A european perspective of the crisis

A reader of Krugman Op-Ed in the New York Times asks whether any leading economists in Europe or Asia have come up with any thoughts on current crisis? There must be someone who understands what is happening in the world besides Nouriel Roubini.
As non-leading economist, I would like to try to answer here with few observations:
Professor Roubini is quite European by background. He graduated in a leading Italian university, which happens to be the same I got my degree from. I assume that he also can have the European perspective.
I believe that this crisis is pretty much made in United States all the excesses originating there and somehow in UK. It is likely that in Europe (where UK is not in the Euro), we would be in a recession anyway, but the financial crisis is obviously compounding its charges. It is not easy to face a recession when your banking system is "broken" or not working properly. I contend that for Europe the financial crisis is a kind of external shock along the lines of previous oil shocks. And here is the point.
How and why Europe got involved in the Ponzi's scheme made in U.S.? I asked the same question here and here in some comments to LaVoce.info 's articles. It is not yet clear what is for instance the involvement of European banks in AIG. Yet two kind of failures can be identified in Europe: a) regulatory failure, as it appears that European banks were investing in derivatives products, made in U.S., also to circumvent specific regulations and capital requirements while authorities were "asleep"; b) risk management failure, to the extent that also European management was not capable to assess properly risks and efficient allocation of resources.
What we have not yet heard in Europe is any clear "mea culpa". But that one it appears difficult also in the United States...

Summary of inconvenient truths of this crisis

- Despite having highly paid economists, bankers, finance gurus, professors and managers, the system collapsed. Perhaps because of those,unaccountable.
- The tendency toward herd behaviour and the contagion of ideas make people irrational but feeling better; it is usually better to be conventionally wrong than unconventionally right.
-With regard to both the stability of employment and the distribution of income, capitalism is flawed. The real origin of the crisis is to be found in the unequal distribution of wealth and income.
-Flawed risk management and economic model cannot but follow the software principle GIGO: Garbage In Garbage Out;
- Vested interests, conflict of interests and frauds are always around. The Moral Hazard Social Club is open 24 hours a day.
- Information is spread among many individuals. Asymmetric information in the markets tends to aggregate itself inefficiently thus leading to inefficient allocation of resources.
- Cooks and recipes can help to do things right not necessarily the right thing.
- Defunct economists like Marx and Keynes are sometimes still alive.

Any debt is to be paid back

Commenting on Krugman's post about fiscal stimuli I simply argue that the difference between UK and US is that UK is in the European Union not the United States...We imported the financial crisis from United States as an external shock to the EU economies. EU citizens still wonder how and why they got involved in this financial crisis and Ponzi's scheme made in United States. In the EU there is a Stability Pact which puts some obstacles, not only legal.
A plan has not to be big to be good. If one really wants to make it big at least should make also plans to pay the debt back. This is what United States has never done it, in private and public spending. Should it start now?
Are we sure that "the UK apparently faces much tighter constraints from the bond market, which is reacting negatively to news of the likely deficit increase in a way ours isn’t? I wonder if United States will never feel or have such a constraint from the bond market. Let's see next year. At a time when all countries will run on fiscal stimuli while being in deficit and public debt, there will be some kind of competition in the bond markets for scarce resources. Spread on treasuries (for instance against german bund) will be higher for high deficits and debt countries. This is already happening in Europe between italian and german bonds. What United States will do if its treasuries are going into default or some auctions go unsubscribed (it has already happened in the EU)?
Just make a plan in case or at least tell the market how the debt is going to be paid back.

Bailouts between Keynes and Marx

Another bailout, neither necessary nor desirable. Can we please before making the case for a bailout have some disclosures and transparency in the balance sheet? Can we know what is happening to other bailouts, for instance AIG?
Under the above circumstances Keynes would call for the "euthanasia of the rentier" and "socialization of investment".
Marx simply spoke of "the liquidation of the capitalists".
Definitely such bailouts points to inherent contradictions of capital production (Marx) and collapse of marginal efficiency of capital (Keynes).

Depression and New Deal analogies? Who cares?

I had just made a comment about a not very conclusive debate on depression and New Deal analogies here (by Thyler Cowen) and here (by Mark Thoma) and today I happen to read again about it here (by Paul Krugman) and here (by Daniel Gros).

Krugman concludes his comment by saying that "Only those who learn from history can hope to avoid repeating it". How can we be sure to have learned from history if present is so much different? Who cares about those analogies? I think those comparisons, even without analogies, not only create a sense of urgency and push a political agenda, but they create also anxiety and some fulfilling prophecies. Luckily times have changed, situations are different and "past performance is not gurantee for the future".

Too many Ds: economy in more than 3D, can we watch it?

How can we watch a movie in more than 3Ds ? Too many dimensions: Debt, Deleveraging, Default and Deflation. Will we fly on "helicopter to drop money"? Shall we start to print it?

"The boom brought about by the banks' policy of extending credit must necessarily end sooner or later. Unless they are willing to let their policy completely destroy the monetary and credit system, the banks themselves must cut it short before the catastrophe occurs. The longer the period of credit expansion and the longer the banks delay in changing their policy, the worse will be the consequences of the malinvestments and of the inordinate speculation characterizing the boom; and as a result the longer will be the period of depression and the more uncertain the date of recovery and return to normal economic activity.( Ludwig von Mises, The 'Austrian' Theory of the Trade Cycle. The Ludwig von Mises Institute 1936.)

