Wednesday, 9 November 2011

Policy can trump unpopularity - A way to solve the EU crises

By Martin Hutchinson

As is well known to readers of this column, it is my considered opinion that economic policy and management reached a global all-time apogee (so far - one can always hope) under the British prime ministership of Robert Banks Jenkinson, Lord Liverpool (prime minister, 1812-27). However Liverpool is generally thought to have had one enormous advantage over modern policymakers in not having to deal with a modern democracy. Unlike modern democratic leaders, he was thus only moderately constrained by his policies' temporary unpopularity.

The Greek crisis has however graphically illustrated that popular resentment at unpalatable economic change is very much as it was in 1812-20, and that policymakers responding to that resentment are at least as insulated from popular feeling as were Liverpool and his government. Unfortunately, unlike Liverpool, they are not using that insulation to good effect.

If the European Union's policy elite had possessed Liverpool's depth of economic understanding, the crisis would have been easily solved, and indeed would not have arisen in the first place. Liverpool would have put Europe onto a gold standard; if he had been thwarted in that he might well have supported the euro but would certainly not have admitted Greece into its membership.

He would immediately have spotted the disgraceful discrimination against the private sector involved in the Basel Committee's zero rating of government debt, a principal cause of the crisis because it has favored bank funding of excessive government deficits over productive lending to the private sector. He would have opposed root and branch governments increasing their deficits through "stimulus" spending, pointing out the superior recession-fighting record produced by his own 1816-19 austerity.

Once the crisis had arisen, Liverpool's solution would have been simple and complete. He would have perceived by a simple analysis of relative productivity that Greece had no hope of solving its problems while it remained a member of the euro. He would thus have forced it to readopt the drachma when the crisis first arose, in spring 2010. Following such re-adoption the drachma would have immediately devalued by about two thirds, taking Greek per capita income down to about $11,000 from the $32,000 at which it stood in 2008.

Naturally a further result would have been a Greek debt default, from which Liverpool would have stood back entirely. If the Greek government wished to bail out its banking system with drachma paper (thereby weakening the drachma further) that would be its choice, but not one cent of German and Swedish taxpayer money would be provided to facilitate this process.

Similarly, Liverpool would have allowed the Irish government to default, as a result of its foolish 2008 attempt to bail out its banking system, and would have given Spain, Italy and Portugal the alternative of leaving the euro or adopting austerity programs rigorous enough to keep them members (those austerity programs would have needed to be less rigorous than Latvia's, but in any case their adoption would have been a matter for the national governments themselves, with neither coercion nor extra resources provided by the EU.)

Should Liverpool's rigorous policies have caused problems in Europe's overleveraged and badly managed banks, Liverpool would not have stopped the European Central Bank from providing resources to eurozone banks, but only on the terms eventually prescribed by Walter Bagehot - short-term loans against first-class security at punitively high interest rates. There would have been no bailouts, as Liverpool, with his knowledge of the 1720 Mississippi and South Sea crashes, would have regarded "too big to fail" as being equivalent to "too big to be allowed to live".

Liverpool's policies would thus have been dictated neither by sentimentality about the inevitable short-term pain his policies would cause, nor by political considerations of their probable unpopularity, but simply by their likelihood of solving the problem in a market-friendly way and thereby allowing economic growth to resume in the Eurozone as a whole. They would have been basically free-market oriented, but not dictated by free trade or other dogma, as were the policies of the free traders a generation later.

By their apparent harshness, they would have made him highly unpopular, yet they would have stopped economic decay in its tracks and would have allowed Europe to rise above the problems of its periphery, while that periphery led productive existences at the lower living standards justified by their modest output potential.

The Liverpool government's attitude to popularity was best expressed not by Liverpool himself but by his colleague Robert Stewart, Lord Castlereagh, who as leader of the House of Commons bore much of the opprobrium for Liverpool's policies. In 1821, after the 1816-19 "double-dip" recession had lifted, he remarked "I am as popular now as I was unpopular formerly, and of the two, unpopularity is the more convenient and gentlemanlike."

Some years ago I wrote a piece quoting Castlereagh and extolling the virtues of unpopular economic policies. The piece was picked up by the Almaty Herald - it was doubtless to the taste of Kazakhstan president (since 1991) Nursultan Nazarbayev, who felt it proved that his economic policies, being unpopular, must therefore be beneficial. I would like to correct any misapprehension: my extolment of unpopularity was not intended to justify every action of Central Asian dictators by suggesting their economic policies must be superior. The unhappy fact that good economic policies are often unpopular does not imply that unpopular economic policies are ipso facto good.

Liverpool would have understood the EU bureaucracy's desire to insulate itself from populism, and would have been intrigued by the ingenuity of some of the mechanisms by which it achieves this insulation. The idea of a permanent appointed secretariat that was only distantly accountable to the electorate would have seemed to him a plausible alternative to the pre-1832 franchise of rotten boroughs, open vote purchase and limited voting rights.

However, he would have scoffed at claims by the EU leaders that their supposed democratic antecedents gave them a moral superiority and would have correctly pointed out that his pre-1832 franchise was far more accountable than the EU bureaucracy, in that it gave considerable weight to public opinion when broadly held over a prolonged period.

In any case, Liverpool would have had no time at all for the policies the insulated EU bureaucracy pursues. He would have regarded its economics as riddled with error, and the mantra that "economists never agree" as a mere excuse to justify that error - he would have pointed out that the members of the average high school algebra class don't agree on the solution to the week's problems, either, but that's because half of them have bungled their calculations.

He would have regarded EU attempts to impose their lifestyle and ideology choices on the people of Europe as appalling tyranny, which would have reminded him most of the fanatical and cruel Jacobins of Maximilien Robespierre, a movement with which he was very familiar. As I remarked above and Liverpool was well aware, insulation from democratic accountability does not necessarily produce good policies, and in the case of the EU apparatchiks it has bred arrogance and corruption.

Whereas the policies and desires of the EU bureaucracy would have appeared strange and repellent to Liverpool, those of the Greek rioters would have been completely recognizable. His ascent to power, after all, coincided with the Luddite anti-machinery riots. The fury of a populace finding unpalatable change imposed on it by economic forces outside its control would have been entirely explicable, as would the even greater fury of a people losing economically unjustified comforts to which they had become accustomed.

Greek prime minister George Papandreou's claim on Thursday that "We are bearing a cross and we are being stoned", with its extreme biblical overtones, would have appeared very similar indeed to the rantings of "Orator" Hunt and his peers.

Perceiving the Greek problem and anticipating the Greek reaction to policies imposed by the EU bureaucracy, Liverpool would have rightly informed German Chancellor Angela Merkel and French President Nicolas Sarkozy that the correct response to such rhetoric and disturbances is firmness, not handouts.

In the Greek case, firmness, ie forcibly restoring the drachma, is perfectly feasible, since the EU authorities are not in reality subject to significant democratic control. Moreover, the economically superior outcome of a firm policy, as with Liverpool's own firmness in 1816-19, would restore tranquility even to the aggrieved Greek populace within a very few years and would preserve economic stability and growth elsewhere.

In this crisis, there is thus no excuse for Europe's leaders not pursuing policies that actually work.

Martin Hutchinson is the author of Great Conservatives (Academica Press, 2005) - details can be found on the website - and co-author with Professor Kevin Dowd of Alchemists of Loss (Wiley, 2010). Both are now available on, Great Conservatives only in a Kindle edition, Alchemists of Loss in both Kindle and print editions. 

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