July 14, 2013 7:43 pm

Simpson and Bowles are wrong on US debt
The deficit hawks were mistaken before 2008 and they remain so
Matt Kenyon Illustration©Matt Kenyon

Even before the 2008 crisis, America’s deficit hawks were warning the US was heading the way of Greece. They were wrong then and they are wrong now. It is time for them to whistle a different tune.
According to the independent Congressional Budget Office, America’s national debt will fall to 71 per cent of gross domestic product by 2016barely a third the level of Japan’s and roughly half that of Europe’s Mediterranean countries. Because of rising revenues and the impact of steep cuts from sequestration, this year’s US fiscal deficit will halve to $642bn from $1.1tn in 2012. By any measure, this is a vertiginous drop. At 4 percentage points of GDP, the salient worry is whether it is falling too rapidly.
Yet Alan Simpson and Erskine Bowles – the retired politicians who lead the “fix the debtmovementremain as unwavering as before. Given such rectitude, perhaps their motto should be: “When the facts change, we do not change our minds.”
The bipartisan duo, and their deep-pocketed backers, notably Pete Peterson, the founder of Blackstone, should pay heed to the fable of the boy who cried wolf. Exposure to false scares is only likely to inure the public to the debt crisis when it does arrive.

But that looks to be an increasingly long way off. Even at the depths of the Great Recession, when the budget deficit was soaring – as it should haverising national debt always posed a medium-term rather than a short-term threat.
In an ideal democracy, US legislators would by now have taken steps to curb healthcare and retirement costs to prevent a crisis from occurring 15 to 20 years from now. But politicians think on shorter time horizons.

This is particularly true of the US, where the system is rigged to address emergencies only when they are already upon it. It would be better were that not so. But as politics stands, Mr Simpson and Mr Bowles would have a better chance of curing America’s obesity problem than cajoling Washington to address tomorrow’s debt crisis.

Nor do the debt scare stories sound particularly frightening. According to the Committee for a Responsible Federal Budget – the most vigorous advocate of fixing the debt crisis now – the Social Security trust fund is set to go bankrupt in 2033, which means that benefits “will be cut automatically by 23 per cent across the board”. Set against today’s domestic cuts, which are also in double figures, the Social Security crisis looks like a picnic – and a hypothetical one at that. Without irony, the committee warns that by 2087 the Social Security deficit, if unaddressed, could equal 1.64 per cent of GDP. By then barely any of today’s voters are likely to be alive. My six-year-old daughter will be nudging 81.

A good guess is that the electorate will have forced a more solvent trajectory roughly half a century before that. No doubt, it would be cheaper for the US to raise the retirement age now. But in Washington that is only likely to happen when exigency demands.

The deficit hawks – or what Jared Bernstein, the former White House economics adviser, calls the “hair on fire brigade – are on much stronger ground when they warn of rising US healthcare costs, particularly the Medicare programme for the elderly. Without any change in the nearer term, Medicare could swallow up all of the federal budget by the 2040s.
Again, that is some way off. But the mounting costs of caring for the baby boomers are already eating up a growing share of today’s spending on other generations. The sooner the US puts a brake on the costs of Medicare, the more money it will have to invest in tomorrow’s priorities.
Here, however, fate may well be coming to Washington’s aid. US annual healthcare inflation has fallen from more than 6 per cent before 2007 to below 4 per cent since 2009. Nobody can be sure whether it is a blip. Some believe slower healthcare inflation is the temporary outcome of the Great Recession. Others argue that is the fruit of continuing changes to the way US insurers reimburse hospitals, and the shift of more and more of the cost burden on to individualsnot necessarily a cause for celebration. Since nobody predicted the slowdown in costs, none can credibly say if it will last. But if it stays on course, the worst of the US budget projections will melt into thin air. From a fiscal angle, it is the difference between facing a brain tumour and a bad headache.

Mr Bowles and Mr Simpson did everyone a favour three years ago when they came up with a plan to restore order to the US budget. Their idea of broadening the tax base and eradicating loopholes would be sane with or without a debt problem. There is also something admirable in the lengths to which they go to publicise their cause. In December, the 81-year-old Mr Simpson even dancedGangnam style” on YouTubeall six foot seven inches of him. “These old coots will clean out the Treasury before you get there,” he warned his “millennial audience”.