When figures are not frightening anymore

A high real cost of borrowing is not that frightening , if we consider that:

a) high real interest rates stem from fears of debt repudiation and that such fears may prove self-fulfilling;
b)market trades lower inflation in the short run for higher inflation in the long run;
c) contrary to Walras’ law, which states that the bond market always clears, that is not obviously happening at present;
d) it means less investment projects are financially viable;
e) it reveals the Keynesian collapse of the marginal efficiency of capital and the rise of liquidity preference that is only cash and not highly illiquid financial assets of some corporates...

On this subject read also here

The difference between drug and stimulus

I wonder if some economists are considering the difference between a stimulus and a drug. U.S. economy is debt addicted, and what are we suggesting here? More drug debt to the addicted economy. US macroeconomic ratios are already well over the alarm threshold. But if you are addicted to a drug (debt) after another drug shot (stimulus based on debt) you get depressed again...This is to say that there is no compelling economic logic to another stimulus or bailout in such a deliberate haste unless you want to continue with your drug problem which is debt and its leverage stimulant effect. It would make much more sense to talk about efficient reallocation of resources to much more productive investments and balance sheets restructuring. We are not in a liquidity trap but in the drug trap. Thus few "simple" recommendations while monetary and fiscal policies are both limited and inadequate: cut unproductive or low-yielding spending and run on surpluses and savings to pay back the different public and private debts.
Under the above circumstances there should be a difference between drug and stimulus and recession is when your mother says "no" to more drug or hand out money for that...(read Greg Mankiw's Blog: Defining Terms).

Pigouvian tax and Tobin Tax

Greg Mankiw's Blog: Another Member

To the extent that a Tobin Tax on speculative and derivatives financial transactions (currencies, CDS, CDO, etc.) could be considered a pegouvian tax levied to correct the negative externalities of some financial market activities and products, I would urge the world, and particularly United States, to take on the old proposal of Nobel Prize James Tobin. We cannot afford to backslide to the voracious, "polluting" ways of financial markets and innovation as it did in the 1990-2000s...

Throwing numbers

So Krugman is suggesting another $600 Billion fiscal stimulus to be added to the $700 billion bailout (Greg Mankiw's Blog: A $600 Billion Fiscal Stimulus?). These numbers are rather meaningless unless we know more details. For the bailout money it would be interesting to know how much has been committed and what is the expected return not to say that some impact assessment is desirable. For any fiscal stimulus, it would be interesting to know a kind of breakdown of expenditures and or tax cuts with related indication of expected return and impact. In both cases, bailout and fiscal stimulus need to ensure efficient allocation of resources that is better value for taxpayers and future generations' money.

More scientific method

Let's have more concrete proposals about bailouts, fiscal stimuli and finacial reforms.
What about these eleven steps for a financial reform:
Likewise for any financial stimulus and bailout we should start to discuss details and targets beforehand. It's a helpful scientific method. That's the math we need: targets, objectives, cost/benefit analysis. That is exactly what we still do not have about the bailouts and envisaged fiscal stimuli around the world.

Stability or stupidity pact?

My comment to the article "Stupid fiscal tricks" written by Paul Krugman on The New York Times

In Europe the debate on the Stability Pact being “stupid” is still open although the pact is helpful to build on our monetary union and to keep some discipline while facing the financial crisis. Yet I note that U.S. ratios are now well above those in the Stability Pact and you should be worried. What are you suggesting? Spending money, and another fiscal stimulus. May I ask you where are you taking the money from? Are you continuing to borrow from future generations and abroad? Do not you think that U.S. is simply living beyond its means so a “change” should start?Are you going to print money dollars? Let us know…

The change we need

My comment to: "The Mood Always Matters, So Restore Confidence First written by Tyler COWEN"

It's not only a matter of restoring confidence. There are too many cooks and too many recipes. Yet, "The philosophers have only interpreted the world, in various ways; the point is to change it (Karl Marx (1845), Theses on Feuerbach (Thesis XI)). This is to say that now we have to be more pragmatic and pay more attention to practical activities to change the world and way of thinking. We do not have to interpret according to ideas, but to interpret ideas according to material practice. The latter needs a radical change because we cannot continue to bail out banks and businesses (for instance automotive) while putting together fiscal stimulus based on borrowing.
Let's put priorities and make more and better cost-benefits analysis e.g.:
a) Invest in high-yielding sectors. For instance green energy while saving on defense
b) Tax speculation and financial short-termism by revamping the Tobin Tax at world level. It's a fact that financial institutions have not allocated money efficiently with due regard of risk/return ratios.
c) Take care of climate change adopting the polluter pays approach and tax accordingly;
d) Get on board with Europe on all the above to bring more peace and stability around the world.
On these subjects read also here

U.S. President Elect to listen to Europe's people as well

My comment to Greg Mankiw's Blog: Memo to the POTUS-elect

I believe it's time to listen to international economists as well. It's time to be at least bipartisan with Europe and to have a multilateral approach. It's true, "economic isolationism is not in the national interest". On the other hand U.S. is borrowing money from abroad...On environment and renewable energy if U.S. starts to deliver on what President Elect promised there is an opportunity to change world and international relations. Embracing some European ideas could make the difference. Investing in alternative energy instead of defense and wars could bring peace in some areas and higher returns in all respects for U.S. investments, domestically and internationally. President Elect will have to listen less to lobbies and businesses and more to peoples, particularly Europeans.

On this subject read also here