Below is my slideshow from the talk:

While I was in Australia I recorded this interview with ABC’s daily show. This went out on 15th September. Watch it above or on ABC’s website here >

Read about my speaking tour of Australia below – from the SEARCH Foundation:

The SEARCH Foundation is currently touring eminent British economist and author Ann
Pettifor around Australia and she is visiting our shores with a warning; the GFC inducing credit
crunch is not over and Australia’s banking sector is vulnerable.

Ms Pettifor is visiting Adelaide, Sydney, Melbourne, Canberra and Brisbane for speaking
engagements over the next fortnight.

“Before the Credit Crunch of 2008-2009 Brits and Americans were convinced that the good
times could last forever. Our orthodox economists, central bankers and politicians encouraged
us in that delusion. Today millions of the unemployed, homeless and bankrupt are paying
a heavy price for the failure to understand the role of the private banking system in causing
systemic and widespread economic failure.” Ms Pettifor said.

“Australians would be well advised not to fall into the same trap.

“At the same time, the increased frequency of extreme weather events is challenging the
widespread delusion that there is no limit to the rate at which humanity can go on polluting the
atmosphere and looting the seas and wider ecosystem.

“Australians, who have suffered more from extreme weather events than we have in Britain
would do well to take the lead in warning the world of a widespread delusion: that there are no
limits to the rate at which we can consume and ‘grow’.

“Instead we all need to address the most urgent crises facing humanity: the continuing global
financial crisis (it never did end in 2008); the threat of peak oil; the threat of climate change;
and now the rising threat of food and water shortages. That is why we, at the New Economics
Foundation first proposed the Green New Deal in July, 2008.

“We argued then, and we argue now, that societies must first fix the out-of-control globalised
financial system. We must strip the Masters of the Universe of their mighty power – after all
they rely on the world’s taxpayers to guarantee their profits and bonuses, and to socialise their
losses.

“Only then can we put the domestic banking system to work to help finance the transformation
of the economy away from costly globalised finance on the one hand and dependence on
fossil fuels on the other. Instead, tight but low cost-finance, generated by our domestic banking
systems must be put at the service of the transformation of the economy.

“We need massive investment in sustainable, renewable sources of energy and in the
conservation of the ecosystem’s resources.

“The banking system must provide regulated, low-cost finance for that investment. Just as
the banking system of the late 1930s and 40s helped finance economic recovery from the ’29

Crash; and then the challenge societies faced in 1939: World War.

“Such a transformation – a Green New Deal – will require greater self-sufficiency, and the
localisation of economies as far as practicable. It will also require the training and recruitment
of a ‘carbon army’ of workers – skilled and unskilled – to turn every building into a power
station, and to make every building energy-efficient.

“But just as central bankers and politicians turned a blind eye to the looming credit-crunch of
2008, so now they are turning a blind eye to the financial and ecological threats facing society.

“For example, right now, Australia’s mining boom is masking the vulnerability of her banking
system – and the threats that both high levels of household debt, and instability in globalised
capital markets pose to Australian banks – and therefore to the economy.

“Despite Mr. Glenn Stevens’ sanguine approach to the stability of Australia’s banks in his
recent testimony to the Australian parliament, insurance against the risk of Australian banks
defaulting – credit default swaps – climbed nearly 50% over August. That means that investor
expectations of Australian banks’ defaulting are on the rise. In addition, the cost of raising
40% of Australian bank funding ($100 billion) in global capital markets has been rising as a
result of instability in the Eurozone and US.

“The rising cost of this integration of the Australian banking system in the globalised economy
invariably means that Australian banks – and the financing of the current account deficit – are
more vulnerable to the whims of global investors.

“And as a result of the falling confidence in global capital markets, interest rates on loans
to Australian businesses and households will rise too – at a time when their customers are
snapping purses shut; house prices are sliding as Australians slowly pay down very high levels
of debt; and mortgage costs have been ratcheted up by the RBA’s raising of base rates to the
highest in the developed world;

“No amount of iron ore is going to fix Australia’s financial system. Australia needs a Green
New Deal.”

