Wolfgang Drecshler
This past Wednesday, I attended a conference at the German Bundesbank on lessons from past financial crises for the current one, and there was one quite amazing consensus regarding the US, England, Germany and Japan: Crises can perhaps not be avoided, but they can be managed well – which always entails bold leadership – or managed badly, and this makes all the difference regarding their severity and duration.
The current crisis is hitting Estonia hard, things will get worse (if you think that's not the case, don't bother reading on), and so good crisis management is certainly required. This is not so easy, however, because it would have to be based on acknowledging that many beloved old beliefs, including that in a specific kind of free market absolutism and in the stability of the Kroon, were perhaps appropriate for past times but certainly are wrong now. Too many biographies, too many identities hinge on those beliefs, especially within the current political-economic leadership. And anyone in Estonia opting for any policy whatsoever is attracting the e-idiots and their accusatory tirades of Communism and betrayal.
This might be overcome, and it should be, because doing nothing or wrong things is certain to prolong and worsen the crisis, and Estonia is not in a situation where this can be afforded. However, even beyond politics, the country is stuck between a rock and a hard place in many respects: All possible measures are genuinely ambivalent, i.e. they have good and bad effects at the same time – salary cuts, for instance, could make the country externally more competitive (unless other countries follow the same policies), but ruin domestic consumption demand and produce losses for domestic industry, leading to actual job losses.
So, what is called for is to steer the boat between Scylla and Charybdis, the two sea monsters, which – as is told in the Odyssey – sadly cannot be done without some serious sacrifice. The point is to minimize the costs, so what is needed is a moderate and synergetic plan, i.e. one that groups a few measures that by themselves would not be sufficient, but that when pursued together might not ruin too much, both economically and socially, while decisively helping the economy. It should be designed to balance the finances and return trust and confidence in the country internally and externally, and to avoid social unrest and other bad consequences. In short, what is needed is bold action in implementing fairly moderate and politically still realistic measures.
Odysseus in front of Scylla and Charybdis. (Füssli, Johann Heinrich, 1794-1796)
The basis is, again, the insight that Estonia's finances are currently basically unsound and cannot be redeemed just by waiting, that the crisis will last not weeks or months but years and that most Estonians will experience losses both in income and property. This cannot be prevented anymore, but it can be significantly reduced. (For most of those with loans in non-Kroon currencies, this is a no-win situation: They will either lose because of devaluation or because of income loss, but lose they will.)
With this in mind, I would propose the following five measures, which I will not explain in detail, because by now anyone interested should know the reasons and implications [but I have been persuaded to add some broad-brush explanatory hints in brackets]:
1. The Kroon is devalued as soon as possible by 15% towards the Euro but maintained as pegged. [This is a very necessary but in the end very minor devaluation that is below the psychologically important barrier of 20% – it will adjust the nominal value of the currency towards the real value while maintaining the sacred cow of the peg. Harsh, yes, but shoulderable.]
2. Salaries are frozen for four years. (If this does not suffice, they could be cut by up to 15% as well, but freezing should do.)
a. The date of freezing is 1 September 2008.b. This only concerns salaries in excess of EKR 10,000.
c. Government salaries are frozen directly; private-sector salary increases are taxed at 80% to the extent that this is technically possible.
[Together with 1., this is less severe than only salary cuts or only devaluation would be, because of true synergy effects. This is not far from what is happening already, partially less so; it is necessary, however, to guarantee the point internationally and to set the mood and perspective internally. It is also key to avoid or limit inflation and thus work towards the Euro.]
3. The government will create an institution that will take over from lenders all housing (of generously appropriate size) lived in as first residence by citizens or residents who cannot pay their mortgage anymore, so that the otherwise soon-former owners can continue living there for an affordable rent and with the goal to eventually repurchase them. [This is to soften the blow with the worst social consequences, though many of those in non-Kroon real estate debt have only themselves to blame.]
4. Aid and loans by IFI's or the EU etc. to the State will only be used for infrastructure and the most basic life-quality – preserving measures (‘net of decency'), not for any running costs beyond that. Aid and loans that are linked to policy impositions, including cutting public expenditures, are not accepted. [The IFI's do not have a good track record in actually helping failing economies. On the other hand, running a government on outside funding has never worked for long. Still, a minimum ‘net of decency' needs to be preserved, because otherwise, what would be the State's raison d'être at all?]
5. If State income will be too low to cover all costs, cuts will be made completely across the board of expenses, with no sections spared except those mentioned in point 4. [So as to have the burden shouldered by the entire society which, and whose priorities, is mirrored in the budget already.]
This is actually not a ‘Left' plan but quite a (classically) Conservative one; it is one that tries to maintain as much from the current order and social arrangement as at all possible, and it tries not to penalize the ‘good guys' too much. And it is based on a well-working public sector, so it assumes that any nitwit plans to cut it under the pretense of saving money (which never works) are shelved right away as well. It's also not a plan for growth – such a plan would have to entail serious thinking about industrial and innovation policy as well as public finance, including taxation – but one to ‘stop the bleeding', nor does it address all problems at hand. Most crucially, this plan can work now, but not anymore once the situation in Estonia and/or around it will get worse, which it will soon enough if nothing is done.
Will something like that be done? Even though I tried hard to be realistic and to take the mood in Estonia into account, I fear that even something like that would still be judged as too radical, partially people are told or are telling themselves that things are not so bad, while they are actually worse. But sometimes scenarios and situations change abruptly, sometimes even the attitudes and insights of those already in power, prompted by times and circumstances. Hopefully, this will happen sufficiently swiftly, because the time for the bold leadership that has always been the hallmark of sound crisis management is now, and now is the time when a moderate policy such as the one proposed can still be pursued with considerable hope of success. Later it will be too late, as can be seen from the Latvian case.