Nice trend, hum?

Unemployment

Is it so?

"The policies of German Chancellor Angela Merkel in the current economic crisis are comparable with those of Margaret Thatcher, writes economist Pedro Lains in the business paper Jornal de Negócios: 'Although with more pragmatism than ideology Merkel is currently pursuing a similar course to Thatcher's in the 1980s. If Germany got it's way financial discipline would rule in politics, not the money-wasting of the states which in Merkel's eyes is fatal for growth. For Europe she wants less integration and more stipulation of costs as well as regulations on who covers them. What will this stance bring Merkel? Does she represent the majority in Germany? Or is there a more pro-European Germany that is passively waiting for the crisis to end? Merkel's election results of recent months are encouraging for Europe. Perhaps Merkel will suffer the same fate as her predecessor: she'll be toppled once she's solved the main problems. But even if she loses she will win. For Europe will no longer work the way it did when she took office.'"
From Eurotopics.

The euro-crisis: necessary versus sufficient conditions of the eurozone framework

   There are two views on the causes of the current European crisis. The following quote by Wolfgang Schauble well represents the first:

   To the question of what caused the recent turmoil in the euro zone, there is one simple answer: excessive budget deficits in many European countries (FT June 2010).

   The second view (here) is that that the markets finally realized that there is no mechanism to correct external imbalances beyond self-equilibrating forces.

   The fiscal irresponsibility of Greece can partially explain the reasoning behind the first view. I say partially because Greece is such a small fraction of the EMU GDP that it cannot be the sole cause of the current crisis. It is true that during the last decade, the fiscal behavior of most other EMU's members, especially the three largest, has not been irreproachable. Nevertheless pointing to excessive deficits as the simple answer of the euro-crisis appears simplistic and ... insufficient. Consider that two of the countries most affected by the crisis are Spain and Ireland. The same two countries have been the most virtuous fiscal entities of the euro-zone, the champions of the Maastricht Treaty criteria so to speak, as the following graph shows (click to enlarge). I take stock of the Irish and Spaniard experience to conclude that lack of fiscal rectitude is not sufficient to explain the current euro-turmoil.

I'll be back

   Like the famous quote, Telefonica is announcing "I'll be back..." to take VIVO from Portugal Telecom - the fight for the Brazilian joint-venture of the two firms was to be expected, sooner or later.

   Although most of the discussion has been about the recent use (and abuse?) of golden share rights by the Portuguese Government, there is a renewed lesson from all this.

   And that lesson is plain simple, and comes over and over again - the notion of "core national shareholders" in so-called "national champions" is quite elusive and it meltdowns every time

it faces a sufficiently high price. No wonder, and actually I would not expect any company or bank to let go profits just for "national pride". After all, they can always claim they will put the money to good use (and they hope better use) than keeping the current shares.

   Let's take some basic economics (and get corrected if I do something wrong...). First, current shareholders of Portugal Telecom (PT) are not forced to vote in favor of selling Vivo to Telefonica. The single argument to sell is the price.

The importance of Portugal to Portugal Telecom

   In a segment in the night news yesterday, the CEO and chairman of Portugal Telecome (PT) argued that the Brazilian market is crucial for the company. To back it up with numbers, the Brazilian market accounts for 72% of their costumers, 45% of their revenues, and 40% of their profits.
   There's another way to look at these numbers. Even though the Portuguese market only accounts for about 28% of PT's customers, they generate almost 55% of its revenues and 60% of its profits. It looks like what is really crucial for PT is to keep competition out of the Portuguese market. Just imagine if the government (underhandedly) stopped blocking competition from abroad, and Telefonica or others entered the Portuguese market starting a price war?
   PT might not be happy, but the Portuguese customers would be: ultimately, they've been the ones financing PTs Brazilian expansion all along.

Summer, World Cup or both?

   Suddenly, all the discussion about the Portuguese economy faded away, shadowed by the World Cup in South Africa, and by arrival of Summer.

   Still, the worrying fundamentals did not disappear. We will have to come back to them soon.

