This morning the Euro crisis moved on from the still unresolved Greek issue to Italy. There is nothing new here except that Italian PM Silvio Berlusconi said he would resign after an austerity package was passed and move the nation ahead into new elections. How did that happen?
This highlights the critical difference between how the US has been handling the Depression so far, which has been primarily to spend our way out, versus the European belt-tightening austerity being forced on member nations. That difference is stark, but it was not a choice – the Euro system is set up so that it cannot do anything else. It’s that inflexibility that is driving the crisis which has the world running scared.
What happened was a complex chain reaction that spooked the markets, as most news does these days. Despite no love for Berlusconi in bond markets, the possibility of instability in Italy made everyone nervous. That caused a sell-off of Italian bonds which, as the market works, drives up the net interest rate on the bonds out there. Higher rates make it more expensive to borrow, which is to say that the already cash-strapped nation is going to take an even bigger hit by borrowing on higher interest. The rate just hit the point where Greece was forced to look for relief from its debts, which means that it may be time for the European Central Bank to step in and arrange a big rescue package for the much larger Italy.
Got it?
Nothing really changed overnight, but the potential for more bailout has increased. And that highlights the problem that Europe has right now which is a system duct-taped together without a strong central authority that could do what we have done here in the USofA – spend, print, and otherwise get a lot more money out in circulation. Our Federal Reserve has been able to make overnight loans and craft “Quantitative Easing” packages while the Federal government ran huge deficits because we can do that. The Fed simply buys up Federal Debt with money they more or less printed. Thus more money gets into circulation.
Contrast that with the European Central Bank (ECB), which cannot borrow on its own and has no related authority which can issue “Euro Bonds” backed by the member nations. It has to go to nations one at a time – usually starting with Germany and France – to ask for support for what they need to do. The bank itself has a very limited charter and their mission states clearly:
The European Central Bank and the national central banks together constitute the Eurosystem, the central banking system of the euro area. The main objective of the Eurosystem is to maintain price stability: safeguarding the value of the euro.
Translation: We ain’t printing more pretty bills here. Our job is to keep it all on an even keel.
There are some great benefits to a system like the ECB and its related institutions. One of them is that by giving them a charter to focus exclusively on price stability (inflation and deflation), they have a task they can manage well. Our Federal Reserve, by contrast, has to watch price stability internally, the value of the dollar as an international standard globally, and our balance trade inbetween. If that sounds like an impossible job to you … well, it is. Bernanke is doing the best he can. The Euro system has one big drawback which is that it cannot respond to a crisis as quickly as the US one because the ECB does not have enough authority on its own. Hence it has to beg Merkel and Sarkozy for cash, crisis by crisis.
Back to the crisis del giorno – what is up next for Italy? The magic point that was crossed was not a sign of impending doom but merely a line that has signaled trouble in the past. Investors generally do not want any more news out of Europe and this little tidbit has turned an otherwise fluid story into something that can be reported with black ink on a white page.
Nothing has really changed and everyone saw this coming a long time ago. But it highlights the inflexibility of the single currency system put together with duct tape and a complete lack of any central authority that can make things happen. Our system, despite its flaws, is far more flexible and responsive. Remember this the next time a politician calls our Federal Reserve system “treasonous” or otherwise plans to abolish it.
Barataria - The work of Erik Hare 
That’s not that complicated a story for Italy. It is what happens to just about anyone who maxes out their credit cards and has the bank raise the rate on them. Italy is no different than a person who went on a spending spree. We will have to do that too but we are able to put it off longer is all.
You know, I could have saved about 700 words by saying it that way. 🙂 The USofA is able to put off a reckoning, yes, but that does not necessarily mean that we meet the same fate later. A lot depends on what we do with the time we can buy.
Given that we know there are major transformations going on in our economy we can use our (still) good credit and mechanisms for borrowing to get us there. I agree, however, that simply maintaining the spending spree only gets us to the same place slower – which is mostly what I think we’ve done over the first decade of this Managed Depression.
Is it fair to assume that since there wasn’t any real news behind the market drop that it may come back again as it has in the past?
Well, it might. Corporate profits are what usually drives the stock market, and they are not bad right now. A lot of my friends on the Left will say that these profits are a bad thing, but they have been leading into something like a mild expansion and the need for more employees – which is getting a bit stronger all the time (though it is still very weak).
So if the market is watching corporate profits and a stable if slowly improving job picture, it should rebound. If it becomes convinced that Euroland will take down the developed world it’ll stay down. Something tells me that MF Global is a bigger story for us because it reminds us how Europe affects us here in the USofA – and then we start to care about Italy, a nation whose internal politics (let alone EU politics) is utterly unfathomable to us. That’s a good way to cause worry. Justified worry? The short answer is “No”, but the long answer is “Yes”. 🙂
so our system makes quick action possible … it also makes hidden action possible behind closed doors … at least in europe they have to bail out the big companies and banks in the light of day
Yes, that is true. We definitely need more disclosure at the least. The last time we got it the bill was sponsored in the House by Ron Paul and in the Senate by Bernie Sanders – that tells you something about the politics of getting that to happen. And the result was breathtaking – I covered it last December in a piece linked above.
I do agree completely that more openness is very important, as are checks and balances more like the Federal Government itself (as I have also written). But I hold that at its root our system will beat theirs anytime in a crisis – and there is reason to believe that globalism and new economic theories are going to dramatically increase the number of financial crisis that need attention.
The ECB actually raised rates over the last year, didn’t it? I don’t think that was very wise policy given the need to get things moving. They claimed to be worried about inflation, as you talked about here, but it seems that with a major national debt crisis there would be a lot of Euros vaporizing overnight. So I don’t think they have a consistent policy other than more and more austerity
Right. They are doing one thing and doing it well. They are not the bailout bank – and they really can’t be. That’s up to Germany to bail out everyone – or so it seems. This doesn’t make a lot of sense to most of us in the USofA, but it’s the reality. I do agree that they may well have to reduce rates again when it all hits the fan, so they may yet be part of the solution – but not really on purpose.
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