Tag Archives: debt

Greek Debt Dilemma

We heard that Greece’s new finance minister, Yanis Varoufakis, is an expert on game theory, and we thought it would be fun to analyze the Greek debt crisis from that perspective. Patrick Young says the EU is in a lose-lose predicament, and that certainly sounds like applied game theory.

On one horn of the dilemma (a Greek invention) the EU may accede to Varoufakis’ demands for restructuring. Some of these demands are quite extreme, like growth linked bonds, perpetuities, a bridge loan, and more haircuts. If the EU blinks or, more accurately, if the troika blinks – then the other bailout countries will want the same concessions. Also, as Patrick Young says, it would be unfair to countries like Ireland, which took the medicine.

Germans at all walks of life are sick and tired of seeing their own municipal facilities closed down … bailing out the Greek economy to the tune of €700 per family. That’s a transfer payment the Germans didn’t sign up for.

Morally, this is where Jeremiah stands. Estonia lived through an internal devaluation and emerged stronger for it. Someday, some Greek government will have to make reforms – to cronyism, tax evasion, and unsustainable social spending. Germany seems to be the only fiscally responsible country over there – and they’re pilloried for it. Jeremiah’s moralizing is not the topic, however. We’re talking about game theory.

On the other horn, if the troika plays hardball – halting the ECB collateral waiver, suspending the next tranche of bailout cash – then Greece will be “forced” to exit the Eurozone, and maybe the Union. We put “forced” in quotes because, at this move in the game, Varoufakis would not accept the troika’s terms. Greece would exit, and play the victim. Of course, as Thomas Schelling will tell you, the key is to make sure the troika knows you’re not bluffing.

This is where the IMF comes in. Exiting the euro has always been the right answer for Greece (see this comparison with Argentina). They’re in primary balance, and they could easily implement the three D’s – drachma, default, and devaluation. There would be some pain, but Greece has already endured some seven years of pain. If they had exited right away, they’d be back in the bond market by now. However, like Argentina, they would need help from that lender of last resort, the IMF.

The government quickly collapsed and was replaced by one that devalued the currency and defaulted on the country’s debts … growth resumed a few months later

The IMF is blocking the exit, by cooperating with the EU and ECB. This is because a successful exit, like a successful renegotiation, would also set an undesirable precedent. Spain would be next, the Eurozone would dissolve, and the IMF would have to fund more emergencies than it can handle. It would be the capital equivalent of a refugee crisis. If Greece were to exit, the troika would prefer them to crash and burn, pour encourager les autres.

So, when Varoufakis threatens to borrow from China or Russia, this is not as petulant as it sounds. Whether a practical matter or a bluff, he needs a source of funding other than the IMF – and the IMF has done a lousy job of including emerging economies. Small wonder that China is willing to lend contrary to Western preferences. We wonder, by the way, if the IMF will be so hardnosed when the time comes for France.

So, while there is no guessing how Chancellor Merkel will play the troika’s hand, the likeliest outcome seems to be a continuing fudge while the EU grinds steadily toward mutualization.  They should arrive at that goal just in time for the whole Union to go bankrupt together. Pyrrhus, another Greek.


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An economy cannot experience both inflation and deflation, and yet that is exactly what seems to be happening. The Fed’s exertions have produced some consumer price inflation – though not enough for diehard Keynesians – and quite a bit of asset price inflation, and yet the economy “feels” deflationary. This would not be the first paradoxical price phenomenon. Inflation had been associated only with rapid growth – until stagflation was discovered in the 1970s.

One possibility is that prices are behaving differently in different segments of the market. Wolf Richter writes here about a bifurcated real estate market, with mortgages off but cash deals booming. We have mentioned Tiffany’s before, and this interview with John Mauldin touches on the market for fine art.

We need to characterize the economy’s condition, but we should not get hung up on price based definitions. For example, David Stockman describes the Great Moderation as an inflationary period, due to loose monetary policy, offset by cheap Asian imports. Frances Coppola says it would have been deflationary – except for the credit bubble. It all depends on your perspective.

