We all know the question in the headline is strictly rhetorical. If the US cannot stand to make risk capital like bondholders take a whack (heavens, no, we cannot make hapless funds take losses, better to dump it on taxpayers who have no ready way to complain), it goes without saying that we are wildly unprepared for any sort of real hardship. Yet as the experience of other financial crisis countries suggests, taking the hit from bankruptcies and resturcturings and cleaning up banking systems faster is associated with steeper initial downturns and rapid rebounds.
And if we don’t take our medicine, I fear it will be imposed on us later by events regardless.
Gideon Rachman reminds us that a lot of countries have taken pretty serious reversals with very little whining and have come through them. The US has had three generations of improving or at least not worsening living conditions. Would we cope as well as Eastern Europe?
From the Financial Times:
Across the developed world, unemployment, public debt and taxes are rising. When the global economic crisis first hit, it was natural to assume that the poorer and more recent democracies would be most vulnerable to a political backlash. Without the accumulated wealth or the welfare systems to cushion the blow, their populations looked vulnerable. Most countries in central Europe or Latin America only made the transition to democracy in the 1980s, so authoritarian nasties might still be lurking in the shadows.
But perhaps we are looking for trouble in the wrong places. It could be that it will be the richer democracies, such as Britain and the US, that find it most difficult to adapt to the politics of austerity.
Faced with hard times, some central European countries have had to take drastic measures. They do not have the British and American options of borrowing hugely to avoid making painful cuts. In Estonia, public-sector salaries have been sliced by 10 per cent. In Hungary, pensions have been cut by 8 per cent and the retirement age has been raised.
So far, their publics have reacted with remarkable equanimity. Perhaps countries that have recent memories of real turbulence and hard times are better able to shrug off the consequences of a sudden economic setback. The experience of Latin America after the economic crisis of 1998 shows that new democracies can be reassuringly resilient…
Now consider what would happen if the UK or US were to attempt Hungarian or Estonian style cuts. There would be a huge outcry. Long periods of economic expansion mean that citizens in the US and the UK have developed a sense of entitlement…
So rather than taking the axe to public spending, the British and American governments are borrowing madly, with no sign of any credible long-term plan to balance the books. The US, according to the Congressional Budget Office, now has an annual structural budget deficit of 5 per cent of gross domestic product. In Britain, public debt as a proportion of GDP is set to double.
Both countries are in the fortunate position that the markets will still lend to them. In spite of last week’s warning from Standard & Poor’s, the rating agency, about rising public debt, Britain has (so far) retained its triple A credit rating…the US is planning to run huge budget deficits for the next decade and beyond.
The obvious risk is that when a real day of reckoning does arrive it will be that much tougher. In Britain, Dieter Helm, a professor of economics at Oxford university, is one voice sounding warnings. “The fundamental cause of the current crisis is that consumption has been unsustainably high, based on borrowing too much, investing too little and saving too little,” he says. “If we continue to try to spend even more, and borrow ever greater sums, the eventual effect on the standard of living will be commensurately greater.”
Prof Helm reckons that sustainable consumption in Britain “may be as much as 20 per cent lower than at the peak in 2006-07”. But try telling the British or American publics that they might have to accept a 20 per cent drop in living standards. That might be OK for Argentines or Estonians – but not in London or New York, and certainly not now.
Optimists point out that countries such as Italy and Japan have sustained public sector debts of more than 100 per cent of GDP for years, without ever facing that long-dreaded “day of reckoning” when the currency collapses or the markets refuse to lend any more. The US, with the world’s largest economy and reserve currency, may be in a position to ramp up its debt in a similar fashion and push that nasty day of reckoning ever further into the future.
Britain may not be so fortunate. It does not have the industrial or savings base of Japan or the currency security of Italy’s euro membership. The Conservative party, which is likely to win power next year, has talked of “austerity”. But, with an election looming, it has been careful to avoid spelling out the implications.
Over the past 30 years, Britain and America have often followed the same political and ideological cycle: Margaret Thatcher and Ronald Reagan were a pair, so were Tony Blair and Bill Clinton. But if a rightwing British government takes power in 2010 and launches into a new politics of austerity, then the US and the UK may suddenly look very different places.
