So here I sit on a Sunday afternoon in mid June awaiting the results of an election in a country with an economy about the same size as Dallas-Ft. Worth. Greece votes today and the story is at the top of all the major financial publications with real time updates on the exit polls. We have been told that the outcome of this election is critical to the future of the Euro and a vote for the anti-austerity party will wreak havoc on global markets. Really? Europe can’t function without the assistance of an economy one tenth the size of Germany’s? The Euro will end because a country that should never have been admitted leaves? When did investing devolve into a game of trying to figure out the next move of the world’s central banks in response to an election in a small, failed state the size of Alabama? Will the Fed also be monitoring and planning a response to the election results in Illinois this November? Is it possible, just possible, that what happens in Greece today is only important to Greeks?

I don’t know how the Greek vote will come out today and I wouldn’t care at all if I wasn’t worried about the response. The rumor mongers were out in force last week chasing anything that sounded like more monetary easing from the ECB and the Fed. Markets moved higher in anticipation of more ECB easing, expectation of more easing at the Fed meeting this week and high hopes about the outcome of yet another G-20 meeting. Market movements are no longer about the fundamentals of the companies that make up the stock indices or the supply/demand picture of individual commodity markets or any other fundamental factor. Markets move based on what central banks might do or what government agencies might or might not do or how the votes might be counted in Athens or Paris. Government has become the overriding factor for investment decisions and that should tell you a lot about how far the global economy is from real recovery.

The US economy is pretty clearly decelerating although not nearly as badly as Europe. Retail sales, jobless claims, industrial production and the Empire State manufacturing survey last week all confirmed the slowdown. We aren’t in recession territory – yet – but we appear to be on that path and I’m not sure there is anything we can about it. The economic policies enacted in the wake of the 2008 crisis have not been effective and more of the same will not improve our economic performance. We need a change in direction that is more fundamental and lasting than temporary tax and spending changes at the margin. All we’ve accomplished so far is to delay the inevitable.

There are many examples of what an effective reform would entail, from Sweden and Canada in the 90s to the Baltics today. There are of course differences in how these economies were structured but they all followed a basic formula that involves less government spending, balanced budgets and market oriented reforms. We should be paying attention to Estonia, Latvia and Lithuania rather than Greece. These countries maintained pegs to the Euro and contrary to the beliefs of mainstream economists such as Paul Krugman and Olivier Blanchard, have recovered with growth rates much higher than the rest of Europe. They did it by concentrating on reducing the cost of government and allowing the market to work as it should. It took time and the depths of their recessions were worse, but they are now on a long term, sustainable growth path.

Government intervention in times of recession is seen as the compassionate thing to do but it doesn’t accomplish what it purports to. Intervention – monetary or fiscal – can reduce the amplitude of the business cycle but only at the expense of a longer wavelength. Fiscal policies that provide temporary income support during unemployment only work until the benefits inevitably run out. Bailout programs that rescue badly managed companies only work until further mismanagement destroys the capital provided by the bailout. Monetary policies designed to distort asset prices have no lasting effect and only work as long as the Fed is actively intervening in the market. All interventions may be well meaning but there is no free lunch. Eventually, economic reality must be accepted and the excesses purged.

For Greece, it matters little what they choose today. If they stay in the Euro, they will be forced to reduce government payrolls. If they leave the Euro, with no ability to borrow, they will be forced to reduce government payrolls. Either way, the adjustment has to fall on the public sector because that is where the excesses reside. If they choose to return to the Drachma, they can print up enough of them to keep paying the public sector for a while but that will only result in inflation that hurts all their citizens, including the ones on public payrolls. Trading riots about austerity for riots about inflation is not an answer. There is no easy way out. Olivier Blanchard said last week that what worked in Latvia would not work in Greece because their labor markets aren’t as flexible. The answer to that  conundrum is not to leave the Euro and devalue but to make the labor markets more flexible. Greece will have to do that anyway so why not stay in the Euro and get it over with?

As for the US economy, we need to get on with our own reforms starting with the Federal Reserve. Much of what ails us can be laid at the doorstep of the Federal Reserve and their serial interventions of the last few decades. We have had two bubbles in succession and I know of no bubble in history that wasn’t caused by monetary mismanagement. The South Sea bubble, the Mississippi bubble, the Dutch tulip bubble and our own internet and housing bubbles were caused by excessive money creation in one form or another. We have relied too much on the Fed over the past several decades to smooth out the business cycle by providing ever increasing doses of credit. If we have too much debt, the obvious solution is to stop conducting monetary policy in ways that make it too easy to borrow. Monetary policy shouldn’t favor debtors or creditors; it should be neutral and as long as the Fed is allowed to manipulate interest rates that won’t be the case. Our excesses are in the financial sector and that is where the pain should be felt. We can’t accomplish that through regulation; it has to come from the source – monetary policy.

As I near the end of this commentary, I see that the pro-Euro party seems to have won in Greece. How will the market react to that? If last week’s rally was about potential monetary intervention if Greece voted “wrong” does that mean the market will sell off tomorrow because the intervention isn’t needed? Frankly, I have no idea and I’m tired of trying to figure it out. It is time for the world’s central bankers to back out of the equation and let markets perform their function of sorting winners from losers. Greece appears to have voted for reform. Let them get on with it and for pity’s sake, let the rest of the world get on with it too.

For information on Alhambra Investment Partners’ money management services and global portfolio approach to capital preservation, Joe Calhoun can be reached at: or 786-249-3773.

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