Consider what deflation looks like, without reference to prices. Sellers struggle because demand is weak. They cut back on supplies, and they lay off staff. People are out of work. They don’t have much to spend, and debts become unsustainable. Sound familiar? This is the vicious cycle which characterized that earlier depression – and the current one. Wages and prices ratchet downward, but this is only a symptom.

Another way to look at price is not the value of goods, but the relative scarcity of money. The people unable to buy a house, get a mortgage, or put food on the table, are living in a deflationary world – they’re broke. The Fed doesn’t help by driving prices up all around them.

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Reinhart Revisited

220px-Carmen_M._Reinhart_-_World_Economic_Forum_Annual_Meeting_2011Really, Huffington Post?  Ridiculing an advance copy of a research paper because it has the wrong date?  Grow up!  This is the latest in a string of juvenile attacks on Carmen Reinhart and her sometime collaborator, Ken Rogoff.

The left has an unreasoning contempt for Reinhart and Rogoff, because of this study linking high national debt to weak GDP growth.  That’s called “pro-austerity research.”  In the world of Huff Po, economists do research to support political beliefs.

Giving equal time to the right – they hate this latest paper, because the authors recommend a course of financial repression.  If Huff Po’s Mr. Gongloff had actually read it, he would have found much cheery “anti-austerity” news.   Prof. Reinhart has written on financial repression before, without Rogoff.

As usual, the best approach is to ignore the media, read the paper yourself, and draw your own conclusions.  The New York Times has decent coverage of reactions to the paper.

Assuming taxes ultimately need to be raised to achieve debt sustainability, the distortionary impact is likely to lower potential output. Of course, governments can also tighten by reducing spending, which can also be contractionary.

By the way, the earlier hated paper has not been “debunked.”  Yes, it had some errors, but they were not material.  What you saw in the popular press was politically biased.  The authors never claimed that correlation was causation – although it wouldn’t be surprising.  Does anybody really believe you can run national debt at 90% of GDP and not pay any kind of price for it?

Jeremiah has read a lot of Ms. Reinhart’s research, and she is very thorough.  Check out her page on the NBER website.  Most economists, we suspect, would prefer to discuss their research in peer reviewed journals without the glare of political attention.

No one gets fired from Harvard for saying that dinosaurs had feathers, or that Pluto is not a planet.  What the biased press fears from economics is research that challenges a political position.  Rational people will use new research to evaluate their opinions, not vice-versa.

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I Really Need It, Man

The administration says Congress must raise the debt limit or risk default on our debts.  America is not a deadbeat nation, says President Obama.  This is a little confusing.  Ordinarily, default comes from too much debt, not debt limits.  If you call 1-800-DEADBEAT, the first thing they will recommend is a debt limit.


How is it that we must raise the debt limit in order to pay our debts?  It’s because we are not in primary budget balance.  That is, we must borrow continually to pay our basic expenses – including interest on the national debt.  Secretary Lew needs to borrow fresh money just to pay old debts.  It’s a little like that game Jeremiah plays with his credit cards.

Sooner or later, we will need an adult discussion about our spending problem.  The debt ceiling is an artificial limit, imposed by Congress.  The real debt limit is when our international creditors (China) stop lending to us.  We’ll call that an “intervention.”

See also:  Bonds and Discipline

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Letter from Clara

Last week, we cited the famous Letter from Clara to President Hollande of France.  Below, we have obtained an English translation, so you can enjoy the letter in its entirety.  This appeared in Le Point magazine earlier this month.  If your French is up to it, you might also enjoy reading the comments.

Monsieur le Président de la République,

First, let me introduce myself: Clara G., 20, sophomore in History at Sorbonne University.  I am writing to explain why I would like to make my life elsewhere than in France – like the majority of young French people, if you believe the results of a survey done by Via Voice in April.  To the question, “if you could, would you like to leave France to live in another country?” 50% of those aged 18-24 and 51% of those 25-34 said yes, versus 22% of those over 65.

You see, times have changed.  My grandparents of 1968 wanted a revolution; I want expatriation. My grandparents, who have a nice retirement cottage in the country, dreamt of transforming French society.  I think only of escape.

