May 16, 2013, 4:39 PM ET

Bergsten Warns of Currency Wars in Peterson Valedictory Speech

ByIan Talley

In his valedictory speech as the head of one of the most respected economic think tanks in the world, Fred Bergsten was tempted to triumph the competitive liberalization of the global economy he championed for the last half century, including nearly two decades in the U.S. government.

Instead, the former assistant U.S. Treasury secretary issued a clarion call about “a clear and present danger” that continuing “currency wars” represent to the U.S. economy, global trade and the international monetary system.

“Virtually every major country is seeking depreciation, or at least non-appreciation, of its currency to strengthen its economy and create jobs,” he said in prepared remarks to the Peterson Institute of International Affairs Thursday afternoon. Mr. Bergsten officially stepped down as the director of the institution last year, replaced by former Bank of England board member Adam Posen.

Those currency tensions, and the policies that are fueling them, are costing the U.S. economy millions of jobs and threatening to create the kind of global problems that contributed to the Great Depression, he said.

The International Monetary Fund plays down the threat of currency wars, where countries across the globe devalue their exchange rates for a trade advantage. But Mr. Bergsten says it’s already widespread.

“Much more seems quite possible in the near future,” he said. “The economic damage that has already resulted is immense and could become much worse,” he added.

The heart of the problem, he argues, lies in the fact that there is no way to penalize countries that run trade surpluses at the expense of other countries, sanctions that would deter them from competitive currency manipulation.

“It’s the single greatest flaw in the entire international financial architecture,” he said, essentially ensuring that the problem will continue in the years ahead.

The biggest culprit in Mr. Bergsten’s accounts is China, despite Beijing’s significant appreciation of the yuan against the dollar in recent years. But he points to others, including Hong Kong, Denmark, Korea, Malaysia, Singapore, Switzerland and Taiwan.

If all the major currency delinquents were forced to stop their intervention, Mr. Bergsten calculates the impact would be comparable to the near $1 trillion 2009 stimulus or all three rounds of the Federal Reserve’s special monetary easing.

“Eliminating excessive currency intervention would narrow the trade deficit by 2% to 3% of gross domestic product and move the economy much of the way to full employment,” he said.

The two institutions that might be able to police currency practices — the IMF and the World Trade Organization — don’t have a legal weapon to wield.

Mr. Bergsten proposes that the victims of currency manipulation — largely the U.S., Europe, Brazil and a few other countries — should start to push for changes to the WTO and the IMF, giving them the power to stop exchange-rate intervention.

Many economists say that’s either a Herculean or quixotic task given the power that China has now accumulated on the world stage. The U.S. no longer has the geopolitical might to make it happen by itself, Mr. Bergsten concedes, as its global share of trade has shrunk and its dependence on other countries growth.

But Washington could still act unilaterally, applying special duties for intervening countries, he said. Other countries might join the effort, and while the WTO may ultimately rule against the action, the years needed for adjudication would act as a deterrent.

Time, he warns, isn’t on Washington’s side, all the more reason for the administration to act now.

In fact, Congress might force the issue when the administration seeks approval for pending new trade agreements across the Pacific and Atlantic, or for trade promotion authority.

“Congress, encouraged by the auto industry and perhaps others, will raise the currency issue in these contexts, and especially if it remains dissatisfied with the administration’s performance, insist on including relevant chapters in these and future trade agreements,” he said.

Copyright 2013 Dow Jones & Company, Inc. All Rights Reserved


MARKETS INSIGHT

May 15, 2013 9:56 am

Markets Insight: Central banks will keep equities afloat

By Michael Heise

Continued monetary easing means there are no reasons stock markets should see a steep slide


Four months ago, I argued in this column that financial markets were running ahead of a turn for the better. Today they are still in bullish mood. But they are not buoyed by encouraging data – which are still rare – but by the realisation that expansionary monetary policy is set to rule the roost for a while yet.

Indeed, recent highs on many stock markets seem out of sync with the current weak economic indicators. A clear pick-up in the economy is evident neither in Europe nor in the world economy. Many institutions are now forecasting 2013 world GDP growth of only 2.5 per cent or less. In the eurozone average growth is likely to be negative. But financial markets remain unfazed, taking this as more evidence that monetary accommodation is here to stay for the foreseeable future.