For media interviews with Ann Pettifor whilst she is in Australia, please call Peter
Murphy on 0418 312 301.
’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’’
Note to editors.
1. Ann Pettifor a fellow of the New Economics Foundation (nef) in London, UK, and director
of PRIME economics, is visiting Australia on a two-week tour, sponsored by the Search
Foundation.

Ms Pettifor first predicted a credit crunch in September, 2003 on launching a book she edited
and Palgrave Macmillan published: “The Real World Economic Outlook.” Later in October,
2006, Palgrave Macmillan published her book: “The Coming First World Debt Crisis”. Then in
a Times interview in 2009, she warned that “the worst of the slump is yet to come.”
2. In his recent evidence Mr Stevens of the Reserve Bank of Australia said: “Major Australian
banks report being offered substantial US dollar funding offshore on account of their relatively
high credit standing. In any event, their reliance on such wholesale funding is much reduced
from three years ago, with the large increase in deposit funding at home and slower balance
sheet growth.” And yet in May this year, Moody’s downgraded all four of Australia’s major
banks, as ABC reported at the time.

(Photo: REUTERS / Yiorgos Karahalis )
A Greek riot policeman stands in front of graffiti written on the wall of a bank during violent demonstrations over austerity measures in Athens, May 5, 2010. Greece faced a day of violent protests and a nationwide strike by civil servants outraged by the announcement of draconian austeristy measures.

Dear readers….Recovering from ‘flu and a trip down to Hay on Wye…Thought you might be interested in this piece I have written for Prime.

“We should note recent developments in political economy, that – while understated – are, we hope, of significance. Last week, the OECD published their latest World Economic Outlook, which features chapters on each developed economy as well as an assessment of the world economy as a whole.

The report is schizophrenic. It clumsily offers an outlook of excessive optimism; makes a selective assessment of ‘risks’; but continues adherence to an economic policy doctrine that is clearly making OECD economists very uncomfortable.

While the OECD report contains the expected justifications and support for the ‘austerity’ approach, nevertheless the organisation’s ‘cold feet’ are becoming apparent, even before the full extent of austerity programmes has begun to impact. There is no better example of this unease than their approach to the UK.

The report commends UK policymakers for their “current fiscal consolidation (which) strikes the right balance and should continue.”  At the same time, OECD economists hedge their bets by urging the UK government to embark on “higher infrastructure spending (that) would lower the short-term negative growth effects of consolidation without affecting its pace.”   At a press conference last week, the OECD chief economist warned that the UK should be prepared to cool austerity in the wake of weaker growth.

In parallel, President Obama was reported as disappointing the expectations of UK policymakers by failing to endorse the Government’s approach to economic policy. While Obama has not proved the champion of the better world that we had all hoped, – he is no FDR -  his stance is important and perhaps even brave.

In the second half of 2010 the world economy began to weaken, but this is greatly underplayed by OECD economists.  Instead they point to a perceived optimistic outlook ahead. But this outlook is thinly based. We are told that financial conditions are improving: but in the UK the latest assessments of project Merlin flatly contradict such a notion.

Source: www.telegraph.co.uk. Data: BBa / BIS / Bank of England

In the real economy, world trade has retreated substantially from the relatively rapid outturns at the start of 2010. The report recognises that this is a consequence of monetary policy tightening in emerging markets and the wearing off of stimulus packages in major economies. The retraction of earlier stimulus programmes by the US and EU is rather an understatement. Stimulus has not only been withdrawn, it has been replaced by austerity.

So what are the grounds for OECD optimism?   Especially given that their economists remain obsessed by inflation as the causa causans of all possible outcomes. Their overriding fear is that inflation will cause consumers to retrench. This threat is then used to justify tighter monetary policies – which would hurt over-indebted consumers, corporates and SMEs. But unemployment is a much more important driver of consumer behaviour. Wage earners snap their purses shut in the wake of what for many millions is the reality of, and for others the threat of, unemployment. Inflation is no doubt painful to the less well-off, but from a macroeconomic perspective ‘core inflation’ today is at low levels, no matter how much the OECD tries to play it up. Watch out as inflation falls rapidly over the next few months, in line with weakening economies.