And so they might. But with the exception of America’s richest 1 per cent, no other income group rates the US budget deficit among the country’s biggest threats, according to polls. The remainder rank unemployment and stagnant incomes as bigger problems. To be fair to the 99 per cent, their concerns look more real. Can it really make sense to worry more about possible cuts 20 years away than actual pain today?

Copyright The Financial Times Limited 2013.

North Korea’s Powerful Weakness

Joseph S. Nye

11 July 2013

 This illustration is by Paul Lachine and comes from <a href="http://www.newsart.com">NewsArt.com</a>, and is the property of the NewsArt organization and of its artist. Reproducing this image is a violation of copyright law.

CAMBRIDGEWhen US President Barack Obama and Chinese President Xi Jinping met for their “shirt-sleeves summit” in California last month, North Korea was a major topic of conversation. The subject was not new, but the tone was.
More than two decades ago, the International Atomic Energy Agency caught North Korea violating its safeguards agreement and reprocessing plutonium. After the North renounced the subsequent Agreed Framework, negotiated by President Bill Clinton’s administration, in 2003, it expelled IAEA inspectors, withdrew from the Nuclear Non-Proliferation Treaty, and has since detonated three nuclear devices and conducted a variety of missile tests.
During those two decades, American and Chinese officials frequently discussed North Korea’s behavior, both privately and in public meetings. The Chinese consistently said that they did not want North Korea to develop nuclear weapons, but claimed that they had limited influence over the regime, despite being its major supplier of food and fuel. The result was a somewhat scripted exchange in which China and the US would accomplish little more than professing denuclearization as a shared goal.
China was sincere in expressing its desire for a non-nuclear Korean Peninsula, but the nuclear issue was not its primary concern. It also sought to prevent the collapse of the North Korean regime and the resulting potential for chaos on its bordernot only flows of refugees, but also the possibility that South Korean or US troops could move into the North.
Torn between its two objectives, China placed a higher priority on preserving the Kim family dynasty. That choice gave rise to a seeming paradox: North Korea gained surprisingly powerful influence over China.
North Korea has what I call “the power of weakness.” In certain bargaining situations, weakness and the threat of collapse can be a source of power. To take a well-known example, if you owe a bank $1,000, the bank has power over you; but if you owe the bank $1 billion, you may have considerable bargaining power over the bank. China is, in this sense, North Korea’s over-exposed banker.
As a result, China has tried to persuade North Korea to follow its market-oriented example. But, with the Kim regime terrified that economic liberalization would eventually provoke demands for greater political freedom, China’s influence over the regime is limited. As a Chinese official once told me in an unguarded moment, “North Korea has hijacked our foreign policy.”
North Korea has amplified its power by playing its weak hand audaciously. The North’s leaders know that superior South Korean and US military forces would win a full-scale military conflict. And yet, with 15,000 artillery tubes in the Demilitarized Zone, just 30 miles (48 kilometers) north of Seoul, the South Korean capital, they also know that they could wreak havoc on South Korea’s economy, whereas the North has relatively less to lose.
North Korea has long been adept at flaunting its willingness to take risks, provoking a crisis in 2010 by sinking a South Korean naval vessel and shelling a South Korean island. This spring, it conducted a nuclear test and a series of missile tests, accompanied by a stream of bellicose rhetoric.
Now it appears that China is beginning to lose patience. It has less confidence in the North’s inexperienced new ruler, Kim Jong-un, than it had in his father, Kim Jong-il. Chinese leaders are also beginning to recognize the risks that North Korea is imposing on China.
With more nuclear tests, a demand for nuclear weapons could grow in South Korea and Japan. Moreover, if this spring’s sharp rhetoric from the Kim regime is followed by provocations against South Korea like those that occurred in 2010, South Korea could respond forcefully, and China might be drawn in.
The signs of a change are intriguing. Following the “frankdiscussion of North Korea by Xi and Obama, Xi hosted a summit with South Korean President Park Geun-hye, without first meeting with its official North Korean ally. Instead, two senior North Korean officials subsequently visited Beijing and were scolded for the North’s behavior.
By contrast, Xi and Park issued a joint statement proclaiming the importance of faithfully implementing United Nations Security Council resolutions that call for sanctions against North Korea, as well as a multilateral agreement in 2005 that obliges the North to exchange its nuclear-weapons programs for economic and diplomatic benefits. Both leaders urged a resumption of the six-party talks on denuclearization, which have been suspended since 2009.
What comes next is uncertain. North Korea has tempered its rhetoric and behavior, but the Kim regime has given no indication that it is willing to give up the nuclear-weapons program that it regards as vital to its security and prestige. In the long run, economic and social change may help to resolve the situation. China’s dilemma remains that if it pushes too fast for reform, the Kim regime may collapse.
Faced with that prospect, the US and South Korea could take steps to reassure China that they would not exploit such a situation by moving their troops to China’s border. In the past, when the US has suggested quiet talks to discuss contingency planning in the case of regime collapse, China has been wary of offending and weakening North Korea. But finding a formula to talk about such contingencies may be the next step for China as it seeks to overcome its quandary.
Joseph S. Nye, a former US assistant secretary of defense and chairman of the US National Intelligence Council, is University Professor at Harvard University. He is the author of Presidential Leadership and the Creation of the American Era.

