Friday, 30 January 2009

What Recession

30th January 2009

The Malta Independent - Friday Wisdom

Reading the weekend papers left me undecided whether to laugh or cry. On one hand we had the optimists telling us that our economy is defying economic logic because instead of being bowled over by the big recession tsunami, we are one of the few countries still expected to register some marginal growth in 2009 even though this will be well below the 2.5 per cent envisaged when the Budget for 2009 was presented last November.

We had the Prime Minister reportedly saying in an interview with Frankfurter Allgemeine Zeitung that “fortunately, the financial crisis hasn’t hit us yet. Our banks have always had plenty of liquidity and are not cross-linked with the international banks affected”. Yet mysteriously and in contradiction he told the same newspaper that “Without the euro, Malta would probably be doing much worse than Iceland today: we would be bankrupt.” Can somebody explain how we would be bankrupt if we have no exposure to international borrowing the same way Iceland and its banks had? Can somebody explain how Ireland, in spite of it being a founder euro member, is being bowled over by the recession and has practically had to nationalise its banking system to keep it floating?

Let me say it again loud and clear. I agree that the decision to join the euro and to do so as quickly as possible was the right one. Prosit! But saying that without the euro we would be bankrupt is a non sequitur, it denigrates home grown economic stability, and it is a useless exercise in giving or taking credit where none is due. On top of that, stating that without the euro we would be bankrupt, is not a very good way to persuade investors about our intrinsic financial stability, especially when there are growing doubts about sustainability of the euro system itself if the credit status of some constituent countries continues to deteriorate as they get crushed by the recession.

In the midst of all this self praise and congratulatory overdose we had some terrible news relating to the future of ST Microelectronics, the largest private sector employer, the largest exporter and Malta’s flagship in the technology sector. It is rumoured that ST are seriously reconsidering relocating part or the whole of their manufacturing operations to lower cost territories and possibly to dollar based economies given that ST conducts the bulk of its sales in USD.

This news came just two days before ST announced a loss in the fourth quarter 2008 when the market was expecting a profit given that competitors Texas Instruments had a positive fourth quarter. In fact ST’s parent announced job cuts and cost cuts to stay competitive although they gave no details of where jobs will be cut and whether the cost cuts will come from relocations affecting their Malta outfit. (This article was submitted before yesterday’s announcement by ST regarding redundancies.)

I think the most illuminating point in the midst of these conflicting signals came from the editorial of The Malta Independent on Sunday who quizzed whether our outperforming our main trading partners in terms of relative economic growth prospected for 2009 is “either because we are so small that storms, like the meteorological one last week that was forecast as a ‘near-cyclone’, just pass us by. Or else the tsunami waves will reach us later, after they have reached just about everybody else. Or else, somehow – because we are not exactly known for this – we have somehow got it right, whereas others just did not.”

In short, we are more capable, more lucky or just more stupid that we cannot see that the economic tsunami will hit us with a time lag.

I think we are a bit of all three.

We are more lucky because we inherited from our forefathers a strong thrift culture which renders our economy liquid enough to finance its own development without recourse to external borrowing. The success of a private sector real estate related bond issue which was over-subscribed by the public in a matter of hours would not have been possible in the present circumstances in any other economy which is not as liquid as ours, or at least the issue would have had to be priced much more aggressively than it was the case here.

We are more stupid because we are wasting energy complimenting ourselves that we are better than the others without taking protective measures to safeguard against the tsunami which unless a miracle happens will hit us with force in the summer months. We have a situation where the property market has gone flat. We have a situation where some of our foremost manufacturing outlets, ST included, may have to downsize or re-locate in part or in whole. We have a situation where our tourist figures had a sharp trend reversal as from last October.

Take tourism. There is no doubt we are having a bad winter season especially compared to last winter, which was one of the best in the last decade. However, bad winter tourist seasons are not catastrophic. Rates and occupancies are low in any case. The real test will be whether the peak season, from April to October, where our hotels normally charge peak rates and enjoy topnotch occupancy ratios, will be as good as last year or will experience a drop in both rates and occupancies.