The austerity and fierce monetary strategies embarked on by governments – already burdened by losses transmitted by the private banking crisis – have been directed by the civil servants of supra-national organisations: such as the OECD and IMF as well as the global central banking fraternity. These public employees enjoy immense influence, and as the the president of the European Central Bank, Jean-Claude Trichet indicated in a speech on 2 June, 2011 they wish to capture:

“a much deeper and authoritative say in the formation of the country’s economic policies….. A direct influence, well over and above the reinforced surveillance that is presently envisaged”

Given the ECB’s role in exacerbating the crisis in Greece (described by Nouriel Roubini as ‘throwing good money after bad – to bail out, rather than bailing in, reckless creditors….a giant Ponzi scheme”)  such “authoritative” advice  by supra-national organisations has crucified economies “in a struggle which is certain to prove futile” –  to quote Keynes.

But the OECD’s latest report hints that minds might be changing. It contains the beginnings of the admission that the world is being forced down a desperate path that has no justification in economic reason and the evidence of history. The experience of the great depression stands before us. It was only enlightened monetary policies and expansionary fiscal policy that restored the US and UK not only to health but to a position to resist reactionary forces and fascism.  The current strategy is likely to make us more vulnerable to reactionary political forces – in the EU and the US.

Some might like to celebrate the previous timid stimulus for e.g. car scrappage schemes etc, under both Alastair Darling and the Larry Summers White House.  But in the light of present events, it is clear that their approach was designed not to save society but to preserve a financial system that has palpably failed the vast majority of the citizens of the world.

We at PRIME economics have repeatedly called for something greater and more just. Perhaps the foot-shuffling of the OECD indicates recognition that imposing austerity policies at a time of global economic weakness is indeed a futile struggle – soon to be abandoned?”

Tin produced at a Glencore plant in Vinto, Bolivia

“Experience shows that when policies falter in managing capital flows, there is no limit to the damage that international finance can inflict on an economy.”

Yilmaz Akyüz, “Capital Flows to Developing Countries in a Historical Perspective: Will the current Boom End with a Bust?”

Today, as speculation and leverage in global, financialised commodity markets reach manic levels; as we witness an ‘epic rout’ (FT 5 May, 2011) in commodity prices, and as the boom in capital flows peaks, is another crash inevitable? And is it coming soon?

I know from experience that while it may be possible to analyse fundamentals, it is always difficult to predict precisely what dynamic will trigger the next crisis, and when it will happen. Back in 2003, together with colleagues at the new economics foundation in London, and with very little funding, I assembled and edited a series of essays on the ‘outlook’ for the global economy. We titled it: ‘Real world economic outlook’, and added a subtitle, ‘the legacy of globalization: debt and deflation’. We intended the report to be annual, and to act as a counter to the IMF’s annual World Economic Outlook, which in our view was irrationally optimistic about developments in the global economy.

We were pretty pessimistic about global imbalances, and predicted a crash. Sadly, our timing was way out: the crash was four years away. It does not always help to be right on the fundamentals. Given the inevitability of the then forthcoming crash, we argued that there was once more a need for a ‘great transformation’ of the global economy. The starting point we wrote ‘will be to reverse the most pernicious elements of the ‘globalization’ experiment’ by the ‘taming of financial markets through the re-introduction of capital controls; restraints in the growth of credit; the establishment of an International Clearing Agency; and a Tobin Tax’.

Back then it was hard to talk/write about these matters – and be heard. Our cheerfully-titled report and predictions did not hit the best-seller lists. Funding for the project was withdrawn, and the project wound down. It’s major flaw? We had breached areas of economic debate that at the time were carefully circumscribed. It took the financial crisis of 2007-9 to loosen the intellectual chains to which orthodox economics had so heavily tied economic debate.   Today the Tobin Tax, or Robin Hood Tax is a high-profile issue, with some signs that EU governments are considering implementation of such a tax. (See point 8 of Euro leaders’ statement, March 11, 2011). So that taboo has been broken.

Another taboo subject then – control over capital flows (now re-designated as ‘capital flows management’ by the IMF) is now, in contrast to 2003, actively discussed, even though debate is limited to controls on inward flows. Debate on controls over outward flows – illicit capital flight that makes it so easy for corporations and elites to export their gains– are still taboo.

The big change came in February, 2010, when to the surprise of many, IMF staff accepted that ‘capital controls are part of the policy mix’. And by April, 2011, the Fund had developed a ‘framework’ to help countries manage capital flows.