   Meanwhile, this month taxpayers will be hit by the increase in taxes announced some weeks ago. At the same time, the Ministry of Finance is making available a new instrument of public debt, for long term investments (apparently, for more than 5 years, it pays more than current instruments to the small investor). Good news that Portuguese families can invest at a rate higher than time deposits and Government get funding below rates in international markets.

   I did not went to look into the details of the product, but I would look for clauses that prevent "opportunistic" behavior by future Governments in case rates in international markets fall below that of this new instrument (based on past decisions, future Governments may change conditions, hurting long term small investors).

   However, access to public debt is not yet a couple of clicks away in our computers...

A Review of "Economia Portuguesa, As Últimas Décadas"

   In today's issue of Diário Económico - a Portuguese daily newspaper on economic and financial affairs - I write a short review of "Economia Portuguesa, As Últimas Décadas", Luciano Amaral's latest book, published by the Manuel Francisco dos Santos Foundation. Read it here.

   Foreign readers will have to forgive me but there is no English version available.

Shy Entrepreneurs

   Last night I had dinner with a group of friends from high-school that I hadn't seen for a long time. It is of course a great joy to meet good old friends, however I anticipated some of our conversation would touch on somber topics. After all, the Portuguese soccer team didn't really put up a promising performance in their first World Cup game. Instead, we didn't discuss soccer at all, all we talked about was the Portuguese Economy.
   Like me, my friends are all about turning 40. Which means they lived through the great Portuguese stagnation during a key period of their life-cycle, their 30's. Their view is that one of the reasons we did so badly over the past decade is that Portuguese entrepreneurs are too shy, in the sense of taking on too little business risk. This is a cultural trait, the argument goes.
   I have heard this argument many times over the years, and I'm very skeptical about it. Cultural traits can change very quickly with incentives. My view is that it is more helpful to think of Portuguese entrepreneurs as rational profit maximizers. If they look shy, then it must be because taking risks doesn't pay-off for them. I can think of a few reasons why. First, why take on risks when, if things go well, you get taxed heavily? Second, why take on risks when, if things go badly, you cannot easily fire workers? Third, do financial markets provide entrepreneurs with enough funding and, if so, do financing terms provide entrepreneurs with some degree of risk-sharing (i.e., allow them to pay back a bit more if things go well, and a little bit less if things go badly - in other words, not the terms offered by standard debt/bank loan contracts)? Why take on risk if you have to bear it all by yourself?

world cup and productivity

   Half of the country is stopping today to watch a game on TV; according to newspapers, major companies are allowing workers to see the game (it takes place at 15h00), as long as it does not hurt productivity.

   I wonder what are the effects of this sort of events on productivity, I could not find such an assessment, but likely the main impact is in spirits not on hours worked...

700,000 New Emigrants

   During the research for a forthcoming book, I started to think about the impacts of our prolonged stagnation on the job market. Interestingly, in spite of low job creation, until recently unemployment never rose to really high levels. Therefore, I was left to wonder what could cause such a phenomenon. The answer was relatively obvious: emigration. We all know that Europe exhibits a low degree of job mobility, but we also know that, historically, Portugal has been a country of heavy emigration. Thus, I decided to check the emigration figures to see what was going on. Unfortunately, after the introduction of the European Single Market, many European countries stopped collecting data on immigration for European workers. Similarly, Portugal used to have a "passport for emigrants", which allowed us to collect data on migratory flows, but that too was abolished in the early 1990s. 

   The solution to get the emigration data was to use a combination of labor market surveys, registers of national insurance numbers, the OECD immigration dataset, as well as the immigration figures for the countries that still collect them.

   The results of this research truly surprised me. Between 1998 and 2008, around 700,000 Portuguese decided to leave the country in search of better opportunities elsewhere. The figures are still lower than in the 1960s and early 1970s, but not by much. And the trend is accelerating: in 2007 and 2008, more than 100,000 Portuguese decided to emigrate.

   We don't know how much of this emigration is temporary or permanent, but, obviously, even if it is temporary, migratory flows can easily become permanent. No consolation there, even if we assumed that emigration is mostly temporary (which I doubt).