Confirmation was recently provided by the European Central Bank, with its 25-basis-points cut to a record low of 0.5 per cent. The move was prompted by the ongoing weakness in the economy and by sliding inflation.

In the current environment, and with transmission channels still impaired, the overall impact of the ECB move on eurozone growth will remain muted.

The ECB’s decision came on the heels of the recent announcement by the Bank of Japan that it plans to double the monetary base by the end of 2014. If in future the Japanese central bank is going to be gobbling up some two-thirds of government bond issues, close to zero interest rates on Japanese government bonds are practically guaranteed. Given the size of the Japanese market, this will also push down global yields.

However, the flood of liquidity and the low interest rates, which central banks hope will help resuscitate lending demand and unblock dysfunctional monetary transmission channels, are having ambivalent effects.

On the one hand, monetary accommodation is facilitating funding of high debt levels for public or private borrowers and enhancing the attractiveness of even modestly profitable investment projects. On the other, it is severely eroding the income flow for all savers. The alternative is to resort to higher-yielding but more risky investment forms. Shares are the beneficiary; their charm has risen considerably despite the economic uncertainties.

There is a general fear on markets that excessive liquidity supply may at some point spawn asset bubbles without fuelling inflation in goods prices. But with a view to equity markets, only lonely voices already see evidence of a bubble. Indeed, some fundamental factors argue for equities.

They have more than a decade of low gains behind them. The corporate earnings picture is broadly upbeat and the long-term trend is favourable. Therefore, even if the economic pickup, supported by monetary policy, remains moderate, there will be ongoing earnings momentum, making current valuations on most stock markets look attractive.

There are therefore no reasons for a steep slide on stock markets. A downright collapse would only be on the cards if the euro debt crisis were to escalate again or, in the event of buoyant economic growth with higher inflation, monetary policy were to reverse direction after all. Both scenarios currently look unlikely.

At present, anything but an exit from unconventional monetary policy is on the agenda, despite the considerable risks this entails. One reason why the ECB will be reluctant to undock from the other central banks is the likely impact on the euro.

Financial markets have become even more dependent on monetary policies than just a few months ago
In the current environment, a steep rise in the euro could spawn deflationary risks in the eurozone. As long as the US Federal Reserve, the BoJ and the Bank of England remain on a path of forceful accommodation, it would be difficult and risky for the ECB to change its stance. Hence, a genuine turnround in European monetary policy is not very likely in the foreseeable future – even if evidence of an economic recovery firms up.

All this indicates that financial markets have become even more dependent on monetary policies than just a few months ago. Rock-bottom policy rates and abundant liquidity will keep yields on benchmark government bonds low for the rest of 2013. In the event of an economic recovery beginning later this year, yields on 10-year US Treasuries and German Bunds may start to rise moderately, but look unlikely to exceed 2 per cent even in 2014. The difficulties for defensive investment strategies will therefore persist.

Stocks will continue to show a solid performance. The test for market resilience will come when the ultra-loose monetary policy stance changes. This is not around the corner – look for 2014 at the earliest – but the longer the markets get used to ultra-low rates, the more they will be rocked once a monetary turnround commences.


Michael Heise is chief economist and head of corporate development at Allianz SE


THE FED

What You Absolutely Need to Know About Money (Part 8)

By SHAH GILANI, Capital Wave Strategist, Money Morning

May 16, 2013

SHAH GILANI


It all starts with the Arab oil embargo of 1973-74.

The Arab members of OPEC proclaimed an oil embargo to punish the U.S. for aiding Israel. This action quadrupled the price of oil, roiling commodity markets, equities, bonds, and foreign exchange markets.

Energy prices soared. Speculation in oil exploration and production became feverish.

There was money everywhere.

Oil exporters in the Arab states were depositing their windfall "petrodollars" into big U.S. banks, who were in turn lending the money out as fast as they could.

By far, the largest recipients of the flood of money looking to be lent out were Latin American and South American countries. Thus, the new tens of billions of dollars banks had to lend were showered on sovereign states with glaring credit quality blemishes.

