Is Greece the Future of America?
Michael S. Rozeff
by Michael S. Rozeff: Could
Private Defense Be Any†Worse?
a sovereign debt problem. The bonds of the Greek government have
been downgraded by a major rating service. Their prices have fallen
sharply in the market. This means that the risk is high that the
government will default on its sovereign debt.
rates that the Greek government must pay in order to borrow have
risen sharply. This is worsening the governmentís solvency and budget
faces default. The governmentís various spending cutbacks havenít
solved the problem.
solve the problem. Itís apparently too late. The government would
have to restructure its debt by renegotiating with its multiple
lenders. Thatís a difficult and time-consuming process. It would
have to work out repayment while simultaneously altering government
policies so that the countryís private market economy could expand.
This involves knotty political and economic issues that take years
to resolve. The government doesnít have this time.
traces back to the earlier fact that for some years the government
was able to borrow heavily at low interest rates. This means that
it was able to sell its bonds at high prices. The problem arose
because these market prices were too high.
debt of Greece became overvalued due to central bank/banking system
money inflation. This inflation, it should be strongly emphasized,
originated in the fiat dollar system of the United States and the
banks of the world and the world money supply are heavily influenced
by what the Federal Reserve does through a kind of multiplier effect,
because foreign central banks respond to Fed inflation with inflation
of their own. Ronald I. McKinnon explained this important process
in his June 1982 article in the American Economic Review.
We see it happening today when foreign banks have to inflate in
reaction to QE2 in order to prevent their currencies from strengthening
too much against the depreciating dollar.
The high bond
prices encouraged the Greek government to borrow too heavily and
to raise government spending. But since its spending was not productive,
it didnít produce high enough tax revenues to service the debt.
In time the government faced the problem it now has, which is not
enough tax cash flows or income to service the debt.
in other words, causes overvalued sovereign debt. This sets in motion
larger government spending, higher debt loads, and an eventual fiscal
crisis when tax revenues fall short of what is required to maintain
government spending and service the debt.
goes on in addition to the business cycle effects, well-known in
Austrian economics, that inflation produces. In keeping with the
analogous finance literature on overvalued equity, I identify this
process as one that involves agency costs of overvalued sovereign
is only made worse when major lenders, such as large banks, have
reason to believe that they occupy a privileged position and that
their bond positions will be paid off by political means if necessary.
These lenders then all the more become willing to buy overvalued
of inflation is important because of its broad applicability in
an age of inflation. In particular, a number of other countries
including the U.S. have followed the Greek path.
Jensen was the first to analyze the agency
costs of overvalued equity. Everything that he says about the
dire effects on a companyís behavior from having an overpriced stock
find a parallel when a government issues overpriced debt. The parallels
are not perfect, of course. In fact, every bit of analysis suggests
that the problem will be worse for overvalued sovereign debt.
be a misleading guide in these matters. We are taught that a high
stock price is a good thing, and it is a good thing when
it accurately reflects value creation in the enterprise. But not
all high stock prices arise from value creation. Central bank money
inflation fosters speculation. Speculation leads to asset price
bubbles. Rising prices attract naive investors.
We have twice
seen in recent memory how government/central bank inflation-produced
speculation leads to a breakdown in critically important internal
market practices and institutions. First we had overvalued stocks
break down in 2000 amid hundreds of cases of overstated earnings.
Accompanying this were accounting and auditing scandals as well
as law firm and investment banking misbehavior. Second, starting
in 2006 and continuing to the present, we have the real estate bubble.
We have seen similar scandalous behavior pervading the mortgage
and real estate businesses. This has included all the major banks,
all major investment bankers, the government agencies like Fannie
Mae, legislatures, law firms, bond rating agencies, insurance companies,
and auditors. The scandal went even more deeply into the U.S. government
and the Federal Reserve through their multiple bailout activities.
in institutions that are supposed to act as professional agents
finds its root cause in government that goes way beyond its
In the case
of overvalued equity, Jensen points to "earnings management"
that becomes lying about earnings as one means by which management
becomes corrupted in order to come through with earnings numbers
that justify its overvalued equity. The analogue is for governments
to lie about the beneficial effects of the programs and activities
that they are promoting and funding with their excessive debts.
We hear politicians today justify huge sales of overpriced government
debt as worthwhile because they are fighting recession, producing
jobs and green shoots, kick-starting the economy, and providing
national security. Like phony accounting numbers for earnings, these
are all myths and lies. We hear Federal Reserve officials peddling
similar misinformation to justify their bond purchases that are
helping to keep sovereign debt overpriced.
that "manning the helm of an overvalued company feels great
at first." Among other things, the management bonuses rise
steeply. Politicians likewise score among voters and secure campaign
contributions when inflation stimulates some economic activity initially.
