2015: Gigantic cancellation of public debt
In 2015, public debt in the Eurozone will come close to 100% of GDP, to which hidden debt should be added, i.e. the part of the cost of an ageing population which is unfinanced. In the space of one year, European public debt has increased by 400 billion euro and since 2007 by 3,000 billion euro! As the Maastricht criteria set the threshold of tolerable public debt at 60% of GDP, this means that excess European public debt has also reached 3,000 billion euro, i.e. the equivalent of Germany’s GDP, an intolerable situation.
It is no longer a question of knowing whether the Eurozone states are at fault: most are so in societal terms, insofar as the weight of public debt is not transposable into the future. This is because it is not the debt, as such, which is important but its coherence with prosperity and future income. Public debt does not provide any benefit whatsoever to future generations, whereas they will have to pay for the cost of reimbursing it. Furthermore, this debt no longer finances investments, but instead transfers. Moreover, how is it possible that a debt crisis can be solved via budgetary restraint and unemployment, i.e. to the detriment of those who will have to reimburse it?
The model of the welfare state financed by debt is at the root of this situation. However, public debt has also soared due to the economic crisis and banking bail-outs. Additionally, it is accentuated by the absence of economic growth and the single currency which has imposed German borrowing conditions, which are abnormally low, on the European states.
The Euro, which was nonetheless a market economy choice, was conceived by politicians who did not want to go all the way with a single currency, namely to bring about a reasonable decrease of States’ role in the economy. On the contrary, before 2008, many countries benefited from the dilution of their domestic currency via a gigantic windfall effect powered by the strength of the German economy. Public debt grew at low cost, as if it was painless. No discipline was evident via interest rates that should have increased to warn of the excess of public debt.
Obviously, it can be said that public debt, as suggested by Karl Marx, is fictive capital. It is never reimbursed and is diluted as the years pass by into permanent refinancing. From such an angle, it can be imagined that the debt is natural, in the way that it reflects a continuous transfer of the State’s creditors towards the public sectors, like an enormous social security system. In such a case, debt would not be very consequential. It would represent for private savings what taxes are to professional incomes. Indeed, it would even be the very incarnation of the State since its refinancing determines fiscal and redistributive mechanisms.
Unfortunately, the Marxist analysis is somewhat limited, because excessive debt is probably the main hurdle for fluidity of capital and reducing the cost of labour. In fact, if debt is refinanced by taxes, it is inevitably employment that suffers. Public debt therefore represents a continuous drain on productive growth. Unfortunately, when public debt is too high, it is no longer the creditors who enforce obligations on the debtors: the debtors themselves impose cancellation of debt on their creditors. The monetary order is, in fact, always subject to the social order. In concrete terms, this means that the flow of financial transfers changes direction: the State’s creditors have to bear the impoverishment rather than the debtors of taxes on labour.
The European economy has therefore come to a dead end. According to Keynesian logic, the states should embark on a policy of budgetary deficit in order to stimulate demand. However, this could lead to an increase in interest rates which would put a brake on the demand in question and would geometrically weigh down on public debt. Furthermore, intensification of public debt would require, eventually, increases in taxes although the European social model is already heavily taxed.
How can we escape from this vicious circle? There are many who point to positive exit in a manner external to debt public, in particular by growth (which decreases the relative burden of public debt) or via inflation (which dilutes the value of debt). Unfortunately, there is no growth and the position of Germany means inflation cannot be a solution, even though this method is being used by the USA, the UK and Japan. Furthermore, more significantly, the European Commission is enmeshing itself in policies of budgetary restraint.
With inflation, I now fear that we will only exit this public debt crisis in a negative way and one related to public debt, i.e. via a decrease in spending power of the currency itself. It is, moreover, intuitive: behind public debt, it is the currency that is in the line of fire. This is the reason why excessive public debt always leads to a weak currency. Besides, it is painstakingly obvious that the combination of a confederal and single currency cannot keep in step with budgetary policies that remain federal and such high public debt. Only countries that have had international reserve currencies (the UK at the start of the 20th century and the USA at the present time) are able to impose their public debt on the rest of the world. With a currency that is only in its teens, Europe is far from finding itself in such a position.
In concrete terms, if the trend of lack of access to the financial markets for certain countries in Southern Europe is confirmed, it will be necessary to prepare for cancellation of debts. In such a case, it will be a case of “internal” defaults, as was the case in Russia in 1998.
Southern Europe will therefore experience something akin to the Gutt operation in a 21st century setting. It will not be a question of replacing, as in October 1944, the Belgian paper currency by new notes, because the currency is a single European one and essentially dematerialised. What will probably occur is a rescheduling (i.e. a forced extension of maturities) of public debt with simultaneous lengthening of commitments regarding insurance policy and pension holders (with the capital transformed into annuities, etc.). Again, this would not result in a generalised default of European debt, but dissolutions and compensations of debt at national level. For instance, the operation in Cyprus is a perfect illustration of a Gutt operation involving confiscation of bank deposits to reimburse public debt. However, there will be other methods: defaults (Greece), cancellation of bank debt (Ireland) and confiscations (compulsory appropriation of State pensions in Portugal and insurance reserves in Hungary).
Such cancellation of debt would require prior control of capital and nationalisation of the financial sector or, at the very least, the freezing out of private shareholders. These decisions would affect the shareholders of banks and insurance companies, before impoverishing depositors, as in Cyprus. The very basis of the market economy, namely private ownership, would be affected. The financial institutions in Northern Europe would of course suffer collateral impacts.
But isn’t this debt cancellation scenario worthy of a disaster movie? On the contrary, it could become a reality: it is now necessary to start looking at possibilities of debt cancellation. Many clues are pointing in this direction. Amongst them is the remigration of public debts to their country of origin (Portuguese public debt has been bought out by Portuguese banks, etc.). The financial transfers from Northern Europe to Southern Europe have been parsimonious whilst the idea of Euro-bonds has been dismissed. This is in keeping with the German standpoint which dictates that a country’s debt must be strictly financed by domestic savings.
It would require extreme circumstances for economists to call for financial repression, i.e. a combination of capturing savings and low interest rates. Furthermore, as illustrated by the operation in Cyprus, a Euro could end up not having the same value in different countries, as was the case during the Gutt operation.
The public debt crisis will force each country to face up to its own reality. Fortunately, Belgium will never be subjected to a second Gutt operation, because our public debt is for the most part financed by people’s savings and is low in comparison to the overall wealth of individuals.
In conclusion, we are teetering on the abyss of major socio-economic crashes. We must stop deluding ourselves with natural attrition of public debt through growth that is conspicuous by its absence. In Southern Europe, it is naive to imagine that the currency, bank deposits and insurance reserves will maintain stabilised spending power whilst their counterweight is to be found in public debt that cannot be paid off.
We must accept “fiscal dominance”, i.e. subservience to more flexible budgetary policy concerning monetary policy. The perseverance with austerity measures will only end badly in Southern Europe, which will have to face social unrest and the disappearance of financial assets. Or rather, its end result will be at the expense of those who are recommending it. Even in the countries of Northern Europe, care must be taken: it will not be possible to painlessly liquidate a model that is at the root of immense public debt.
