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Wednesday, May 12, 2010

Will the New Bailout Save Europe?

Not likely.

With the announcement of “rescue packages” for Greece and other European countries facing ruin, we have heard cheers from the Usual Suspects, beginning with the New York Times, which declared in an editorial:

Europe’s leaders stared into the abyss and finally decided to act. The nearly $1 trillion bailout package, arranged over the weekend, is intended to head off Greece’s default and stop the crisis from dragging under other weak economies — Portugal, Spain, Ireland and Italy are all vulnerable.

The European and American markets celebrated on Monday. The CAC-40 index in Paris rose almost 10 percent. The Dow Jones industrial average rose 3.9 percent. It was certainly the right thing to do. Coupled with the European Central Bank’s promise to buy bonds from stricken European countries, it arrested the financial turmoil — at least for now.

The last sentence is unintentionally prophetic, for whatever “good effects” the bailout supposedly will create, they will be short and will pave the way for future crises. While Greece and other European countries have been facing disaster, it is nothing like the disaster that looms because the economic piper has yet to be paid.

Keep in mind that the European Central Bank (ECB) is buying bonds with printed money, which means inflation. Like the United States, Europe is broke, and will be even more so once this “bailout” goes through.

For all of the talk of “rescuing” Greece, Spain, and Portugal, one wonders how the plan is supposed work. These are countries with bloated public sectors and militant public-employee unions. They also have stringent workplace rules for private firms and other government policies that raise business costs, contribute to high unemployment, and shackle private investment. The “rescue” packages supposedly deal with the public sector — although I am skeptical they will — but don’t address the barriers to economic growth.

Keynesians say all that is needed is a new dose of government spending. People will receive the money, spend it, clear inventories, and then companies will make more goods. The process will continue. In that view, all that matters is spending.

The ECB move smacks of what the Federal Reserve did in the 1920s when, in response to the overvalued British pound, it inflated the dollar, leading to the stock market bubble and collapse. By expanding the currency, the ECB will use inflation to prop up high union wages (and high business costs) in Greece, Spain, and Portugal.

However, the inflation also will produce at least a mini-boom in Germany and other European countries with somewhat stronger economies. While Keynesians see that as a good thing, Austrian economists see this policy as simply extending the errors of the previous boom, and at the end of the new booms another crisis awaits.

The problem is that the fundamentals of these economies are not right. People in those countries cannot maintain a decent standard of living because they are not producing enough in the private economy to keep the public-sector unions afloat. Unfortunately, these unions are so powerful that they can extort pay and work agreements that plunder the taxpayers, and now that the bailouts have arrived, look for the unions to be even more militant and violent.

These countries don’t need more inflation, contra Keynesians. They need to stop feeding the monster of public-employee unions and permit business to operate without being smothered by rules and regulations. But after being bailed out, these governments will go back to doing things as they always have, and the malinvestment will continue.

At some point the further rounds of inflation will no longer paper over the distortions and the resulting economic collapse will be much worse than it should have been. Thus instead of “saving” Greece, Spain, and Portugal, the central bankers only have put off the day of reckoning.

  • Dr. William Anderson is Professor of Economics at Frostburg State University. He holds a Ph.D in Economics from Auburn University. He is a member of the FEE Faculty Network.