In the meantime, banks were lending hand over fist to the energy patch. Small banks were getting into the oil lending game, too - sometimes in spectacular ways.

By 1982, tiny Penn Square Bank, located in the Penn Square Mall in Oklahoma City, Okla., had made over $1 billion dollars of energy loans and resold them to money-center bank Continental Illinois National Bank and Trust Company of Chicago.

The loans went bad, quickly.

That shouldn't have been a problem for Continental Illinois, which had over $40 billion in "deposits." But it was a monumental problem.

That's because only 10% of Continental Illinois' deposits were FDIC insured.

In 1982, depositors were insured up to $100,000; so when news got out that Penn Square had failed and the loans it had sold to Continental were defaulting, Continental depositors began to panic.

Continental had been playing the "hot money" game, very aggressively. To increase its loan portfolio, it needed more capital, or deposits. It got them by offering high-interest CDs and borrowing in the fed funds market for overnight money and in the money markets by issuing commercial paper.

Its deposits weren't "sticky," meaning they weren't going to be left there by folks with savings accounts. They were hot money deposits that were now exiting the bank via electronic transfer at unheard of speeds.

The bank became insolvent in a matter of days.

Depositors who hadn't gotten their money out would lose untold billions if the bank was shut down. The Federal Reserve, the Treasury Department, and the Federal Deposit Insurance Corporation feared a run on other banks, including all the nation's big money-center giants.

The panic unfolded at breakneck speed, and it had to be stemmed.

So the FDIC effectively nationalized Continental, by taking an 80% ownership position, and declared all deposits insured.

In other words, not a single depositor would lose money. The FDIC with the full faith and credit of the government - better known as the American taxpayers - was backstopping the bank.

It seemed like it was over before it started. Everything calmed down; there would be no bank runs. All America's big banks were safe, effectively christened... too big to fail.

But the hits kept on coming.

By September 1982, Mexico had stopped servicing billions in loans it had taken from big New York banks. And Brazil was on the verge of defaulting on its massive borrowings.

The big money-center banks with their billions in petrodollar deposits were now all in big trouble. But they were smart.

The big banks knew full well that they could never sell bonds on behalf of Latin and South American countries with a history of defaults (the high interest the bonds would have to pay to attract investors would be a dead giveaway). So they made syndicated loans, enticing over 700 smaller banks to join them in fueling the profligate spending habits of socialist and mostly commodity-export-driven southern sovereigns.

You see, what the banks had figured out was that their friends in government would never let them fail. They would use the International Monetary Fund as a front to help bail them out.

It worked like a charm, and it's still working today.

The IMF was originally established to help tide over countries with short-term liquidity problems, by providing short-term loans accompanied by reform demands to fix their economies so they could pay back the IMF loans. But at that point, it would be forever transformed into a U.S. government-backed payment enforcer.

The beauty of having a seemingly multi-national enforcer such as the IMF force countries at risk of defaulting on imprudently lent loans to reform their economies to trigger growth again, was that all kick starts would require fuel in the form of IMF loans.

Thus the IMF lends to debtor countries so they can pay off the bankers who they owe and are behind to, so the banks don't have to write off their bad loans, and foreign sovereign nations can keep borrowing in capital markets (and from the same banks) to pay off bankers and the IMF.

It's called "extend and pretend."

Well, it's more formerly known as the Baker Plan, after James Baker III (Ronald Reagan's Chief of Staff and later his Secretary of the Treasury), who originated the game to save the likes of Citibank's then-chairman, Walter Wriston (the co-inventor of CDs and a huge lender to Latin and South America), himself chairman of Reagan's Economic Policy Advisory Board.

Whatever it's called, the extend and pretend game is now an institutionalized national treasure.

Of course it benefits the TBTF banks in yet another cockamamie scheme to make their lending lives eternal.

That's how we got to TBTF and how the TBTF banks get away with piling on more and more debt to borrowers that have no way of ever paying it back.

It's how the banks operate. It's the business they've created.

Next we'll look at how the capital markets are rigged. We'll see how banks manipulate them for massive profits, basically to offset the tiny spreads they make on the loans they will never be repaid on.

