Posted by: CS | May 13, 2012

JOHN MAULDIN: Germany Has Waved The White Flag And Will Allow Printing And Inflation

A common mistake that people make when trying to design something completely foolproof is to underestimate the ingenuity of complete fools. Douglas Adams, The Hitchhiker’s Guide to the Galaxy

For quite some time in this letter I have been making the case that for the eurozone to survive, the European Central Bank would have to print more money than any of us can now imagine. That the sentiment among European leaders was that they were prepared for such a move was clear – except for Germany, which is haunted by fears of a return to the days of the Weimar Republic and hyperinflation.

When Germany agreed to a fixed monetary union and a European Central Bank, it was with the clear understanding that it would be run along the lines of the German central bank, the Bundesbank. The members of the Bundesbank and the German members of the ECB were most outspoken about the need for a conservative monetary policy that would keep a clamp on inflation.

However, as I have previously noted, the Bundesbank was a toothless tiger. Germany has two votes out of 23 on the ECB, and the loud drumbeat from most of Europe, which is experiencing the difficulty of austerity accompanied by too much debt, is for a far more accommodating ECB.

The simple fact is that Mario Draghi, the Italian president of the ECB, created €1 trillion euros to help fund European banks, which promptly turned around and bought their respective countrys’ sovereign debt. Germany’s Angela Merkel forced the Bundesbank to “play nice” and go along with what was seen as the only way to solve a growing banking crisis in Europe. Everyone breathed a sigh of relief, thinking that this at least bought a year during which things could be sorted out. But it turns out that a trillion euros just doesn’t go as far as it used to. The “relief” lasted about a month. The last few weeks have presented yet another budding crisis, as least as large as the last one. Where to get the next trillion?

This week the German Bundesbank waved the white flag. The die is cast. For good or ill, Europe has embarked on a program that will require multiple trillions of euros of freshly minted money in order to maintain the eurozone. But the alternative, European leaders agree, is even worse. Today we will look at the recent German shift in policy, why it was so predictable, and what it means. This is a Ponzi scheme that makes Madoff look like a small-time street hustler. There is a lot to cover.

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Responses

  1. The fact is that over the past 50 or so years most Governments have blown their debts up too much to be handled and, just like a Ponzi scheme, they are reaching the end of their ability to pay off old debt with ever increasing amounts of new debt. If the system doesn’t implode now, it certainly will when interest rates begin to rise to more normal levels. Today we have Greece and other Mediterranean countries in trouble; I think this is a worldwide problem that will spread. It has reached a point where the middle classes, who are the tax-paying engine of most economies, can’t take on any more of the burden. So the obvious thing is to tax rich power elites for a change by eliminating their many avoidance schemes and the tax havens – but that’ll never happen since no government, left or right, has the guts to properly tax their power elites. So we are left with printing money (i.e. quantative easing) as the only means to gradually pay down the debt. But that threatens hyperinflation, as the Germans know only too well from Weimar; so their solution for problem economies is to try and counteract these inflationary trends by cutting government back with tight austerity (i.e. deflationary) measures. These are measures of desperation and I don’t think they will work.

  2. What you say makes sense. However, the fundamental issue that no one talks about is the need for wage convergence between the West and the rest. Europe still pretends that a German or French factory worker is worth thirty times as much as a Chinese. But as they are not, unemployment keeps rising. Governments engage in deficit spending on worthless programs to soak up some of the unemployed, especially the educated and articulate, i.e., those able to complain most loudly. But as you say, the cost exceeds the carrying capacity of the productive minority, so governments have covered the gap by borrowing. Now that the interest is driving the gap even wider, they're going to print the money instead. This cannot work in the long run. But in the long run another bunch of clowns will be running the government so why would the present bunch of clowns care?Scope for can kicking seems limitless. In the end, Europe will be the sick continent, with a mass of half educated or mostly mis-educated people targeted, probably, for extermination. It's fascinating in a horrific way, to realize how many of the interwar intellectuals, people like H.G. Wells, Bernard Shaw and many others thought the gas chambers were the place for the unemployable. The same ideas are alive today, but the approach is more humane. Encourage the gay life style, tell junior school kids how to put on a condom, etc. Within a generation or two, the lower classes will have wiped themselves out. Problem solved.