They can point to housing projects going up or a falling unemployment
rate or the numbers of people who are first-time homeowners. The
financial and housing industries shower money on them. The Federal
Reserve can build up its image by broadcasting how it prevented
the financial system from collapsing.
But, when there
is overvalued equity, Jensen says "massive pain lies ahead".
A company cannot produce real earnings to justify its overpriced
stock. It turns to earnings manipulation and fraud. It turns to
wasteful acquisitions. Nortel acquired 19 companies between 1997
and 2001.When Nortel stock fell by 95 percent, not only was its
value destroyed but also that of these acquisitions. Companies seek
out unworkable products and build up unusable capacity.
The same massive
pain goes for governments that overextend themselves with excessive
borrowing at then-low rates of interest. This is evident in Greece.
It threatens to become evident elsewhere, including the U.S. When
the nation does not produce enough income to service the government
debt, some manner of default is bound to occur.
The U.S. is
finding it extremely difficult to find a way out of the looming
pain that its overvalued sovereign debt has caused. The U.S. has
over-issued debt. Its "acquisitions" lie in every area
of government spending, in particular, popular social spending programs
and a huge military establishment. Huge numbers of Americans have
been "acquired" and linked into programs like food stamps.
of Americans expect a future retirement safety net courtesy of Uncle
Sam. This is looking less and less likely as time passes. As in
the case of overvalued equity that eventually crashes and burns
up phantom value, U.S. sovereign debt will crash and burn as the
private market economy increasingly cannot produce sufficient revenues
to pay the taxes required to service the debts.
cause of this likelihood is agency costs of overvalued sovereign
traces back to a faulty political system that has destroyed proper
constraints on the funding of government and therefore on government
size. This has three main aspects. (1) The central bank is able
to enter the sovereign debt market at will and keep the price overvalued.
(2) The government is able to impose a wide range of taxes in order
to fund its programs and debts.(3) There are no limits to government
spending and the demand for such spending is infinite.
at each of these briefly.
on money creation has disappeared Government no longer competes
with markets for privately-produced and costly money in the form
of gold and silver. When government debt promised and paid gold,
government had no recourse but to tax its citizens in gold. Without
that constraint, government can pay off debt by issuing more debt
and more promises to pay off in paper.
The debt is
supported in price by governmentís powers to tax. As long as the
people are able to produce enough income to pay these taxes
and are willing to pay them, the system of debt expansion
goes on because debts are serviced. The system is dynamically unstable,
however. The larger that government becomes, the lower the ability
of the private sector to produce real income becomes because government
spending is unproductive and prevents capital formation This undermines
the ability of people to pay the required taxes. Debt grows but
economic growth falls short of debt growth due to low growth in
capital formation. Taxes then fall short of spending and deficits
rise. The government and the countryís economy then get into an
The third aspect
is that the U.S. Constitution, as interpreted by the Supreme Court,
does not limit government spending or government activities and
size, and this lack of limitation is combined with an infinite demand
for receipt of government funds among the population. In other words,
almost everyone stands ready to rob his neighbor via government
taxes and get the proceeds for himself through redistribution in
government spending; and there are no limits on how large this thievery
system is dynamically unstable too. It eventually must run into
a wall or limit because the parasitic activities will overwhelm
the productive activities. This limit is now in view. The governmentís
unfunded liabilities ($200 trillion by some estimates) vastly exceed
its capacity to tax at current levels. Only by outright expropriation
of wealth in the form of saved assets (seizing pensions) or by high
levels of taxation that sap human wealth can the promises be kept.
Those routes spell massive pain.
If a society
does not impose limits on its own parasitic activities, it will
eventually destroy itself. If it crushes its productive activities,
it will destroy itself. If the societyís people do not impose the
proper limits on their own behavior, individually and collectively,
then they are setting a course for massive pain.
At this time,
Greece does look like the future of America. Is it too late for
America? Just about. When I see this society impose some limits
on its parasitic behavior and encourage productive behavior, I will
become more optimistic. However, Iíve been waiting for that for
40 years and Iíve yet to see it.
S. Rozeff [send him mail]
is a retired Professor of Finance living in East Amherst, New York.
He is the author of the free e-book Essays
on American Empire: Liberty vs. Domination and the free e-book
The U.S. Constitution
and Money: Corruption and Decline.
© 2011 by LewRockwell.com. Permission to reprint in whole or in
part is gladly granted, provided full credit is given.
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