Even a mere 10 per cent reduction in occupancy and 10 per cent reduction in room rates will drop revenue by nearly 20 per cent which could well wipe away the bottom line surplus for the whole year. Given the high multiplier effect of tourism, summer would be the time to judge whether we are being affected or not by the worldwide economic recession.

We are also a bit more capable. Our smallness gives us resilience to take measures quickly and more flexibly. We have immense ability to adjust consumption to current realities and to do so quickly. Given that consumption is mostly imported rather than home produced, such consumption adjustment will not further depress the macro-economic realities as happens in large economies such as the US and the UK.

It is undue optimism to assume that we will fare better than others during the recession of 2009. Unfortunately this depends on factors beyond our sphere of influence. We should not just trust our luck and passively rely on our unquestioned resilience. We should hope for the best but prepare for the worst.


Sunday, 25 January 2009

Obama Needs Miracles

25th February 2009
The Malta Independent on Sunday

Prince Turki al-Faisal is a very powerful man in the Kingdom of Saudi Arabia. When he speaks, it is as if the Kingdom itself has spoken and many consider him the heir apparent of King Abdullah. In his career he has been Saudi Ambassador to both the UK and the US, but he is mostly remembered as the Head of the Saudi Intelligence Service.

In this role during the Soviet invasion of Afghanistan he worked hand in hand with the US to build up the resistance that ultimately drove out the Soviets, in the process accelerating the collapse of communism, and eventually brought the Taliban regime into power in Afghanistan. He spent billions of his personal wealth and the country’s treasure on supporting Pakistan to organise resistance against the Soviets and in the process unwittingly helped the formation of Al Qaeda under the leadership of Osama bin Laden – up until that time a respected member of a business construction family and extremely well-regarded by Saudi royalty.

Both the US and the Saudis eventually lost control of the monster they helped create which, after successfully driving out the Soviets and winning an internal civil war that brought the Taliban into power, spun out of control, turning Afghanistan into a hotbed of fundamentalist jihads sworn to the Islamisation of the world, the destruction of Israel and the defeat of the Saudi royal family, which was perceived as being too accommodating to US interests in its oil policy. The most visible aspect of this was the 9/11 tragedy, in which most of the terrorists were of Saudi origin.

The Saudi Kingdom has always regarded the Iranian Islamic revolution of 1979 with suspicion and apprehension. Iranian fundamentalists are Shia and consider the Sunni Islamists ruling the Kingdom that contains Mecca and Medina as their rivals. Indeed, Saudi – and other Sunni oil kingdoms in the region – probably condoned or even encouraged Saddam Hussein to draw Iraq into a war with Iran very soon after the revolution of 1979. They needed protection, fearing that Iran could export its revolution firstly to Iraq, where a Shia majority was ruled by a Sunni minority, thus bringing the Shia revolution to the doorstep of the Kingdoms of Saud and Kuwait and eventually controlling the entire oil reserves of the region.

How does President Obama fit into all this? Three days after his inauguration, Prince Turki al-Faisal took the very unusual step of contributing an opinion piece to the Financial Times of last Friday, 23 January, which is indeed more of a threat than an opinion. It is almost an ultimatum to the Obama administration in its third day in office.

Let me quote some excerpts. “Prince Saud Al-Faisal, the Saudi foreign Minister, told the UN Security Council that if there was no just settlement (of the Palestinian-Israeli issue) we will turn our backs on you. King Abdullah spoke for the entire Arab and Muslim world when he said at the Arab summit in Kuwait that although the Arab peace initiative was on the table, it would not remain there for long”.

“America is not innocent in this calamity. Not only has the Bush administration left a sickening legacy in the region, but it has also through an arrogant attitude about the butchery of Gaza, contributed to the slaughter of the innocents. If the US wants to continue playing a leadership role in the Middle East – especially its ‘special relationship’ with Saudi Arabia – it will have to drastically revise its policies vis-a-vis Israel and Palestine”. Threats don’t come much clearer than that!