Then you'll start to see how the Fed feeds the banks a lifeline to keep their lending going and, as their top regulator, lets them get away with murder in the capital markets, so they can keep on making money (to lend out to consumers and American businesses, of course) to enrich the crony capitalists who suck Americans dry like filthy leeches.

Then I'll tell you how to beat them at their own game. But first, you've got to understand who the players are and how the game is really played.

Welcome to your life...


13th May 2013

The tulip harvest is in !

“When the cover of a major financial magazine features a cartoon of a bull leaping through the air on a pogo stick, it’s probably about time to cash in the chips.”

- John Hussman of Hussman Funds in his April letter.

Amsterdam, March 1637 (Ruyters): The latest Dutch tulip harvest is in, and experts confidently predict another bumper year for tulip growers and tulip investors alike. Billionaire hedge farmer Jon Paulsen is rumoured to have added hyacinths to his multi-strategy offering and has just launched a fund denominated in daffodils. Tulip stocks climbed by a few millimetres, as they are prone to every day if they grow at their normal organic rate; Couleren bulbs rallied another 2 guilders in heavy Antwerp trading; Rosen and Violetten bulbs ended the trading session more or less unchanged, albeit a bit squashed, and at record highs. The market has been further buoyed in recent weeks by a tide of manure issued by the leading tulip advocate Pol Kruygman from his op-ed column in the New Amsterdam Times, ‘Witterings of a Tulip Fanatic’. Kruygman promised to keep the manure coming, whether anybody wanted it or not.

The popularity and rising value of this colourful perennial plant evidently know no bounds and this is surely a golden age that is never likely to end. Future generations will evidently marvel at the effortless wealth on offer to investors committing their capital unreservedly to tulips today. Dutch housewives bedecked in tulip hats, tulip scarves, tulip dresses and tulip shoes danced gaily in the streets of Tuliptown (formerly Amsterdam) whilst smoking tulip cigarettes, slurping tulip soup, and drinking tulip beer from tulip beer glasses with tulip straws. Given that the anthocyanin Tulipanin is toxic to horses, cats and dogs, the inhabitants of Amsterdam have long since stopped rearing horses, cats and dogs; they have chosen to rear tulips as pets instead.

Many Dutch households have also abandoned the traditional export trades in herring, gin and cheese in order to concentrate their energies where the action is: tulips. Tulip promoter Dirck
Pieter Tulip commented:

“Tulip tulip tulip ! At my tulip worship museum and emporium, ‘All Things Tulip’, you can see the very latest in tulip technology, tulip breeding and tulip trading strategies.”

Dirck Pieter Tulip is offering courses in tulip cash / futures arbitrage. Price: One Tulip. Mr Tulip was formerly a stockbroker. In addition to curating his tulip museum he also edits the specialist tulip fanciers’ magazine, ‘Bulb !’

“I have just sold my house, its contents and all my family in order to speculate indefinitely in tulips, heavily on margin, and advised all my friends to do the same,” he added. “What can possibly go wrong ?”

Tulip Reserve Bank Governor Ben Berninckje agreed, and greeted the news of the tulip harvest warmly.

“There has never hitherto been a nationwide fall in tulip prices,” he pointed out,

“So evidently that can never ever happen.”

And Governor Berninckje pledged to support tulip prices down to the very last taxpayer, now that the tulip-related economy accounted for about 99.6% of Dutch GDP. Lending against tulips accounted for the other 0.4%.

Analysts at the business network ZeeNBZee were quick to voice their compliance with the almost
universal approbation for the pretty, multi-hued offspring of Tulipa gesneriana.

“Tulips are definitely the way forward,” said one.

“Although I have only been in the market since about 7.30 this morning, this is the most incredible and exciting thing I have ever seen. So I recommend long tulip positions to anyone witless enough to listen to me.”

New derivative markets in tulips are sprouting up daily to enable people to speculate in tulip price appreciation without having to worry about the tiresome fuss of actually taking delivery of the attractively patterned flowers.

