

An often overloooked point is that Californians or Texans, or people from the Dakotas all feel American more or less.

We Brits on the other hand don’t feel European, we stlll nationally identify. Thus if the Frogs or the Krauts are playing sports we are indifferent, and if the Greeks are after our hard-earned, we are hostile.

Methinks1776 December 5, 2011 at 3:34 pm

The Europeans don’t feel “European” either. They feel Greek, Spanish, French, etc.

GAAPrulesIFRSdrools December 5, 2011 at 4:43 pm

We Brits on the other hand don’t feel European, we stlll nationally identify. Thus if the Frogs or the Krauts are playing sports we are indifferent, and if the Greeks are after our hard-earned, we are hostile.

I suspect that many “across the pond” view other Europeans as foreign and completely different, and for there to be the type homogeneity necessary to make a transnational currency work, it will have to be imposed by some form of governance that will inevitable erode sovereignty and require extraordinary power -that is more transnational autocracy. In an age when currencies can be translated and exchanged with the swipe of a finger, it seems multinational currencies are late political solutions to a problem already vanquished by technology.

I hope Tyler is wrong about giving it another go. I hope the Europeans learn there’s more to commonality than a mere accident of geography and discard the idea of the Euro as an idea at war with reality.

El Diablo December 5, 2011 at 10:17 pm

Ttyler is likely to be wrong. And, the Euro will disappear as another failed attempt of the elite to impose their will on the various peoples of Europe.

El Diablo December 5, 2011 at 10:14 pm

Exactly!

Methinks1776 December 5, 2011 at 3:40 pm

Economic problems and “fragmentation” in Europe do not exist because there isn’t a single, iron-fisted central authority.

How can you reach your age, still understand virtually nothing and make comments this stupid?

Greg G December 5, 2011 at 4:15 pm

It was Professor Cowen’s observation, not mine, that a monetary union, a fiscal union and a common electorate should go together. If you move too much fiscal and electoral power to the states you may wind up violating that principle. Maybe all 50 states won’t buy your ideas about the market taking care of monetary policy. Seems possible considering the success you have had so far in selling your ideas.

El Diablo December 5, 2011 at 10:22 pm

Tyler makes a valid point. But, you take his observation regarding Europe and try to manipulate it to support your silly big-government agenda forthe US. The US is a nation-state. The EU is not.

So how can you reach your age, still understand virtually nothing, and make comments this stupid?

Methinks1776 December 5, 2011 at 11:36 pm

Oh, Silly! All Greggy is trying to say is that if you throttle the central government to the level it was in, say, 1986, the dollar would fall apart just like the Euro and we’d all have to keep bailing out Rhode Island to fool everyone into thinking we can bailout California and New York. Without a strong central government regulating every breath you take, every s**t you make, we will collapse in the the chaos that is Greece. Don’t you know that a single currency is the key to prosperity, El Diablo?

Tyler said the monetary union was a bad idea because there isn’t fiscal union and a common electorate in the Eurozone (and the European parliament is filled to the gills with the most worthless human garbage you can find in Europe with the exception, perhaps, of Nigel Farage .). He never said that fiscal union and common electorate were good ideas on their own. And what make us think that a currency monopoly is the best idea for our own fiscally unified common electorate?

Greg G December 6, 2011 at 7:02 am

Methinks

Loved the Nigel Farage link. Thank you for that. His main complaint was that unelected technocrats without “democratic legitimacy” had participated in the “assassination of the nation state.”

I never thought you would be converted to the defense of democracy so easily.

I am also encouraged by your suggestion that you might only want to throttle back government to the 1986 level. I more often see 1860 or the early 1900′s cited as targets for the recommended level of throttling. It is good to know you can still surprise me.

Jon Murphy December 5, 2011 at 3:53 pm

Remember, Greg, this fiscal policy is increasing/decreasing government spending and taxation.

Monetary policy is increasing/decreasing the money supply and interest rates.

As long as a government exists, there will be fiscal policy.

What we’ve been arguing on this blog is liberalizing monetary policy (letting the market choose interest rates), not fiscal policy.

Sam Grove December 5, 2011 at 4:16 pm

Many here at the cafe would like to see a radically shrunken and weakened federal government with some of those functions and powers going away and some going to the states. To what extent do people here think that might bring with it the risk of some of the economic problems and fragmentation that we see in Europe?