Snowden Reveals Hidden Risks in US Stocks

Wednesday, 10 Jul 2013 07:50 AM

By Patrick Watson

The sheer magnitude of PRISM and the other National Security Agency (NSA) spy programs Edward Snowden revealed is breathtaking. The threats to privacy and civil rights are serious, but they are not the only threats. The economic consequences may ultimately be much worse.
Last week in
Secret NSA Deals Cast Doubt On All U.S. Stocks, I explained how U.S. companies are exposing shareholders to undisclosed risks when they cooperate with the NSA. I believe some executives would be guilty of securities fraud if not for secret immunity letters.
Let me say this again because it is important. Executives at publicly traded companies are lying to shareholders and probably their own boards of directors.


They are exposing your investments to real, material, hard-dollar losses and not telling you.
The government that allegedly protects you, Mr. Small Investor, knows all this and actually encourages more of it.
Who lies? Ah, there's the problem. We don't know. Some people high in the government know. The CEOs themselves and a few of their tech people know. You and I don't get to know. We just provide the money.
Since we don't know which CEOs are government-approved liars, the prudent course is to assume all CEOs are government-approved liars. We can no longer give anyone the benefit of the doubt.
If you are a money manager with a fiduciary responsibility to your investors, you are hereby on notice. A CEO may sign those Securities and Exchange Commission filings where you get corporate information with his fingers crossed. Your clients pay you to know the facts and make good decisions. You're losing that ability.

For example, consider a certain U.S. telecommunications giant with worldwide operations. It connects American businesses with customers everywhere. Fast-growing emerging markets like Brazil are very important to its future growth.
Thanks to data-sharing agreements with various phone providers in Brazil, this company has deep access to local phone calls. One day someone from NSA calls up the CEO and asks to tap into that stream. He says OK, tells his engineers to do it and moves on.
A few years later, Edward Snowden informs Brazilian media that U.S. intelligence is capturing these data. They tell the Brazilian public. It is not happy. Nor are its politicians, who are already on edge for entirely unrelated reasons.
What would you say are this company's prospects for future business in Brazil? Your choices are "slim" and "none." They won't be the only ones hurt. If the U.S. government won't identify which American company cheated its Brazilian partners, Brazil will just blame all of them. The company can kiss those growth plans good-bye.

This isn't a fantasy. It is happening right now. The legality of cooperating with the NSA within the United States is irrelevant. Immunity letters in the United States do not protect the company from liability elsewhere.

Now maybe the U.S. telecom industry will work out a solution with Brazil. Even in the best case, it will be an expensive and lengthy distraction from the business of making money for shareholders. You can also bet Brazil is not the only country in which U.S. firms are lending their connectivity to the NSA.

Any U.S. company with global expansion plans better re-evaluate. The welcome mat you were expecting may be gone before you get there.
Shouldn't shareholders get to know when their company's CEO takes these risks? Shouldn't the directors who hire the CEO have a say in the matter? Yes, they should. We now know that they don't.
The trust that forms the bedrock under U.S. financial markets is crumbling. If we cannot believe CEOs when they swear to tell the truth, if companies can hide material risks, if boards cannot know what the executives they hire are actually doing, any pretense of "fair markets" is gone.

