Before you read my post, you must read this Economist article.
Are you done? Do you now understand how terrible the future looks not only for the periphery of Europe but for Germany as well? Is it clear that as we stand we are headed for the perfect storm? OK, let’s move on to what I think Europe should do to get out of the crisis, which is basically to start the United States of Europe.
Consider this: it will cost Germany and all of Europe more if there is a wide default, and if Spain and Italy leave the Eurozone. So I think it’s time for Europe to unite and risk inflation as the USA did before.
If you had to summarize the reaction of the FED to the multi-trillion default of 2008, you’ll find that the FED risked inflation and won. That the FED stood there providing unlimited credit, and so did the Treasury. And that thanks to a gigantic state intervention, the US banking system, car industry and many other industries along with the economy as a whole were saved. And there was no inflation. Europe needs to do the same now, but for that, it needs to become the United States of Europe from a regulatory point of view. The other choice is the end of Europe, massive defaults and devaluations and possibly a tremendous shock to the global economy.
How does EU become the United States of Europe?
1) Europe starts the European Treasury. An agency that regulates how all tax revenue is distributed, and can give or withhold government expenditures from EU member nations depending on revenue. Short of that, I don’t see how the EU can prevent a country like Greece from meeting its deficit targets, for example. This European Treasury has to set 5 year objectives for all European nations to go into fiscal surplus to begin paying down European debt.
2) This European Treasury needs to consolidate all European debt into one debt pool regardless of nationality to eliminate risk spreads and with a credible deficit reduction package to bring down all euro interest rates to something slightly higher than Germany’s rates today.
3) The European Central Bank needs to become the regulator of all European banks and offer deposit guarantees for all European banks to stop the massive South to North capital flight that is taking place. All European banks would subject to the same rules, regulators and bank deposit guarantees.
As I see it, the future in Europe is United we Stand, Divided we Fall.
Do countries want to lose so much sovereignty? I think given the alternative, they should. As it is, Europe is a continent in which each country is married but it can mess around. That regime won’t work. It’s either Europe or divorce. Europe needs to unify a lot more as a result of this. One European traffic control, one European army, one European anything that is managed at the Federal level in USA. The USA has found a balance between cities, states and federal that Europe needs to emulate. Otherwise, the euro will not hold.
The enemy? Local powers. But if we were able to do away with tons of people who worked at European borders, European currency agencies we can do away with local patent offices, local traffic controllers, local air forces, local armies, local 100 other things, imagine how efficient we would be. How much better off. How much better prepared to compete globally.
PS: This is a first draft, will be modifying/improving this article as I do more research and get comments.
There is a myth going around that Greece went bust because of the size of its welfare state. And the extension of this myth is that sound finances are incompatible with a sizable welfare state. That it is the welfare state itself that is making other countries such as Spain and Italy approach bankruptcy. But this is not true, many European countries have a bigger welfare state in relation to GDP. Greece did not go bust because of the size of its welfare state in relation to GDP but because of the size of its debt in relation to GDP. Countries can choose to be more or less socialist. What they cannot choose is to be socialist when they can’t afford it. Nordic countries are more socialist than Greece, but they provision for their generosity.
For Spain to avoid default in its national debt two unrelated events must happen: one is that EU guarantees Spanish national debt lowering country risk, and the second one, which is even harder,is that Spain regains competitiveness.
Regaining competitiveness is the biggest challenge for Spain. To achieve this the country must focus on liberalizing its growing companies. I propose that all start ups be given 3 years in which their employees do not pay social charges nor receive forced severance pay in order for government to recognize the risks that VCs and entrepreneurs take in investing in new companies. This would be applied in start ups of up to 10 people and only while they are not profitable so it would have a negligible effect in the social security system overall initially and hopefully a very positive effect when start ups begin contributing. For those unfamiliar with the system Spanish social charges plus all other taxes, these can take up to 45% of what a person who costs €3000 per month to a company takes home. But so far PP, the conservatives now in power, has done little for new and growing companies focusing instead on measures that make firing, not hiring, cheaper.