And prices are continually reaching new highs, even in new digital- only varieties of the plant, or bit-tulips. Talk of tulip millionaires is all the rage. Popular balladeer Jostin Beebor is said to have been an early investor, but he is rumoured to have sold all his tulip positions now.

Sceptics of the tulip cult are obviously fusty-minded dullards who lack imagination, vision or a healthy sense of disbelief. One sceptic, speaking on condition of anonymity although his name is Cornelis Tromp and he resides at 33 Medomsley Road, Utrecht, remarked,

“Something about this environment feels dreadfully wrong to me – a contradiction in terms of logic, common sense and fundamental economics. Every day new tulips come onto the market and the supply of them has never been higher, and yet every day the prices also reach new records. But the market is drowning in tulips and there is almost nobody left who doesn’t already own them. There’s not a whole lot you can do with them. And they only bloom for a week. Unless the laws of supply and demand have been magically rescinded, this fantastical bubble in dotcom stocks US property bank stocks subprime credit government bonds equities tulips is likely to end very badly, particularly for neophyte investors who have been urged by irresponsible reserve banks and an unregulated financial media into the tulip market to the exclusion of just about everything else.”

Commentators aside from Mr Tromp, however, were unanimous in their confidence that for as long as the tulip reserve banks stood ready and willing to throw liquidity at the tulip market, and for as long as that market was going up, there were no clouds on the horizon, although the weather correspondent for the New Amsterdam Times pointed out that there was actually a gigantic, dense, threatening mass of clouds on the horizon.


May 15, 2013, 5:35 PM ET

Sorry, World, U.S. Consumers Can’t Save You

By Kathleen Madigan

To the consternation of U.S. manufacturers and probably Federal Reserve officials, American consumers are being asked — once again — to be Shoppers to the World.

The recent reports from retailers show consumers started the second quarter in a better spending mood than economists expected. Falling gasoline prices are freeing up cash to be spent elsewhere while rising home and equity values are making many households feel wealthier.

U.S. factories, however, aren’t benefiting much from consumers’ resilience. The Fed reported Wednesday that manufacturing output slid for the second straight month in April. The output of consumer goods was up 2.4% over the past year. Meanwhile after adjusting for negligible goods inflation, April real retail sales excluding restaurants were up about 3.5%.

Imports are making up some of the gap between domestic demand and supply, one consequence of economic policies pursued around the world.

Of course, global policy makers don’t come out and say, “We want U.S. households to buy more of what we make.” But the recent policy decisions should have that result. After all, the U.S. consumer sector has been a economic powerhouse in the past.

The quantitative easing in Japan is damping the yen, which will help the nation’s exporters. On Tuesday, the U.S. Labor Department said import prices from Japan fell 0.6% in April, the largest monthly drop since September 2008, and Labor noted the three-month decline in Japanese import prices pretty much matched the drop in the yen against the dollar.

For the Fed, a rising import share of U.S. spending will undercut the central bank’s two goals of lifting inflation closer to 2% and creating more jobs.

That’s because falling import prices raise the risk of disinflation. In addition, increased imports will subtract from economic growth, and cuts to factory output in the U.S. will lead to less labor demand. Note that factory payrolls were flat in April, and the average manufacturing work week shrank by six minutes.

In order to increase spending, consumers have been saving less to offset the money lost when tax rates rose this year. That strategy is unsustainable. Unless job and wage growth pick up, U.S. consumers don’t have the financial heft to save the global economy.

Copyright 2013 Dow Jones & Company, Inc. All Rights Reserved


The Resistible Fall of Europe: An Interview with George Soros

15 May 2013

Editor’s note: On May 12, George Soros was awarded the Tiziano Terzani Prize for his 2012 book Financial Turmoil published in Italy by Hoepli. The following interview is adapted from a press conference held in Udine, Italy, on that occasion.

INTRODUCTION

SOROS: I have been very concerned about Europe. The euro is in the process of destroying the European Union. To some extent, this has already happened, in the sense that the EU was meant to be a voluntary association of equal states. The crisis has turned it into something that is radically different: a relationship between creditors and debtors. And, in a financial crisis, the creditors are in charge. It is no longer a relationship between equals. The fate of Italy, for example, is no longer determined by Italian politics – which is in a crisis of its own, I would say – but rather by the creditor/debtor relationship. That is really what dictates policies.

