The economic incompetence of the political class (Charles W. Kadlec)

It is human nature. We never give something much thought till something goes horribly wrong.

I often drive across Europe. I recently returned from just such trip and as I drove through the St Bernard’s tunnel I was discussing the inevitability of disaster in human endeavor with my passenger. By means of example, I told him, take these tunnels. Till the Mont Blanc tunnel did not suffer a devastating fire and killed scores, tunnel safety wasn’t really an issue. Then the fire happened and now going through the Mont Blanc is an experience akin to driving into the Starship Enterprise – there are sensors, multi-colored lights, markers, signs, cameras, there is a blanket radio signal that takes over your car radio and at the toll booth you are only allowed to enter the tunnel at some distance from other vehicles. But then, a few years later, the Gottard tunnel too suffered a devastating fire and, once again, scores were killed. Similarly, and despite the Mont Blanc precedent, Gottard’s tunnel security wasn’t really and issue till then.

As we were discussing these unique human traits of waiting for something to happen before we do something, not two days later the Frejus tunnel skirted disaster two weeks ago as a fire developed. Maybe because this is the oldest and least practical of all the trans alpine tunnels and is therefore not used by many or because of sheer luck, the fire was contained and no lives lost.

And through the soul searching, the hand wringing and the finger pointing during the aftermath of disaster, we are singularly incapable (or are we unwilling) to take preventive measures for situations that inherently breed disaster.

The opinion expressed by Mr. Kadlec in Forbes can be generally agreed with; “generally”. But of course, as is the case with Mr. Kadlec, we must ask where was the press and the punditry when all this was developing and when, by the year 2000, the trend was clear and unmistakable.

Here is the Forbes’ opinion piece with my comments interspersed:

http://www.forbes.com/2010/12/06/economy-sovereign-debt-euro-opinions-contributors-charles-kadlec.html

The sovereign debt crisis now threatening Europe, as well as major American states and cities, discloses the sheer incompetence of a political class that has over-promised, under-delivered and squandered vast amounts of their citizens’ wealth.

Guido here: Right there from the get go I have to take exception. Politics, and electoral politics in particular, can only be manipulative thus expedient and self serving. It cannot be otherwise. The simple political dynamic requires that a politician must either convince or deceive people in order to acquire a base larger than his/her opponents. But in the particular case of the interaction of politics and the economy, no politician could  viably propose spending cuts or the termination of programs. Thus electoral politics will always and everywhere be devoted to increased spending because a case can always be made that change can be brought about without cutting any programs.

Greece, Ireland, Spain, Portugal, California, Illinois, Los Angeles and Chicago are simply the poster children for what happens when elected officials engage in reckless and irresponsible management of their economies, their banking system or their respective government’s public finances.

Guido here: if Mr. Kadlec were familiar with the variety of monetary system we currently employ in the West, he would realize that “mismanagement” of the system is built into the system as a necessity for the life of the system.

Greece’s debt stands at 144% of its gross domestic product, the highest in Europe. Ireland’s debt is 70% of GDP, due in large measure to the liabilities it assumed when it bailed out the Irish banking system. The just-announced European loan of 50 billion euros to Ireland is equal to nearly 50% of its GDP. Within the next year, Italy will have to borrow 20% of its GDP just to refinance its maturing debt.

California’s budget deficit has soared to $25 billion, or more than 25% of total spending. And, according to a recent study, the City of Chicago’s unfunded pension liabilities total $45 billion, or more than $40,000 per household.

Politicians may not be solely responsible for this fiscal mess. But they are responsible for using borrowed money to pay for current expenses until they had borrowed more than they now seem able to pay back. Furthermore, they agreed to generous pension plans without properly funding those future obligations. As a result, massive tax increases–or a renegotiation of those commitments–now seem unavoidable. Neither alternative is going to be very pleasant economically or politically.

Guido here: Politicians are absolutely and solely responsible for this crisis. It is the politicians that have allowed the banks to propose and impose this particular variety of monetary system. It is the politicians that then and now continually fail to inform themselves on the characteristics and ramifications of the use of one system over another. It is the politicians that have imposed this particular variety of monetary system on society unilaterally and arbitrarily. Finally, for the same reasons I outlined just above, it is the politicians that insist on curing any political or economic crisis with excess spending and excess debt.

