Newly appointed Treasury Secretary Jack Lew made his first visit to Europe in his official capacity this week, and surprised many by calling unequivocally on European leaders to ease off austerity measures that have been applied to the continent’s rash of sovereign debt crises, urging his counterparts on the mainland to focus instead on measures that would stimulate employment and economic growth.
Lew, a veteran of the Obama administration prior to his new post, framed the situation in terms of the shared fate of the United States and Europe, saying “Our economic strength remains sensitive to events beyond our shores, and we have an immense stake in Europe’s health and stability,” before urging European leaders to “strengthen sources of demand.”
Citizens in European countries like Spain, Italy, Greece, Portugal, Ireland, and now Cyprus have all had to deal with the effects of austerity measures resulting from the collapse of various housing and financial bubbles across the continent’s Southern countries, with social unrest and political gridlock becoming a feature of everyday life.
While some have interpreted Lew’s comments to his European interlocutors as having been delivered rather bluntly, they seem dovish when compared to a speech given by George Soros on Tuesday in Frankfurt.
At approximately the same time that Secretary Lew was in Berlin for talks with Germany’s Finance Minister Wolfgang Schaeuble, urging countries with the ability to do so to adopt policies that would “encourage consumer demand”, Soros spoke to an audience in Germany’s financial center, where he in no uncertain terms criticized his host country for its handling of the Cyprus banking crisis, as well as Europe’s sovereign debt crisis as a whole.
The substance of both Lew and Soros’s statements suggest a growing North American impatience with the way European countries have been handling their protracted financial crisis. But while Lew chose to focus on symptoms such as austerity and stimulus, Soros’s critique was broader in scope, and addressed the structural complexities of the European Union’s current impasse.
His conclusion, that Germany should either assent to a Eurobond as a means of alleviating government debts, or consider exiting the Euro altogether, turns all of the customary discussion of the Eurozone crisis on its head. In other words, the common fear or assumption is that the indebted nation will be forced to leave the European monetary union as a result of financial insolvency.
The legendary billionaire speculator cut quickly to the chase and the second paragraph of his speech lays out the argument succinctly:
“The causes of the crisis cannot be properly understood without recognizing the euro’s fatal flaw: By creating an independent central bank, member countries have become indebted in a currency that they do not control. At first, both the authorities and market participants treated all government bonds as if they were riskless, creating a perverse incentive for banks to load up on the weaker bonds. When the Greek crisis raised the specter of default, financial markets reacted with a vengeance, relegating all heavily indebted eurozone members to the status of a Third World country over-extended in a foreign currency. Subsequently, the heavily indebted member countries were treated as if they were solely responsible for their misfortunes, and the structural defect of the euro remained uncorrected.”
Soros suggested that if EU countries were allowed to convert their government debts into European bonds, deeply troubled budgets and bank balance sheets alike would see immediate benefit, while the stress of permanently delayed but inevitably default would be removed from the horizon of possibilities.
While he also said that “Eurobonds are not a panacea,” not sufficient in themselves to solve Europe’s financial calamity, they would be a step in the right direction. Using Italy as an example, he noted that the country would save as much as 4 percent of its GDP, the budget would approach surplus, and “stimulus would replace austerity”.
Noting Germany’s fierce opposition to Eurobonds, Soros concluded that it is they who would do better to leave the Euro rather than a troubled and indebted country like Italy. The reason for this has to do with the fact that a Eurozone minus Germany would still have bonds comparable in value to those issued by the U.S., the UK, or Japan.
Germany’s departure from the European Union would cause depreciation in the currency, allowing indebted countries to regain competitiveness against essentially reduced debts.
If this seems counter-intuitive, it is instructive to think of the situation in reverse. The worst-case scenario that is always envisioned involves the potentially disastrous consequences of an otherwise vitally important economy, such as Italy, leaving the monetary union. Indeed, such an event would be crushing for Italy itself, and the resulting chaos would shake the global financial system.
Meanwhile, a German departure from the EU would result in some readjustment burdens for primarily Germany, with no major global consequences.
But Soros did not advocate for Germany to actually leave the EU. Instead, he suggested that if Germany insists on maintaining its opposition to a sensible and practical solution to Europe’s long-running debt saga that cattle-prods global markets every few months with the promise of contagious financial calamity, they would do better to extract themselves from the situation entirely, and let the rest of Europe sort out its own mess.
With Slovenia set to issue another bond by this summer, amid troubles meeting its obligations, there may just be a good chance to test some aspects of Soros’s claim about the benefits of a Eurobond.