  3. Ultimately the problem will be solved by writing down some of the debt – some countries will do it through high inflation; others will just welsh on it. Of course this will have repercussions, but that’s the price we have to pay for decades of deficit financing if we are not prepared to have wealthy power elites pay the same portion of their incomes in taxes as everybody else does. What will the fall out be? I don’t think anybody really knows; but back in the 1930s some countries were rapidly inflating, whilst others were deflating, and some experienced both; the only thing they all had in common was that all were in economic trouble. And there will be political repercussions too – I'm optimistic that unlike the 1930s we will move to a more open and free democracy.

  4. Writing down some debt will not solve the problem, it will only create room for more debt. The debt is a symptom of Europe's uncompetitiveness in the globalized market. It fills the gap between what can be afforded and what politicians promise to win election. Austerity is the only solution. If the Government of China gets by with 22% of GDP, then that is probably what the British Government will eventually have settle for — or less. At present most of the population, including most of the civil service, are effectively on welfare funded by debt. To get these people into productive work means massive wage reductions, which will result a reduction in the cost of living, which will make it possible for the Europeans masses to live on incomes similar to those received by the masses in Asia. During the transition a wage subsidy program as I have spelled out elsewhere, is needed. This would be cheaper than welfare, it would provide those presently unemployed, or employed in pseudo-work, i.e., futile government service, with useful work experience, and it will provide entrepreneurs labor at rates competitive with those in Asia. But this will not happen because the elite don't care. They've already off-shored the profits of off-shoring and if things get difficult in London or Paris they'll just biff off to Singapore or Hong Kong or Uruguay or some other bolt hole. That is why I predict that Europe will become progressive more paralytic. But leftist and liberal politicians will do well feeding on the wreckage, offering shorter work weeks, earlier retirement and higher minimum wages when the exact opposite is required.

  5. Britain’s economic problems are a little bit different from the rest of Europe’s. Since ww2 the country had gone from being the most decentralized country in Europe to the most over centralized with the result that the once “almost” independent regional economies and establishments, that used to exist, have been destroyed and taken the great maritime and manufacturing industries with them. The country is suffering from the old Spanish disease, over centralization and corruption, that is destroying the very fabric of the nation that once made it great. The fault lies wholly with the power elites in London whom as you say “don't care”.This I think is also one of the reasons why Scottish Nationalism is in the ascendency. In 1707, when the Union took place, the fact is that very few of the powers of Government left Scotland since England itself believed in small government that was very decentralized. But since ww2 this all changed – there has been huge growth in the size (and effect) of government and a huge centralizing transfer of power from Scotland (and the English counties) to London.

  6. With Government spending consuming 55% of GDP in France versus 50% in Britain, I'm not entirely convinced that Britain is the most centralized European economy. But in any case the British Government is certainly too big and the Scots would be better off independent if independence really brought them small government, which I much doubt. What will an independent Scotland do with those parts of Glasgow with 90% of the population "on benefits?" Give them oil money, pretty certainly. That, in fact, is why they want to separate. It will give them an extra 500 quid a year. And even with small government they will have a tough [impossible] time hanging onto manufacturing industries in the face of competition from Asia where manufacturing wages at less than a dollar an hour. Most Western manufacturing now is just snapping together stuff made in Asia and other cheap labor areas. That is why cars are cheaper today than 15 years ago. Cars nominally made in N. America, for example, contain less than $2000 worth of North American labor, because the parts which used to be made in Detroit and Windsor and other rust belt cities are now mainly imported. First Mexico overtook Canada as the largest supplier of car parts to the US, then China overtook Mexico. In Europe, the Germans are the champions at exporting stuff made by cheap labor in Eastern Europe and elsewhere, which is why they've knocked the stuffing out of less competitive Eurozone economies.


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