Currency wars, extra-national stimulus and Krugmania!: 5 best unusual solutions to the eurozone crisis

Five unusual solutions to the eurozone crisis, just in case you're bored of the ones that might actually happen.

1. The US and UK should engage in a currency war with the EU.

The problem the eurozone has is that European Central Bank president Mario Draghi is fashioning himself as the man with a carrot and stick. He knows that monetary policy can't solve all of the area's problems, and that national governments need to step up and do something to help the situation. Sadly, the policy he wants is more fiscal integration, which most countries are terrified of.

If European governments fall in line, then Draghi would be likely to implement the monetary easing which could really help the continent. Unfortunately, given the integration he demands is not forthcoming (because Germany is terrified of taking on Spain's debt and Spain is terrified of being a vassal state to Germany), it doesn't seem like the ECB is going to make any positive moves in the short term, instead choosing to futilely dangle the carrot a bit longer.

So what is to be done? Well, a worldwide crisis needs a worldwide solution. The Federal Reserve or the Bank of England could unilaterally start buying up euros. Matt Yglesias writes:

If the ECB just sat back and relaxed, that would make Europe's problems even worse. But the most likely scenario would be massive retaliation by the ECB and much-needed transatlantic monetary stimulus.

Of course, it's true that this solution counts on the ECB reacting in a non-insane manner, which has only occasionally been a good betting strategy.

2. If you like stimulus so much, why don't you live there?

If the rest of the world wants a solution which removes agency from the hands of the ECB and Mario Draghi entirely, then ex-Federal  reserve official Joseph Gagnon's suggestion, submitted to the Washington Post's WonkBlog, may work:

There are two other individuals who have the same power as Draghi to end the euro crisis: Ben Bernanke and Zhou Xiaochuan. The Fed could do the next QE3 entirely in Spanish and Italian bonds and it would not require a vote in Congress or Presidential approval. It would push the euro up against the dollar, but Europeans would not be in a position to complain. The People’s Bank of China is estimated to hold nearly 1 trillion euros already and it could switch them from German bonds to Spanish bonds.

In other words, rather than telling the Europeans to do some monetary stimulus, or attempting to force their hands with a currency war, the US or China could simply pump money into the European periphery. Normally, of course, if you're going to stimulate somewhere, you would rather it was your own country; but if you can stop a worldwide slump following the collapse of a massive currency bloc, that's a pretty good use of your time as well.

3. Krugmania!

A recent ING analysis (pdf) runs through six possible scenarios for the eurozone, including "Draghia" (where everyone gives in to Draghi, makes a banking union, and he does fiscal stimulus), "Inflationia" (sort of the Eurozone voluntarily doing what is described in point one) and "Bondia" (Europe introduces "eurobonds", all the countries pooling their costs of borrowing).

But if we're looking at unlikely solutions, then their sixth scenario, "Krugmania", fits the bill. It calls for lots of fiscal stimulus, mainly used for public investment, and the ECB not raising interest rates every time inflation peaks. If matched with a commitment to reducing deficits over the long term only, ING see this plan adding 3 per cent to GDP and 2 per cent to employment throughout the eurozone over the next two years.

4. Greece defaults but doesn't exit

John Cochrane, a professor at the University of Chicago, is annoyed that Greece defaulting on its debt is always spoken of in conjunction with a Grexit:

The two steps are completely separate. If Illinois defaults on its bonds, it does not have to leave the dollar zone -- and it would be an obvious disaster for it to do so.

It is precisely the doublespeak confusion of sovereign default with breaking up a currency union which is causing a lot of the run.

But the main reason why default is spoken of is that doing so allows Grexit, which allows devaluation and a recovery in exports. Cochrane suggests that it be viewed another way:

They need to say they will tolerate sovereign default, bank failures, and drastic cuts in government payments rather than breakup.

Yes, cuts. The question for Greece is not whether it will cut payments. Stimulus is off the table, unless the Germans feel like paying for it, which they don't. The question for Greece is whether, having promised 10 euros, it will pay 10 devalued drachmas or 5 actual euros. The supposed benefit of euro exit and swift devaluation is the belief that people will be fooled that the 10 Drachmas are not a "cut" like the 5 euros would be. Good luck with that.

