As European leaders panic over bailouts for Southern Europe, they miss an important reality. Comprehensive structural reform is the only long-term solution for recovery. Perversely, bailouts disincentivize governments from undertaking painful but necessary reforms and thereby support fundamental problems—such as overtaxation, overregulation, and broken public sectors—that precipitated the current financial mess in the Eurozone periphery.
Recent talk of an Italian bailout falls into the same trap, as I explain in the City A.M.
“Without a growing economy to generate wealth, Italy is having a hard time convincing current and prospective bondholders that it can pay its debts. But throwing money at Italy’s problems won’t make them go away.
Substantive structural reform is the only way to restore prosperity, by spurring competitiveness and entrepreneurship. High taxation, a completely inflexible labor market, and poor governance stand in the way.”
Despite all-too-common rhetoric of the “virtuous” coming to the rescue of the spendthrift, every Eurozone country already received a bailout. The European Central Bank (ECB) has printed over 1 trillion euro since the crisis began to forestall the inevitable market cleansing of bad investment made during the boom years of unprecedented global credit expansion. I wrote an article in RealClear Markets last month detailing this process.
But Eurocrats don’t call this a “bailout.” They call it, “providing liquidity.”
Just this week the ECB announced an enhancement of its Eurosystem bailout—ehm, liquidity provision—by lowering the standards for collateral it will accept in exchange for loans. The change in lending standards comes as Span’s insolvent banks are under increasing pressure from financial markets.
But remember, it’s not a bailout! If the European Union (EU) were to call it that, the ECB would be in violation of its charter explicitly prohibiting such action. The wisdom behind preventing Europe’s central bank from indefinitely propping up inefficient economies goes out the window when cowardly politicians begin to consider the political costs of much-needed reform. Conventional bailouts, facilitated through direct transfers from the EU, ring of disregard for the same principle.