"Authorities... misread the real cause of the crisis": former Greek finance minister

Yannos Papantoniou on the Eurozone crisis.

The Cyprus bailout deal is a watershed in the unfolding eurozone crisis, because responsibility for resolving banks’ problems has been shifted from taxpayers to private investors and depositors. But imposing major losses on Cypriot banks’ depositors violates the deposit-insurance guarantee that forms part of the proposed European banking union, while the imposition of capital controls further erodes the monetary union’s foundations. So, is Europe chasing its tail?

Germany and the other countries of the eurozone core are signalling that debt mutualisation within the monetary union is out of the question, and that bailouts of countries or financial institutions will be balanced by “bail-ins” of their creditors. Increased uncertainty concerning the safety of deposits will push up interest rates and deepen Europe’s recession, and may also trigger capital outflows from the eurozone’s weaker peripheral economies to the core.
 

The implications of this shift may be far-reaching. The German model for resolving the debt crisis and returning to internal or external balance relies on fiscal consolidation and structural reforms for the deficit countries. But, if all countries simultaneously attempt to improve their fiscal or external balances by cutting spending and raising taxes, all will fail, because each country’s austerity implies less demand for other countries’ output, in turn perpetuating both domestic and external imbalances. “Bailing in” creditors will exacerbate these trends.

Moreover, a deep and prolonged recession implies vanishing support for reforms, as governments fail to convince citizens that current sacrifice will ensure a better future. Privatization, market liberalization, the opening of closed professions, and government downsizing involve conflicts with powerful vested interests, such as businesses in protected industries, public-sector unions, or influential lobbies. Resolving such conflicts requires social alliances, which are invariably undermined by discontent, civil disorder, and political instability.

The recent Italian election has shown how toxic the association of austerity policies with the pursuit of reform has become. Anti-austerity anger swept away the reform agenda of Mario Monti’s previous technocratic government, leaving Italy, its future uncertain, to continue muddling through. The same scenario seems to be emerging in Greece, where the depth of the austerity-induced recession, with output down by 25 per cent over five years and unemployment at 27 per cent, is paralyzing a reform-minded center-right government.

The gaps in the strategy are clear. First, the eurozone authorities misread the real causes of the debt crisis, which stemmed mainly from a growing competitiveness gap between the core and periphery countries. The resulting private-sector imbalances culminated in banking problems that were eventually transferred to sovereigns. Greece’s fiscal profligacy was the exception rather than the rule.

Indeed, in contrast to the United States, eurozone authorities were slow to consolidate the banking system after the global financial crisis erupted in 2008, and failed to sever the ties between sovereigns’ and banks’ balance sheets. Nor did they push strongly for structural reforms. Instead, they emphasized harsh austerity, which was to be pursued everywhere.

Second, the effects of austerity were exacerbated by the choice to pursue nominal, rather than structural, fiscal-deficit targets. Countries with a stronger fiscal position (that is, smaller structural deficits) should be encouraged to adopt more expansionary policies in order to contribute to lifting overall demand. Moreover, the European Investment Bank’s lending capacity could be increased substantially, and European Union structural funds mobilized, to finance investment projects in the peripheral economies.

Third, the European Central Bank’s announcement last August of its “outright monetary transactions” program – through which it guarantees eurozone members’ sovereign debt, subject to policy conditionality – has contributed significantly to subduing financial turbulence in the eurozone. But the OMT scheme has not been reinforced by a reduction in key interest rates, which would boost inflation in core countries with external surpluses and thus help to close the competitiveness gap with the periphery. Crucially, monetary-policy measures do not address the underlying problem of lack of demand.

Last, but not least, the eurozone authorities misread the confidence factor. In theory, simultaneous fiscal consolidation and supply-side reform facilitates economic recovery, because it increases confidence among consumers and investors, thereby inducing higher spending and production. But this does not necessarily work in an imperfectly functioning monetary union, such as the eurozone, where the continual appearance of systemic flaws erodes confidence; in such circumstances, the result may be hoarding and capital outflows, rather than increased spending.

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Erdogan’s purge was too big and too organised to be a mere reaction to the failed coup

There is a specific word for the melancholy of Istanbul. The city is suffering a mighty bout of something like hüzün at the moment. 

Even at the worst of times Istanbul is a beautiful city, and the Bosphorus is a remarkable stretch of sea. Turks get very irritated if you call it a river. They are right. The Bosphorus has a life and energy that a river could never equal. Spend five minutes watching the Bosphorus and you can understand why Orhan Pamuk, Turkey’s Nobel laureate for literature, became fixated by it as he grew up, tracking the movements of the ocean-going vessels, the warships and the freighters as they steamed between Asia and Europe.

