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Global economy rescue going awry

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Governments have announced ambitious programmes of economic relief. Regrettably, they remain trapped in the conventional modes of fighting recession, without acknowledging that this time it must be done differently.

Now that the waters of the devastating Covid-19 tsunami have started to recede, it is time to take inventory of the damage caused and ask if we are doing the right things to tackle it.

The damage has been immense, on a scale not seen in the past 150 years. To give just two examples, one on each continent, we already know that more than 22 million American workers have enrolled for unemployment benefits in just the four weeks since the social-isolation measures in mid-March.

In Spain, almost five million workers, including employees and self-employed, are under temporary regulation (suspension) of employment and 900,000 have stopped contributing to social security. Most of them are sure candidates for unemployment, which the International Monetary Fund expects to reach 21 per cent by the end of 2020.

The drop in consumption is estimated at between 30 per cent and 40 per cent. And all this disaster despite an enormous effort of fiscal spending, which will bring the deficit to about 12 per cent of gross domestic product.

We do not yet have figures on how many of the companies “temporarily” closed will be able to reopen. Reopening is not as easy as turning a key, least of all when demand has plummeted as well. In many cases, the temporary suspension likely will become a permanent closure, implying a permanent loss of productive capacity. Every country will emerge poorer from the crisis.

Unfortunately, the governments of the developed world have not heeded what experts were recommending at the beginning of the crisis, which was to keep companies alive no matter what, no questions asked, until the acute phases of Covid-19 passed.

Initially, the figures that governments announced for the first round of support seemed reasonable, but they have failed to think “outside the box” on how to execute them. They want to apply credit-based schemes while knowing that virtually no one is going to be able to repay these monies.

They also intend to channel credit through the same structures that traditionally administer loans and public guarantees, which are not known for their agility. A month after the rescue programme started, the Spanish ICO had set in motion barely 5 per cent of the guarantees approved for companies. Time is really of the essence here because once closed, companies are not likely to reopen.

Economic activity has been put into “induced coma” by generalised quarantines. What was needed was to preserve the companies' vital signs by covering their operational costs and holding on to their employees. Too much time and attention has been wasted on discussions about how emergency programmes should be financed or what the impact on the fiscal deficit will be.

In the end, if the financial markets become reluctant to buy bonds issued by the states, there is always the recourse to monetary financing by the central banks — what recently has been called “helicopter money”. Many well-respected economists have justified and supported this “unorthodox” way of financing the Covid-19 emergency.

Once again, as in the 2008-09 global financial crisis, everything points to the United States emerging better and faster from the crisis than the rest of the Western world. The Federal Reserve is doing and will do whatever it takes to resurrect the economy.

As ruthless and inequitable as the North American economic model may be, the truth is that its deregulated labour market allows companies to close and open quickly and inexpensively.

Besides, the US Government enjoys the “exorbitant privilege”, as former French President Valéry Giscard d´Estaing once described it, granted by its status as issuer of the world's hegemonic currency, the dollar. It allows it to issue unlimited amounts of debt, which it then ends up “paying” back with the money that the Federal Reserve itself creates.

Nice work if you can get it.

Monetary financing of Covid-19 relief programmes is not that easy in Europe, particularly in the eurozone, whose central bank is owned by 19 countries and has an explicit prohibition on financing governments, directly or indirectly.

Some creativity in circumventing the statutes of the European Central Bank was shown by the ECB president at the time, Mario Draghi, when the euro was floundering in 2011-12. Such agreement, however, looks today hard to reach owing to the ideological gap that divides northern and southern Europe.

The north is not willing to relax its principles of austerity, control of the fiscal deficit and limits on public debt. Nor is it willing to abandon the principle of individual responsibility — Haftungsprinzip — of each country.

The south, including France, considers that the extreme severity of the coronavirus crisis justifies and demands that there be solidarity between European countries and that the costs of those most affected — those of the south — be shared by all. The mechanisms proposed by the South are various — issuance of common bonds, financing from the ECB, a community reconstruction budget — all of them with a strong component of solidarity.

The relief programmes envisioned so far, such as the almost 500 million euros (about $541 million) support package approved by the Eurogroup, are not sufficient to face the magnitude of the problem. Nor is the burden-sharing component sufficiently present to prevent recipient countries from being thrown by the financial markets into an inferno where over-indebted and fiscally unviable countries go up in flames, as happened in the eurocrisis.

This time around, Germany has made a great effort to bridge the gap between north and south, as it does not want to repeat the mistakes of a decade ago. Its internal political reality, however, together with the ordoliberal creed that permeates the German marrow, makes it exceedingly difficult to accept a “mutualisation” of the costs of the crisis.

Nor does Germany's success in handling the pandemic help matters: as in the euro crisis, it is too much to ask Germans to understand that they have to pay the bill for breakages caused by others who didn't do things correctly.

An even more serious problem is confronting the developing countries. The lack of virus testing and/or poor official records make it difficult to gauge the real magnitude of the pandemic and the phase that each country is in, but there is no reason to suppose that its severity will not be as bad or worse than that experienced by the European countries.

Virtually no developing country today has the fiscal leeway to build support programmes that are in line with the magnitude of the recession ahead. Capital has long sought safer havens while governments are heavily in debt. If they could issue debt in their own currencies and have their central banks buy it up, much of the problem would be solved.

Nothing is easier than to create money by financing the Government. Unfortunately, in the present circumstances of little slack, the ghosts of inflation and devaluation will soon set limits to helicopter-money policies in the developing world — except in dictatorships that do not care about hyperinflation.

This desperate situation has led many economists and politicians to speak out and call on the developed world to declare a debt moratorium in the developing countries or, ideally, to forgive debts in the most serious cases. The G7 ministers expressed at their meeting on April 14 a willingness to temporarily suspend the service of bilateral and private debt — about $32 billion — of 76 poor countries, especially African ones. But the multilateral entities — the IMF, World Bank and regional development banks — are the ones with the key to solving the financing problem of these countries.

These multilaterals will also have to grant moratoriums on existing debt service, but this will not suffice on its own. The granting of new money will also be necessary, but it cannot have the traditional form of new debt, subject to conditions. For starters, there is no way that poor countries will ever pay off that debt. Adding it to the existing debt burden would amount to perpetuating the delusion that those countries one day may be able to repay what they owe.

It is up to the IMF to take the lead on this crusade. This institution is the only “lender of last resort” available to poor countries. The IMF can create its own international money by issuing special drawing rights. Without going into the technical complexities of this instrument, what is important to highlight is that it is in the hands of the major shareholders of the fund to allow that money to be created and handed over to countries in need, without it becoming a new layer on the heavy slab of debt.

Hopefully, rich countries have already learnt why this action is absolutely convenient for them, too: the brutal spread of the pandemic has made it clear that there is nowhere to hide in this global village.

Miguel I. Purroy, an economist, political scientist and director of Hotelco Bermuda Holding Ltd, is the author of Germany and the Euro Crisis. A Failed Hegemony

Nice work if you can get it: former French president Valéry Giscard d'Estaing described the US Government's ability to print and throw money at economic problems as “exorbitant privilege”. Not everyone has that luxury, and it is on the IMF, “the lender of last resort”, to assist
Miguel I. Purroy, an economist, political scientist and director of Hotelco Bermuda Holding Ltd, is the author of Germany and the Euro Crisis. A Failed Hegemony

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Published April 27, 2020 at 9:00 am (Updated April 27, 2020 at 8:53 am)

Global economy rescue going awry

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