This may shock you, but my reasons are financial.  Not like Jerome Cahuzac, I assure you, but simply because I don’t feel like working my whole life just to pay the interest on 1.9 billion Euros of debt that your generation has kindly left us as our inheritance.  If you had invested a little of this money in improving the country, so that I might have some chance of enjoying the benefits, then I would not mind paying it back.  But it has only permitted your generation to live above your means, enjoying generous social benefits that won’t be there for me.  It gave you a life I would call “cushy,” but I guess that word offends you.

My work and my taxes must go not only to pay for your retirement, which you did not bother to plan, but also for the health and welfare of additional old people who, in less than twenty years, will make up the majority in our country.  So, how much money will be left for me to raise my children?  I recently read a study by the economist Patrick Artus, which gave me chill, “given the weak growth potential and the aging population, young French people can look forward to continued stagnation of their purchasing power throughout their working lives.” I am not overjoyed by this prospect.

But the most depressing part is, I know exactly what will become of my life, if I stay in France.  Once my studies are over and I have my lovely, useless diploma, I will spend years in the ranks of internships and temp jobs.  I will become, as the experts say, a “variable expense” in the sort of work deliberately organized to exclude young people and protect the salaries of those already in place.  With my tiny, precarious job and bad pay, it will be impossible for me to convince any banker to give me a loan for an apartment in Paris.  And if ever, by some improbable miracle, I manage to make a lot of money, I know in advance that I will not only have to give up most of it in taxes, but I will also endure the general reproach of my compatriots and your personal contempt.

This is why, Mr. President, I wish to leave France.  This is also why your charming Minister of the Interior, Manuel Valls, should be less concerned about the dangers of immigration, and more about the emigration of the youth of the country.  Where will I go?  To Germany perhaps, of which you often speak ill, but which strikes me as a country with self confidence.  Or maybe farther, to Canada, Australia.  Or maybe to a developing country.  In Africa, why not ?

Thus – as indicated by the Via Voice survey – I am like all young French people.  I do not see globalization as a threat, but as an opportunity. But it is surely not in a France which does everything for its own protection, where your ministers and socialist comrades spend your time saying it is absolute evil, that I will be able to profit from it. So, yes, I am ready to go live in a country where there is growth, where salaries are rising, where to be rich is not considered a mortal sin, a country above all where there is a sense both individual and collective that things will be better tomorrow than today.

You may say that I am lacking a basic sense of national solidarity, that I am frightfully materialistic and self centered.  There is some truth in that.  But my selfishness is nothing compared to the egotism shown by you and your predecessors, who have sacrificed our generation by wasting public money instead of taking the difficult decisions.

All the same, Mr. Hollande, I say that you will indeed “shake things up,” that you will give some hope to a youth that cannot do without it.  I see today that, despite your grand fiery speeches about youth, in one year France has aged ten.  She withers, freezes, and stiffens at full speed.  What a pity! 

That’s what I have to say to you, Mister President, the unhappy citizen who wants to be an expatriate.

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Buy Bonds, Or Else

Cyprus is now a verb, meaning – to confiscate your bank account.  Jeremiah and Jeroen Dijsselbloem were quick to realize that Cyprus is the new template for bank resolution.  The Financial Times writes that bank depositors now have basically the same risk position as senior unsecured bondholders.  This means small depositors, too, not just those above the insurance limit.

Logically, then, you need to look at the rate of return on those deposits.  You might as well pull your cash out of “savings,” and literally buy the bonds.  Banks in America are not likely to be Cyprused, but – thanks to financial repression – the real rate of return on your savings account is negative.

See also: There Will Be Haircuts

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Happy, Productive Workers

Here is an upbeat article from Bloomberg about vocational education, echoing what Jeremiah has recommended apropos our trillion dollar student loan “crisis.”

America for too long has attempted a cookie-cutter approach to secondary education: stay in school, go to college

Bloomberg also refers to new research from the Gates Foundation.  It makes a number of sensible recommendations, particularly for “Pell A” adult education – like paying for summer classes.

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