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the CW is that americans won’t tolerate a reduction in their stardard of living. i don’t think that is true, but that the politicians think that they will be thrown out if they come out with an austerity message. thus the deficit spending, even though it is unpopular.
We all know the question in the headline is strictly rhetorical. If the US cannot stand to make risk capital like bondholders take a whack (heavens, no, we cannot make hapless funds take losses, better to dump it on taxpayers who have no ready way to complain)Wow, talk about your false dichotomies. I’d say the unwillingness to countenance any actual bankruptcies constitutes a big part of the unwillingness to take pain that Yves laments here.
The fierce urgency of now?
No.
Now that he’s in power, manana is the watchword.
For now, it’s borrow and spend in ways that Jimmy Carter and Bill Clinton never contemplated. Plus the worst Fed Chairman arguably since William Miller.
Andrew,
I fail to understand your false dichotomy point, We’ve been in favor of taking out shareholders and when appropriate, bondholders from the get go.
Hi Yves,
I tripped myself up with some confusion of your perspective on the banks vs. automakers. For the banks it's true that you've supported bondholder losses, and I appreciate your passion in arguing for that outcome. But when it comes to automakers like GM and Chrysler, even this blog has shied away from putting outright bankruptcies on the table, even at the risk of depriving the bondholders of their rightful place in the capital structure, and of turning GM & Chrysler into a couple more zombie companies feasting on tax revenues.
Andrew,
If you have read my posts on GM, the reason I have not endorsed a BK is that I am highly disturbed at the class hatred directed at the UAW, when labor costs (7% ) are not a big part of the problem. To talk of GM bleeding taxpayers when Citi alone has gotten a huge multiple of what Chrysler and GM have gotten, with vastly more jobs at stake (when you factor in the suppliers and the impact supplier failure would have on the foreign transplants) is an apples and oranges case.
The other problem I have is no one has gotten to the bottom of how consumers would react to a protracted BK, which I am pretty confident is how GM will go. I’ve linked to The Deal repeatedly on this; it will be a nearly 2 year process. 363 for GM is a fantasy.
No automaker has ever emerged from Chapter 11. They’ve all been sold. There is no precedent for a slimmed down GM emerging. The 363 is an attempt to finesse that, but I don’t see it working, If the Chapter 11 morphs into a lliquidation due to loss of customer revenues during a protracted BK, you can kiss this economy goodbye. That has been my issue and I have said so repeatedly. The risks here have not been properly assessed.
All sorts of dubious steps have been taken to rescue the banks. I see no creativity being applied to how to put them in some form of receivership, or similarly, how to finesse a GM so as to shrink the company but not put it at risk of liquidation, which anyone would agree would be a very bad move. The fact that there are no car guys involved on the US government side is illustrative of how wrong-headed the thinking is.
GM, contrary to popular perception, has some decent lines, Buick scored at the top of JD Power satisfaction ratings last year. There are viable assets in that company.
Standard of living is one of those concepts that I really don’t understand.
Americans own much more junk than their grandparents but more families have to have two incomes to pay for it and even then they are probably much more indebted. Their access to healthcare is uneven and the costs of healthcare have vastly increased. At the same time, job security and pensions that their grandparents prized have largely disappeared.
At best it seems we are comparing apples to oranges. If our grandparents were poorer but happier and we are richer and emptier, who really comes out on top?
I think we prefer standard of living to quality of life because the one is more quantifiable and it helps us dodge the social responsibilities that the other implies, like healthcare, a living wage, support for families, growing old with dignity.
The country seems willing to let GM and California hang themselves as revenge for the money we keep pouring into the finance industry. Give $7b to GMAC, maybe another $100b to AIG, but anyone who actually employs people can go fuck themselves. How long until California’s or Michigan’s lower classes explode? This is a very dangerous game the oligarchy is playing and I am still confused as to what they think the end game here is.
“The country seems willing to let GM and California hang themselves as revenge…”
I think the country seems willing to let California hang themselves because Californians are patently unwilling to raise taxes to support the services they are getting.
These arguments, “Well you bailed out Citibank, so you should bail out…” prove anything, because everyone and anything is more worthy than Citibank. Bad policy should not justify future bad policy. Bailing out Citibank was a mistake but should not be used to justify further mistakes down the road.