Prince Turki than proceeds to tell Obama what he should do. “Mr Obama should strongly promote the Abdullah peace initiative, which calls on Israel to pursue the course laid out in various international resolutions and laws: to withdraw completely from the lands occupied in 1967, including East Jerusalem, returning to the lines of 4 June 1967; to accept mutually agreed just solution to the refugee problem according to General Assembly resolution 194; and to recognise the independent state of Palestine with East Jerusalem as its capital. In return there will be an end to hostilities between Israel and all Arab states and Israel will get full diplomatic relations and normal relations.”

Notice the authority with which the Saudi Prince speaks on behalf of all Arab States. This definition excludes Iran, which is Islamic but not Arab, so Turki had to find a way to get Iran on board of such a deal. Given the long-held rift between Iran’s Shia and Saudi Sunni, this was always considered an impossibility.

No longer! Israel’s invasion of Gaza and the killing of so many innocents has managed to unite against it even the most ardent opponents. Read this:

“Last Week President Mahmoud Ahmadi-Nejad of Iran wrote a letter to King Abdullah explicitly recognising Saudi Arabia as the leader of the Arab and Muslim worlds and calling on him to take a more confrontational role over ‘this obvious atrocity and killing of your children’ in Gaza. The communiqué is significant because the de facto recognition of the Kingdom’s primacy from one of its most ardent foes reveals the extent that war has united an entire region, both Shia and Sunni.

Mr Ahamdi-Nejad’s call for Saudi Arabia to lead a jihad against Israel would, if pursued, create unprecedented chaos and bloodshed in the region.

So far the Kingdom has resisted these calls, but everyday this restraint becomes more difficult to maintain.... Eventually the Kingdom will not be able to prevent its citizens from joining the worldwide revolt against Israel.” Again, no mincing of words in delivering a threat.

Obama is being considered all around the world as the miracle worker. He has to solve the most serious financial problem since the Great Depression, a problem which, unless addressed through very bold and urgent measures, could turn a sudden recession into a depression leading to the breakdown of international trade and rising nationalistic friction that generally brings nationalistic fundamentalists into power through the democratic process, thus further complicating resolution to the problem without resolve to armed conflicts.

He simultaneously has to change the dynamics of the Middle East conflict that is marred by several rounds of innocent bloodshed by which, with the policy of an eye for an eye and a tooth for a tooth, the whole region will soon be blind and toothless. If Obama can prevail as an honest broker, and no longer as the natural protector of Israel, and can also bring into the equation the nuclear disarmament of the region, including Iran’s reversal of its nuclear ambitions, then we will really have to start referring to the man not as President Obama but as “Obama the miracle worker”.

Friday, 23 January 2009

Yes We Must

23rd January 2009
The Malta Independent - Friday Wisdom

Barack Obama is now formally the 44th President of the United States, holder of the most influential political post in the world and for the next four years the man in the Oval Office.

He comes wrapped in a sort of mystique, someone who has the power of character and the force of persuasion to make the impossible possible. His accession to the presidency by and of itself is a demonstration of a will to succeed against all odds. An ability to turn problems into opportunities, to inject enthusiasm where most would lose heart and feel overwhelmed, and to engage hard-headed adversaries in fruitful negotiation.

However, the real test for Obama is ahead. The skills to get elected are not necessarily the same skills needed to govern. Obama has to show he has both. He comes disadvantaged with great expectations which could easily lead to disappointment. He comes advantaged with very broad support for doing what needs to be done even if unpopular, and can consider himself lucky that the financial turmoil was not only a decisive factor in his election to presidency (the crux of the financial crisis came in the last six weeks of the election campaign and the issue dominated to an extent that any other consideration, including the colour of his skin, was rendered irrelevant in the circumstances) but also establishes a low watermark against which Obama’s performance will eventually be judged. When things are so bad they can only get better!

He referred to the financial turmoil in the opening part of his inauguration speech and there he stated something which in Malta we had better note carefully. He said that the turmoil was in part the result of excessive greed by individuals but it was also the result of “collective failure to make hard choices and prepare ourselves for a new age”.

In terms of the US he was surely referring to his predecessor’s reckless fiscal policies where he attempted not only to have guns and butter but even added tax cuts to change a fiscal surplus inherited from the Clinton administration to a horrendous trillion dollars plus deficit which is being passed on to the Obama administration. The simple truth is that even a reserve currency country cannot finance two wars, Afghanistan and Iraq, without raising taxes and still keep a stable macro financial structure. Financing two wars while conceding tax cuts is even worse. It is a vain attempt to challenge the laws of natural economics.

