Should Europe Do More?

McMegan restates the obvious:

But how sympathetic is the US taxpayer supposed to be? We pay for their military protection, we pay for the profits that develop the drugs and consumer goods they happily consume, and now we're supposed to pay for their economic bailout too. Europe could liberalize its markets, let in immigrants, develop a real military, instead of just critiquing the way we do it. We'll continue to let them free ride, because there's no way to stop it. But I'm starting to think we should rub it in a bit more.

The assumption in many quarters is that the rise of BRICs will come at the expense of the U.S., and recent rumblings from China and Russia that the days of the dollar as reserve currency are numbered are illustrative. But it will be a very long time before the BRICs surpass the political or economic clout of the United States. Europe, on the other hand, is well within reach. And the more that Europe aggravates the U.S. by complaining while free-riding, the more incentive the U.S. has to shift its focus away from Europe and towards Asia and the emerging Americas. Indeed, one reason why Europe has been able to afford such luxurious social programs is because the U.S. has effectively subsidized them through security guarantees and transfers of technology and intellectual property.

Now many E.U. leaders wish to "coordinate," by which they mean that they do little or nothing while the U.S. pays yet again. Yes, it's true that the Eurozone has less policy flexibility because of the common currency (and concomitant commitment to tight monetary policy), demographic realities, and already-deep public expenditures. But those problems are self-made, and whining about it, as Chancellor Merkel has done, accomplishes nothing.

Now Europe wants to bolster the IMF, primarily to bail out Eastern European countries that have been battered by the economic crisis. And where is the financing for that to come from? The largest chunk will come from the U.S., of course. Still, we'd probably be happy to contribute if Europe was willing to reciprocate with domestic stimulus, or help in other areas. But Europe is signaling over and over that they are only willing to coordinate on their terms, and if they don't get their way they'll take their ball and go home.

Eventually, the U.S. might call Europe's bluff, and look to the BRICs for future economic partnerships. Would this sting the U.S.? Of course it would. But the consequences would be far more dire for Europe.

Assorted Depressing Links

-- Spain is in very bad shape.

-- Italy is in very, very bad shape.

-- Japan is in very, very, very bad shape.

(Japan, Italy, and Spain are the 2nd, 7th, and 9th largest economies in the world, by the way, and those links all point to A Fistful of Euros, an excellent site)

-- Putting all the emerging-market eggs in the IMF's basket?

-- World prices for food are likely to rise as supply drops.

G-20

The current G-20 summit, like most, is often big on headlines but short on substance. There are the requisite anti-everything protests, the expected French threat to pick up their ball and go home if they don't get their way, the typically vague but high-minded communique, the downgraded expectations, and the regret.

So what can come out of this? The major players will continue to verbally commit to coordination, as they have always done, but coordination requires compromise, and so far no world leader seems interested in giving up some autonomy in exchange for policy convergence. And President Obama is either uninterested in setting the course for the G-20 or is unable to do so. His response toward the crisis has so far been to take care of his own first, and deal with the systemic global problems later (if at all). Remember: not only did Obama not attend the recent World Economic Forum in Davos, but he didn't bother to send a single high-ranking official either. So far, his attitude towards European leaders has been reminiscent of FDR, and not in a good way.

The U.S., France, and U.K. have found some common ground already: they're going after off-shore tax havens. Unfortunately, this has next-to-nothing to do with the present crisis.

The November G-20 meeting produced basically one commitment: to uphold free trade and refuse to resort to protectionism. How did that work out? As Drezner notes:

Sounds great, except that two days after the summit, Moscow announced that increased tariffs on imported cars. A day after that, India slapped a 5 percent duty on several iron and steel products. A month later, Brazil approved the idea of raising common external tariffs among the countries under the Mercosur agreement on a number of goods, including textiles and wine. China increased export tax rebates on more than 3,700 goods. The U.S. Congress approved "Buy American" provisions in the February stimulus package that blocked government procurement from most developing countries, including the BRIC economies. The World Bank recently reported that 17 of the 20 countries had imposed a total of 47 trade-restrictive measures. Simply put, the first G20 summit produced little action but copious amounts of hypocrisy.

Even further, there are few focal points for reaching agreements. China and Russia desire an end to the dollar as the world's reserve currency, Brazil has argued that the costs of global stimulus should be borne by the countries that caused the crisis, the EU refuses to consider further fiscal stimulus, and everybody seems to want broad, sweeping changes to the regulatory structure; what those changes actually entail, however, is TBD.