   One thing is certain. The prolonged economic stagnation is starting to have a major impact on the lives  of tens of thousands of workers, who are increasingly opting to find jobs elsewhere, rather than waiting for an illusive economic recovery. Alas, this trend is likely to persist if the Portuguese economy continues to be stagnated in the next few years.

P(II)GS: too big to fail.

   A recent Report by economists at the Royal Bank of Scotland estimates that the total amount of public and private debt issued by entities resident in Greece, Spain and Portugal that is held by foreign financial institutions -- financial entities outside the P(II)GS -- is about 2000 billion euros. This is about 22 percent of the euro area GDP.
   (by the way, I found no links to the report itself, but a brief description that essentially corroborates the calculations may be found here .
   The message seems clear: P(II)GS are too big to fail.
   Hence the bail-out that European Union leaders (together with the IMF and the US) have designed for Greece.
   And hence the need for fiscal rules, coupled with fiscal federalism, that several of us have been arguing for in this blog -- stressing, as I have done, how they would be positive for our profligate country in need of importing yet this good that it can not produce domestically (discipline).
   I think, moreover, that this Report makes it clear why the solution that Ricardo Cabral devised in a post to EuVox -- rescheduling and reestructuring -- is economically misconceived. The international financial turmoil would be enormous and the Euro would be in real danger. We wouldn't want to have Argentina in Europe.
This said, the essence of the problem remains to be solved: P(II)GS simply cannot live above their means so systematically and deeply. Think about Portugal: 10 percent of GDP of current account deficit, year after year; a country that is lacking structural competitiveness; and politicians that (some, to be fair) remain autistic about this.
   Against this background, has the Portuguese government done everything to its reach in order to contain the indebtedness of Portuguese entities? I do not think so.
   Public expenditure should be significantly reduced, which I haven't seen so far (at least compared with Ireland and Spain's immediate measures). And -- a crucial 'and', for me -- renewed incentives for residents to hold public debt should be created. The Portuguese twin deficits will only be tackled if and when the Government actually stops spending inefficiently and sucking resources from the public to finance that spending; and when it creates virtuous 'forced savings', instead of the vicious ones that have been recently implemented (increased taxes). If the Portuguese save more because they are stimulated to allocate increased savings to public debt, the international financial exposure of the Government would fall, imports would deccelerate and the international financial exposure of the country as a whole would decrease; the immediate signs needed for Brussels -- cutting the deficit -- should have given much more via spending cuts than they have actually been given.

The truth behind the passion for education

In the last few years, several of our governments have made a strong commitment to invest in education, in order to improve the economy’s human capital and competitiveness. And commitment there was. After decades of underinvestment in its human capital, Portugal now spends more in Education in percentage of GDP than the average country in the OECD. The big question is thus: how efficient this investment in Education has been to raise both the quality and quantity of human capital? And the sad answer is: not much.

How do we know that? Well, we just have to look at the results of the PISA surveys to know that the quality of education in Portugal is still somewhat lacking. Simply put, nobody in the OECD scores worse in terms quality of education (math, reading and science) than our students, with the dubious exception of Mexico and Turkey. Still, and knowing that the PISA methodology is not perfect, do we have any other evidence with regards to the efficiency of our educational system? The answer is positive. Luckily, the new Barro-Lee dataset has just been published and the results are simply very telling.

There are good news and bad news when we analyze the Barro-Lee data on average years of schooling.

The good news is that, indeed, and as we can see in graph 1, there has been a steady increase in the average years of schooling since the 1950s, and, more particularly, after the implementation of democracy. 

A balanced budget by 2016

Independently of whether we decide to impose constitutional requirements on the growth of public debt and the budget deficit (a good idea, which I have also defended here), I strongly believe that the next government would greatly benefit if it could achieve a balanced budget as rapidly as possible.

