Monday, November 14, 2011

In Technocrats We Trust?

The Guardian published an editorial on Sunday, Europe: the rise of the technocracy:

Coming just a few days after the fall of Athens, the fall of Rome would have given Europe's classically conscious old elite pause for thought. Those still standing in continental politics today, however, are less historically minded – more interested in present balance sheets than the ancient past. So the dispatch of elected if flawed prime ministers in Greece and Italy, and their replacement by supposed economic experts, is viewed not as a problem but as an affirmation that these nations mean business. In the Italian case in particular, this weekend's departure of the undoubtedly dreadful Silvio Berlusconi has for the moment soothed political nerves frayed during last week's bond market rout. But the installation of a new cadre of leaders such as Lucas Papademos in Athens and Mario Monti in Rome – men being ubiquitously branded as "technocrats" – will soon raise more questions than it has answered.

The rise of the technocracy, to distort Michael Young's famous phrase, is what we are witnessing. This ugly term conveys two separate things. The first is a contrast with a more familiar "ocracy" – that derived from "demos", a Greek word which brings to mind the common people. Messrs Papademos and Monti have not had to worry about them since both are unelected. Not merely unelected in the Gordon Brown sense of taking up the premiership midterm, but truly unelected in the sense that Mr Brown would only have been if he had entered No 10 without having bothered to stand as an MP.

A century plus a decade has passed since Britain was ruled by a prime minister from the pre-democratic splendour of the Lords. Yet the former European commissioner Mr Monti was last week installed as a life senator just before being asked to form a government. Meanwhile in Athens a central banking bureaucrat, Mr Papademos, was called in to fill a vacancy created precisely because the previous premier had flirted with the dangerous idea of giving the people a say on austerity, through a referendum. Democrats have undoubtedly struggled in imposing wage cuts and other retrenchments on the people of southern Europe: another government could well fall victim to the slump in the Spanish election at the end of the week. But it is a logical leap from this observation to snapping up the first half of Churchill's quip about democracy being the worst form of government – while disregarding his rider about all the other forms that have been tried.

If distance from popular opinion is the first thing conveyed by "technocrat", the second is expertise. Brussels would like Europe's leaders to tackle its sinking economy in the professional spirit of an engineer fixing an aeroplane. But pursuing this analogy highlights how forlorn such hopes are. Faced with a grounded plane, our engineer would start with calculations about the vehicle's weight and the force required to overcome it; next he would consider the options for boosting the latter relative to the former.

By contrast, those trying to fix Europe's economy are working to the rigid rule that the weight of public debt must be reduced first by all available means – even if this greatly weakens the force of growth, which in the end is what must carry that weight. As a result, the economy is most unlikely to fly. Likewise our engineer would be greatly concerned by the balance of forces across the two wings, whereas Europe's elite imagines it can force all the adjustment on to the indebted periphery, while leaving the likes of Germany alone.

Asymmetric adjustment will not lead to balance, not least because the Germans depend on the periphery's spendthrift ways to sell their exports. But then economics is not engineering. It remains as much an art as a science, and its judgments have such vast implications for who gets what that they will always be contentious politically. Don't bank on the technocrats being able to stay above the fray for long.

As I watch traders sell the news of the Greco-Roman Pyrrhic victory, I worry about the snowball effect. Realizing her Greek gambit may backfire, on Monday, German Chancellor Angela Merkel said that Europe could be living through its toughest hour since WII but offered no concrete steps on getting out of this endless saga.

I also fear that everyone is placing unrealistically high hopes on Mario Monti and Lucas Papademos to save the eurozone. Both men are extremely competent economists and technocrats, but they both face Herculean tasks in reforming their respective economies .

If you read James Galbraith and listen to Yanis Varoufakis, both of whom understand the dynamics of this European crisis, you'd realize the odds are against eurozone averting implosion. Professor Varoufakis described Greece's social economy as being "comatose" and the "plane headed for the mountains with no cockpit." He added: "Even if God and his angels descended upon Greece," it wouldn't make a difference.

Professor Varoufakis also thinks that the new leaders of Greece and Italy are just there to "sign on the dotted line" and ram through austerity measures, basically confirming Michael Hudson's views that democracy is incompatible with debt collection. If this is the case, policy blunders will bring about another global meltdown and ensure a protracted period of debt deflation.

