Clem Sunter

Whew, that was close!

2011-10-28 16:15

When heads of state and their advisors stay up to the early hours of the morning to thrash out an agreement, you know this is an historic event. Such was the case with the negotiations to rescue Greece and, more importantly, the Euro by stopping the contagion of financial panic.

Merkel and Sarkozy should be praised for their leadership in that they have done something which was lacking in the great crash of 2008. Whereas Wall Street and the US government were prepared to let Lehman Brothers go to the wall. M&S were not willing to allow the same thing to happen to Greece. You cannot let the most vulnerable domino fall because it precipitates a series of events that freeze the financial markets through fear and mistrust and cause equity markets to fall out of bed.

The real question is whether the three part deal formulated by M&S - halving the value of Greek debt, reinforcing the capital base of European banks and massively increasing the bail-out fund - is enough. Or are they just kicking the can down the road towards an even bigger catastrophe?

That will depend on the resolve shown by European governments to cut their budget deficits and bring their debt down to levels which are considered reasonable in relation to their respective GDPs. Such austerity measures do not win you votes at best, and at worst can set off the kind of social unrest which has already occurred in Greece.

Sarkozy has just announced budgetary cuts and will be following in the footsteps of David Cameron, who has already taken steps to rectify the financial position of the UK government. But will Paris be surrounded by trucks and tractors as the French tend to express their dissatisfaction in a fairly direct manner? As crucial, will the Club Med countries - Spain, Portugal, Italy and Greece - have the bottle to take even more drastic measures because they are sailing even closer to the wind?

John Maynard Keynes, the great British economist of the last century, would be shaking his head if he were alive today. He maintained that the last thing governments should do when confronted with hard times is to cut expenditure. That can lead to a decline in the economy which aggravates the hardship felt by the population. It can also cause a reduction in tax receipts to the government on account of lower economic activity, which can more than offset the cuts in expenditure. Bottom line - the budget deficit can actually rise which is the very opposite of what policy makers are striving to achieve. However, Keynes could never have anticipated the magnitude of debt that governments would accumulate in their bid to be welfare providers of note and to be re-elected.

Anyway, congratulations to M&S for at least making a start and taking some really tough decisions. Europe, as a collective economy which is larger than the US, must now knuckle down and re-invigorate its competitiveness in order to set in motion a sustainable recovery. A big challenge indeed.

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