What are the Alternatives? Part Two: Capitalist Alternatives – Default?

Joe Carter

12 December 2010

A second solution is to recognise this problem (of inability to pay back all the debt) explicitly and forgive part it, in the process at least opening the possibility of renewed growth on which, for example, German exports and therefore German growth is dependent.

Most of the problems attendant to the first alternative of a bigger fund also apply in this situation, if not more so.  In particular, who will bear the cost of this (assumed partial) default?  If the European banks are so weak then they will not be able to afford the required debt write offs - the example of Lehman Brothers is given as a lesson on what happens by allowing banks to fail.  Any significant write offs incurred by private investors would see an immediate increase in the cost of lending to states.  (The past week has seen sovereign debt costs rise across the world and speculation that a twenty five year period of lower lending to states is coming to an end.)  If the losses imposed were really significant lending might simply freeze up.

In the longer term the debt of the PIIGS might be much more expensive after a default when they return to the debt markets but this might be the case anyway.  Additional interest cost would weaken these states further and represent an added drain on their resources by international capital, ultimately to be paid by their working classes.

Currency

In any case defending these banks has been the primary objective of state intervention so once again the strongest states may have to bear the initial cost before passing it on to their own workers.

Default on its own also does not address the fault line in the Eurozone, in the whole Euro project, that weak economies are to co-exist with the strong.  Superior productivity by German capital resulting from a qualitatively superior technological infrastructure, understood in the widest sense, plus a successful squeeze of German workers’ wages, conditions and intensity of work, makes the Irish and Greek economies uncompetitive and defaulting on the debts that were built up to make up for this relationship of subordination will in no way change this.

The Germans seek a strong Euro in order to project it as a potential world reserve currency but in the last analysis such a strong currency can only be based on a strong economy and the PIIGS’ economies are not strong.  In a unified state weak regions are partially compensated by fiscal transfers – regional transfers of tax revenues, higher social welfare benefits going to depressed regions with a higher welfare count etc. but the EU is not a unified state.  It should immediately be apparent that the problem of convincing German workers to fund Irish welfare recipients is but a much sharper example of the difficulty already noted.

QE

A third alternative is to carry out a European equivalent of the quantitative easing – ‘printing money’ – adopted in the US and UK.  This would involve the European Central Bank buying the bonds, the IOUs, of various states, obviously including the Irish, through newly created money that could then be used by the banks, or states, which hold this money to stimulate economic activity either through releasing credit or directly funding expenditure.  This is not an option for the Irish State alone since it does not control its own currency but it could be both approved and actioned by the EU and by the biggest powers that determine its policy, primarily Germany.

The efficacy of this policy in terms of stimulating growth is much disputed but there can be little real doubt that it prevented the steep fall in economic growth that occurred during the credit crunch at the end of 2008 from becoming a new great depression.  Its effect over the longer term and direct impact on the Irish economy is unlikely to be so successful as it creates conditions for, but does not in itself, create true economic value on which alone real economic growth can be built.  It is also not pain free.

The policy is inflationary and devalues the currency.  While assisting those who have debts by lowering the real value of their debts, which remain the same in nominal terms i.e. the amount you owe doesn’t change as prices rise, these price increase reduce the value of the currency and the value of the debt.  Rising prices allow increased tax revenue that is based on sales e.g. increased VAT receipts can allow States to more easily raise the revenue to pay back the debt.  On the other hand, creditors, those to whom money is owed, lose out, as when they get repaid they find that the money they receive is worth much less to them than when they first lent it.

This policy therefore imposes a loss on those with claims on those in debt, including banks and states which have lent money either directly or through EU ‘bail out’ funds.  In this sense it is a sort of default because the value of the debts repaid are reduced and the lender pays this just as if the they had incurred a loss through not receiving payment of part or all of the money due to them.  The real losses are thus very much the same as those created by outright default but it is favoured by many because of its positive effects on growth, its avoidance of debt deflation, in which the real value of debts rise as prices fall and the currency rises in value, and reduction of the effect of the losses on the banks etc. because the debts written off are now worth less because their value has fallen with inflation.

This policy however results in an additional cost in that by reducing the value of the currency it undermines the value and standing of the Euro on the world stage because everyone who holds assets denominated in Euros finds that when they seek to transfer this wealth to another currency it is worth less in that currency.  Where once their asset was worth 1 billion Euros and 1.3 billion dollars it may now only be worth 1.1 billion dollars, a loss of 200 million dollars.  This reflects a weakness not only of the currency but of the Eurozone and EU in the world and undermines the project of the Euro as a currency to be held as a reserve across the world.  The policy, if not controlled, can also lead to too high an inflation rate which undermines the currency as a store of wealth, as a measure of value and ultimately as a means of circulation and payment if it becomes completely debased.  These are by no means inevitable consequences of such a policy but a pointer to the direction of the effects that accumulate and set limits on it as a solution.