More specifically, I believe that a balanced budget could be achieved by 2016 without unacceptable sacrifices or social tensions and without a major recessionary impact. Why? Because, if all goes according to plan (a big if, I know), the budget deficit will be below 3% of GDP by 2013. Hence, the government would “only” need to reduce the deficit by 1 percentage point per year until a balanced budget is reached by 2016. A 1-percentage point per year reduction in the budget deficit does not strike me as recessionary, especially when compared with the targets of deficit abatement already set for 2010 and 2011.

The question is thus: Why should we aim for a balanced budget? Two words: credibility and reform. Let’s start with the former. One of the sad state of affairs of our economic policy is that most of our governments (not all, but most) have shown a total lack of respect by those who ultimately pay the bills: the taxpayers. By expanding public expenditures virtually without restrain, the Portuguese governments are constantly expecting not only that the subsequent rise in the tax burden will not harm the economy, but also that taxpayers will not mind paying the tab for the rise in expenses (obviously, the last few years have increasingly shown that these two premises are simply wrong).

Therefore, it is not totally surprising that, since democracy was implemented, no government was even close to achieving a balanced budget. Far from it. As we can see in the graph below, the Portuguese governments have always maintained significant budget deficits, even at times of fast economic growth, when revenues are higher. 

The state of the Union

Even before it began, Europe's moment as a major world power in the 21st century looks to be over. Richard Haass

The euro is in danger…If the euro fails, then Europe fails. If we succeed, Europe will be stronger. Angela Merkel

I think of the current state of the EMU as the result of three events. The first event is the political decision to adopt a common currency leaving EMU members without automatic mechanisms to adjust to external imbalances beyond self-equilibrating forces. The second event is the global financial crisis with her consequences including the recognition that large shocks are not an historical curiosity. The third event is the sudden comprehension by the financial markets of the first event.

The next figure partially summarizes the state of the EMU. The data are from the ECB and are used to set the stance of monetary policy.

Two sub-periods are evident: the pre-crisis and the post-crisis periods. The first 8 years show the performance of the ECB in controlling inflation ad stabilizing it around 2%: impressive. Equally impressing is the inflation oscillation that started in 2008 and is still unfolding. The EMU public debt to GDP ratio was stable at roughly 70% (10% more than the Maastricht rule) until the global financial crisis. The decline in output and the consequent worsening of public finances have now increased the debt to gdp ratio to almost 80%. Similarly the EMU public deficit has fluctuated around the -3% Maastricht limit until it ballooned during the crisis. Notably the EMU area has always had a fairly balanced current account and her actual net external position is small. The EMU growth has averaged 2.3% from 1999 to 2007 to later collapse and the EMU unemployment rate moved around 8.5%.

I see a picture of a sufficiently solid although static euro area that was hit by a large shock. There could be some concerns regarding the control of inflation (personally I am more worried by the downward trend of the inflation rate that excludes energy). The unemployment performance is unsatisfactory but this is not the picture of a collapsing economy. To observe the large imbalances that are threatening the euro we have to shift to a disaggregated picture.

The next figure depicts the state of the individual members of the EMU.

The heterogeneity within the euro is large in every dimension. Some states have very large debts, some have very large current account deficits, some have both and other have incredible unemployment rates for a modern democracy. The crisis has potentially put some of the weakest states in an unsustainable debt position exacerbated by large external imbalances. The heterogeneity per se is not a sufficient condition for questioning the existence of the euro area (and weights matter). For example the US states are very different in terms of employment, fiscal stance, size, productivity, ratings, etc (see here and here). The EMU has to design and adopt the minimum set of adjustment mechanisms that have to be present within a common currency area. There are many proposals that are discussed such as a common bond market and a larger fiscal integration. For the latter it could be interesting for europeans to know how much of the adjustment to the current shock is achieved in the US through automatic stabilizers such as unemployment benefits and how much is achieved through labor mobility (workers migration).

What is really necessary is for the EMU leaders to decide if they want to continue the integration of Europe (and how: a centralized state or the Europe of regions) or decide to go back to the now obsolete nation-state paradigm. A shadow is rising within Europe and it requires courage to dissipate it.