Tuesday, June 12, 2012 - Cleaning Off My Desk on an Off Day - by Sinclair Noe

Did you notice that the Non-bailout Spanish Bank Bailout grew over the weekend?  Last Friday, the International Monetary Fund said Spain's banks would need to raise at least $46 billion dollars as a buffer against a sharper economic contraction and to stabilize the Spanish financial system and prevent contagion to the rest of the Euro-zone. Before the weekend finished, the bailout had grown to more than $125 billion and we were already hearing warnings that it wasn't enough. 


The bailout has almost no chance of success and it seems just a matter of time until the Euro-powers that be impose harsh conditions on Spain. The Euro-zone leaders seem unwilling or unable to change from their austerity policies, even as Greece and Spain fall apart and the core euro-zone economies contract. Four years after the financial crisis began, many rich capitalist economies have not recovered their pre-crisis output levels. There are 60 million fewer people employed worldwide than if the pre-crisis trend had continued. In countries like Spain and Greece, overall jobless rates are approaching 25%, with youth unemployment over 50%. Even in countries experiencing "milder" unemployment problems, like the US and the UK, between 8% and 10% are out of work. If we include those who have given up looking for jobs or those who are forced to work part-time for want of fulltime opportunities, "real" unemployment could be easily over 15% even in these countries.


The remedies on offer are well known. Reduce budget deficits by cutting spending – especially "unproductive" social welfare spending that reduces growth by making poor people less willing to work. Cut taxes at the top and deregulate business cut red tape, provide tax incentives to invest and generate growth; and make hiring and firing easier. Except it isn't working.


And there is also plenty of historical evidence showing that austerity remedies have never worked. The same happened during the 1982 developing world debt crisis, the 1994 Mexican crisis, the1997 Asian crisis, the Brazilian and the Russian crises in 1998, and the Argentinian crisis of 2002. All the crisis-stricken countries were forced (usually by the IMF) to cut spending and run budget surpluses, only to see their economies sink deeper into recession. Going back a bit further, the Great Depression also showed that cutting budget deficits too far and too quickly in the middle of a recession only makes things worse.


As for the need to cut social spending to revive growth, there is no historical evidence to support it either. From 1945 to 1990, per capita income in Europe grew considerably faster than in the US, despite its countries having welfare states on average a third larger than that of the US. Even after 1990, when European growth slowed down, countries like Sweden and Finland, with much larger welfare spending, grew faster than the US.


Also there is no historical evidence to support tax cuts and deregulation as a remedy resulting in  investment and growth; this was tried in many countries after 1980, with very poor results. Unemployment rates in the major capitalist economies were between 0% (some years in Switzerland) and 4% from 1945-80, despite increasing labor market regulation. There were more jobless people during the 19th century, when there was effectively no regulation on hiring and firing.


In Spain, 50% of young people are unemployed while the priority is to to bring the deficit down from 9% of GDP to 3% in three years? And there are several major American cities that also have massive unemployment, especially among young people. A society in which the rich have to be made richer to work harder while the poor have to be made poorer in order to work harder. Where there is shared sacrifice, shouldn't there be shared prosperity? 




Sheila Bair, the former Chairwoman of the FDIC says efforts to increase and improve regulation of Wall Street have bogged down. She has formed a new group, the Systemic Risk Council, that will monitor and encourage regulatory reform. 


Bair says: “The great challenge is to devise a system to identify risks that threaten market stability before they become a danger to the general public. We need a more effective and efficient early-warning system to detect issues that jeopardize the functioning of U.S. financial markets before they disrupt credit flows to the real economy. And two of the most critical tasks are how to impose greater market discipline on excess risk-taking and effectively end the doctrine ‘too big to fail.’”


The Dodd-Frank act passed in 2010 provided for numerous steps, including the creation of an Office of Financial Research that was supposed to help the newly created Financial Stability Oversight Council in identifying threats to financial stability and deciding which financial firms were systemically important and how much additional regulation they should receive. That council is composed of all the major regulatory bodies, and so far it has accomplished little. So far, regulators had so far missed two-thirds of the 221 deadlines for adopting regulations set forth in the law.


The main reason for the delays in implementing reform? The banks have been fighting reform. Senator Dick Durbin said it best about 3 years ago: "the banks -- hard to believe in a time when we're facing a banking crisis that many of the banks created -- are still the most powerful lobby on Capitol Hill. And they frankly own the place," 


Have you been following the story about the Stuxnet cyber weapon? This is the software virus that was widely believed to have been used by the United States and Israel to attack Iran's nuclear program. Turns out some of the software code used in Stuxnet may be the same code used in the Flame virus, which was a cyber weapon used back in 2009 in the Middle East. Flame is a highly sophisticated computer virus that disguises itself as common business software. It was deployed at least five years ago and can eavesdrop on conversations on the computers it infects and steal data. If the United States is proven to be a force behind Flame, it would confirm the country that invented the Internet is involved in cyber espionage -- something for which it has criticized China, Russia and other nations. Instead of issuing denials, authorities in Washington recently launched investigations into leaks about the highly classified project. Two years ago at the Wealth Protection conference I said Cyber-war would be a major trend in the years to come. Most people thought that was a little crazy. A Pentagon report last year that outlined the still-evolving U.S. cyber strategy said economic espionage could prove the greatest threat to long-term U.S. interests, pointing to thefts of industrial and defense secrets via Internet spyware. 


You may have noticed that the price of a gallon of gas has dropped about 30 cents since late April, while the price of crude oil has dropped more than $25 a barrel; there seems to be a lag. We have been so preoccupied with oil prices that you probably didn't notice a report a few months ago from the National Intelligence Council (don't even ask me who they are); they claim that water shortages will likely lead to political disruptions and many more violent wars in strategically important regions over the next decade. We could live without oil. We can't live without potable water.