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The Pursuit of Knowledge
Paying the Price
There’s no question but that a Greece should be “allowed” to default.
“The first lesson of economics is scarcity: there is never enough of anything to fully satisfy all those who want it. The first lesson of politics is to disregard the first lesson of economics.”
Thomas Sowell’s aphorism is of special relevance to us now, when we discover that, without the matter having been discussed or put to the vote, the most important economic decisions are in the hands of politicians. Democratic politicians secure their following by making economic promises—basically to steal from the few in order to reward the many. And in order to protect themselves from the cost of this they set up supposedly independent economic bodies, like the International Monetary Fund, the Federal Reserve Bank, and the European Central Bank, which they place in the hands of political appointees. In all the excitement over Dominique Strauss-Kahn’s adventures in a New York hotel the media seems to have forgotten to ask the most important question: how was it that a politician, and one of the French sofa-socialist persuasion, should be in charge of the IMF? What conceivable attribute could have qualified him for such a position? Granted that a gargantuan libido might sometimes be useful in politics, in what way could it possibly contribute to the process of maintaining equilibrium in the world economy, and compensating where possible for the rash promises of politicians?
No doubt DSK’s successor is as well qualified for the job as any of the rival candidates. Christine Lagarde has, after all, been a minister of finances in the French government. But this does not alter the fact that she has inherited the IMF as part of a political career, that her main concern is to rescue the political class from the looming disaster that its profligacy has brought upon us, and that she sees the principal task of the IMF as a political one—namely maintaining the status quo and preventing the collapse of the single currency.
This is not to say that things would be better run by the economists. If there is one thing that is evident about economics, it is that no practitioner of the subject agrees with any other about its results. There are economic truths, such as the first lesson given above by Thomas Sowell. But these truths are not hidden in any way from the rest of us, and the theories of the economists rarely make them clearer than they are. The writings of Adam Smith owe their persuasive power to the common sense of the author, who looks on the world as it is, and applies to it the undeceived consciousness of a cultivated mind. The Wealth of Nations describes what markets would be like were there no political class to interfere with them. And one of the lessons that it teaches is this: that markets tend toward equilibrium, but only if people reap the reward of their enterprise and pay the cost of their mistakes. When rewards are stolen and mistakes compensated, the market ceases to function as a self-correcting device. And that is exactly what we are seeing in the world economy, now that the politicians are in charge of it—in charge but not in control.
It is true that the inter-connectedness of national economies, and the opportunities provided by international finance, make it possible for traders and financiers to make enormous profits while passing their risks to those who did nothing to incur them. The global economy, as we now know it, is a demoralized economy, in which old habits of accountability have all but disappeared. But this is exactly what we should expect, when the politicians take charge. Banks become “too big to fail” when governments rely upon them; industries become “too big to fail” when the labor unions persuade governments to take charge of them. And when governments encourage the belief that they will step in to take the cost of mistakes, it is not surprising if the spivs and racketeers take advantage of their promises.
Common sense tells us that if you borrow money that you cannot repay, then at some point you must go bankrupt. Common sense also tells us that proceedings in bankruptcy are essential to economic health. Without them economies cannot regain equilibrium in the wake of large-scale mistakes. This was abundantly proved by the economies of the Soviet Empire, which operated without a law of bankruptcy. The costs of failing industries were redistributed across the economy by a procedure of “economic arbitrage,” which meant that unproductive factories with idle workforces absorbed the profits of the few successful enterprises and guaranteed that, in the long run, they too would fail. When a properly administered law of bankruptcy is in place, money, knowledge, energy, and skills are withdrawn from the places where they are wasted, and deployed to better effect elsewhere. It is arguable that the vast amount of skill and entrepreneurship wrapped up in the American automobile industry would have benefited the economy many times over, if that industry had been allowed to go bankrupt, so releasing its store of human capital into the labor market.