When nothing is private, people and businesses soon cease to trust each other. Without trust, modern financial markets cannot function properly.
If U.S. disclosure standards are no better than those in the third world, then every domestic stock is overvalued. Our "rule of law" premium is gone.
This means a change for stock valuations — and it won't be bullish.


© 2013 Moneynews. All rights reserved

July 14, 2013 2:32 pm

The dangers of Europe’s technocratic busybodies
EU officials care little about the deep causes of the economic crisis

I hear it all the time in European policy discussions: we have done so much more than you ever thought posible.
This familiar argument made by EU officials goes as follows: would you have thought three years ago that the EU would create a rescue umbrella to protect weaker members against a run on their sovereign debt markets? That the European Central Bank would offer a lender-of-last-resort bond purchase guarantee? Or that we are now creating a banking union? Come on, give us some credit here. Of course, there are problems. But you have got to realise that we can only fix this mess one step at the time.
It all sounds pragmatic, realistic, responsible. Statements such as these are often interlaced with some disdain for economists, and the inevitable comment that whatever isolated economic problems the eurozone may have, they are surely structural, meaning they are someone else’s problem.

It is not just the view of some hard-nosed policy makers. It carries support among many lobbyists, academics and journalists. Depending on the extent that your university institute or think-tank enjoys funding from European institutions, national governments or central banks, that would be your official view as well.

One problem here is what optical engineers would describe as perspective distortion. If you work in Brussels, you get obsessed with those inter-institutional dogfights – the European Commission versus the European Council versus the European parliament. In the policy circles of Brussels, the economic depression is not near the top of your to-do-list. You are more likely to be obsessed with the question of who is going to be the next president of the commission, and whether it can make up the political ground it has lost under its current head, José Manuel Barroso.
In addition to seeing the world from a distorted perspective, officials also care little about deep causes, and focus mostly on technical, legal and institutional aspects. When they defend austerity, they do so from a framework of the European treaties, which tell them in great detail how fiscal adjustment must take place and what happens if it does not. It is not so much that they are in denial over the effect of fiscal austerity on unemployment. Some are, some are not. But it is outside their frame of reference. It is no surprise therefore that the system prescribes the wrong medicine.

Instead of rebooting monetary and fiscal policy, everybody is wasting precious time with cynical programmes to deal with youth unemploymentnotwithstanding that all the empirical and theoretical evidence tells us that such programmes are a waste of time and money if not supported by macroeconomic policy.

The problem is thus not a general lack of reaction, but a busybody technocratic response that can be relied upon to miss the point.

It is the same with banking union. European officials now accept what they denied for a long time – that a monetary union cannot function without a joint banking system. But the way they have been doing it was to think up a catchy headline firstbanking unionthen allocate jobs, and then have a long and tedious debate about the legal and institutional aspects, who does what to whom.
But in all of this, they sidestepped the most important point. There will be no common fiscal backstop. Why even bother with a banking union if you are not prepared to accept any form of joint liability or joint insurance? The €60bn allocated to the European Stability Mechanism for the purpose of bank recapitalisation is pure deception. As the chief spokesman of the eurozone finance ministers admitted in an interview last week, these funds are a political signal only; in other words, a pot to be seen, not to be used.
I bet the eurozone will also deal with the problem of deflation in a similar way. This is probably the clearest and most present threat to the economy right now. The right response to an anticipated deflationary threat would be for the ECB to get interest rates down to zero, and to start buying bonds immediately. But unfortunately, there is no consensus in the ECB’s governing council, which was only able to agree on a commitment not to raise interest rates for an extended period. Appearance has once again triumphed over substance.

Those who keep on saying that the EU has done more than anyone thought possible are ultimately implying the situation has improved and that the worst of the crisis is over. Therein lies the sheer horror of the statement. The economies of Greece, Portugal, Ireland, Cyprus, Spain and Italy have collapsed, and are mostly still contracting. Unemployment is at record levels, and rising

Official forecasters have been pretending for the past four years that the turnround is just around the corner. They have been wrong each year. And they will be wrong again.

So when you say that you have done more than I thought you would, you are merely telling me how bad things have become, how much you are lagging behind and how little you care what is going on in the economy.

Copyright The Financial Times Limited 2013.