Redistribution policies in Europe are the cause of the economic woes there.

Civilization needs several factors in order to persist and grow:

Production must exceed consumption.
Social Harmony

In order for production to exceed consumption, producers must be able to profit from their risks and endeavors.

An extensive, expensive bureaucracy and arbitrary redistribution of wealth erodes profits thus resulting in punishment for productive behavior and rewarding indolence. The end result is obvious.

GAAPrulesIFRSdrools December 5, 2011 at 4:49 pm

“Many here at the cafe would like to see a radically shrunken and weakened federal government with some of those functions and powers going away and some going to the states.”

No, we’d like to see a federal government that operates within the boundaries of its authority and competency, rather than be bloated and invasive.

Now what’s the argument for the centralization of power again? Oh that’s right, there’s an army of unemployed angels seeking office, bored with Heaven and posessing the normal near omnicience and imperturbable virtue normally attributed to them.

Jon Murphy December 5, 2011 at 4:56 pm

“there’s an army of unemployed angels seeking office, bored with Heaven and posessing the normal near omnicience and imperturbable virtue normally attributed to them.”

I believe those are called ‘demons’ or ‘the fallen ones.’

http://en.wikipedia.org/wiki/Fallen_angel

El Diablo December 5, 2011 at 10:24 pm

No. They are corruptible politicians.

El Diablo December 5, 2011 at 10:23 pm

Exactly right!

Greg G December 6, 2011 at 7:05 am

Straw man genocide here. They are vanquished.

vikingvista December 5, 2011 at 7:54 pm

If they had currency alternatives, they would probably have more options. Instead of abolishing their national currencies for the Euro, they should have run them in parallel, but independently.

Monopoly seems so simple, neat, and efficient. It isn’t. It is inefficient and destabilizing, when imposed.

I’ll bet there are a few Germans who wish the Mark was still circulating.

GAAPrulesIFRSdrools December 5, 2011 at 11:54 pm

should have run them in parallel, but independently.

Can’t be done, See Gresham’s Law.

vikingvista December 6, 2011 at 1:02 am

“Can’t be done, See Gresham’s Law.”

Can be done. See the 19th century.

You don’t understand Gresham’s Law. Gresham’s law is a result of price fixing.

It is no more impossible to have multiple kinds of circulating currencies than it is to have multiple kinds of circulating shoes. Just don’t have a government dictate all shoe prices to be the same, or some shoes will definitely get hoarded.

El Diablo December 5, 2011 at 10:13 pm

“One of the very first points Professor Cowen makes is that the common currency cannot work without a common fiscal policy and a common electorate.”

The European Union is not a nation-state that developed around a single people with a language, culture, and history in common. The European Union, rather, is an artificial union of independent nation-states of peoples with different languages, cultures, and histories that, if anything, often fought savagely against one another. Thus, there is not, nor will there be, a common fiscal policy or common electorate for the European Union.

“Many here at the cafe would like to see a radically shrunken and weakened federal government with some of those functions and powers going away and some going to the states. To what extent do people here think that might bring with it the risk of some of the economic problems and fragmentation that we see in Europe?”

There is no chance that a limited, smaller federal government will result in either economic problems or fragmentation as in Europe. The European economic problems were caused by centralized nation states taxing and spending too much and incurring national debt in excess of GDP and well as using their banks to further their governments’ fiscal and foreign policies. The fragmentation in Europe occurs because it is an artificial union of different nation-states of different peoples (Germans, French, English, etc) whereas the US is one people (Americans).

SmoledMan December 5, 2011 at 3:26 pm

What the EU needs to do is double down on Krugman-ism and spend 300% more.

vikingvista December 5, 2011 at 8:00 pm

What the EU needs to do is get out of the money manufacturing business.

El Diablo December 5, 2011 at 10:25 pm

And, out of the vote buying business by promising gifts to citizens paid for with borrowed money. The US needs to stop similar silliness.

Jon Murphy December 5, 2011 at 3:51 pm

Man, Cowen’s something of a downer, isn’t he? :-P

Methinks1776 December 5, 2011 at 5:33 pm

dismal science.

mcwop December 5, 2011 at 4:45 pm

Print baby, print!

