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2010 May 18 Tuesday
Western Government Reach Expanding?

Ross Douthat looks at governments and see expansion and concentration of power at higher levels of government.

But look through these anti-establishment theatrics to the deep structures of political and economic power, and suddenly the surge of populism feels like so much sound and fury, obscuring the real story of our time. From Washington to Athens, the economic crisis is producing consolidation rather than revolution, the entrenchment of authority rather than its diffusion, and the concentration of power in the hands of the same elite that presided over the disasters in the first place.

Among the examples he cites is the EU massive bail-out to prevent sovereign debt default. But my sense is that Western governments are overreaching and that their interventions won't succeed. Also in the New York Times Paul Krugman shouts that the wobbly euro zone members need to cut wages 20-30% to regain their competitiveness. They can't hope to grow their economies to pay down their debts when their labor forces (at least those still working) are so overpaid.

WAGES IN THE PERIPHERY NEED TO FALL 20-30 PERCENT RELATIVE TO GERMANY.

This can't be done inside the euro unless the European Central Bank decides (against vehement German opposition) to inflate the euro. If the ECB could do this then Germany and the Netherlands might find it sensible to form their own sound currency union outside the euro.

The European Union's leaders might turn the financial crisis to their advantage and create a real political union with greater central powers. But the market has a say in this. Greece's debt is so large and growing larger that avoidance of default can't be done without taxing citizens of other European countries to pay for Greece's government. I am very skeptical this can be done.

On a similar note, Barack Obama just signed into law a big expansion of medical entitlements. Obama has also continued George W. Bush's policy of large scale military deployments and fighting in Muslim Middle Eastern countries. All this costs big money. But the US government's debt is on a course that runs a very real risk that capital markets will turn against American debt. Again, an overreaching government could be forced into a big retreat - just as has been happening for years in California and more recently in Greece, Spain, and Portugal.

I see the Western nations as coming off a high water mark. Aging populations, huge unfunded entitlements, growing debt, wobbly financial institutions, and the approach of Peak Oil seem very likely to come together and force huge retreats and reductions in scope of what governments do. Simply put, they can't afford the expansive roles they've developed for themselves.

Update: Could governments expand their powers in economies that go into long term contractions? Certainly, the US government expanded its power in the Great Depression. But now the US government many other Western governments have entered into what Bill Gross calls a public debt ring of fire where their existing debt is becoming unsupportable. They can't go on a borrowing binge to fund another expansion in scope of government. The credit markets are going to push back and hard. Legislatures are going to meet Mr. Market and Mr. Market is going to say NO.

The US government spending splurge in response to the financial crisis of 2008 might well be the great expansion of government before a shrinkage that fits the model we see in California, Ireland, Greece, and next Portugal and Spain. The only way the US government can avoid this reckoning is to inflate away its debt. So the key question: Will the US government force the Federal Reserve to inflate away most of the US public sector debt? I am very curious to hear arguments on this question. We should adjust our investment portfolios very drastically one way or another depending on the answer to that question and make career decisions based on it as well.

Share |      By Randall Parker at 2010 May 18 11:28 PM  Economics Political


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Comments
gig said at May 19, 2010 6:33 AM:

yep, I wrote in this blog a few weeks ago. I was astonished to see that the European Union is seeing the crisis as an opportunity to expand itself, by effectively unifying the national fiscal policies, or "harmonyzing" them, in EU-speak

well, huge entitlements are still wrong, ageing populations are still bad, and low IQ people benefits are still costly no matter who sets fiscal policy.

Add to that insolvent banks, and everyone now suspects that the German and Italian moves of yesterday were motivated because at least one major bank in each country reached Lehman-levels of solvency, and also add that the Bureaucracy in Brussels is notoriously incompetent, and everything points to a collapse ahead

Dude, the Welfare State will implode. ANd since its a question of when, not if, the sooner the better. Beter to see it imploding while I am young instead of reaching middle age still paying taxes for the parasitic classes

Black Death said at May 19, 2010 7:15 AM:

As Pat Buchanan points out in his current column, economic nationalism is tearing the EU (and the Euro) apart. The Germans rightly wonder why they should be on the hook for the profligate spending of the Greeks, Portuguese, Spanish, etc. Good question! Why should the Germans have to pay higher taxes and give up their savings to bail out countries that have created their own economic messes?

I'm going to Germany in two months. The crashing Euro should make for a fine visit!

James Bowery said at May 19, 2010 8:27 AM:

Black Death asks: The Germans rightly wonder why they should be on the hook

What are you: Some kind of neo-Nazi?

CamelCaseRob said at May 20, 2010 5:47 AM:

What government action would be worst for the middle-class? I suspect that that is the way governments will go.

Black Death said at May 20, 2010 11:10 AM:

Pat Buchanan said:

Germans may be ready to shed the sackcloth and ashes they have worn for 65 years and start looking out for Deutschland uber alles.

bbartlog said at May 21, 2010 9:55 AM:

I think there's no question that there will be inflation. The issue is that so long as we are in this credit-collapse, deflationary phase, the federal reserve can expand the money supply without any apparent ill effects (and they'll even counter some of the deflation as a bonus). Thus it becomes pretty much politically impossible to *not* sow the seeds of terrible future inflation. For investors, timing the inflection point is difficult. Could be years before something starts really pulling on the string that the fed is currently pushing on to the pile.
The idiocy of the narrative that Krugman and other inflation doves are pushing (publicly) is that they more or less treat the whole system as if it only had first-order dynamics, like a faucet. Inflation too high? Fed raises rates, inflation goes down. CPI is steady near zero? Must be that all those people worrying about inflation are crazy. Unfortunately the monetary system is not like that at all; it has plenty of room for invisible momentum and ruinous unrealized potentials.
I will say though that in the long run I believe that inflation is the only way out of this mess. So I think it's entirely possible that there are clever Machiavellians at the Fed who know exactly what they're doing, and who just pretend to care about inflation as an act for public consumption.

Randall Parker said at May 23, 2010 11:25 AM:

bbartlog, Yet the Japanese have avoided inflation. How to explain Japan over the last 20 years?

I would be more confident of the inflation scenario if we saw more inflation popping up. But it is amazing how far the Fed has lowered interest rates and for how long without inflation showing up.

Maybe debt defaults are destroying money faster than the Fed is causing new money to be created? I do not profess to understand. But here we are with high oil prices and a Fed doing what it can to apply monetary stimulus and prices are stable.


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