But some people are more optimistic. Ian Bremmer of Eurasia Group wrote an op-ed comment in Reuters, Europe’s necessary creative destruction:

What we’re seeing in Europe — in rising Italian borrowing costs and the felling of two prime ministers — is the growing impatience of the markets for a resolution to the euro zone crisis. To put a finer point on it, the hive mind of the markets has decided it is not going to give Europe enough time to get its act together. The big institutions that drive the world’s economies are sitting on huge amounts of cash — enough to solve many of these problems overnight. But they have lost confidence in the ability of the European political system to deliver solutions that will work.

In a G-Zero world, where there is no strong global leader to direct the course of events, no one is interested in taking a flier on helping the Europeans get out of their mess. As the abortive G-20 conference showed last week, there is no backstop for any country or institution that makes an error in today’s environment, whether it’s tiny MF Global or the Chinese sovereign debt fund. In the postwar era, the Marshall Plan was the very definition of global security — it was a huge commitment by the U.S. to rebuild Europe into the economic force (and not incidentally, trading partner) that the world needed. Today, there is no Marshall plan for Europe, from within or without.

That’s the high-level view of the Europe situation. The question everyone wants answered is this: what happens next? Start with Greece: the best possible outcome for that country has happened with Papandreou’s resignation and the selection of economist Lucas Papademos as Prime Minister of an emergency government. Papademos is committed to remaining in the euro and accepting the terms of the Greek bailout package. Despite the roller coaster ride Papandreou took his country and the euro zone on, Greece has now moved closer to the Spanish and Portuguese models for avoiding the debt crisis drama. In Greece, a resolution is starting to be reached. It’s not the beginning of the end, but maybe this is the end of the beginning.

The same can’t be said for Italy as the situation changes by the day. The decisive Senate approval of a package of austerity measures (by a margin of 156 to 12) was one small step for Italy in the eyes of the markets— and a big step toward Silvio Berlusconi resigning his mandate. It’s a wonder that Berlusconi held on to power for so long; he burned up his political capital years ago with scandals of all stripes. His stepping down is good news for Italy in the long run, but the handover of power to likely frontrunner Mario Monti is a delicate process that will have to be handled with tremendous care. Unfortunately for Italy, political drama has insured it will face a higher and longer level of scrutiny.

Markets will continue to demand extensive and enforceable changes in spending levels throughout the peripheral states. When Italy and Greece look more like Spain and Portugal, the bond markets will treat them more like Spain and Portugal. But that alone won’t solve the problem: investors are going to demand to know what happens next time any euro zone periphery country is on the brink of collapse. Euro zone institutions and politics have to be reshaped to prevent this type of crisis from ever happening again. Until this risk is mitigated, lending costs will stay high for a long time to come.

Case in point: I talked with about 200 international financial executives at a conference two weeks ago. 92 percent thought a “Lehman event” could easily happen once again somewhere in the world. Because we all thought the economy had been getting better over the last few years, we took our eye off the ball when it came to shoring up the global financial system and making the necessary structural fixes. In the U.S., President Obama took up health care. A weak Dodd-Frank bill passed. In the global financial system, Basel III has gone nowhere. And so every time the markets are rattled, we stare down the financial abyss, again and again.

I’m an optimist on the euro zone; I still don’t think it will fracture. The political will to stay together is too great; the mechanisms for countries to drop out are too complex and undeveloped. The institutions that compose it will get stronger — eventually. But that will be a long time from now. Until that day, we’re likely to see a lot of economist Joseph Schumpeter’s “creative destruction” — but as applied to financial systems, rather than corporations. Much of the financial edifice of the 20th century is yet to come crumbling down. To fully rebound from this era of crisis, more of it must.

I too am optimistic and think investors are way too focused on developments in Europe, totally ignoring what's going on in the rest of the world. Investors should take the time to go through Leon Cooperman's presentation on the risks to equity market outlook. He thinks investors are "conservatively postured" and I agree.

But you have to realize that the investment management world is full of consensual sheep, cowards who hug their benchmarks closely and get distracted by the news of the day or flavor of the month. I'm shorting these investment sheep and maintaining my conviction that despite the daunting challenges that lie ahead, Europe will not collapse, fear will be replaced by greed, and La Dolce Beta will reappear sooner than we think, leading to a market melt-up.

Below, a discussion on how "technocrats will boost confidence." I don't place too much faith in Papademos, "Super Mario" or the "Super committee", but prefer having technocrats at the helm during times of crisis. I also realize that "Super Banksters" are ultimately pulling the strings and they won't let the system that feeds them implode. If they do, they'll face the wrath of the "super angry, super agitated and super hungry masses. "

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