I have little hope that anything productive will come out of the G-20 meeting; coordinated action is just too difficult when each country has different challenges and priorities. But now that the first burst of stimulus is past, I do hope that a real commitment to maintain an open trading system is within reach. Perhaps the crisis can even force the resumption of Doha (I'm not holding my breath). Yes, an open trading system means that some stimulus intended for domestic constituencies will spill out into other countries. That's inevitable and also acceptable, especially since a retreat into protectionism could have very perverse effects for already-reeling economies.

The priority of the G-20 meetings should be to shore up the economic activity that we still have to use as a foundation for recovery. Roll back the creeping protectionism of the past 6 months, make a strong commitment to maintaining an open system of trade. True, it's only a marginal victory, but at this point I think that's all the G-20 can realistically hope for. Unfortunately, even that much may be too tall an order.

Ode to Paul

Catchy and just a little bit creepy KPC

Pick Your Poison

What if you had to choose between saving large swaths of humanity from a "nasty, brutish, and short" existence and protecting the biosphere from the possibility of irrevocable harm? That's our present choice, says Freeman Dyson:

Beyond the specific points of factual dispute, Dyson has said that it all boils down to “a deeper disagreement about values” between those who think “nature knows best” and that “any gross human disruption of the natural environment is evil,” and “humanists,” like himself, who contend that protecting the existing biosphere is not as important as fighting more repugnant evils like war, poverty and unemployment.

No he's not talking about aid payments from the MDCs to the LDCs, but rather simply allowing LDCs to continue using dirty-but-cheap fossil fuels like coal to lift themselves out of poverty. If you'd prefer, you may think of this as trading off certain bad outcomes for people existing in the present and near future in exchange for preventing possible bad outcomes for people who might exist in the relatively-far future. (of course the magnitude of the two might not be equivalent.)

Via Wilkinson, who also lifts this quote:

To Dyson, “the move of the populations of China and India from poverty to middle-class prosperity should be the great historic achievement of the century. Without coal it cannot happen.” That said, Dyson sees coal as the interim kindling of progress. In “roughly 50 years,” he predicts, solar energy will become cheap and abundant, and “there are many good reasons for preferring it to coal.”

Of course, reasonable people can disagree about which is more important. But the point is that reasonable people cannot disagree that there are tradeoffs, and that policy choices in one area affect outcomes in others.

(Not that I should have to, but just to nip any partisan sniping in the bud: the above is true for all political orientations, and neither is more righteous in my view: there are good reasons to want to end present-day suffering, and there are good reasons for wanting to end future-day suffering. The point is to consider the tradeoffs.)

World's Biggest Banks

And their market value. The corpses are in gray. It's easy to see why Europe has been hit so hard by the credit crunch and liquidity troubles, even if their exposure to toxic MBS was not direct (although it quite often was).

From the Guardian UK's intriguing new Data Blog.

Yes, But He Has Good Intentions

Czech Premier Mirek Topolanek does not like the $2tn effort by the Obama administration to stimulate the U.S. economy. He does not like it one bit:

BRUSSELS -- The prime minister of the Czech Republic slammed President Barack Obama's plan to spend nearly $2 trillion to push the U.S. economy out of recession as "the road to hell" that European Union governments must avoid.

The blunt comments by Mirek Topolanek to the European Parliament on Wednesday highlighted simmering European differences with Washington over spending plans, ahead of a key summit next week on fixing the world economy. ...

"All of these steps, these combinations and permanency is the road to hell," Mr. Topolanek said. "We need to read the history books and the lessons of history and the biggest success of the [EU] is the refusal to go this way."

"Americans will need liquidity to finance all their measures and they will balance this with the sale of their bonds but this will undermine the liquidity of the global financial market," Mr. Topolanek said.

The last part is key: since all of the U.S. demand-side spending is funded by deficits, the result is reduced liquidity of dollars for the managing of international accounts. Since the dollar is still (for now) the world's reserve currency, this puts pressure on other central banks to manage their balance of payments accounts more carefully, at a time when many of them would prefer more flexibility to pursue counter-cyclical policies.

I hope to have more to say about this, and how it relates to America's de facto as role as organizer/stabilizer of the international macroeconomy, in the near future.

More on Punitive Taxation

Yesterday I complained that the left-leaning economists in the blogosphere were conspicuous in their absence from the AIG punitive tax debate. Today, we get some comment.

Brad DeLong says that we should give big bonuses to well-performing financial employees, just not the sort of bonuses these guys were given:

But thou shalt not bind the mouths of the kine that tread the corn: traders and financial executives who are willing to work very hard for what are now government-owned enterprises should be offered the carrot of long-term restricted equity stakes: that if they do their jobs well and if the government makes a healthy return because of their skill, forethought, and diligence, they should make healthy returns as well.