I am normally quite an optimistic entrepreneur but right now I am sorry to say, I am not. We can still avoid the perfect storm, but it looks harder every day. Still as we know markets do turn around, and if Spanish unemployment numbers turned around, so would financial markets.
This post could be a book and it is about a subject that I still need to address in Spanish. The substance of this post is easier to explain in English because the English/American culture is a culture in which the role of business in society is much better understood than in Spain. Indeed, the biggest obstacle I see with the Spanish crisis is that most Spaniards, voters and government included, don’t really understand how wealth is created. They don’t understand how capitalism works and, therefore, how it sometimes does not work. They don’t understand the concept that a rising tide lifts all boats (economic expansion) and a falling tide…lowers all boats (recession). So as Spain goes into record high unemployment of 25% and youth unemployment of 50% the emphasis is not in improving the workings of the Spanish economy but in blaming each other.
In Spain it is more common to complain about what others are doing poorly than focusing on the “what can I do to help” that is needed for all Spaniards to collaborate to restart the economy. Many Spaniards unfortunately suffer from a serious case of “blinding envy” of others and thus have a false understanding of the economy. Envy makes them see the economy as a pie of have and have nots. Instead of realizing that a shrinking GDP makes everyone worse off, they think that if they are doing worse is because somebody else “stole” what they used to have, that if they are doing worse then somebody else is doing better. They don’t get the concept that everyone is worse off! As a result, Spaniards are constantly looking for the few people who are doing better and crucifying them. But these are the entrepreneurs who could save Spain. Instead they are convinced that either foreigners or rich Spaniards ended up with what they used to have. Spaniards in general, have a lack understanding of entrepreneurship, of innovation, of job creation, of wealth creation of how hard it is nowadays to compete in a globalized economy. Interestingly they get it in football and Spain has some of the best football teams in the world, but they don’t in normal life. Their best entrepreneurs, people like the founders of Zara or Mango, some of Spain’s most successful multinationals, live in hiding for fear of what the average Spaniard may think of them. Amancio Ortega (Inditex) one of the wealthiest men in the world and his famous picture in which he looks as a convict, is an “only in Spain” story. Entrepreneurs are seen as people who get what is not due to them, not as wealth creators, but as thieves. For me as the founder of Viatel (partly in Spain), Jazztel, Ya.com and now Fon all in Spain, it is painful to read my own Twitter line and see how confused the average Spaniard is about the subject of entrepreneurship and job creation. I am tired of getting called “rico de mierda” people focus on what I have and not on what I do for the economy. Nor what all other entrepreneurs do. Having a daily twitter conversation with around 30K Spaniards has given me a great insight as to what people think on subjects such as compensation, social charges, labor flexibility and other crucial aspects of wealth creation.
And in this mix, the government does not help: the Socialists want to spend their way out of the crisis, the Conservatives want to cut their way out of the crisis. Nobody seems to understand that it is the type of spending that has to change, not the level. That less spending and more investment is needed. That Spain needs to invest on what works in Spain and less in what is dying in Spain. But the new economic plan seems tailored to old industry. The conservatives made it much easier to fire, but equally hard to hire.
As things stand Spain is in a much deeper crisis than any of the larger economies of Europe and as much as it is an economic crisis, it is a crisis of understanding. Without agreeing on the root of the problem: a lack of entrepreneurs, entrepreneurship, business imagination combined with a labor force that is to a great extent trained for an obsolete industry, construction, Spain will not turn around. But I don’t see anyone marching on the streets promoting new business creation. What I see is a lot of people trying to cling to a past in which Spain borrowed and build white elephants. A past that is gone forever.
I end my post with a link to the plan that I presented to Cristobal Montoro. I still consider it a great plan for 2013 but it was not taken seriously by the conservative government.