This framework was promptly rejected by the G24, led by India and Brazil, for several reasons. First because the IMF was dealing with symptoms, not causes – i.e. the easy money policies of the Federal Reserve.  Quantitative easing (QE) was and is, intended to pump liquidity into the US economy; to allow funds to cascade down through the banking system, for lending to companies that would, in turn, invest in infrastructure and the creation of jobs.  Because, as Prof. Chick has noted, there is neither economic debate about the money supply, nor overt management of the money supply, there is no control over how banks deploy low-interest rate funds generated by the Fed.  US and US-based foreign banks are free to ignore the Fed’s mandate or the US administration’s priorities. Like the public utilities they effectively are, banks instead are free to draw down from the Fed’s easy and cheap money-creation – QE – to speculate, and accrue private gains in mainly developing and emerging markets (DEEs).  The IMF shows little interest in the implications for the global money supply of credit-creation by central banks and, in the view of many, turns a blind eye to these de-stabilising activities. Instead fund staff lecture poor countries on the management of capital inflows.  The G24 will have none of this, and instead demands that a light be shone on the causes of the boom in speculative capital flows.

Second, as Lesetja Kganyago, chairman of the G-24 and director-general of South Africa’s National Treasury told the Wall St Journal: the group opposed the IMF framework because the fund proposed to integrate it into its surveillance program and policy recommendations. G24 leaders – especially those leading some of the world’s biggest democracies – rightly expect to enjoy the same policy autonomy privileges usually reserved for leaders of the G8.

All of this makes a recent paper on the current boom in capital flows by Yilmaz Akyüz of the South Centre so timely, comprehensive and insightful. Akyüz is chief economist at the South Centre, Geneva and former director of the Division on Globalization and Development Strategies at UNCTAD, where he edited a range of UNCTAD’s annual reports.

Akyüz begins by noting that there have been three generalised boom-bust cycles in private capital flows since the end of the Second World War: all with devastating impacts on developing and emerging markets. The first started in the late 1970s, and ended with the Latin American debt crisis in the early 1980s. The second started in the early 1990s and was followed by the East Asian financial crisis of 1997/8; and by defaults in Latin America and Russia. ‘The third cycle’ argues Akyüz ‘started in the early years of the new millennium and ended in the second half of 2008 with the subprime crisis. This was soon followed by a new boom, the fourth in the post-war era, which started in the first half of 2009 and is continuing with full force as of early 2011.’

Akyüz argues that this current cycle will most likely end with a reversal in the upswing in commodity prices, because commodity “markets have become more like financial markets…with several commodities treated as a distinct asset class, attracting growing amounts of money in search for profits from price movements…”

The commodity bubble began with a new financial instrument invented by Goldman Sachs – the Goldman Sachs’ Commodity Index (GSCI) – so argues Frederick Kaufman in the April, 2011 edition of Foreign Policy. Next, commodity price inflation received a boost in 1999, when the US Commodities Futures Trading Commission deregulated futures markets. “All of a sudden, bankers could take as large a position in grains as they liked, an opportunity that had, since the Great Depression, only been available to those who actually had something to do with the production of our food” writes Kaufman.   “Since the bursting of the tech bubble in 2000, there has been a 50-fold increase in dollars invested in commodity index funds.  In the first 55 days of 2008, speculators poured $55 billion into commodity markets, and by July, $318 billion was roiling the markets.”

As has been well documented, rising commodity markets have enriched the few, but impoverished millions of people. Driven in part by higher fuel costs, global food prices are 36 percent above their levels a year ago and remain volatile, the World Bank argued in a recent report: “A further 10 percent increase in global prices could drive an additional 10 million people below the $1.25 extreme poverty line. A 30 percent price hike could lead to 34 million more poor. This is in addition to the 44 million people who have been driven into poverty since last June as a result of the spikes. The World Bank estimates there are about 1.2 billion people living below the poverty line of US$1.25 a day.”

Falling commodity prices, therefore, are central to any strategy for reducing global poverty.