In so far as inflation is increased this also reduces the real value of workers wages and their savings, which can purchase fewer and fewer of the real commodities that they previously consumed.  It is, in other words, just as much a wage cut as a straight reduction in take home pay in a situation of stable prices.  Its advocates would defend themselves by saying that at least it helps keep employment higher than it would otherwise be, through, for example, cheapening the goods sold outside the Eurozone in terms of the destination country’s currency.  Where before a good costing €100 might cost an American $133 with depreciation of the Euro by 10 per cent it might only cost her $120 meaning she can buy more and sustain the employment engaged in the production of that good.  This policy also means however that a German seeking to import a good from the US previously costing €100 might find it now costs €110.  Germany is therefore that much poorer and that much less able to project economic and political power across the globe.  For the weakest economies inside the Eurozone it does nothing to mitigate their competitive weaknesses relative to Germany and therefore does not address this fundamental fault line within the EU.

The Euro

This last policy and that of creation of a larger EU intervention fund are not solutions that the Irish State can unilaterally embark upon.  They could only be actioned at an EU level and given that they involve some costs being incurred by the biggest and most powerful states these are not in any way going to be complete alternatives to austerity but a means to ensure that the austerity planned is allowed to succeed.

As we have noted, they have their own costs, which if they are reduced for Irish and Greek workers, may on the other hand be picked up by German and Dutch workers etc.  The costs are not evenly distributed across the working class either, as better off workers or the middle class with savings lose more from inflation than poorer workers or the unemployed with fewer savings.  The scope for the various capitalist classes or extreme right wing forces in all these countries to open up crude divisions between working people, who altogether will be ordered to pay, cannot be considered too lightly.

Default is an option for unilateral action by the Irish State although not for one so committed to the Euro, the EU and imperialism.  A negotiated default would result in less debt being repudiated and, while making it easier to resume borrowing from the international capital markets in future, will make such borrowing all the more necessary.  Default however is a once off option and does not deal with the mechanisms that brought the original crisis about in the first place, including a weak competitive position in relation to Germany etc.  The mantra of wage restraint, welfare cuts, public service cuts and the rest of the austerity agenda is not therefore dispelled by default.  As part of a capitalist solution it is, like the other two options, simply a means to give austerity a chance to work.

This has left one more big bang policy as a possible alternative, which is to leave the Euro.  There can be no doubting the practical challenges to such a policy which would see massive flight of capital out of the State, which an economy still wedded to private property would be ill equipped to stem, especially one as traditionally unregulated as the Irish.  Capital would flee because the new currency would be worth a lot less than the Euro so that an effective massive currency devaluation would see living standards in a State so dependent on imports cut dramatically.  It too is simply another means to cut the real wages of Irish workers.  It has the advantage for local capitalists in that it is not a once and for all option such as the others but can be employed again and again if and when Irish capital fails in its competitive battle with Germany and the other stronger Eurozone economies.  It is a radical policy but it is not a socialist one and substitutes nationalist dreams for the hard reality that the Irish State is a tiny player in a world dominated by much larger forces.  This fundamental fact does not disappear because it leaves the Euro and re-creates its own currency.  Its subordination is simple expressed a different way.

Systematic

This simply reflects the fact that the competition which Irish capital cannot keep up with inside the Euro does not disappear by leaving it.  The problem is therefore the nature of capitalist competition itself.  This in turn arises from the nature of capitalism as a society built not on production for need but on production for profit, for money.  Money is the object of production and the representative and incarnation of wealth, not the many things people actually use and do need.  Production has failed if it does not result in more money at the end of production than at its beginning regardless of the real commodities produced, be it drugs that save lives or food that feeds the hungry.  The latter are incidental to making money and if it isn’t made in sufficient quantities the drugs and food will not be produced again.  Defending the social role of money is therefore crucial, thus the overriding priority of retaining the integrity of debt - money owed, and the value of the Euro.

This however is no easy task and for society to work, especially capitalism, production has to meet some sort of need or it won’t make money.  This does not make capitalism harmonious, but contradictory.  That this is so is demonstrated by the existing financial crisis where Ireland has incurred increased unemployment and therefore reduced production of real goods in order to borrow pieces of paper, money, which is handed over to insolvent banks which in turn hands the pieces of paper over to German and British banks.  To allow these pieces of paper to circulate in this way taxes on workers must increase, their pensions and wages cut and their public services destroyed.  All this is supposed to be rational.

Yet the problem is that such an irrational system cannot have a rational solution to a crisis that does not lay the possibility of another crisis.  To give just one example.  Inflating the debt away might lead to higher interest rates as those who lend money attempt to defend the value of their loans.  Higher interest rates would increase the value of the State’s debt but also increase mortgage payments and threaten mass defaults on mortgages and bankrupt the Irish banks all over again.