And here is another article in which I explain in more detail what is wrong with Spain that is different than what is wrong with the rest of Europe.
This is the year in which Europe will either fall apart or emerged stronger. I give it 75% that it emerges as a stronger union but the risk of collapse is still there. Germany has the key to solve the problem because of the size of its economy, its saving rate and its export volume. Germany has to decide on whether it continues to transfer some of its wealth in order to create markets for its exports or it let’s Europe fall apart and ends up with an overvalued currency and deteriorated markets. Already today it started paying negative interest rates which is a prelude in my view to a huge rise in the DM should it be born again. Tough choice. I think Germany can actually both save Europe and make money by buying underpriced Italian and Spanish bonds and selling them after stabilization. It can do what the FED did with many financial institutions, make a profit by providing much needed liquidity at a critical time.
I have been debating with my Spanish followers on Twitter about why Spain has the highest unemployment rates of all developed nations – 21% for the population as a whole and 46% youth unemployment. To put Spain´s unemployment into perspective, the EU´s average rate of unemployment is less than half of Spain´s.
In my view, Spain´s high unemployment is as much the product of poor financial/ investment decisions (over investment in real estate) as it is one of the country´s culture. The main cultural weakness of Spaniards, and indeed Latin Americans in general, is to take little or no ownership of their problems, instead blaming others for their shortcomings. Of course, this kind of culture also has its positive side: countries in which people tend to blame others for their problems usually have low suicide rates and a general positive outlook on life. The flip side is that this attitude is very hard to change and it is not conducive to a country reinventing itself in the face of failed economic strategies. This can help explain why Spain is so much behind the EU when it comes to unemployment. Spain needs to reinvent itself, and in order to do that, a culture of self responsibility is essential.
To me, if Spain has such high unemployment rates, it is because the Spanish government, Spanish entrepreneurs and business leaders and Spanish workers are uncompetitive. I say this after having hired thousands of Spaniards and having built Jazztel, Ya.com and Fon in Spain. Yes, there are responsible and hard working Spanish government employees, imaginative and hard driven Spanish entrepreneurs and highly ethical Spanish workers, but they are less common to find than in Germany, for example.
When you talk to Spanish people, they will quickly agree that Spanish politicians are mediocre, that Spanish “empresarios” are “unos chorizos” or scumbags but few would agree that there is something wrong with the way that Spanish people think, organize themselves and work.
Unfortunately, the average politician, businessperson and employee are all to blame for Spain´s poor economic condition. They are to blame as a group, as a culture. This is a nation where one in five are out of work and where one out of three young people have no future – this needs to be fixed. But this can’t be fixed if the average Spanish person does not realize that they are both part of the problem and an essential part of the solution. What is common here is to believe that Spain is the way it is because of a few who have somehow kidnapped the country into perennial underperformance in terms of unemployment.
Spain is a country with huge potential, but low entrepreneurship. The average Spaniard focuses energy and attention on old, ailing industries like infrastructure and real estate, and banks tend to only lend for these activities. Spaniards don’t see the risk in borrowing the equivalent to five times their annual salary to buy a home. This means that many are tied to mortgages that will sink them into debt for life, because of this, they can´t even move to where there is work.
Spaniards are among the Europeans who live the longest lives, yet they are the ones who call in sick to work the most. In Spain there is a yet to be measured but enormous underground economy, with a very large number of workers who collect both unemployment insurance and a regular salary. Tax cheating is rampant. Moreover, Spaniards love colossal and useless infrastructure projects. They vote for politicians who give them something, even if it has no practical use. These are the same politicians who approved colossal public works like the T4 terminal, a $10bn project. They spent public money building airports that no one uses and roads that nobody takes. Take the Castellón Airport, for example, built at a cost of $213m but that still hasn´t received a single flight. Meanwhile, Germany and other European countries gave Spain gifts of billions through the EU and a lot of this undeserved money was misused.