Thomas Boyle December 5, 2011 at 5:08 pm

All over the world, people issue bonds denominated in US dollars. It is a “common currency”.

Explain to me again why a common currency “cannot work without a common fiscal policy and a common electorate”?

Businesses routinely use a common currency, while not at all maintaining a common fiscal policy or shareholder base. It’s not that hard at all.

vikingvista December 5, 2011 at 8:14 pm

Ultimately it comes down to the desire to monetize government debt. One central bank inflationary policy does not match all deficit spending regimes.

I don’t agree with this idea that the fix is even greater centralization of government power. Next thing Cowen will be advocating the abolition of US state-level governments, because it “can’t work”.

Thomas Boyle December 6, 2011 at 10:37 am

I’m fine with governments, like the rest of us, being unable to monetize debts and having to properly and honestly default on them. That would be progress!

vikingvista December 7, 2011 at 12:17 am

Even government should not be too big to fail.

Thomas Boyle December 7, 2011 at 7:50 am

Democracies need a mechanism to prevent the phenomenon of the people voting themselves goodies until the country is broke. The 3-branch government doesn’t do this. If the bond market took seriously the possibility of government defaults, it could provide a price signal – and real consequences – that would help governments find the spine to push back against the voter greed. This would be a very positive development, and one I can only barely hope may emerge from the European crisis.

tw December 5, 2011 at 6:36 pm

Wondering how exactly the breakup of the Euro currency would work if indeed that did happen. Individual countries would surely reissue their own currencies, but how would those initial conversions work? Nobody would want to convert to the PIGS currencies (or any other viewed as troubled), so the “good” countries would see their currencies devalued as everybody converted into those currencies, right? There’s no way this is a short-term “solution”…easy to see why the “good” countries’ credit ratings are taking a hit, too.

Methinks1776 December 5, 2011 at 7:12 pm

I think (my guess) is that if you hold Italian bonds denominated in Euros, for example, you will be repaid in Lira and how many Liras (what the face value of the bond will be) will depend on what else is going on and how they rework those contracts. There are many ways this can be handled.

…so the “good” countries would see their currencies devalued as everybody converted into those currencies, right?

You got that backwards. The relatively higher demand for the currencies of sound countries that you describe will drive up the price of those currencies relative to the currencies of less sound countries.

jjoxman December 5, 2011 at 8:34 pm

Yup. Standard ‘flight to quality’ except that now the differentials show up in exchange values, not just yields on bonds.

Sam Grove December 5, 2011 at 8:38 pm

you will be repaid in Lira

KFOG radio once did a parody of “Who Wants to be a Millionaire” with all the tnesion building, etc., except it was “Who Wants to be an Italian Millionaire”.

Methinks1776 December 5, 2011 at 7:37 pm

The last thing Tyler said was a little perplexing. He wants tougher limits on financial leverage in the private sector (why only in the private sector?) . He also wants private investors to have more skin in the game. Wouldn’t more skin in the game by private sector players act as a natural limit on financial leverage? Wouldn’t that also help to determine, on a case by case basis – rather than by government top down, on size nobody formulas – the level of debt any private sector actor should have?

jjoxman December 5, 2011 at 8:09 pm

You are correct… at least your view coincides with mine.

If the lender of last resort operated more like a clearing house, and lent based on the quality of the borrower’s assets, I guarantee leverage (capital) would be lower (higher).

T. Cowen’s last point was either too deep for me, or it was somewhat contradictory. Why impose leverage limits and then say “but we’ll bail you out?” That seems more complicated and more easily gamed by rent-seeking firms than saying “Have whatever leverage investors will allow, but if you ever extend, you’re fucked.”

Russ Roberts December 5, 2011 at 9:49 pm

Yes. That’s called capitalism. Unfortunately, as you know, we don’t have capitalism in the capital sector of all places. The natural limit on leverage has been destroyed by the expectation of creditor rescue.

Methinks1776 December 5, 2011 at 10:53 pm

In general, I agree with you about the the destruction on the natural limit on leverage, but that’s not true across the entire economy for every business – not even across the entire capital sector. Why would anyone think that more central planning get us to the correct level of leverage on anything? What makes anyone think that firms, staffed as they are with people who are smarter, outnumber and and are several steps ahead of regulators, will not come up with creative ways to hide leverage?