Have they begun to fall? As I write this (6 May, 2011) global commodity markets have been subject to what the FT calls an ‘epic rout’ “…the worst sell-off for many commodities since the collapse of Lehman Brothers and, in dollar terms, the biggest-ever for Brent crude.”

While these markets may well stabilise, and be talked up (and down) again, it daily becomes clear to even the most orthodox economists that, in the real world, the global economic ‘recovery’ is very weak indeed. As that reality dawns on speculators (and long before it dawns on policy-makers) will there follow a collapse in index-traded commodity prices?

Furthermore, margin debt — the amount that speculators borrow for speculative purposes — is rising quickly, just as it did in advance of the 1929 stock market crash, the Nasdaq bubble and the subprime crash of 2006/7. Indeed, as the blogger, Cullen Roche of ‘Pragmatic Economist’ notes, margin debt is now at ‘manic levels’.   Debit balances at margin accounts skyrocketed to $20.7 billion in February.  ‘Only two other times historically have we seen leverage rise so much so fast and both times it was during a manic phase – during the tech bubble of the late 1990s and the credit bubble just a short four years ago.’

These debit balances, as an anonymous player at an investment boutique notes:

‘increase speculative volatility in things like oil, which goes from $40 to $150 to $50 to $130 over and over. Paper profits change accounts but the real economy is not theoretically affected, except that it is held hostage to this casino game of rapidly changing prices for basic materials and necessities that businesses and consumers use to make decisions. So the economy is in actuality disrupted by the casino, the casino creates no net wealth, and everyone is worse off as this charade continues.’

We’ve been here before. Akyüz argues that the post-2000 ‘swings in commodity markets show strong correlation with those in capital flows’ to developing and emerging markets (DEEs) and with it  ‘the exchange rate of the dollar’. After rising constantly, both commodity prices and flows declined in 2008, when falling prices triggered the exit of capital from commodity-rich economies.  Both recovered rapidly afterwards.

These factors are reinforcing with ‘greater force’ argues Akyüz, the ‘macroeconomic imbalances and financial fragility in several DEEs….Imbalances that started with the subprime bubble but were interrupted by the Lehman collapse.’

Akyüz cautions that the continued boom in commodity prices could eventually cause rampant inflation in China, which could lead to a sizeable slowdown. ‘This, together with the global oversupply built during the boom, would bring down commodity prices, and the downturn would be aggravated by an exit of large sums of money from commodity futures. This would make investment in commodity-rich countries unviable and loans non-performing, leading to risk aversion, flight to safety and a reversal of capital flows to DEEs.’ The most vulnerable of these are countries in Latin America and Africa that have enjoyed the twin benefits of global liquidity and the boom in commodity prices. They could be hit twice – by falling capital flows and commodity prices, he argues. South East Asian economies are less vulnerable, because they have built up substantial current account surpluses and large stocks of reserves.

Akyüz concludes correctly that these unstable capital flows and commodity price booms show that ‘the international monetary and financial system needs urgent reforms’. He quotes Ben Bernanke’s speech to the Banque de France in February, 2011:

“Looking back on the crisis, the US, like some emerging-market nations during the 1990s, has learned that the interaction of strong capital inflows and weaknesses in the domestic financial system can produce unintended and devastating results. The appropriate response is…to improve private sector financial practices and strengthen financial regulation, including macroprudential oversight. The ultimate objective should be to be able to manage even very large flows of domestic and international financial capital in ways that are both productive and conducive to financial stability.”

Fine words indeed. But words are not enough. Akyüz argues that ‘macroprudential regulations, as usually defined, would not be sufficient to contain the fragilities that capital flows can create’. Instead, controls over both inflows and outflows should be part of the arsenal of public policy, used as and when necessary and in areas and doses needed, rather than introduced as ad hoc, temporary measures.

And we do not have to re-invent the wheel. ‘The instruments are well known and many of them were widely used in the advanced economies during the 1960s and 1970s.’

While politicians, economists and regulators may be more alert than they were in advance of the 2007-9 slump, they remain submissive to a global banking lobby and passive at the wheel of the global economy. This leaves commodity speculators unfettered by regulation and free to steer the global economy towards another financial precipice. Only this time central bankers and governments will have fewer tools and resources (i.e. taxpayer largesse) available with which to rescue bankers and speculators from their reckless and worthless endeavours.

