Hello, and welcome to the Dispatch for May 14 - 20!

My apologies for the absence last week - I’m in the middle of both moving and changing jobs, and last week I just didn’t have the time to keep up with the news throughout the week. This coming week may be a bit sparse as well, but once June starts I should be able to get back on a better schedule.

That said, let’s get started!

Malawi

Joyce Banda, the new president of Malawi, announced she would try to lift the country’s ban on homosexuality, a move that breaks with some less encouraging news from elsewhere in Africa this year.

Banda became president after the former president, Bingu wa Mutharika died of a heart attack. Mutharika had been displaying increasingly concerning autocratic tendencies, and his death was followed by a couple tense days as the former president’s cabinet tried to prevent Banda’s succession. Malawi looks to have dodged a bullet.

China

The Chinese government relaxed bank reserve requirements to help offset signs of weakened growth, lowering the percentage of deposits large Chinese banks must hold in reserve (and not lend out) from 20.5% to 20%.

There’s been talk of slowing growth in China this year, but growth has slowed because of steps the government has taken to fight inflation. This announcement shows just how much firepower the Chinese central bank has in reserve - comparably large US banks need only hold 10% of deposits. (Higher reserve ratios slow lending, reducing both the availability of credit and the amount of money in circulation.)

EU

It’s been a big couple weeks in the Eurozone:

Greece

After a fractious election, the Greek parliament failed to form a government. Syriza, a leftist coalition which picked up 17% of the votes in the recent election, acted as the spoiler, refusing to form a coalition with any party hoping to uphold Greece’s much-hated IMF loan agreement. New elections are slated for June 17, and early polls suggest the far left will pick up even more votes. Fears of a Greek euro exit have returned in force in the wake of the failed attempt to form a government, and Fitch lowered Greece’s credit rating to near Junk status.

Italy

The head of an Italian nuclear energy company was shot in the kneecap, an attack with strong echoes of a spree of attacks by a terrorist group in the 1970s. The attack, along with a string of other recent attacks on tax collectors and government officials, prompted the Italian government to redeploy more than 24,000 police and military officials to increase security in the nation.

France

New French president Francois Hollande took office this week, and met with German chancellor Angela Merkel almost immediately after. Hollande also announced his cabinet, which kept mostly to the center and did not include Martine Aubry, the head of the socialist party. Hollande has promised to follow more pro-growth policies and push for the same from Germany.

Germany

German chancellor Angela Merkel’s party lost a major election in Germany’s largest state, taking only 26% of the vote, an 8% decline from the previous elections. Their rivals, the Social Democrats, won nearly 40% of the vote in an election seen largely as a referendum on Merkel’s austerity policies. Merkel announced later in the week that she would support some stimulus programs for Greece and a more growth- oriented policy for Europe at large.

German austerity hasn’t been popular anywhere, apparently even in Germany - and no wonder. Germany is one of the only countries in the Eurozone with a growing economy - even France posted stagnant growth numbers for the first quarter. Greece has shed around 25% of its GDP over the last 3 years, Spain has unemployment above 25% (and around 50% for youths), and Italy is worried about anarchists shooting people in the knee. The good news is, after the recent series of elections, it looks like the political tide is turning in Europe. Even Merkel, who has been steadfast in her support of austerity, is starting to back down.

The big question right now is Greece. The UK government recently estimated the cost of a messy Greek departure from the Eurozone at $1Tn, and that might be undershooting the mark if it sparks further crises in Spain or Italy. The Greeks at this point are ambivalent about staying in the Eurozone: arguments about the dangers of economic collapse are ringing rather hollow in a country where austerity measures have already driven unemployment over 21%. The real danger is to the rest of the Eurozone now. The Germans may not like the idea of bailing out Greece, but their recent economic performance didn’t come from the blue: the country has done extremely well under the Euro, and it has possibly the most to lose from a messy Euro exit. At this point, though, it’s hard to see Greece staying on the Euro. Currency depreciation is the only thing that might save the country’s economy now, and the only way to do that is to return to the Drachma.

US

NDAA

A federal judge blocked a provision in the recently signed National Defense Authorization Act that allowed the federal government to indefinitely detain people suspected of supporting terrorist organizations without trial. District Judge Katherine Forrest ruled the provision was too ill-defined and that the government had failed to adequately explain what would constitute support, leading to serious concerns over the scope of activities covered under the provision.

Economy

While the Jobs report was mostly steady this week, two other numbers were more positive: Housing starts (Real Estate construction projects) increased by 2.6%, while overall industrial production rose 1.1%, the largest gain since 2010.

Both of these numbers are very, very good. The economy is growing slowly, but the two indicators are good signs of fundamental improvements in the economy, and a good sign for future growth. Jobs numbers tend to be trailing numbers (the last thing companies do is hire more people), but industrial activity and housing starts tend to be leading indicators.

Debt Ceiling

House Speaker John Boehner warned the White House and Congress this week that he intended to hold up another increase in the debt ceiling unless it was accompanied by further spending cuts.

Economically, this is just as bad an idea as it was last time; the single worst thing the US could possibly do for both the domestic and the world economy is to toy with defaulting on our debt. The US economy is showing some signs of life, even despite headwinds from the EU crisis, but now Boehner’s threatening to plunge the markets back into chaos. Even if the debt ceiling does get raised, it’s this sort of political gamesmanship that cost the US its Triple-A rating last year, and while the markets shrugged off the spectacle last time, eventually someone’s going to blink.

Politically, this is insane. The debt ceiling debacle last year carried a massive cost for the Republicans: that fracas was a turning point for perception of the GOP both among the general public and in the White House, and it’s hard to point to a genuine political victory since then. Revisiting the issue, especially after trying to vote this week to renege on the terms they agreed to last year, is just not a good move. It’s a baldly political move, and it seems to be one of the few the GOP has this election, but it’s an incredibly weak hand, and the potential to backfire is enormous.

Final Thoughts

I stated at the beginning of this year that the tension in the Eurozone would be between the people and the bondholders. That seems to be what’s playing out now: recent elections in Greece, France, and Germany have all turned on the Eurozone crisis, and in all cases, the winners have been the ones who have sided with the people against austerity. Recent trends in Greece and Italy are concerning - the success of the fascist party in Greece and the rising violence in Italy warn of the dangers of inaction and of economic collapse - but overall, I think Europe may have just turned a corner in its handling of the crisis.

In economics, and especially in macroeconomics, it’s extremely difficult to run experiments. Usually, the best we can do to test a hypothesis is try to gather past economic data and fit it to our model. The results are usually fairly unsatisfying, and it’s very hard to solidly falsify a theory. The Eurozone has, by this point, run as good an experiment as I can imagine on the link between austerity and economic growth. The results are not good. Angela Merkel said this week that deficit reduction and economic growth reinforce one another. She got it half right: Absent bad policy, economic growth will certainly reduce deficits. Deficit reduction, on the other hand, seems to have very little to do with positive economic growth.

Thanks for joining me, and my best for the week ahead!

Eric