I went to an Ottoman palace on the Asian side of the Bosphorus, waiting to interview the former prime minister Ahmet Davu­toglu. He was pushed out of office two months ago by President Recep Tayyip Erdogan when he appeared to be too wedded to the clauses in the Turkish constitution which say that the prime minister is the head of government and the president is a ceremonial head of state. Erdogan was happy with that when he was prime minister. But now he’s president, he wants to change the constitution. If Erdogan can win the vote in parliament he will, in effect, be rubber-stamping the reality he has created since he became president. In the days since the attempted coup, no one has had any doubt about who is the power in the land.

 

City of melancholy

The view from the Ottoman palace was magnificent. Beneath a luscious, pine-shaded garden an oil tanker plied its way towards the Black Sea. Small ferries dodged across the sea lanes. It was not, I hasten to add, Davutoglu’s private residence. It had just been borrowed, for the backdrop. But it reminded a Turkish friend of something she had heard once from the AKP, Erdogan’s ruling party: that they would not rest until they were living in the apartments with balconies and gardens overlooking the Bosphorus that had always been the preserve of the secular elite they wanted to replace.

Pamuk also writes about hüzün, the melancholy that afflicts the citizens of Istanbul. It comes, he says, from the city’s history and its decline, the foghorns on the Bosphorus, from tumbledown walls that have been ruins since the fall of the Byzantine empire, unemployed men in tea houses, covered women waiting for buses that never come, pelting rain and dark evenings: the city’s whole fabric and all the lives within it. “My starting point,” Pamuk wrote, “was the emotion that a child might feel while looking through a steamy window.”

Istanbul is suffering a mighty bout of something like hüzün at the moment. In Pamuk’s work the citizens of Istanbul take a perverse pride in hüzün. No one in Istanbul, or elsewhere in Turkey, can draw comfort from what is happening now. Erdogan’s opponents wonder what kind of future they can have in his Turkey. I think I sensed it, too, in the triumphalist crowds of Erdogan supporters that have been gathering day after day since the coup was defeated.

 

Down with the generals

Erdogan’s opponents are not downcast because the coup failed; a big reason why it did was that it had no public support. Turks know way too much about the authoritarian ways of military rule to want it back. The melancholy is because Erdogan is using the coup to entrench himself even more deeply in power. The purge looks too far-reaching, too organised and too big to have been a quick reaction to the attempt on his power. Instead it seems to be a plan that was waiting to be used.

Turkey is a deeply unhappy country. It is hard to imagine now, but when the Arab uprisings happened in 2011 it seemed to be a model for the Middle East. It had elections and an economy that worked and grew. When I asked Davutoglu around that time whether there would be a new Ottoman sphere of influence for the 21st century, he smiled modestly, denied any such ambition and went on to explain that the 2011 uprisings were the true succession to the Ottoman empire. A century of European, and then American, domination was ending. It had been a false start in Middle Eastern history. Now it was back on track. The people of the region were deciding their futures, and perhaps Turkey would have a role, almost like a big brother.

Turkey’s position – straddling east and west, facing Europe and Asia – is the key to its history and its future. It could be, should be, a rock of stability in a desperately un­stable part of the world. But it isn’t, and that is a problem for all of us.

 

Contagion of war

The coup did not come out of a clear sky. Turkey was in deep crisis before the attempt was made. Part of the problem has come from Erdogan’s divisive policies. He has led the AKP to successive election victories since it first won in 2002. But the policies of his governments have not been inclusive. As long as his supporters are happy, the president seems unconcerned about the resentment and opposition he is generating on the other side of politics.

Perhaps that was inevitable. His mission, as a political Islamist, was to change the country, to end the power of secular elites, including the army, which had been dominant since Mustafa Kemal Atatürk created modern Turkey after the collapse of the Ottoman empire. And there is also the influence of chaos and war in the Middle East. Turkey has borders with Iraq and Syria, and is deeply involved in their wars. The borders do not stop the contagion of violence. Hundreds of people have died in the past year in bomb attacks in Turkish cities, some carried out by the jihadists of so-called Islamic State, and some sent by Kurdish separatists working under the PKK.

It is a horrible mix. Erdogan might be able to deal with it better if he had used the attempted coup to try to unite Turkey. All the parliamentary parties condemned it. But instead, he has turned the power of the state against his opponents. More rough times lie ahead.

Jeremy Bowen is the BBC’s Middle East editor. He tweets @bowenbbc

This article first appeared in the 28 July 2016 issue of the New Statesman, Summer Double Issue