Christine Lagarde tells the world that she will use the resources of the IMF to stabilize the Eurozone and to avert the potential catastrophe of a default by Greece. She even praises DSK for having put this policy in place. But what business does a politician have to interfere in this way in the workings of the market? Why should the contributions of nations that have managed their finances efficiently be used to avert the bankruptcy of those who have not? It is surely clear now, even if it was not clear before, that the Eurozone was a mistake, that you cannot simply impose a single currency while leaving the rest of government in the hands of local politicians and the networks that support them. In economic life mistakes have consequences, and the attempt to avert those consequences is usually another mistake. And each mistake is bigger than the last one, since it enlarges the number of interests and expectations that depend upon rescue.
In my view there should be no such question as whether Greece is allowed to default. A country that runs up debts that it cannot pay is in default, and all the rest is an illusion—a game of economic fictions, designed to avert the eyes of the world from the self-evident reality. As the Soviet example shows, you can keep such fictions going for quite a time, especially if you do it in the name of socialism. But the longer you continue, the bigger the crash.
THE ILLUSION that governments do not default ought to have been dispelled by the case of Argentina, but the further illusion was quickly put in place that Argentina is a special case and outside the network of mutual support that has been created in the Northern Hemisphere. In the event, however, the Argentine default saved the country from ruin, broke its dependency on international finance, stimulated exports, and created the conditions for a long-term recovery. The initial pain was the price paid for a realistic future. And the pain was experienced not only by the Argentine people but by those banks and financial institutions that had made the mistake of buying the bonds of a government that was patently unable to honor them. People who make unwise investments ought to pay the cost of them, and certainly they ought not to pass that cost to others who are innocent of fault.
Look at the case of Greece in this light and you will surely see that default is the right option. The Greek people have consistently voted for politicians who make unrealistic promises, offer unaffordable benefits, and borrow wildly on the international market in order to subsidize their folly. This is a mistake made by the Greek people, and mistakes must be paid for. German banks and others have made the mistake of buying Greek bonds, on the strength of a manifestly absurd conception of what the Eurozone will do for its peripheral members. This mistake too should be paid for. And after the pain, which will be considerable, all parties can begin again in a sober determination to do things differently, as the Argentines did. Only one thing prevents this happening, which is the fact that economic decisions have been confiscated by the politicians, who always strive to ensure that those decisions remain in the hands of some member of their class.
About the Author
Roger Scruton is a visiting scholar at the American Enterprise Institute. His latest book, How to Think Seriously About the Planet: The Case for an Environmental Conservatism, has just been published by Oxford University Press.
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Jack in Wi.| 12.14.11 @ 6:49AM
Endless bailouts are killing the world's economies. In the end some of this debt has to be flushed down the toilet. It is being done the old fashioned way by inflating the money supplies and screwing the savers and hard working people.
The IMF, World Bank, Federal Reserve and all the rest are just protection agencies for the crooks and prolifigate. It is time to take them and get rid of the worst and reign in the rest.
chuck| 12.14.11 @ 8:17AM
Greece is bankrupt and should be forced into default. Fannie, Freddie, the big banks, and Government motors should have been made to pay the price for there stupidity as well, and forced out of business. Someone would have come along, picked up the good pieces, and run with them. All the pain would have been over with in 6 months, and the economy would be rolling again. Instead, it's 3 years later, and there is no end in sight.
D. Singh| 12.14.11 @ 8:26AM
Sir
Mr Scruton argues his case persuasively.
It is generally recognised by European economists that once a government is charged 7% interest on its borrowings – it is in default territory – it finds itself in a situation of begging for loans to pay of interest on its existing loans.
Greece’s current costs for borrowing to pay for its bloated welfare state are – wait for it – 30%+.
Greece is down and out.
Today, Italy’s borrowing costs are at 7%+ - it is ‘not’ in bail out territory – as its economy is too big to bail out – the European Union does not have the money. It is only a matter of time before it too defaults.
In both countries tax evasion (illegal (tax avoidance is not)) is a national sport.
The Eurozone countries (Britain is not in the EZ) are rapidly heading towards the biggest catastrophe in the West’s history.