Nevertheless, soon after this coming crisis – which will again cause massive economic failure and dislocation, intense human suffering and pain – controls on capital flows will finally be applied. Be sure of that. But by then, it will be too late.

This article was simultaneously posted on PRIME (Policy Research in Macroeconomics).

To refresh your memory: it was on that day that the world’s banks woke up to the scale of their debts, and to the simple truth that they may not all be repaid. On that day, the French investment bank BNP Paribas suspended three investment funds due to a “complete evaporation of liquidity” in the market. BNP’s announcement compelled the intervention of the US’s Federal Reserve and the European Central Bank, which both pumped $90billion into the global banking system. As Larry Elliott notes, 9 August, 2007 ” has all the resonance of August 4 1914. It marks the cut-off point between “an Edwardian summer” of prosperity and tranquillity and the trench warfare of the credit crunch – the failed banks, the petrified markets, the property markets blown to pieces by a shortage of credit. ”

So ‘debtonation’ stands as a reminder of that day. However, we also know that the private debts of the individuals, households but also more importantly the corporate sector have not ‘debtonated’. They are still on the books, and in the case of the private sector in the UK, but also wider Europe, look set to rise further. As Douglas Coe and I have pointed out in a paper we have written for PRIME, “Private debt has risen relentlessly since the early 1980s. Most commentators focus on the extent of household debt, which rose from around 40 per cent of GDP before the 1980s to a peak of 110 per cent in 2009. But corporate debt is even more elevated, rising from 50-60 per cent to a peak of 130 per cent in 2009. The latest National Accounts show that both measures fell back in 2010, but only by a very small margin: households to 105 per cent of GDP and corporates to 125 per cent.”

So there are very large debts on the books of the private sector, that have not ‘debtonated’ yet. And we are not alone in believing that their ‘debtonation’ will lead to yet another financial crisis, involving the banking system. Standard and Poor’s caused a flutter in the stock market dovecotes this week, when they downgraded US debt. But of greater interest is their comment on the threats facing the US banking system (drawn to my attention by Yves Smith ):

“We believe the risks from the U.S. financial sector are higher than we considered them to be before 2008, as our downward revisions of our Banking Industry Country Risk Assessment (BICRA) on the U.S. to Group 3 from Group 2 in December 2009 and to Group 2 from Group 1 in December 2008 reflect (see “Banking Industry Country Risk Assessments,” March 8, 2011, and “Banking Industry Country Risk Assessment: United States of America,” Feb. 1, 2010, both on RatingsDirect).

Which is why the title for this blog will not be changed.

Together with the Prime Minister of Greece, Mr. George Papandreou, I am going to give evidence to the EU’s Special Committee on the Financial Crisis in Brussels this Thursday, March 18th.

So today’s leaked report from the EU, arguing that Labour’s plans for cuts to public spending are not “ambitious enough”, has got me really het up.

Labour, it appears, is just not ambitious enough about its goals for cutting investment and exacerbating unemployment. It does not have punitive enough targets for cutting benefits to the poor and services for the mentally ill and frail.

In the “imbecile idiom” (to quote Keynes) of today’s financial fashion, the EU, it seems, would prefer for unemployment to rise, for people to live in hovels, and for government “to shut out the sun and the stars” – so that we conform to an arbitrary number set in Frankfurt by a group of bankers, under a pact unwisely signed by an earlier British government.

Continue reading the article…

4th March 2010

With Saturday’s Iceland referendum due in just a couple of days (6th March), Advocacy International’s directors have an op-ed article critical of the UK and Netherlands governments in today’s Morgunbladid, Iceland’s main daily newspaper.

English version> Icelandic version> Press release>

Full text of the article:

So the negotiations have broken down, British and Dutch “bullying” (FT 27 February, 2010) continues and the referendum goes ahead. What next?

We emphasize that this is not a sovereign debt crisis, even if the British and Dutch want us to think it is.

It is a crisis of EU regulatory failure, and of the Anglo-American economic model.

The people of Iceland have a deep democratic tradition, and through the referendum have the opportunity to assert their sovereignty and autonomy.

