The Fallacy of Incrementalism: the death of the Euro was predictable

Hi all, the word is out today, announced on a Friday in classic controversy avoidance mode. The Euro is dead. The S&P has downgraded several EU countries with some of the downgrades being 2 notches.

This from the WSJ today:

Standard & Poor’s Ratings Services stripped France of its prized triple-A long-term credit rating, the company announced Friday afternoon, a move that marks the long-awaited blow to France’s international standing and knocks Europe’s second-largest economy out of the top financial league of the euro zone.

In announcements after the U.S. market closed on Friday, S&P announced ratings actions on 16 euro zone sovereigns, which included downgrading Austria to AA+ from triple-A. S&P lowered the ratings on Cyprus, Italy, Portugal and Spain by two notches and those of Malta, Slovakia and Slovenia by one.

S&P affirmed its long-term triple-A rating on Germany, with a stable outlook, and affirmed the long-term credit ratings of six others. The firm said it has a negative outlook on the ratings of 14 euro zone countries, including France, Italy and Austria.

The current fad amongst the cultural elites and Washington insiders is to suggest that rule of law (in the bogus, half-baked sense they understand it) should be extended supra nationally in an incremental, gradual process that makes use of the United Nations and the Institutions at the Hague; such as the International Criminal Court (ICC) and the International Court of Justice. One popular idea now is to extend the powers of the ICC through State courts; that is, enlisting State courts to try international cases. All of this is in desperation because no one seems to have figured out a way to hold an International Congress for ratifying a framework that constitutes an offer no country could refuse. And that is the correct strategy, not Incrementalism. I will try to make that case here.

The latest victim of the Incrementalism ‘hip factor’ is the European Union and the Eurozone. The Eurozone is an economic union consisting of 17 countries (today) who share a common currency and have deprecated their own national currencies. This means that they have surrendered print rights to a common authority which, interestingly, does not have the legal authority required to back such a currency. We discussed this in the last post here, which the reader should read now before proceeding. In order to explain this fallacy, lets break this down.

First, under the Masstricht Treaty on European Union (1992), something quickly becoming the poster child for how not to create supra national rule of law, there is no corresponding central authority to tax the economies of all countries directly and in sovereign stead of the various 17 States. This means that while the Treaty calls for a common currency between the States, it does not have the corresponding fiscal policy power to back that currency. For example,

The Maastricht Treaty reads:

By this Treaty, the High Contracting Parties establish among themselves a European Union, hereinafter called ‘the Union’.

This Treaty marks a new stage in the process of creating an ever closer union among the peoples of Europe, in which decisions are taken as closely as possible to the citizen.

The Union shall be founded on the European Communities, supplemented by the policies and forms of cooperation established by this Treaty. Its task shall be to organize, in a manner demonstrating consistency and solidarity, relations between the Member States and between their peoples.

… prefigures a legal entity here called a “Union”. And later we see what legal character that “Union” has:

Within the framework of the provisions set out in this Chapter, all restrictions on the movement of capital between Member States and between Member States and third countries shall be prohibited.

2. Within the framework of the provisions set out in this Chapter, all restrictions on payments between Member States and between Member States and third countries shall be prohibited.

Which is a clear framework for equalizing the wealth and currency we discussed in the aforementioned post.

State Citizenship is promoted stare decisis:

Every person holding the nationality of a Member State shall be a citizen of the Union.

And then the seeds of the problem begin:

1. The provisions of Article 73b shall be without prejudice to the right of Member States:

(b) to take all requisite measures to prevent infringements of national law and regulations, in particular in the field of taxation and the prudential supervision of financial institutions, or to lay down procedures for the declaration of capital movements for purposes of administrative or statistical information, or to take measures which are justified on grounds of public policy or public security.

Which denies a central authority the ability to enact uniform, symmetric tax law across the Union, a fatal elision.

And we get deeper into the meat of this disaster with the following provision:

Member States shall conduct their economic policies with a view to contributing to the achievement of the objectives of the Community, as defined in Article 2, and in the context of the broad guidelines referred to in Article 103(2). The Member States and the Community shall act in accordance with the principle of an open market economy with free competition, favouring an efficient allocation of resources, and in compliance with the principles set out in Article 3a.

The language continues dancing around the issue of sovereignty regarding economic policy, finally resorting to referring to economic policy making decisions as multilateral surveillance; for the purpose of informing each State’s economic policy.

And it finally concludes with its penultimate declaration of sovereign power for the Union in matters of economic policy:

4. Where it is established, under the procedure referred to in paragraph 3, that the economic policies of a Member State are not consistent with the broad guidelines referred to in paragraph 2 or that they risk jeopardizing the proper functioning of economic and monetary union, the Council may, acting by a qualified majority on a recommendation from the Commission, make the necessary recommendations to the Member State concerned. The Council may, acting by a qualified majority on a proposal from the Commission, decide to make its recommendations public.

Meaning that the Union has the power to “take names” and tattle (go public). But that’s it.

Remarkably, when it comes to indebtedness of Member States, the Union is debarred from even reporting it to the public, much less in having any sovereign power to determine debt to GDP ratios. This Instrument waxes internally inconsistent when it avers that:

Member States shall avoid excessive government deficits.

without concomitantly granting the Union the sovereign authority to enforce this. This kind of legal inconsistency should never appear in an Instrument of fundamental law. This defines this Instrument, notwithstanding the definitions assumed by others, as a treaty not sufficient to make fundamental law. And that means that the EU and Eurozone cannot even make the status of a Confederation; itself inadequate for managing fiscal policy. Ultimately, it only grants the “Council” (a Union body) the power to exact fines at its discretion, which is classic western double-talk for pseudo rule of law.

And, after all this, the States lose print authority:

1. The ECB shall have the exclusive right to authorize the issue of bank notes within the Community. The ECB and the national central banks may issue such notes. The bank notes issued by the ECB and the national central banks shall be the only such notes to have the status of legal tender within the Community.

The ECB is the European Central Bank, a Union fiscal entity of legal personality.

Most of the remainder of the document covers the form and makeup of committees and judicial bodies; and their areas of competence. It establishes a fractional reserve banking system whose minimum reserves are determined outside “fundamental law”.

Lack of symmetry between the States means that the full faith and credit of the legislative acts of one State need not be fully honored in another. This has a stifling effect on businesses trying to operate throughout the Eurozone. This further Balkanizes the economy as indicated above; thence exacerbating the problems associated with the lack of full backing of the currency.

What we have seen with the debt crises of Greece and other European countries is that this scheme, not surprisingly, doesn’t work. And in this case it means that Incrementalism doesn’t work. This reminds one of the fallacy of the League of Nations; the classic tendency to create hollow institutions with insufficient integrity to execute upon their raison d’etat. But we should be careful how we frame this. Does Incrementalism, in general, not work, or is the problem related to how Incrementalism is applied? I think the latter is the more likely case. Had the legal structures required to fully back the currency existed, the EU would not being the mess it is in now.

And that is what we have proposed in our earlier post. The General Federalist solution addresses this problem without trying to bite off more than we can chew.

– kk

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