Further, banks in the European Union (as Bloomberg reported yesterday) are selling their most profitable assets that are located outside of the European Union (on the orders of the EU in to raise their capital ratios by 9% (underpinned by the EU’s bureaucrats’ fear of them not having enough liquidity – a diminishing liquidity manufactured by them in the first place) – madness – and are likely to focus on domestic stagnant economies – compounding their stupidity.
The ideology of socialism has shown repeatedly that you cannot insert a square peg into a round hole – the EU socialists insist that the square peg will fit into a round hole: insanity.
DTOM| 12.14.11 @ 9:51AM
The US Fed Funds rates went over 7% in the last half of 1969 and stayed there July of 1970, then in March of 1973 they went over 7% and stayed there until January of 1975, up again in January of 1978 staying there until March of 1986, peaking at 19.10% in 1981, in July of 1988 through the end of 1990 it was over 7%.
So was that when we first headed to default?
I suggest you are trying to address a very complex issue with a single measurement that is woefully inadequate to the task.
Back to the drawing board Mr. (or Ms. ) Singh!
Look at the data here: http://www.harpfinancial.com/I.....sRate4.htm
Oh you might consider real interest rates instead of nominal rates as a better indicator of future economic conditions. However, there are way too many hands on way too many switches to rely on the single data point that interest rates provide.
Stormy| 12.14.11 @ 8:55AM
America is on the same trajectory, accelerated by the Obama administration's policies. Four more years of this, and we will be Greece.
GregA| 12.14.11 @ 7:39PM
Four years? I think you're optimistic.
hardcard| 12.14.11 @ 9:00AM
stop BHO and soros
Petronius| 12.14.11 @ 9:58AM
It is senseless to mention the price of anything to those who don't believe they must pay for anything.
Timothy L. Pennell| 12.14.11 @ 10:39AM
Look. Economics is a Science. Sciences have Laws. You cannot take everything from the people who do the work, and give it to those who DON'T, and long survive. Translation: The problem with Socialism is that, sooner or later, you run out of other people's Money.
Bingo.
Supply and Demand is a Law. There is a Law of Diminishing Returns. There is also another Law, and it goes all the way back to DARWIN, so you would think that the LEFT would get it?
The Survival of the Fittest. It's an Evolutionary Constant. And one of Economics, as well.
Everything in this world, sooner or later, fails. A Bridge. A Wall. A Building. A Lava Dome atop a Volcano. An undefeated New England Patriots Team. (That's my favorite one) An Economic Theory. A Company.
Companies with a Business Plan that DOESN'T WORK, must be allowed to fail. That doesn't mean that all is lost. Like a Forest, devastated by Fire, it can all come back. That's what Chapter 11 is all about. Some Companies just need to Reconfigure. They just need to Reorganize. They need to "Get their SH*T together". And, some of them do. Others are absorbed by better Companies, with a better grasp of how to do things.
Can I get an AMEN?
It's the same problem that's going on, now. We think (some of us) that Failed Economic Systems should be allowed to FAIL. Some of us disagree. Some of us think that all we need to do, is throw MORE GASOLINE on to the Fire, if we wanna put it out.
You can't keep throwing good money after bad. It's like trying to use a bicycle pump, to reset the Bead on your Car Tire. It can't be done. This is gonna take Tough Love. It really is gonna take a lot of Shared Sacrifice. Not the kind where you take your Family on one Expensive, Fancy, Sun drenched Vacation, after another, while telling people on Food Stamps, and at Soup Kitchens, that they have to Sacrifice. It's not that kind, at all. It's the other kind.
3 day Work Weeks, don't work, anymore. Retiring after 3 Weeks at a No-Show Job, ain't gonna cut it, no more. You can't Retire at 35. Your Country has to PRODUCE Something.
Granted, I'm sure it was FUN, while it lasted, but it's time to snap out of it.
"There's no free lunch." At least, there never was. And, now, it looks like, those days are back, to stay. God Willing.
DTOM| 12.14.11 @ 12:24PM
TLP - I hear Meryl Streep is furious at you for stealing her line about socialism is great until you run out of other people's money...
HeeHaw.
