Sunday, May 12, 2019

The EU: 'Embodiment Of Bureaucratic Hubris'

The EU Is "The Embodiment Of Bureaucratic Hubris"

When it comes to identifying and evaluating the key vulnerabilities and inherent risks of the banking and financial system, there are few who have the insights and practical experience that is required to truly understand the scale of the issue and its investing implications. This is precisely why I turned to Dr. Markus Krall, who graciously agreed to share his thoughts and observations, as well as his outlook on the future of the financial system and the economy

He is also the author of two bestselling books on economics, monetary policy and geopolitics: “The Draghi-Crash” and “When Black Swans Multiply”. Additionally, he is a regular columnist for several of Germany’s leading print and online publications where he focuses on monetary policy and European affairs. Finally, as a knight of the papal order of the Holy Sepulchre, he is engaged in humanitarian work and foundations in the Middle East.

When the Euro was introduced and for a number of years, I did not perceive the common currency to be the problem and time bomb it later turned out to be. 

When the Euro was introduced in 1999, I mainly perceived it as an opportunity to reduce the transaction costs of intra-European trade and therefore a good thing. My awareness of the inescapable tensions a fixed exchange rate regime would introduce to a severely suboptimal currency area, which the Eurozone resembles, was underdeveloped to put it mildly. Also, back in the 90’s, I did view the EU and the integration it was driving as a force of free trade and thus believed it to be a good thing.

Two main developments changed my mind on this matter
The EU retreated from the ideas of free trade, free markets, and competition and turned its attention, resources and intentions towards developing a bureaucratic, regulatory, planning economy approach which gave more and more economic decisions to bureaucrats, regulators and advocates of redistribution and forced equalization.

Today’s EU is the embodiment of bureaucratic hubris.

The second element was the mind-boggling mishandling of the Euro-crisis, as it was born out of the global financial crisis which laid bare the intrinsic tensions, weaknesses and governance deficits of the Eurozone.
 The answers presented in the face of the crisis were not an improvement on these deficits. They rather aggravated and deepened them. Instead of addressing the governance issues and adverse incentives, the answer of European politicians was to plaster over the problems with solutions buying time at the expense of long-term stability and reduction of imbalances. For them, economics seems to be the science of money pots, not of incentives and scarcities.
As it turned out, the promises on paper, specifically with regards to the Maastricht treaty did not pass the test of the crisis. The politicians running the show were effectively seeking quick fixes and sent the treaty and the rule of law wholesale overboard. But without the rule of law, any government degenerates into a band of robbers as the doctor of the Church Augustinus of Hippo observed already almost two millennia ago.
There are several adverse effects on the consequences of which will cause us considerable pain in the next years.
Firstly, the artificially low-interest rates have depressed the number of defaults. Companies which should have been sent into bankruptcy have been kept alive by the subsidy of zero interest rates. They now make up around 15% of all companies in Europe. These are zombie companies: dead, but walking and they have been the recipients of large sums of loans which are zombie loans. They will sooner or later fall in a big wave of defaults. Banks are not prepared to absorb this shock.
Secondly, the flat yield curve has eroded the business model of commercial banking by destroying the interest margins on savings and maturity transformation. The escape route to hand out more credit has only depressed the credit margins too and accelerated the accumulation of bad credit in the form of the above-mentioned zombie-loans. Various accounting tricks have been used to hide this for years, but the reserves covering the growing gap are now largely consumed and the problem bubbles to the surface.
Thirdly, the accumulation of zombie companies is a drag on the economy’s productivity growth which itself is the only source of long-term growth. No demand stimulus can replace that. The resulting slowdown of productivity growth translates into overall anemic growth rates for Europe’s economy. Thus, we cannot grow out of our debt problem, but are dragged into the swamp by the cure we try to apply.

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