The Lehmann Letter (SM)
As the G-8 nations met this weekend it seemed as if the tide was turning from austerity to stimulus. But there may be more to Germany's demand for repayment than a simple, "You borrowed the money, now pay it back." Germany and its electorate want a deterrent. They want to punish Greece and create an object lesson that will be long remembered.
Germans see the Greek electorate favoring the left-wing parties who advocate renegotiation, default and even repudiation. The Greek left-wingers believe that Germany will relent under pressure and provide an even larger bailout, permitting additional stimulus. If these parties succeed, then the Germans feel that they will have rewarded bad behavior and left themselves open to continual extortion.
This morning’s newspapers carried several stories on the G-8 meeting at Camp David. At issue: Whether Europe should pursue austerity or stimulus and the consequences of a Greek departure from the euro that don’t quite capture the spirit of negotiations.
The New York Times:
Greek Crisis Poses Unwanted Choices for Western Leaders
The Wall Street Journal:
Growth Dilemma Dogs G-8
Greece's Conservatives Gain Ground
The arguments regarding Europe may be summarized as follows-
Austerity: The fringe nations, such as Greece and Portugal, borrowed the money, so they should repay it. Why should a core nation, such as Germany, assume the debts of the profligate?
Stimulus: The fringe nations' pursuit of austerity – as they attempt to repay their debts - has generated recession. Government reductions in spending combined with tax increases have reduced aggregate demand. Recession deepens as aggregate demand shrinks, constricting the tax base and lifting the need for social-welfare expenditures. This makes austerity self-defeating as it reduces nations’ ability to balance their budgets and repay their debts. Since austerity is self-defeating, the fringe governments should embark on stimulus by spending more and taxing less. They can resume austerity and repay their debts with the return of prosperity.
But bargaining is more than just issues.
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© 2012 Michael B. Lehmann