QUESTION: But the stock markets are apparently in good condition. Why do you think we are in a crisis? Do you think this kind of honeymoon will go on for a long time?

SOROS: The answer is no. We are in what I call a far-from-equilibrium situation. Therefore, it cannot last. But I am not in a position to predict the future.

QUESTION: The spread between German treasury bonds and Italian treasury bonds has decreased despite the current financial difficulty. Do you think this could delay the introduction of Eurobonds – which, if I am correct, you support – as a possible solution to remedy the current discrepancies among rates in Europe.

SOROS: Yes, I think it could, because this could continue, and the discrepancy in the rates would not disappear, though it would remain within a range that could be tolerated for an indefinite period. Of course, it would be a big handicap for Italy, making it more difficult to escape the disadvantageous position it is currently in.

QUESTION: The lack of access to credit on equal terms creates an uneven playing field. This is a handicap for different countries and makes it more difficult for them to regain competitiveness. What should be done?

SOROS: It is important to recognize that this disadvantage consists of two components. One is the cost of borrowing by the government, and the other is the cost of borrowing by the private sector. Recently, since the Cyprus rescue, the private sector’s disadvantage, particularly for small and medium-size enterprises (SMEs), increased to crisis proportions. Fortunately, the authorities recognize this. The European Central Bank is discussing the possibility of using its resources to help resolve this problem. And it is very, very important what they come up with. I am hopeful that they will produce a scheme that could make a difference. If you could package the loans to SMEs and refinance them at the ECB on equal terms, that would mean that enterprises south of the Alps would be able to borrow on more or less equal terms with enterprises north of the Alps. That would be a game-changer.

I am sure that this will be resisted on legal grounds. I am not in a position to follow the battle within the ECB from the outside, but what the outcome will have a major influence on the future course of events.

It should not escape your attention that if the ECB succeeded in making credit available on equal terms, it would effectively mean a large-scale mutualization of rather risky debts. Once that happened, it would make sense to mutualize government debts as well. Guarantees have a peculiar feature: the more comprehensive and convincing they are, the less likely they are to be invoked and to result in losses. So the securitization of SME loans could be an indirect route to Eurobonds. It would certainly be a step in that direction. That is why it is bound to be resisted. But success could lead to a positive resolution of the euro crisis.

QUESTION: Do you think Germany could ever accept the idea of debt mutualization by the ECB? I am sure that there must be severe resistance to this idea in some circles in Germany. Can they prevent it?

SOROS: The ECB is a functioning institution. So long as it acts within its powers, Germany is not in a position to veto it. This is why I am hopeful that something really significant might come out of the deliberations currently taking place behind closed doors.

QUESTION: Do you think the current economic crisis is possibly the final step in a general philosophical crisis in the West?

SOROS: I discussed this in 2000, in my book on The Crisis of Global Capitalism. So far, global capitalism is surviving, but with great difficulty. I hope it will continue to do so, but with less difficulty. I don’t think there is a viable alternative to global capitalism, but it does need better institutions.

QUESTION: Europe is still in deep recession. What are we doing wrong? What is it that we can learn from the United States to overcome the crisis?

SOROS: First of all, the euro crisis is a direct consequence of the financial crisis that started in the US in 2007. And it has to do with the design of the eurozone, which is fundamentally flawed. The global financial crisis revealed some of those flaws, though some are not properly recognized even today. So the US is, in fact, doing better. Europe now has to solve its own crisis, which is, of course, a combination of a financial crisis and a political crisis.

QUESTION: Some people have said that speculators such as yourself helped cause these crises to some extent. How do you react to this criticism?

SOROS: I am not surprised. And I am ready to answer any concrete criticisms that may be raised. I have always been very open about my activities. Financial crises are not caused by speculators, but by the authorities, which create or establish the wrong rules that allow speculators to do what people blame them for. In other words, to put it more clearly, speculators are messengers delivering bad news.

QUESTION: Looking back at what happened in 1992 with your Quantum Fund, which led to the devaluation of the Italian lira by 30%, what are you feelings today? Do you have any regrets?