Their leadership and example will encourage people in other democracies to reject harsh cuts in public services and living standards made at the behest of the very people and institutions responsible for the crisis. For through the wholesale nationalisation of private losses, we are all – not only in Iceland – asked to pay the price of private, reckless risk-taking.

Co-responsibility

A key principle in resolving the dispute is co-responsibility. President Grímmson has made a similar point, referring to “a shared international responsibility”.

The previous Icelandic government allowed a deregulated financial sector to run wild.

The subsequent collapse of Iceland’s banking sector was not a sudden bolt from the blue. The risks were visible and widely reported, including by one of the authors of this article.¹

And the deposit guarantee scheme was totally under-resourced to deal with a systemic meltdown.

So Iceland cannot escape some share of political responsibility for the Icesave fiasco.

But Iceland was far from alone in this negligence. The political establishments of Britain and the Netherlands – indeed those of the European Union and EEA as a whole – encouraged financial deregulation and a more extensive Single Market in financial services, without almost any regard for the wholly predictable risks of large-scale economic failure.

The EU and Deposit Guarantee Schemes

The UK and Dutch authorities also failed in their duty of supervision under EU law.

Icesave in Britain was a branch not a subsidiary of Landsbanki. The European Union Directive 94/19/EC, whose inadequacy is now obvious to all, requires that EU states:

• “… shall check that branches established by a credit institution which has its head office out with the Community have cover equivalent to that prescribed in this Directive.”
  (Article 6.1)

Iceland may be a member of the EEA, but it is still “outwith” the European Community, and neither Britain nor the Netherlands fulfilled this supervisory duty.

So whether one sees the obligations as moral, political or legal, there is a heavy responsibility on the part of the British and Dutch governments.

Proportionality

Proportionality is a key principle of EU law – but one ignored by the British and Dutch governments.

In our letter to the Financial Times (7th January) we pointed out that the combined population of the UK and Netherlands is 76 million, compared to Iceland’s 317 000, and that:

• “repayment of the nationalised losses of a private bank amounts to €12 000 per Icelandic citizen…By contrast, the cost to Dutch and British tax-payers of the bail-out will be about €50 per capita.”

Not a sovereign debt crisis

The British and Dutch governments have, by political sleight of hand, given the world the impression that this is an issue of sovereign debt default.

This is quite false.

These governments chose for understandable reasons, to compensate domestic Icesavers whose deposits were at risk. They did this without consulting the government of Iceland. But from the start, they used economic and political force majeure to try to place the whole burden of compensation on to the state and people of Iceland. Only retrospectively, and through duress, was an agreement made with Iceland’s Depositors and Investors Guarantee Fund to compensate the British and Dutch governments for the cost of bailing out their own citizens.

This retroactive arm-twisting is now defined as a loan contract – even though the “loan” was not contracted at the outset by the borrower, but forced on it by the “lenders”. And the UK and Dutch governments’ fiercely desired, but missing, link of an onerous sovereign guarantee is still…. missing!

The terms

The proposed interest rate of 5.5% is particularly unfair, given that the UK’s Financial Services Compensation Service has, according to the UK Treasury, “financed its payout [to UK depositors] through a loan from the Bank of England.” ² The Treasury does not disclose the rate of interest on this loan – a rate over which it had absolute discretion. The Bank of England’s base rate is today 0.5% (1.5% in January, 2009). The ECB’s base rate was 2.0% in January 2009, yet the Netherlands government had even greater audacity in seeking, initially, interest at 6.7%!

What are the strategic options for Iceland and its people?

One option in the referendum is to accept the proposal based on force majeure, to pay the full price demanded (cuts in public services, unemployment, widespread emigration…) and hope to slowly rebuild the fabric of the economy. However this strategy will make recovery and reconstruction in the short run well nigh impossible. And in the long run, as JM Keynes argued, we are all dead!

All other options would be enhanced by a strong rejection of the UK/Dutch proposal, since the bigger the turnout for a ‘no’ vote, the stronger Iceland’s negotiating position will be, whichever option is adopted.

The dispute could be referred to the courts, to arbitration or (preferably) mediation. It is a striking feature of the story so far that the UK and Dutch governments have gone to great lengths to avoid legal resolution of the dispute, despite the Icelandic government’s constant denial of legal liability.

