Friday, May 07, 2010

Sovereign Shock and Awe

I have long argued that preemptive action - in the form of a good (read: conservative) policy mix - should be the preferred route of governments. The upside vs. downside of pursuing pedal-to-the-metal policy mixes is now being witnessed (in Anglo-Saxon land). The marginal upside (and its positive externalities), on a probability-adjusted basis never, in my opinion, outweighed the risks to systemic stability engendered in neglectful policy pandering to the present at the expense of the future. Europe too must accept its culpability, unable as it was to resist the Siren's call of me-too spend-now, worry-later goosing. But that was then, and this is now. Democracy in complex modernity (again, not solely in Anglo-Saxon land) has failed to deliver prudent management of the State's affairs (for different reasons). Libertarians may still argue markets were not free enough, but the reality of prolonged markets distortions by mercantilists that man-slaughtered bond market vigilantism, should have been enough to seek redress through tighter fiscal policy, tighter monetary policy (as implied by the Taylor rule), or both. Regulatory neglect, across financial centres, too played its part in the [hopefully] now-regretful feedback loop.

But pre-emptive action - the brave type witnessed in Germany's VAT rise several years ago - has been almost wholly absent for almost three decades. Since the days of Carter's malaise speech, and his subsequent electoral spanking, pulling "a Mondale", that is, even suggesting that taxes might need to rise to prudently satisfy the financing requirements of the State's expenditure has a been a political death-wish. The people have got what they asked for (more for less) year-in and year-out - and they should be both mindful and regretful in their culpability. A few developed countries have (politically) managed better, but this is likely a vestiges of collective memory or austere protestantism. I have recognized this, and thus argued, in particular, that the US will not, indeed cannot, fix the problem until the proverbial wagon has lost its wheels evidenced by an exemplary Team America Vomit-scene extraordinaire.

What should have been done has been evident to grown-ups (and some children) in the realms of fiscal, monetary, regulatory policy for the past decade-and-a-half. But again, that was then, and this is now. The present medicine is far more painful now, as any practitioner could forecast. And so despite knowing what is necessary, and the pain such obvious solutions will cause (no matter justly apportioned and implemented) discussions with a wise man yesterday raised an interesting question in regards to their acceptance and adoption by the polity. He posited that shock-therapy (not in the IMF sense), but in the sudden event occurance sense inherently is psychologically easier for humans to bear to bear than, how shall I call it, a prolonged gradual stoic voluntary austerity. The shock whether default, restructuring, etc. he argued, removes the oppositional barriers, and focuses peoples attention more clearly on the future and solutions, than on protection of parochial interests.

I have been somewhat idealistically prejudiced towards a northern-european rationalism, hence believed that neglect and financial demagoguery was more of a failure of political leadership and communication than of will. Regretfully, the political processes and media failures within our democracies coupled with general financial ignorance and the belief in The State Tooth Fairy cause me to relent, and seriously entertain the superiority of Shock-and-Awe as an motivator and aggregator or requisite political will, not just in the USA.

4 comments:

scepticus said...

"A few developed countries have (politically) managed better, but this is likely a vestiges of collective memory or austere protestantism."

The entire trajectory of the last 300 years is in effect a protestant ponzi scheme that started with the dutch and their rejection of the then prevailing catholic 'system': a heavy handed marriage of church and state which had built by the time of the reformation into a top heavy ponzi of the same essential nature to the one we have now.

The structure of that catholic system was state power legitimised by the church. We now have a state legitimised by the markets - that's what a bond market is.

The sudden event/restructuring you refer to sounds rather like a search for a new legitimising mechanism. That doesn't bode well for the so called market, IMO - there is no future for markets legitimised only by growth and that now require unsustainable unemployment levels to achieve yields which make the whole edifice stable.

I don't see that the missed opportunity for prudence you alluded to would have made any difference to the actual outcome had it been taken. But perhaps that's not what you meant.

joe said...

cassandra says, a wise man "posited that shock-therapy (not in the IMF sense), but in the sudden event occurance sense inherently is psychologically easier for humans to bear to bear than, how shall I call it, a prolonged gradual stoic voluntary austerity. The shock whether default, restructuring, etc. he argued, removes the oppositional barriers, and focuses peoples attention more clearly on the future and solutions, than on protection of parochial interests."

That is not right. The reason a "shock" allows compromise solutions to long-term problems in a democracy is because the shock makes then present conditions so unbearably painful that the important factions decide a compromise has to be an improvement. It is self-interest on a tribal basis.

And if you really supported preemptive action to fight risk to systematic stability, you should have argued against the big bank bailouts. The bank bailouts put us on track for competive devaluations, trade war, and hot war, which are bigger systemic risks than putting some poor bulge bracket banks to reorganize in chapter 11.

David Pearson said...

Cassandra,

Today market participants are screaming for the ECB to just print and make the problem go away.

Some day they will scream for the ECB to stop printing and make the problem go away.

The latter is when the real "shock and awe" will occur, and, ironically, it will be welcomed as preferable to the alternative.

Pablo said...

What is happening in Europe, and here the case of Greece, is the collusion of two worlds ?

As mentionned by scepticus, on one hand, you the social democracy world living at the speed of social reform: slow pace.

On the other hand, you have the speed of market, which incredibly increased (ex fat finger on PG).

Now, massive capital transfer is so fast that people in the street dont have any gut ideas on what's happening to them....

This collussion is creating a massive shock to european guys...

Herem further comments:

http://penseesjour.blogspot.com/2010/04/is-negative-swap-spread-leading-to-new.html