SOROS: No, I have no regrets whatsoever. My actions have been discussed. At the time, I did take a position in the Italian lira, because I was listening to the Bundesbank talking about its unwillingness to provide funds to maintain the European exchange-rate mechanism – the ERM. So it was a good speculation. And I have no regrets whatsoever.

QUESTION: Did the Bundesbank give you hints about what it would do?

SOROS: These were public statements. I had no personal contact. I was only listening to what they were saying publicly.

QUESTION: Mario Draghi, the ECB’s president, has undertaken several initiatives. Last summer, he approved so-called outright monetary transactions (OMTs) in order to acquire an indefinite volume of distressed eurozone members’ bonds., which is contributing to the strength of the euro. He adopted other successful measures as well. Do you think the ECB could do more to solve crisis?

SOROS: The ECB has to act within its legal powers. And lawyers have been playing a key role in deciding what it can and cannot do. The lawyers probably have more influence than the economists in this regard. The ECB has been pushing the limits, but it must remain within them. And that is constitutionally correct, because, after all, its governing board is not elected by popular vote. The ECB is already carrying too much weight. There is a missing ingredient: a fiscal authority. For a fully functioning financial system, you need not only a monetary authority, but also a fiscal authority – a treasury. The US has a central bank and a treasury, and the two of them have dealt with the financial crisis. In Europe, there is only the central bank. The fiscal authority is missing. And everything would be much simpler and function better if a fiscal authority was actually constituted, which requires political action.

QUESTION: Unemployment is soaring in the countries on the EU’s periphery, affecting all age brackets. Do you think we should reverse course and tackle, first and foremost, the social crisis and the unemployment problem, rather than insisting on the financial aspects?

SOROS: The evidence is growing that austerity is not working. Sooner or later, I expect a reversal of the current fiscal policy – the sooner, the better. There is a political problem, namely that the creditors dictate economic policy. And there is a financial or an economic problem, namely that the policy the creditors advocate is counter-productive. The rest of the world, in the face of excessive unemployment, is no longer trying to reduce prematurely government debt accumulated during the financial crisis. And the rest of the world engages in quantitative easing. The latest convert is Japan, where the central bank has been forced to abandon its orthodox monetary policy. So I think it is only a matter of time. Something has to give in Europe, because Europe is out of touch, out of synch, with the rest of the world.

QUESTION: The impression in Europe is that we are going through a very far-reaching and deep crisis, possibly the last crisis, because Europe is losing ground against the Far East and South America. And it could really mean that we are losing our sovereignty. Do you think that Europe will be able to regain the economic and political strength to be a leader in the world, or is this really the end? Do you think that Europe will be a world leader again? Or do we have to prepare for a reversal of growth?

SOROS: I share your concern about the gravity of the crisis. I have taken it very seriously. As a believer in an open society, I have made it my first priority for the last few years. This book [Financial Turmoil] is a testament to my concern. I do not think that the euro crisis is the end of Europe. We must not allow it. The EU as it was originally conceived was the embodiment of the values and principles of an open society, and it had the potential to exercise a beneficial influence in the world in promoting those principles. It is a great loss for the world that the EU has become totally preoccupied with its own internal problems.

As you probably know, I have set up Open Society foundations, which are active all over the world. I have recently established an Open Society Initiative for Europe, because I believe that the euro crisis has endangered the principles of open society in Europe. Like all of my other foundations, it is guided by a board composed of people living where the foundation is active, and it has begun to function. The chairman of the board is Ivan Krastev of Bulgaria, and the executive director is Jordi Vaquer of Spain. And the offices are in Barcelona.

QUESTION: An open society as an excellent idea. I find it extremely interesting from a theoretical point of view. But, if you apply it to Italy, I mean, there are more and more critics of Europe because of its top-down approach, whereby the EU imposes regulations and rules on member countries – and especially on SMEs. And ordinary people have to abide by a growing number of European laws. Don't you think that, to some extent, though not in a very evident way, Europe is an enemy of an open society?