Hypocrite… “class hatred” my ass…
Rules should be the same for everyone. Sick companies should be allowed to BK.
The U.S standard of living is lower than a generation ago in many ways, despite our IPods. The spoiled American meme is actually about getting us used to the idea of ‘suffering for our sins’.
And despite the scolding from much of the elite – the world’s business model is still based on the idea of selling stuff to the US middle class.
Perhaps the more difficult question is not whether the people can accept austerity but whether the political systems can deliver that if needs be. Perhaps politicians with their short term view of policy and exposure to lobbying are the wrong people to decide economic policy. On reflection perhaps it is the right place it is just that politicians don’t actually represent the average person. What worries me is that the lack of fresh political parties and ideas coming through reflects barriers which very few current politicians have any interest in removing.
The bailout of GM and Chrysler is worrying, not because there is not value in these companies, but because they have been given some competitive advantage over the short term. Does Ford get interest free money that it will most likely not have to pay back, can Ford afford to undercut its competitors by topping up with bailout money. Most of the bailouts are targeted rather than industry wide and I am very surprised the anti competitive shouts about government intervention are not louder.
The interesting thing about the UK is that if the next government is a conservative one then the people will have voted to cut back government spending which is not really in line with the idea that the UK cannot accept austerity. Since the fiasco with politicians expense in the UK though, there may well be a backlash against all current politicians such that the UK may end up with no party holding a majority a party alliance taking control. Whatever the outcome it seems likely to me that the US will be the only Country not actively trying to control its budget although I do expect to hear lots of empty rhetoric to that effect.
The median income has been declining since the 70s. Its been disguised to some extent by more dual income families (though that has its own problems) and borrowing.
The UK is in extraordinary denial about what is going to happen over the next few years. Not only are we looking at a pretty right wing government (something that its leader has so far successfully disguised), but also a pretty incompetent and ideological one. I fear we’re going to go from an undeniably bad government to a truly terrible one.
The interesting thing about the UK is that if the next government is a conservative one then the people will have voted to cut back government spendingActually they won’t. If the Conservatives win (which is probable) it will be because people are voting against Labour, rather than for the Conservatives. The Conservatives are largely a cypher – nobody really knows what they truly stand for, though by astute kreminology one can get a pretty good idea (but very few are trying to work this out currently, and I don’t see this changing).
Don’t get me wrong, the Conservatives will cut public spending and will do so in a vicious and destructive fashion. But it will catch most people by surprise, and may doom their long term prospects as a result.
Since the fiasco with politicians expense in the UK though, there may well be a backlash against all current politicians such that the UK may end up with no party holding a majority a party alliance taking control.I kind of doubt this. To the extent it has an effect, it will be against sitting politicians which can only favour the Conservatives.
“Austerity” is here a term relative to the civilizational leverage afforded by cheap, plentiful fossil fuels. “Growth”, the growth ideology, and the level of historical luxury which has come to be seen as the norm (and indeed an entitlement, a god-given “right”), are all ephemeral phenomena completely dependent on the fossil fuel platform.
So with the advent of Peak Oil, where the party line rhetoric of the growth/debt ideology sees austerity, we should really see a necessary readjustment to a more normal historical level of economic activity, now that the fossil fuel line of credit has been drawn down. (To continue that metaphor, under post-Peak EROEI conditions, continued “borrowing” will be priced at an ever higher interest rate to borrow ever lesser amounts.)
That’s the fundamental reason why burning up what little wealth is left (and wasting time) to prop up zombie banks and a zombie transportation system, instead of rationally investing in this readjustment, is an historical tragedy unfolding before our eyes.
The fundamental cause of the current crisis is that consumption has been unsustainably highIsn’t the fundamental cause that consumption, in China, has been unsustainably low? As commenters point out, the median income in the US has not grown since the 1970s.
It strikes me as strange that those who talk about high levels of debt to GDP (e.g. Krugman and you) miss a couple of points.
If the the debt is owed to yourself as in the case of Japan it is a very different situation than if the debt is owed to foreigners.(as in the case of the US).
Secondly, absolute GDP matters as much as a percentage. Thus is it is one thing for a country like Belgium or Italy to run debt to GDP of 100% plus that is a tiny fraction of global GDP and global savings- it is another thing all together when the behmoth runs a debt to GDP of 100% plus.