In other words, rather than defaulting in order to exit, default in order to avoid the exit. In this scenario, Greece is a sort of sacrificial lamb; they're damned if they do, or damned if they don't, but the rest of the eurozone is only damned one way. If they take the cuts and stay in the currency, maybe Spain and Portugal can be saved, at least.

5. Pan-european austerity

Actually, maybe not. Yeah, probably wouldn't work. No, not even for Estonia, despite what the President says. Especially given the "there's no money left" argument doesn't really work when people are paying Germany to take their euros.

Pictured: A Currency War. Maybe. Photograph: Getty Images

Alex Hern is a technology reporter for the Guardian. He was formerly staff writer at the New Statesman. You should follow Alex on Twitter.

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We're racing towards another private debt crisis - so why did no one see it coming?

The Office for Budget Responsibility failed to foresee the rise in household debt. 

This is a call for a public inquiry on the current situation regarding private debt.

For almost a decade now, since 2007, we have been living a lie. And that lie is preparing to wreak havoc on our economy. If we do not create some kind of impartial forum to discuss what is actually happening, the results might well prove disastrous. 

The lie I am referring to is the idea that the financial crisis of 2008, and subsequent “Great Recession,” were caused by profligate government spending and subsequent public debt. The exact opposite is in fact the case. The crash happened because of dangerously high levels of private debt (a mortgage crisis specifically). And - this is the part we are not supposed to talk about—there is an inverse relation between public and private debt levels.

If the public sector reduces its debt, overall private sector debt goes up. That's what happened in the years leading up to 2008. Now austerity is making it happening again. And if we don't do something about it, the results will, inevitably, be another catastrophe.

The winners and losers of debt

These graphs show the relationship between public and private debt. They are both forecasts from the Office for Budget Responsibility, produced in 2015 and 2017. 

This is what the OBR was projecting what would happen around now back in 2015:

This year the OBR completely changed its forecast. This is how it now projects things are likely to turn out:

First, notice how both diagrams are symmetrical. What happens on top (that part of the economy that is in surplus) precisely mirrors what happens in the bottom (that part of the economy that is in deficit). This is called an “accounting identity.”

As in any ledger sheet, credits and debits have to match. The easiest way to understand this is to imagine there are just two actors, government, and the private sector. If the government borrows £100, and spends it, then the government has a debt of £100. But by spending, it has injected £100 more pounds into the private economy. In other words, -£100 for the government, +£100 for everyone else in the diagram. 

Similarly, if the government taxes someone for £100 , then the government is £100 richer but there’s £100 subtracted from the private economy (+£100 for government, -£100 for everybody else on the diagram).

So what implications does this kind of bookkeeping have for the overall economy? It means that if the government goes into surplus, then everyone else has to go into debt.

We tend to think of money as if it is a bunch of poker chips already lying around, but that’s not how it really works. Money has to be created. And money is created when banks make loans. Either the government borrows money and injects it into the economy, or private citizens borrow money from banks. Those banks don’t take the money from people’s savings or anywhere else, they just make it up. Anyone can write an IOU. But only banks are allowed to issue IOUs that the government will accept in payment for taxes. (In other words, there actually is a magic money tree. But only banks are allowed to use it.)

There are other factors. The UK has a huge trade deficit (blue), and that means the government (yellow) also has to run a deficit (print money, or more accurately, get banks to do it) to inject into the economy to pay for all those Chinese trainers, American iPads, and German cars. The total amount of money can also fluctuate. But the real point here is, the less the government is in debt, the more everyone else must be. Austerity measures will necessarily lead to rising levels of private debt. And this is exactly what has happened.

Now, if this seems to have very little to do with the way politicians talk about such matters, there's a simple reason: most politicians don’t actually know any of this. A recent survey showed 90 per cent of MPs don't even understand where money comes from (they think it's issued by the Royal Mint). In reality, debt is money. If no one owed anyone anything at all there would be no money and the economy would grind to a halt.