In the previous sentence he says that punitive taxation on employees on TARP-taking firms is justified. But the one doesn't follow from the other: if the government sets a precedent that it is willing to retroactively rewrite compensation contracts on an ad hoc basis, then why should employees have any assurance that future earnings will be safe from a similar confiscation? What incentive do well-performing employees have to stick with the troubled institutions and work hard to improve them? Effectively none.

Now, it may be the case, as Sarah argues, that labor markets in the financial industry aren't competitive right now so employees have no choice: either they stay at their present firm, or they don't work at all. Suppose this is true: faced with a 90% marginal tax rate, many of them might just take the unemployment route. Especially since these folks are being accosted at their homes with death threats, and being encouraged by at least one U.S. senator to commit suicide.

In the longer-run, of course, labor markets will be less rigid, and these sorts of actions virtually guarantee that any employees with good track records will move to other firms. Considering the fact that the government will likely be a partial owner of these firms for at least a few years, this can only put downward pressure on the quality of employees these firms will be able to attract and retain.

Krugman, on the other hand, thinks this is bad, unjust, "clumsy," "bad analysis, bad policy, and terrible politics," and demonstrative of a major failing of the Obama administration. Oh, but despite that, there was "little alternative" than to kowtow to "crude populism", so whatever: tar-and-feather the bastards.

Finally, as Henry Blodgett points out, this tax covers all household income over $250,000. So if you are a mid-level AIG employee with a compensation package skewed towards bonuses for good performance, and your spouse is a corporate lawyer who makes a $250,000/year, then nearly every penny you earn will be taxed at 90%. Blodgett closes:

Believe it or not, hidden inside these companies are thousands of decent, competent people whose households bring in more than $250,000 a year. Many of these folks had NOTHING to do with the gambling addiction that bankrupted their firms. Many of them still have a choice where to work. And now that they've learned that their family's pay will be capped at $250,000 indefinitely, many of them will quickly decide that now is a good time to pursue their careers elsewhere. (That is, unless their firm takes the easy and obvious step of just paying them a fatter salary, which just renders the whole thing a farce.)

Will everyone leave these firms? No. The folks whose households don't have the education, desire, ambition, skill, or time to make more than $250,000 a year won't. But a lot of the rest will. And however little our massive investments in these companies are worth now, they will soon be worth a lot less.

Of course, this says nothing of the moral hazard (needy firms now have incentives to refuse or return government investment), or legal complications, or the fact that $2.5bn in bonuses to Merrill Lynch employees aren't subject to the tax (total bonuses to AIG employees is roughly $170mn). But still.

(ht: Marginal Revolution for the Blodgett link)

The Market Norm of Non-Cooperation

Check out this interesting read on new findings about how humans conceptualize of and are motivated by money.

Basically, humans seem to adhere to two different sets of norms: social and market.  When humans even think about money, we tend to abide by market norms.  In other words, just the thought of money makes us less likely to cooperate.

So, to what extent do these findings require IPE scholars to change their theoretical models?  Do we need to pay more attention to constructivist concerns about how preferences and structures develop?  How helpful are rational choice models at explaining a process that, at least at the individual level, doesn't seem at all rational?  What do "market norms" of non-cooperation say about the institutions argument?  And how much of this is old news, already exhaustively discussed during the emergence of prospect theory?

Pop Quiz

Q. How do you simultaneously achieve all of the following?

1. Encourage excessive risk-taking in the financial sector when sobriety is desired;

2. Drive the best and brightest employees from firms under de facto government control, thus ensuring that taxpayer dollars are entrusted to less-qualified handlers;

3. Set a (possibly unconstitutional) precedent of retroactive punitive tax policy that effectively nullifies previously-made legal contracts.

A. Do what the House of Representatives just did.

I'm less sanguine about this than Conor Clarke, because I think that his mild cynicism/optimism mix is the absolute best-case scenario; The worst-case scenario has some major financial institution refusing necessary government assistance so as not to subject their past and future income to 90% tax rates, which causes that company to collapse, which triggers another Lehman-like counterparty panic, the government is forced to buy up the shards of the company, all the best employees flee like rats off a sinking ship, and the taxpayer is on the hook for even more than we would otherwise be.

Incentives do still matter. Srsly.

And the silence from the progressive economists in the blogosphere (read: Krugman, DeLong, Thoma) has been deafening.

Frankly, if public shame is in order, wouldn't've been better for the country to let them keep their bonuses and instead make them eat some grubs on Fear Factor as punishment? Or get yelled at by Simon Cowell? Or get out-smarted by a 5th-grader? Or be forced to appear on a sitcom with Charlie Sheen?