Wed, Jan 05, 2011 - Page 9 News List

New Year’s hope against hope

Debt restructuring will eventually happen, but delay is very costly — and largely unnecessary

By Joseph Stiglitz


The time has come for New Year’s resolutions, a moment of reflection. When the last year hasn’t gone so well, it is a time for hope that the next year will be better.

For Europe and the US, last year was a year of disappointment. It’s been three years since the bubble broke and more than two since Lehman Brothers’ collapse. In 2009, we were pulled back from the brink of depression and last year was supposed to be the year of transition: As the economy got back on its feet, stimulus spending could smoothly be brought down.

Growth, it was thought, might slow slightly this year, but it would be a minor bump on the way to robust recovery. We could then look back at the Great Recession as a bad dream; the market economy — supported by prudent government action — would have shown its resilience.

In fact, last year was a nightmare. The crises in Ireland and Greece called into question the euro’s viability and raised the prospect of a debt default. On both sides of the Atlantic, unemployment remained stubbornly high, at about 10 percent. Even though 10 percent of US households with mortgages had already lost their homes, the pace of foreclosures appeared to be increasing — or would have, were it not for legal snafus that raised doubts about the US’ vaunted “rule of law.”

Unfortunately, the New Year’s resolutions made in Europe and the US were the wrong ones. The response to the private-sector failures and profligacy that had caused the crisis was to demand public-sector austerity. The consequence will almost surely be a slower recovery and an even longer delay before unemployment falls to acceptable levels.

There will also be a decline in competitiveness. While China has kept its economy going by making investments in education, technology and infrastructure, Europe and the US have been cutting back.

It has become fashionable among politicians to preach the virtues of pain and suffering, no doubt because those bearing the brunt of it are those with little voice — the poor and future generations. To get the economy going, some people will, in fact, have to bear some pain, but the increasingly skewed income distribution gives clear guidance to whom this should be: Approximately a quarter of all income in the US now goes to the top 1 percent, while most Americans’ income is lower today than it was a dozen years ago. Simply put, most Americans didn’t share in what many called the Great Moderation, but was really the Mother of All Bubbles. So, should innocent victims and those who gained nothing from fake prosperity really be made to pay even more?

Europe and the US have the same talented people, the same resources and the same capital that they had before the recession. They may have overvalued some of these assets; but the assets are, by and large, still there. Private financial markets misallocated capital on a massive scale in the years before the crisis and the waste resulting from underutilization of resources has been even greater since the crisis began. The question is, how do we get these resources back to work?

Debt restructuring — writing down the debts of homeowners and, in some cases, governments — will be key. It will eventually happen, but delay is very costly — and largely unnecessary.

Banks never wanted to admit to their bad loans and now they don’t want to recognize the losses, at least not until they can adequately recapitalize themselves through their trading profits and the large spread between their high lending rates and rock-bottom borrowing costs. The financial sector will press governments to ensure full repayment, even when it leads to massive social waste, huge unemployment and high social distress — and even when it is a consequence of their own mistakes in lending. However, as we know from experience, there is life after debt restructuring. No one would wish the trauma that Argentina went through between 1999 and 2002 on any other country, but the country also suffered in the years before the crisis — years of IMF bailouts and austerity —from high unemployment and poverty rates and low and negative growth.

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