SOROS: No. I think the EU, in its conception, is the embodiment of an open society. But the concept of open society is based on the recognition that our understanding of reality is always inherently imperfect. As a consequence, the treaties that are the basis of the EU are also imperfect. The authorities are trying to deal with the crisis according to these treaties, because they recognize that it is very difficult to change them. They are also afraid that public opinion has turned against European integration. So they do not dare to bring up a treaty change. And that is the tragedy of Europe. The authorities are effectively violating the principles of open society by looking for solutions within the confines of treaties that have proved to be inadequate. This has generated political dynamics that are leading toward the EU’s disintegration. People who consider the current conditions intolerable become anti-European. So we need some kind of political movement that recognizes that conditions are in fact intolerable, but that Europe’s problems require a European solution – a pro-European but anti-establishment political movement.

While each country has its own structural problems, the debtor countries suffer from a structural problem of the euro, which can be solved only by all the member countries cooperating in finding a European solution. The debtor countries are caught in a bind from which they can escape only through a European political process, not by each country trying to solve its problems on its own. If Italy tried to leave the euro, it would have to default on its debt, which would be catastrophic not only for Italy, but for all of Europe and even for the global financial system.

QUESTION: What is your approach to sustainable management of natural resources and safeguarding the environment? To what extent do you think it is crucial for the future of planet Earth.

SOROS: This is a subject that is very close to my heart. I think considerable progress is being made in dealing with the management of natural resources. I am particularly involved in Myanmar, where land-grabbing is a big problem. I think the government is responsive. They have the wrong kind of law on land ownership, because it is based on plantation agriculture, and what Myanmar needs is smallholder-based agriculture. But I think they are ready to move in this direction.

There are also discussions taking place in the United Nations about what should follow the Millennium Development Goals after the 2015 target date. I went to Bali, in Indonesia, to attend a meeting where this was discussed, and I argued that the next set of goals should revolve around social injustice. All of the remaining major areas of extreme poverty are associated with some form of discrimination, repression, or exclusion of the poor. So the legal empowerment of the poor has to be an important element of the next set of development goals. And I think this idea is gaining acceptance.

QUESTION: What do you think the Italian government should do at the moment. Obviously, they would like to do many things, but they are obliged to abide by the fiscal compact and the many other austerity measures.

SOROS: I said at the beginning that Italy is not in charge of its own destiny. And politics is no longer confined to individual countries. And I think it is very important for people to realize this and to take European politics more seriously and not be totally preoccupied with domestic politics. The elections next year for the European Parliament could be very important in developing European politics, because there is a plan to elect the next president of the European Commission through the European Parliament. The European Parliament has the authority to oppose any candidate. It is therefore in a position to insist that the European Council accept the candidate elected by the majority of MEPs. The two major parties, the Christian Democrats and the Social Democrats, have agreed to follow this course. So there is a very significant political battle shaping up. I hope that people in the various countries will realize this and take the European elections very seriously.

QUESTION: Would you invest in Italy at the moment?

SOROS: I am no longer active in making investments. My investment fund is now managed by a team that has full authority to make the decisions. And they don’t necessarily listen to me, even if I have an opinion.

QUESTION: What is the possible future for Italy? Do we have to think of something similar to Cyprus or not?

SOROS: I have a great deal of sympathy for Italy’s predicament. I wish I could offer some miraculous solution. Italy is in a bind. But I don’t think the situation is hopeless. With some changes in the structure of the euro, Italy could be a perfectly normal, functioning economy. It is not so far off, except for the very severe recession – imposed on Italy by the policies that it has been forced to follow. I don't think that Italy is at all comparable to Cyprus. It’s apples and oranges. What is so frustrating about Italy is that it basically has quite a well-functioning economy, performing even better than Germany in many ways – except that people don’t pay taxes. So the Italians have been quite competitive and became rich – but the Italian state has a lot of debt, mostly owned by Italians. But Italy has some very serious political problems, which find expression in the way the parties function, pervasive corruption, and an electoral system that gives party leaders dictatorial powers over the electoral list. So there is a specific Italian political crisis, which has been aggravated by the euro crisis, in the same way that the euro has some specific structural flaws that were aggravated by the financial crisis in America. But I am not Italian and I don’t understand the intricacies; so I am not in a position to say much about it.