Will Obama tax the rich to pay off the stimulus borrowings? If not, then austerity or inflation are his remaining choices…
Sanjay is concerned that the US federal the debt is owed to foreigners. Not to worry. Only about 29% is owed to foreigners.
See
http://www.optimist123.com/optimist/2009/04/pie-chart-who-owns-the-national-debt.html
Sanjay,
With all due respect, if anything, you have it backwards. Within a country, the lenders and borrowers are different people. If money was lent for bad uses, it is a loss of wealth to the lender. The borrower also gets hurt in cases where he has skin in the game too (as in equity in a house or company that gets wiped out). The lost two decades in Japan illustrates how massive loss of wealth leads to low consumption as lenders try to rebulid their balance sheets (individuals as well as banks), and a substantial relative fall in standards of living.
If debt is external, you can in theory stiff your creditors with no internal consequences. The UK and France defaulted on their war loans in the Great Depression and suffered much less than the creditors. But we cannot so neatly parse out external and internal creditors. If the US were to partially default on government debt, we’d hurt investors in the US and given the dollars’ status, probably precipitate a bigger problem. The only partial default I can see us pulling off might be welching on some guarantees or, of course, inflation.
standard of living – combination of:
today’s necessaries being yesterday’s luxuries
and today’s luxuries being yesterday’s necessaries.
not precisely quantifiable but more to do with what a 19th century guy called ‘the moral-historical’, i.e. incorporation of ability to realize new needs into reproduction cost of labor on one hand and loss of this ability on the other, so related to relative power of opposing classes and overall economic conditions.
in modern times also the shifting relation between purchasing power and affordability , taking ‘affordability’ to be one function of consumer credit.
oops
should say:
taking purchasing power to be one function of consumer credit.
Long periods of economic expansion mean that citizens in the US and the UK have developed a sense of entitlement…You must be referring to the fat cat “citizens” that work on Wall Street and live on Park Ave. Because tens of millions of Americans have been going without health insurance and have been putting up with declining wages for decades now. America has been under austerity for a long time now.
So, I’m not worried about the average American, because we are a sturdy bunch, a nation of immigrants, able and willing to live a Spartan life, and to work our way out of this hole. I’m more concerned about the fat cats, who may not find the nation they have been plundering for over a century to be so friendly to them anymore.
I’m also more concerned about the lazy and parasitical fat (and slim) cats in Western Europe, who have gotten used to living on American handouts and tourism. Nations like Spain, France, Italy, and of course, Britain, have a lot more belt tightening ahead than the US does. Say bye-bye to the 4000 euro per month pentsion for lazy and uneducated Spaniards retiring at 59 after working for 20 years renting boats by the beach to German tourists. Same goes for much of the rest of Europe.
As far as Eastern Europe, they’ll be fine. It was their blood and tears that kept the Western European parasytes well fed for 50 years. Eastern Europeans will likely rise like China has. Eastern Europe has far more virtue to be admired than any nation in the West (but better not ask a Frenchman to admit that, or you’ll get a lengthy and boring monologue about how great Victor Hugo was… 200 years ago…LOL).
Vinny GOLDberg
Yves
Re you post at 1.14am.
I wasn’t going to argue the UAW but it seems that their pension fund will get a fast 10B while much of US subsidy will be wiped out. This amounts to a rather direct payment of the 10 B from the US taxpayer to the UAW retirement fund. Other BKs wiped out Airline etc pensions.
The UAW has been one of the largest Congressional donors. Obviously it is paying off. The older UAW contracts were rather sweet deals between the big3 and UAW. The loser was the American consumer all these years.
And recently the ruling clique of older UAW workers and pensioners were in a pure demonstration of brotherly love, willing to let new hires (Ha) get paid less as long as they got theirs.
Can you tell us why the UAW shold get more then all the others who have and will lose their pensions. Their gov’t assured pension is much smaller then UAW. I think you have misplaced empathy.
If you think about it, the cost to Japan is a lot higher than normally calculated.
Higher opportunity costs in child production have discouraged potential parents from settling down or just having some time between the sheets for themselves.
Instead, you had people cutting back on consumption of food, leisure, travel, and even basic staples. In such an environment, how could couples even conceive (pun intended) the idea of having childrn?