(ht Steven Horowitz)
Niall Ferguson gave a great lecture on the unsustainability of our current situation. Two great points he makes:
What are the ways out of a debt crisis? That surely should be the burning question in the western world today, on both sides of the Atlantic. What do we do now that we are in this situation? Well, ladies and gentlemen, in theory, there are six ways out, which I will share with you now. One is to raise the growth rate of your economy. The second is to lower the interest rate on your borrowing. The third is to get bailed out by somebody. That’s the route that at the very last minute the Greeks were able to go down. The fourth, of course, is fiscal pain. You increase taxes or you cut public spending and you try to run a primary budget surplus; you start, if you possibly can, to pay off the debt. The fifth is that you print money. That fancy term seigniorage is just a fancy term for printing money in order to inflate the debt away. And the sixth option is to default. There are all kinds of wonderful words for default that you need to know because they’ll be appearing in the Wall Street Journal and the Financial Times quite frequently in the months ahead. You can have repudiation, standstill, a moratorium, restructuring, rescheduling, and so on. But it all boils down to changing the terms of the original loan—default.
Unfortunately, I have to strike out three of these six options right away because certainly from the vantage point of the United States, they’re very unlikely to materialize. It’s very hard for me to believe, given our present predicament, that we’re going to see a sudden upsurge in economic growth in the United States. I think one consequence of the financial crisis has been to lower the growth path of the United States. At this point we’ve seen some slight recovery in the US 10-year yield, but that, of course, reflects a flight to safety as investors have exited Europe. At the moment the view persists that US treasuries are a safe haven, the safe haven for investors. But as I pointed out in the Financial Times some months ago, US treasuries are a safe haven the way Pearl Harbor was a safe haven in 1941; safe but not for much longer.
The nasty fiscal arithmetic sooner or later catches up with all sovereign borrowers no matter how strong they feel themselves to be—which just leaves fiscal pain, inflation, or default.
Cut, print, or default. Ladies and gentlemen, history affords only one example of a country that managed to get itself out from excessive debt-to-GDP burden without either inflating or defaulting. The only case that I can find is Britain after 1815. For a long century, Britain paid down its debt through growth and through running primary budget surpluses. There was no default. There was no inflation. But this, unfortunately, is the only case that history offers us. And remember Britain did have some unusual advantages at that time. It was, of course, the first country to enjoy an Industrial Revolution. It also had the world’s biggest empire to draw on, and it had a nondemocratic franchise throughout the period, which meant the propertied were represented and the propertyless essentially were not. That makes it much easier to make tough fiscal decisions, believe me.
So that just leaves us with two options: printing, and that’s much easier for a country with monetary sovereignty like the United States or the United Kingdom (it’s impossible for Greece, unless Monsieur Trichet agrees to print for them); or alternatively default, which I believe not only Greece but other eurozone economies will ultimately do because no bailout can essentially achieve the drastic contraction in fiscal policy that the Greeks have committed themselves to undertake. And I don’t believe that that contraction is politically viable.
And in conclusion, he makes the great observation that when it happens, it’s very quick. There’s simply not going to be a long slow decline.
Ladies and gentlemen, let me revert to Thomas Cole’s great life Course of Empire. The point that I’m trying to make is very simple. It’s not a thousand years that separates imperial zenith from imperial oblivion. It’s really a very, very short ride from the top to the bottom.
Ferguson’s an historian, one well schooled in economic theory. I’ve no idea if he’s an Austrian in any sense, but one needn’t be an Austrian to fully grasp the depths of the disaster that looms.