Will Spain´s problems be fixed? I certainly hope so. I am an immigrant to this country, by now a Spanish citizen who built three significant companies here and have five Spanish children. Spaniards are now saying: “el problema no es la crisis, es el sistema” or, the problem is not the crisis, it’s the system. But this “system” works for the Netherlands, Germany and many other new EU countries such as Poland. My answer is, “el problema no es el sistema, somos nosotros.” The problem is not the system, we are the problem.
Soros: There are five major elements.
— First, the government needs to recapitalize the banking system by buying equity stakes in banks.
— Second, interbank lending needs to be restarted with guarantees and bringing LIBOR (London Interbank Offered Rate) in line with Fed funds. This is in the works. It is going to happen.
— Third, we must reform the mortgage system in the U.S., minimizing foreclosures and renegotiating loans so that mortgages are not worth more than houses. Stemming foreclosures will cushion the fall of housing prices.
— Fourth, Europe has to fix a weakness of the Euro by creating a safety net for its banks. While initially resisting this, they have now found religion and done it at their meeting in Paris on Sunday.
— Fifth, the IMF must deal with the vulnerability of countries at the periphery of the global financial system by providing a financial safety net. This is also in the works. The Japanese have already offered $200 billion for this purpose.
These five steps will start the healing process. If we implement these measures effectively, we will have passed through the worst of the financial crisis. via Huffington Post
George Soros was my first investor at Viatel. I disclose this because you may think that my agreement with his plan may have something to do with that. But that was in 1995 and if I post his comment, which is something I rarely do in this blog. It’s because I agree with them.
Now to add something that Soros left out, I believe that another needed element to get out of this crisis is to sort out who will run USA. The combination of such a horrendous crisis with a US President with the lowest ratings in history and two extremely different candidates competing for what is now going to be the toughest job in the world adds tremendous uncertainty to the purchase of any assets. I wish they could move the US elections forward.
Pity the Germans. They did everything right vis a vis finance and things went wrong. They did not go into consumer debt like the Americans, they did not have a real estate boom and bust like the Americans, unlike the Americans, their savings rate was high…but the problem is that, as a result, German banks piled money and did not know what to do with it. So they lent it to Americans. So eager in fact were they to lend money to US institutions that, even when Lehman was under, they sent Lehman 300 million euros. And the paradox is that if Paulson can´t get a package through to save US banks, I can´t imagine he will get a package to save German banks. So German banks will have to be helped by the German taxpayer who….did everything right. This, btw, is a prelude to what could happen in a much bigger scale to the Chinese, who are now the biggest creditors of the US government. If Americans don´t learn to live within their means, the next ones to be stuck with huge amount of worthless paper will be the hard working Chinese. But then, who said life was fair?
On September 11th in a post called My life as a Non Trader, I shared with my blog readers that I hadn´t bought stocks in many years but that I felt that the markets were not valuing assets correctly and that I had chosen to buy shares in Citigroup and Bank of America. I then explained that this purchase was around 5% of my net worth and that it was a long term bet that America would not let it´s largest banks go under. That the financial system was sick but some of the best bank shares were trading as if the financial system as already dead.
Two days ago, when Lehman imploded, I wrote that the US government had to come up with a Brady Plan type solution to the crisis. That instead of going bank after bank and playing God as to who lives and who dies, the US Treasury had to rescue the poor quality mortgages and make everyone proportionately better off. This is what Paulson announced today. But, as the WSJ says, Paulson´s decisions until now have been pretty bad.
So this is how I feel today. Even though I am very happy that my thinking was correct, I still feel it was a mistake to share my investment strategy with the general public. When C and BAC were down over 20% I felt enormous guilt, thinking of a reader out there who may have followed my decision, thinking that I would be infallible, when I knew very well that I could have been wrong. So what I want to accomplish with this post is get rid of my guilt. If you followed my advise and believed like me that the US banking system would survive, enjoy it and take a nice profit now!!!