Streep was cast perfectly as the Devil, absolutely perfectly. In my world she's typecast herself with that role...the only actress who would've been better would have been Jane "Traitorous" Fonda. But then I would never have watched the 'Prada' movie.
In any event, Meryl ain't no Iron Lady, she's more soggy paper mache.
shipley130| 12.14.11 @ 1:44PM
You forgot one theory that has failed......The hockey stick theory of man made global warming.
Ken (Old Texican)| 12.14.11 @ 11:18AM
Timothy,
AMEN!
however...
There are several structural problems in our economy we need to deal with.
1. manufacturing widgets has shrunk in the scheme of things.
2. Energy development is the key to putting people back to work by the millions.
3. Cancelling the regulatory climate MUST be addressed and conquered.
4. Projecting military clout must remain our first objective; (there is a world full of murderers after us).
5. The communists in our government MUST be thrown out on their ass... "one way or the other"!
(I personally prefer ballots.)
DTOM| 12.14.11 @ 12:27PM
Gotta get the un-elected executive branch commies and socialists out! Remember Joe McCarthy and the State Department in 1952? Joe was right, drunk, but still right.
And we absolutely must get back to leading in manufacturing here, in the US. That's how wealth is created!
Ruebacca| 12.14.11 @ 2:15PM
The banks are to politically connected to fail.
Controse| 12.14.11 @ 2:41PM
Excellent exposition on the subject! "politicians are in charge of it [the market]--in charge but not in control." says it all. The solution to our snowballing economic woes is so, so simple : let markets be markets. This piece gives us all what we need to be successful investors. That is jump back in once voters begin to grow up and vote market sponsoring politicians back in. Thank you.
Cicero| 12.14.11 @ 2:52PM
Banks don't make bad decisions, bankers do. What you have going on in Europe is the same as we went through in 2008. The political class is in the process of bailing out the bankers, who keep them in power. (No, I'm not a conspiracy theorist.) When Bear Stearns and Lehman were not bailed out, the world did not come to an end. Their stockholders lost their money, and their executives, who were paying themselves $100 million bonusses, were discomfitted. The investors lost THEIR money, and the execs will never work in the industry again - after they settle the lawsuits.
All a bailout in Europe means is that the publicly backed banks will buy new bonds that will pay off the old bonds currently held by the banks. When the new bonds come up for redemption, they will go into default,leaving the taxpayers to take the loss. The owners of the redeemed bonds will be sitting pretty, crying alligator tears about those poor little working class citizens whose assets are now worth nothing because their governments had to turn up the printing presses to keep the gamee going for one more spin of the wheel. But don't get me started.
Cicero| 12.14.11 @ 2:57PM
Don't understand the problem. Please advise.
richard ryan| 12.14.11 @ 5:33PM
Everyone jumps up and down cheering democracy. Everyone gets to vote! Hurray! Many people equate democracy with freedom. Does anyone care to guess how much freedom the Arab Spring "democracies" will bring about?? Well, sooner or later voters realize they can vote money in their pockets. The Greeks realized it, and here we are. The U.S. is well on its way to this miserable situation.
Should Have Impeached| 12.14.11 @ 9:38PM
Mr. Scruton:
Your first 1.5 paragraphs fairly jumped out at me, seeming to tidily sum up s-o-o-o-o much of what's wrong. I must print it and keep it. Thanks to you and Mr. Sowell!
Should Have Impeached| 12.14.11 @ 9:45PM
" The initial pain was the price paid for a realistic future."
My, you do write well!!
RJ| 12.14.11 @ 11:41PM
Outstanding article, Roger. I look forward to reading more of your work. It is a shame, and I think corrupt, that the politics of modern government transfers the burden of bad debt from the parties who entered into the debt agreement to the taxpayers who had nothing to do with it. Too much of government exists to allow the politically connected to steal from their fellow citizens.
Richard Baker| 12.15.11 @ 5:58PM
Lady Thatcher said something about the problem with socialism is that eventually you run out of other people's money. Exactly correct. The EU socialists have used it all up and they want more to come from where, the ether? The US has the same problem, as well.