Who knew international finance could be so . . . riveting?
I won’t try to convince you that what’s really interesting about l’affaire Strauss-Kahn are the implications for International Monetary Fund policy and Europe’s debt crisis.
Steven Pearlstein is a Pulitzer Prize-winning business and economics columnist at The Washington Post.
As far as the IMF is concerned, it’s hard to think of an institution more impervious to exogenous shocks. Its bench of economists and financial bureaucrats is so deep, its beliefs and culture and ways of doing things so entrenched that when a spokeswoman declares it’s “business as usual” at 19th and Pennsylvania, you can believe it.
Dominique Strauss-Kahn’s resignation is just a matter of time — even if he is found to be not guilty, the damage to his reputation and the IMF has been done. The ideal replacement would be French Finance Minister Christine Lagarde, who can provide continuity in the management of the euro crisis, with Singapore Finance Minister Tharman Shanmugaratnam as her first deputy and designated successor, providing the long-overdue recognition of the growing importance of Asia in the global economy.
At the time of his arrest, Strauss-Kahn was headed to a meeting with German Chancellor Angela Merkel, reportedly to talk her out of a debt restructuring plan for Greece. The official IMF view, like that of the European Central Bank, is that allowing any euro-zone country to restructure its debt will trigger another global financial crisis as investors rush to indiscriminately dump all their European bonds, forcing European banks, which hold large piles of them, into insolvency. In this scary scenario, a debt default or restructuring in any euro-zone country would cause the collapse of the euro.
To hear it from the financial mandarins, the only viable option for the euro zone is to increase the size of its rescue loan package for Greece while imposing even more austerity, in the hope that somehow the country will magically grow out of its debt problem.
There are several problems with this diagnosis and prescription.
The most obvious is that Greece is already caught in the early stages of a debt spiral. The austerity measures necessary to bring Greece’s government budget into balance have caused such a deep recession, and tax revenues have fallen so steeply, that the primary deficit is increasing, not decreasing. History shows that once such a dynamic gets going, it is self-reinforcing and very hard to pull out of. A similar dynamic seems to be taking hold in Ireland, Portugal and even Spain, where economies are shrinking and unemployment continues to rise to alarming levels.
Second, unlike the autumn of 2008, when Lehman Brothers, Fannie Mae, Freddie Mac, Merrill Lynch and American International Group all suddenly came crashing down, markets have been anticipating and pricing in the risk of a Greek debt restructuring for more than a year. That is why the interest rate on short-term Greek bonds is 25 percent and why those of Ireland and Portugal are not far behind. At the same time, interest rates on bonds of many other euro-zone countries have barely risen at all. What this suggests is that the markets are calm and rational enough to distinguish between the creditworthiness of different euro-zone countries. This is a solvency crisis, not a liquidity crisis; the fear of a contagion is overblown.
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