Tuesday, May 15, 2012

Willem Buiter Talks About Europe

As part of my continuing search for more information about investing opportunities in Europe, I went to hear a lunch speech yesterday given by Willem Buiter.

Mr. Buiter has long been involved in European economics.  In the past he has served as an external member of the Bank of England's Monetary Policy Committee as well as chief economist for the European Bank for Reconstruction and Development.

He is now a professor at the London School of Economics, and is the chief global economist for Citigroup.

There was a pretty big audience yesterday. European politics are driving much of the activity in the financial markets, and every day it seems there is a new development that needs to be studied and understood.

Mr. Buiter spoke for almost 90 minutes, so I will not attempt to capture all of his comments here.  However, although he also talked briefly about China (it will be OK, according to Buiter), here are some of the highlights from his talk specially focused on Europe:

  • Europe faces three issues: insolvent sovereigns; insolvent banks; and near-insolvent sovereigns.  However, all three issues can be addressed by aggressive intervention by the European Central Bank (ECB).  The euro will survive;
  • The fiscal shape of the combined countries of the euro zone is actually better than the United States.  However, with 17 different member countries - rather than 50 states - fiscal solutions are much more difficult;
  • The near-term problems in the euro zone are largely related to its banking system.  The total size of the European banking system is 330% of euro GDP, while in the U.S. it is less than 100%, making the problems of the European banks that much more important;
  • Greece will probably leave the euro zone, but the departure is not as easy as some would think.  In particular, leaving the euro block would be devastating to the Greek economy  - who would want a separate new Greek currency knowing that it was kicked out of the euro block?  Buiter thinks hyperinflation in Greece will inevitably follow any departure, accompanied by a severe economic recession.  Greece's leader obviously understand this;
  • The ECB is the only institution capable of keeping the euro going.  Buiter estimates that it could pump 2.9 trillion euro (!) into the system without creating any inflationary pressures.  In addition, the ECB has 500 billion euro in gold reserves that could be used to help the banks;
  • Buiter thinks that ultimately bank shareholders will be wiped out in many countries as part of the recapitalization efforts;
  • Germany does not have as much influence as many believe.  Its financial institutions hold huge amount of euro debt, and a collapse of the euro would be devastating.  Leaving the euro zone would hurt Germany tremendously.  Moreover, the euro has been a boom for German companies;
  • France has "so much fat" - public sector spending accounts for 58% of GDP.  President Hollande will probably try to enact some of changes he discussed during the recent campaign, but Buiter doubts these will amount to very much. In particular, Buiter joked that if Hollande raises the maximum tax rate to 75% (as he proposed during the election), 50,000 Frenchmen will simply move to London, and help the British real estate market;
  • Much of the euro zone is actually doing better than commonly believed.  Spain, for example, is showing export of growth of +13% yoy, and is actually taking market share from other European economies.  If the financial system can be stabilized, growth can resume, and some of the severe unemployment issues can be addressed.
I would only quibble with Mr. Buiter on his thoughts on the banks.

I don't think that the European authorities will nationalize the banks. While this move might have some emotional appeal, the simple truth is that running a large multinational bank is very difficult (just ask Jamie Dimon of JP Morgan!), and no government wants to get involved.

When France nationalized its banks in the early 1980's, it was a disaster.  Lending collapsed, and the economy suffered.  Hollande well remembers this - he was serving President Mitterand at the time - and would rather simply use the banks as convenient scapegoats rather than take them over.

Bottom line:  The euro survives, and baring any major financial policy blunders, business should continue to muddle along.