South By North Strategies, Ltd.

Avoiding the Irish Way

Simon Johnson of The Baseline Scenario argues that the Irish response to the recession is one the United States should avoid, not replicate.

Ireland, until 2009, seemed like a fiscally prudent nation.  Successive governments had paid down the national debt to such an extent that total debt to GDP was only 25% at end 2008 – among industrialized countries, this was one of the lowest.
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But the Irish state was also carrying a large off-balance sheet liability, in the form of three huge banks that were seriously out of control.  When the crash came, the scale and nature of the bank bailouts meant that all this changed.  Even with their now famous public wage cuts, the government budget deficit will be an eye-popping 12.5% of GDP in 2010.
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Ireland had more prudent choices.  They could have avoided taking on private bank debts by forcing the creditors of these banks to share the burden – and this is now what some sensible voices within the main opposition party have called for.  However, a strong lobby of real estate developers, the investors who bought the bank bonds, and politicians with links to the failed developments (and their bankers), have managed to ensure that taxpayers rather than creditors will pay.  The government plan is – with good reason – highly unpopular, but the coalition of interests in its favor it strong enough to ensure that it will proceed.
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When Irish-type banks fail, you have a dramatic and unpleasant choice.  Either takeover the banks’ debts – and create a very real burden on taxpayers and a drag on growth.  Or restructure these debts – forcing creditors to take a hit.  If the banks are bigger, more powerful politically, and better connected in the corridors of power, you will find the creditors’ potential losses more fully shifted onto the shoulders of taxpayers.

Social Security Fact Check

From Dean Baker at the Center for Economic and Policy Research …

The Congressional Budget Office projects that the program can pay all scheduled benefits through the year 2044 with no changes whatsoever. Even after this date it could still pay more than 75 percent of projected benefits long into the future (a level far higher than current benefits) even if no changes were ever made.
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In fact, these projections show that Social Security is on a sounder financial footing today than it has been through most of its history since it can go 34 years with no changes being made at all. This was not true at any point in the first 40 years of the program’s existence.

Editor’s Note

Policy Points will be updated on a reduced schedule during the week of March 22, 2010. Please check periodically for updates.

The U.S. Isn’t Greece

Dean Baker of the Center for Economic and Policy Research explains the problems in comparing the United State’s economy to that of Greece.

If we get serious, we see that the US and Greece have almost nothing in common. Greece has a small economy that is still largely dependent on tourism and agriculture. It also has a horribly corrupt government. The Organization for Economic Co-Operation and Development estimates that more than 30 percent of its GDP consists of gray market activity that escapes taxation. Even if this figure is exaggerated, the size of the underground economy is certainly much larger in Greece than in the United States.
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Greece also has the huge disadvantage of being tied to the euro. This matters for its crisis because currency devaluation, the most obvious mechanism for restoring international competitiveness, is not open to Greece.
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By contrast, in spite of the loss of more than one-third of its manufacturing jobs since 1998, the United States remains a manufacturing powerhouse. It’s manufacturing sector produced $1.4 trillion in 2007, the last year before the crisis. The United States also has a vibrant high-tech sector and has huge agricultural and tourist sectors.

Misplaced China Fears

In The New York Times, Paul Krugman explains why fear of China’s “dumping” of dollar holdings doesn’t actually threaten the United States’ well-being.

What you have to ask is, What would happen if China tried to sell a large share of its U.S. assets? Would interest rates soar? Short-term U.S. interest rates wouldn’t change: they’re being kept near zero by the Fed, which won’t raise rates until the unemployment rate comes down. Long-term rates might rise slightly, but they’re mainly determined by market expectations of future short-term rates. Also, the Fed could offset any interest-rate impact of a Chinese pullback by expanding its own purchases of long-term bonds.
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It’s true that if China dumped its U.S. assets the value of the dollar would fall against other major currencies, such as the euro. But that would be a good thing for the United States, since it would make our goods more competitive and reduce our trade deficit. On the other hand, it would be a bad thing for China, which would suffer large losses on its dollar holdings. In short, right now America has China over a barrel, not the other way around.