But of course debt has to be owed to someone. These charts show who owes what to whom.

The crisis in private debt

Bearing all this in mind, let's look at those diagrams again - keeping our eye particularly on the dark blue that represents household debt. In the first, 2015 version, the OBR duly noted that there was a substantial build-up of household debt in the years leading up to the crash of 2008. This is significant because it was the first time in British history that total household debts were higher than total household savings, and therefore the household sector itself was in deficit territory. (Corporations, at the same time, were raking in enormous profits.) But it also predicted this wouldn't happen again.

True, the OBR observed, austerity and the reduction of government deficits meant private debt levels would have to go up. However, the OBR economists insisted this wouldn't be a problem because the burden would fall not on households but on corporations. Business-friendly Tory policies would, they insisted, inspire a boom in corporate expansion, which would mean frenzied corporate borrowing (that huge red bulge below the line in the first diagram, which was supposed to eventually replace government deficits entirely). Ordinary households would have little or nothing to worry about.

This was total fantasy. No such frenzied boom took place.

In the second diagram, two years later, the OBR is forced to acknowledge this. Corporations are just raking in the profits and sitting on them. The household sector, on the other hand, is a rolling catastrophe. Austerity has meant falling wages, less government spending on social services (or anything else), and higher de facto taxes. This puts the squeeze on household budgets and people are forced to borrow. As a result, not only are households in overall deficit for the second time in British history, the situation is actually worse than it was in the years leading up to 2008.

And remember: it was a mortgage crisis that set off the 2008 crash, which almost destroyed the world economy and plunged millions into penury. Not a crisis in public debt. A crisis in private debt.

An inquiry

In 2015, around the time the original OBR predictions came out, I wrote an essay in the Guardian predicting that austerity and budget-balancing would create a disastrous crisis in private debt. Now it's so clearly, unmistakably, happening that even the OBR cannot deny it.

I believe the time has come for there be a public investigation - a formal public inquiry, in fact - into how this could be allowed to happen. After the 2008 crash, at least the economists in Treasury and the Bank of England could plausibly claim they hadn't completely understood the relation between private debt and financial instability. Now they simply have no excuse.

What on earth is an institution called the “Office for Budget Responsibility” credulously imagining corporate borrowing binges in order to suggest the government will balance the budget to no ill effects? How responsible is that? Even the second chart is extremely odd. Up to 2017, the top and bottom of the diagram are exact mirrors of one another, as they ought to be. However, in the projected future after 2017, the section below the line is much smaller than the section above, apparently seriously understating the amount both of future government, and future private, debt. In other words, the numbers don't add up.

The OBR told the New Statesman ​that it was not aware of any errors in its 2015 forecast for corporate sector net lending, and that the forecast was based on the available data. It said the forecast for business investment has been revised down because of the uncertainty created by Brexit. 

Still, if the “Office of Budget Responsibility” was true to its name, it should be sounding off the alarm bells right about now. So far all we've got is one mention of private debt and a mild warning about the rise of personal debt from the Bank of England, which did not however connect the problem to austerity, and one fairly strong statement from a maverick columnist in the Daily Mail. Otherwise, silence. 

The only plausible explanation is that institutions like the Treasury, OBR, and to a degree as well the Bank of England can't, by definition, warn against the dangers of austerity, however alarming the situation, because they have been set up the way they have in order to justify austerity. It's important to emphasise that most professional economists have never supported Conservative policies in this regard. The policy was adopted because it was convenient to politicians; institutions were set up in order to support it; economists were hired in order to come up with arguments for austerity, rather than to judge whether it would be a good idea. At present, this situation has led us to the brink of disaster.

The last time there was a financial crash, the Queen famously asked: why was no one able to foresee this? We now have the tools. Perhaps the most important task for a public inquiry will be to finally ask: what is the real purpose of the institutions that are supposed to foresee such matters, to what degree have they been politicised, and what would it take to turn them back into institutions that can at least inform us if we're staring into the lights of an oncoming train?