It is now leaking out that MF Global was using creative accounting tricks (which may have been perfectly legal) to fool creditors into thinking the company’s leverage was much lower than it actually was by making the securities they were holding (Italian bonds, in this case) appear to be sold.

But since we’re talking limits, how about some limits on government debt and the skin of the politicians in that game?

Methinks1776 December 5, 2011 at 11:06 pm

And let’s note (as you did before) that MFG’s creditors did not get bailed out. Neither did Refco’s. Neither do creditors of any broker dealer, actually. In fact, the government already sets leverage limits in this part of the market too, but creditors’ leverage limits are much lower than government’s and creditors pay the price when they’re wrong, which sort of tells me the market works pretty well there. This can’t be the only part of the economy in which leverage limits are appropriately maintained by the market. Why would we want government central planners mucking that up?

Chucklehead December 6, 2011 at 9:40 pm

It seems that Prof. Cowen wants to maintain failed and unsustainable institutions. As you have said, if something is unsustainable, why try to sustain it? My solution is to let institutions fail. Nationalize them as the savings and loans with a resolution trust, bail out depositors, say 100% for under 250K and 90% over, so businesses do not fail as well.
He fears that credit will dry up, but as long as there is liquidity, new credit institutions that we have not yet imagined will emerge.
He seems too invested in Wall Street as it exists now.
I know he did not care for “Currency Wars, The Making of the Next Global Crisis,” on his blog. I was wondering to know what you thought?

LowcountryJoe December 6, 2011 at 12:12 am

Dr. Roberts, you really should drop the ‘toxic asset’ terminology. Toxic implies that one does not want to be near it. Yet an asset is an asset and can be converted into something of value. I could understand a ‘toxic liability’ but a ‘toxic asset’ is about as close as one can get to just falling short of an oxymoron.

vikingvista December 6, 2011 at 1:06 am

Good point. A toxic asset, is seems, is merely an asset with a market prices less than the owner wants it to be.

vance armor December 6, 2011 at 1:24 am

I don’t call it the European Union anymore. I call it the Fourth Reich.

vance armor December 6, 2011 at 2:19 am

What is so sad about European politics today is that it matters very little whether a “conservative” government or a “socialist” government comes to power. The policy changes are increasingly negligible each time there is a change in government in a European state. The value of a vote cast at the ballot box in these countries matters less and less with each passing year. Democracy has effectively died in these countries, especially in Greece and Italy. The bancocrats have taken over. The Bilderburgers and Trilaterialists and Goldman Sachs and the loose cabal of Population Planners that meet in Davos and at the annual Bilderburg conferences make policy. Mario Monti and his cabinet are not even elected officials. This isn’t conspiracy theory — this is observation. This is whistleblowing. Greece and Italy are beholden to the loan sharks holding the public debts.

Who is Mario Monti? Who really installed him as prime minister of Italy?

What the bancocrats will not permit is a cancellation of public debt by any one of the European states.

When Nietzsche declared “God is dead,” he made merely a European political declaration and nothing more. He was really saying, “Europe is dead.” Europe has since had no living politics. There is no meaning to its politics in the soteriological, cosmological or anthropological realms — pace Voegelin — and thus Europe has been since condemned to live either at war with itself or controlled by outside forces. The fascist project was an angry reaction to this nihilism in Europe. The communist project was a horrible simulacrum of the Christendom that once was. The European Union project is a cynical attempt by Hitler’s grandchildren to impose unity from the top down on a continent that cannot achieve meaningful unity where common values have been destroyed by the pursuit of common ends imposed politically by those who were more disappointed than elated by the events of 1945 and 1989.

Sam Grove December 6, 2011 at 1:54 pm

What is so sad about European politics today is that it matters very little whether a “conservative” government or a “socialist” government comes to power. The policy changes are increasingly negligible each time there is a change in government in a European state. The value of a vote cast at the ballot box in these countries matters less and less with each passing year.

That’s why I have at time referred to socialism as totalitarian economics.

vance armor December 7, 2011 at 8:53 pm

An appropriate description, Sam.

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