This may be sensible, since the 1994 Directive is badly drafted, and the outcome unpredictable for all.

Winning hearts and minds

After the referendum it will be vital that the government and people of Iceland inform and win over public and official opinion in Britain and the Netherlands, and the EU.

To date, the issues have not been clearly explained to the British and Dutch publics.

As a result, the two governments are under little public pressure to change their strong-arm tactics.

The voices of the Icelandic government and of Icelandic civil society need to be heard more loudly in more targeted campaigns in the UK, the Netherlands and EU. Coming general elections in both countries will make this difficult in the short-term, but in the long-term the Icelandic position is bound to prevail – if put across coherently.

Now is the time to spread more understanding of the issues – the shared responsibility, the flawed and excessive nature of UK and Dutch government demands, their impact on ordinary Icelandic citizens, and the positive ideas and proposals that emerge as a result of democratic debate in Iceland.

In this way we can lay the foundation for a just resolution of the dispute.

Advocacy International is working with InDefence, a civil society group of Icelandic citizens.

(1) “The coming first world debt crisis” by Ann Pettifor, Palgrave, 2006
(2)   HM Treasury Press Release, 9 October, 2009

7th January 2010,

Read Ann Pettifor and Jeremy Smith’s letter on why Iceland must NOT repay the debt in the FT today:

” Sir, The president of Iceland’s refusal to approve repayment to the British and Dutch governments should be welcomed (January 5). The pause gives the Anglo-Dutch governments an opportunity to withdraw their demand for full repayment from the government of Iceland, a country whose population at 317,000 is somewhat smaller than Leicester’s.

The UK and the Netherlands, with a combined population of 76m, should cease to use economic force majeure on a tiny country, and accept the principle of co-responsibility for the crisis. Repayment of the nationalised losses of a private bank amounts to €12,000 per Icelandic citizen, and will inevitably impact harshly on their lives and public services. By contrast the cost to Dutch and British taxpayers of the bail-out will be about €50 per capita.

We understand the strong desire of the present government of Iceland to restore the country’s tattered reputation.

But anyone reading the financial press in 2007 and 2008 (as opposed to the academic reports commissioned by Iceland’s chamber of commerce) would have known that Iceland’s banks were far from risk-free. That was why British and Dutch depositors enjoyed good rates of return on their deposits.

The British and Dutch governments have sound political reasons for protecting small savers lured into shark-infested financial waters. What is unjust is that the tiny population of Iceland should be forced to bear the full costs of the laxity of Icelandic, British and Dutch regulators and the reckless behaviour of private bankers and risk-takers. “

Read the letter on the FT website here.

Most economists (who should know better) confuse the government’s budget deficit with total government debt.

The distinction really is important.

Mixing them up is a little like confusing stocks and flows.  Or confusing your outstanding mortgage – say £200,000 – with your monthly debt repayments. They are quite different things, and if you were to lose your job, the flows (paid with your salary) come to a halt, and then it’s the stock – the £200,000 – that really matters.

Furthermore it is quite possible to increase your mortgage – and lower your monthly payments.  Many did this in the boom years of mortgage re-financing. Or even to decrease your mortgage and increase your monthly payments.

So, just as the movements in regular mortgage payments tell us little about the outstanding stock of debt, so government deficits tell us little about the stock of debt invested and the stock of debt outstanding.

The key point is this: the annual budget deficit is not a measure of the scale of government spending.  Instead it is a measure of the outcome of that spending. And that spending may not be evidence in itself of fiscal stimulus.

The annual deficit could rise because the government cuts public investment – and thereby increases spending on unemployment benefit payments and lost tax revenues from those made unemployed by the cuts.

In other words, it could just be evidence of the rise in automatic transfer payments – like increased unemployment benefits, combined with a fall in government revenues from taxes.

And if GDP is declining, then of course the government deficit rises as a share of that.

The right focus therefore is not on the deficit, but on government final consumption or total government investment.

But most economists don’t.

Instead they home in on the deficit.

It’s not clear why.  Anyway, this gives me a chance to reproduce once again the chart of the British government’s stock of debt since the 1850s – a chart which shows how low the government’s current debt stock is relative to earlier periods of crisis.

(for more on the public sector debt, see my post of 28 October, 2009 here