Prior to the euro, the political class in Europe could cover up its incompetence through a devaluation of the country currency in question. The ensuing inflation reduced the real value of the debt, providing elected officials and their economic advisors a face-saving way to force lenders to take a “haircut” on the value of their government bonds.

But with the euro, devaluation is off the table, and capital markets are beginning to bring the political class–and the supporters of big government–to account. In fact, capital markets were further empowered to check government excess by an agreement among European leaders that after 2013, bondholders will face a loss of principal in the event of a financial rescue of a European state. Lenders, as well as taxpayers, will be at risk from wasteful government spending.

Guido here: devaluation of the Euro is alive and well. Mr. Kadlec is either not familiar with the concept of Floating Exchange Rates or he does not understand it. But the Euro has been grossly and steadily devalued against a bunch of other things. What Mr. Kadlec intends to say here, is that being members of the Euro monetary system, European countries cannot devalue “against each other”. For a graphic representation of devaluation, check my charts (link at right) on page 4, 5 and 6.

In the meantime, however, the European strategy of enabling more borrowing while imposing austerity plans, including higher tax rates, on overly leveraged countries may prove counterproductive. Increasing tax rates slows growth, reducing GDP, employment and the tax base necessary to service the debt.

A shrinking economy and rising unemployment also increase the demand for higher government spending to support failing businesses and the unemployed. Moreover, lenders are already demanding higher interest rates, increasing the cost of refinancing past debts, which are now coming due.

At some point, there is a risk that one or more European countries may be unable to avoid a de facto, if not de jure default on their debt, requiring a complete restructuring. And that creates the risk that the European Central Bank will be forced to bail out the political class by buying that country’s sovereign debt and devaluing the euro–hence the current weakness of the European currency.

Guido here: Correction. Corrections aplenty. Higher government spending is the de-facto natural inclination of government whether the economy is doing well or not. Why else would anyone choose to adopt a Debt Based Fiat Monetary System? Hence the reason that, for example, since 1980 in the USA, Federal debt increased well over 1000% but GDP barely doubled. Besides; we are already bailing out the political class as we are bailing out the banks quite successfully too for now I might add.

In the U.S. at least, the looming debt crisis among states and municipalities also reflects a lack of diligence on the part of the citizenry. This can be attributed in part to a naïve assumption by the electorate that those in government, freed from the profit motive, could be trusted to do what was “right” for the community as a whole.

Guido here: ooooohhh so wrong. The debt crisis is the result of government deliberately debasing the currency. When interest rates move inexhorably from the top left to the bottom right, individuals are put in a position whereby if they do not spend they stand to loose all their savings. When government constantly and repeatedly lowers interest rates and regularly spends in excess of what the economy could sustain, the individual cannot do otherwise but spend because saving makes no sense.

Instead, what we now can see is that elected officials, following a power motive, can be as greedy and irresponsible as anyone in the private sector. In many cases, officials from both parties have been captured by powerful interests, including public sector unions and recipients of transfer payments. As a consequence, they have willfully committed current and future taxpayer money to benefit those with political power at the expense of the community as a whole.

Guido here: yeah. That’s the political dynamic in an electoral context. In an ideal world, it is the degree of fiduciary duty the higher echelons of government are willing to extend to society that could make the difference. But, again. The electoral politics dynamic pretty much precludes that.

One lesson is that to live in liberty requires an elevated level of diligence, oversight and skepticism of our elected officials. Taxpayers and financial market regulators need to insist on more honest accounting and disclosure of the true costs of the government programs in general, and government employee pensions and benefits in particular.

Guido here: Indeed. Liberty does require diligence and, I might add, sacrifice. That and pundits that can inform themselves.

The sovereign debt crisis now encircling Europe may well prove to be a preview of what lies ahead for the political class in the U.S. Like their European counterparts, they may be participants in an end-game in which capital markets force a reassessment of debt-financed government spending, especially on transfer payments, government pensions and wealth-destroying investments in bridges to nowhere, green energy and other government boondoggles with negative rates of return.

Charles W. Kadlec is an author and the founder of the Community of Liberty. He can be reached at charles.kadlec@communityofliberty.org.

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