The latest sickening bout of stock market turbulence underlines the point I made on this blog last December; the next stage of the global economic crisis is centered in Greece.
That’s an unpleasant reality for our European friends who have spent much of the last decade chattering about American decline and the coming crisis of the dollar.
As usual during the last 100 years of inexorable European decline, they missed the main event: Europe once again has blundered its way into a major crisis.
A pair of them, actually. Internally, the Greek problem is showing signs of mutating into a full scale crisis of the European project. Externally, the decisive shift of Ukraine into Russia’s orbit reveals the bankruptcy of European foreign policy and the inability of the 27 member European Union to formulate, much less carry out, a comprehensive foreign policy on matters affecting its vital interests.
The Greek meltdown is on the surface just another financial crisis: yet another delusional country pursuing the path of least resistance has made promises it can’t keep to public and private sector workers. Now the bill must be paid and the IMF called in to reorganize the national finances.
If that were all, it would not be so bad, but something much bigger and more troubling is involved.
The internal problem stems from the fact that the euro, widely hailed as Europe’s greatest initiative, is starting to look like a strategic mistake. Europe’s countries and cultures may be too different to live under the same set of economic policies. While none of the European countries wants American-style capitalism, some are much better than others at managing their economic affairs in an orderly fashion. Germany and the Scandinavian countries plus the Netherlands in particular seem to have a gift for good economic management. Spain, Portugal, Italy and Greece don’t manage things as well, by and large. (France stands uneasily in the middle; more competent than its southern neighbors, but less effective than the Germans.)
Historically, the Latin countries and Greece have used currency depreciation to ease the strain when poor economic decision making has caused debt to rise too quickly. As has often been the case in Latin America, inflating bad debts away has been a traditional resort of political elites.
In Germany, inflation is associated with the two great catastrophes of the twentieth century. The runaway Weimar inflation brought the consequences of Germany’s devastating World War One defeat to every home in the country; after World War Two the German currency similarly became worthless. Whole generations lost their savings and inflation for Germans even today remains associated with the worst kind of irresponsibility and disaster.
The euro was a glorious fudge. The Latin countries plus Greece could enjoy the benefits of German discipline and virtue while carrying on with traditionally unsustainable public and private sector policies. In the old, pre-euro days, the southern economies had to pay high interest rates on their debt; wary investors knew that inflation and devaluation were likely and so demanded interest rates that would compensate them for the risk. The lira, the drachma: everyone knew they would lose value over time against the Deutsche mark and even the dollar, and interest rates reflected this understanding. But as the southern countries moved into the euro, calculations changed. For the last twenty years, countries like Greece and Italy were able to borrow money at essentially the same rate that Germany could.
Typically, they decided to spend rather than save this windfall. Greece in particular decided that since the costs of servicing its debt were so low, it made sense to run up more debt. Lousy leaders gave greedy civil servants fat raises; promises were cheap and the government scattered them far and wide. In Italy as well, once the national debt was less painful to carry, there was less pressure to reduce the national debt.
Low interest rates led to economic booms as both private and public sector borrowers rushed to take advantage of this once in a lifetime change. Home mortgage rates fell dramatically; construction boomed, unemployment fell and wages rose. It was party time in the Mediterranean.
Central banks exist precisely to puncture this sort of bubble, but the European Central Bank wasn’t focused on the peripheral European economies. The ECB was looking at the big eurozone economies, especially Germany, which was still struggling with the consequences of unification and where austerity programs and labor market reform programs were aimed at putting the economy on a sounder footing long term. The big economies needed low interest rates and the ECB did its best to provide them.
The result was like pouring gasoline onto a fire in the Mediterranean countries (and in some northern economies like Ireland and euro-linked Latvia).
Now the inevitable bust has come. More and more investors understand that at least some of the ‘PIGS’ (Portugal, Italy, Greece, Spain) may not be willing or able to service or pay off their existing debt. They understand that spreads, the difference between what credit worthy countries like Germany pay to borrow money and what countries with bad credit need to pay, need to widen considerably within the eurozone. Interest rates for the ‘bad’ countries are going up at the same time that their governments are having to slash public spending. These countries may well go into recession once more, and bad economic times will reduce their governments’ tax receipts, making debt payment harder than ever.
This is a political crisis for Europe rather than a financial crisis because the only way out for the PIGS involves a large bailout from the northern countries led by Germany and France. Germans especially don’t want to pay. It has been clear for some time that the Greeks cheated and lied their way into the eurozone, and for years they have pursued selfish and foolish economic policies. Why, Germans ask with some force and logic, should German taxpayers who cannot retire until their late sixties pay the bill so that Greeks can retire at 55?
The answer from increasingly rattled European elites is that unless the Germans step up to pay Greece’s bills, and quickly, the panic will spread. First Portugal (where the crisis is already beginning) and then and much larger economies like Spain and ultimately perhaps even Italy may need help. At that point the survivability of the euro would come into question.
For European elites that would be a nightmare and represent the ultimate failure of the dream of an ‘ever closer union’ enshrined in the EU’s founding documents. Politically, countries like Greece (where the hard left is still a significant factor) might start looking more like Venezuela or turn in Russia’s direction. Bitter squabbling between a newly impoverished south and a self-righteous, angry north would consume European politics and undermine the EU’s ability to get anything done.
I remain hopeful that the worst can and will be averted, but the fact that serious people are looking at these scenarios is a sign of how much trouble the Europeans are in.
Meanwhile, Ukraine took some giant steps away from Brussels towards Moscow this week. An agreement between the new Ukrainian president and the Russians extends Russia’s lease on its Crimean naval bases for another 25 years in exchange for a 30 percent cut in natural gas prices. Because NATO does not allow members to host non-NATO bases on their soil, this means that Ukraine is essentially blocked from joining NATO past 2040. Perhaps more significantly the closer economic relationship with Russia makes Ukraine’s membership in the EU less likely as well. That will be good news for French and German nationalists who worried that expansion was diluting their voting strength in the EU, but it is also a decisive defeat for the EU’s ability to influence the behavior of its neighbors. For many years now, the EU has been counting on its ‘power of attraction’ to make its neighborhood a safer and more democratic place. With Ukraine now slithering the other way and Turkey also moving toward the east, the EU seems to be losing that power just when it is most needed.
It is tempting and superficially agreeable for Americans to gloat about Europe’s troubles. After all, every time something goes wrong in American domestic or economic policy, European elites and journalists are quick to gloat and find fault. After listening to two years of stern and self righteous lectures about the ‘failure’ of the American capitalist model, many Americans who deal with the Europeans are quietly enjoying the spectacle of the smug Europeans writhing in helpless indecision and pain over the continent’s self-inflicted wounds.
But bad news for the EU is bad news for us too. Irritating as a strong EU can be, a weak and divided Europe is much worse. A peaceful, prosperous and geopolitically boring continent that exports tedious platitudes about global governance is a far better place than any other Europe we have seen in modern times and American national interests are in no way enhanced by economic and political instability in the Mediterranean — to say nothing of Ukraine and Turkey.
Europe’s problems end up in the American in-box. The Napoleonic Wars convulsed American politics through the War of 1812. From World War One through the Yugoslav wars of the 1990’s, no great European crisis left us untouched.
It’s too soon to say where this latest euro-crisis is heading, but serious economic or political disturbances in Europe will soon affect us over here — and not in a good way.