Are we in the process of creating future problems by our collective failure to make hard choices to prepare ourselves for a new age? Indeed we are. We are doing next to nothing to preserve the sustainability of the social package so painstakingly built over the last 50 years. Our health service is clearly unsustainable and hard choices need to be taken soon, whatever easy promises were made before the elections. The big deficit in our pension system means that with the passage of time, as the ratio of economically active for every pensioner continues to shrink, the pensions would become quantitatively irrelevant to afford comfortable retirement, forcing people to continue working beyond pension age by necessity rather than choice.

Our fiscal enforcement mechanism leaves much to be desired. We have created systems where people have to pay income tax on profits that are not real (as in case of withholding tax of 12 per cent of sales value of real estate held by the vendor for more than five years) and wide space for others to under-declare their income with impunity resulting from lax enforcement.

Shifting tax on real estate sales to a withholding tax system has weakened the effectiveness of enforcing compliance through VAT mechanism. We need to develop a vision to reduce the marginal rate of tax to a level where lack of compliance will be more costly (through high punitive measures) than cost of compliance where low tax rates would be further rendered attractive by the possibility of re-investing a larger portion of post-tax earnings without being questioned by tax authority about unexplained wealth accretion.

Hard choices are being avoided in persisting with old legacies that render our labour markets inflexible. The COLA system has clearly outlived its purpose. The rigidities in public sector employment not subject to the same discipline of the private sector continues to absorb scarce resources and fosters social injustice with those in the private sector where the only guarantee of continued employment is efficiency and dedication.

Like Obama we now have to pass from the pre-election “Yes we can” – Flimkien kollox possibbli to “Yes we must”. Continuing to avoid hard choices will make the unavoidable adjustment much harder when crisis will force us into it.

I do not know if I am imagining but I sense that Obama has already been instrumental in the unilateral ceasefire announced by Israel last Sunday from their hostilities in Gaza and their complete withdrawal from Gaza by the time Obama was sworn in as President. I find no other explanation for the disproportionate Israeli response to Hamas rocket irritations in the last few weeks of the Bush tenure. Much less is it possible to explain the sudden unilateral ceasefire just two days before Obama’s inauguration except through perceptions that the new administration will be less willing to tarnish their credentials as honest brokers for peace in the Middle East by defending or even tolerating Israel’s over-reaction.

Israel may have temporarily disabled Hamas capacity to irritate but in the process it has probably given birth to a generation of terrorists on its doorstep. The Gaza adventure has really done nothing to win for Israel friends and sympathisers where it matters. Wars can be won by military force. Peace has to be won through diplomacy, engagement and adherence to international rules of law and UN resolutions.

If as I suspect Obama’s inauguration to presidency has influenced the cessation of Gaza hostilities and the withdrawal of Israeli forces than it is a very good start (indeed pre-start) for the new US administration.

Friday, 16 January 2009

By George

16th January 2009

The Malta Independent - Friday Wisdom

I have never seen such a broad acceptance on any important nomination to high office as the one that has accompanied that of Dr George Abela as the next President of the Republic. People from the right, from the left and from the centre have broadly acclaimed Dr Abela’s nomination with satisfaction and quite often with enthusiasm.

This is mostly Abela’s own merit in conducting his political, professional and private life in an exemplary manner, putting principles before convenience. His hallmarks of objectivity, calmness and patience have been consistently employed in pursuing goals which he believed in, irrespective of obstacles by quarters that often had vested interest in the status quo and consequently in resisting change.

Dr Lawrence Gonzi’s initiative is a shrewd political move exhibiting confidence of someone well in control of the party and parliamentary group and who by the strength of his character is capable of overcoming any internal resistance in the nomination process. His decision is good for the nation and, to put it mildly, does not do the PN any harm either.

The nation benefits being unified through broad acceptance of the person who will occupy the highest post in the national hierarchy carrying substantial moral suasion authority but practically no executive powers. The PN benefits also in less obvious ways.

Having won the last general election with a wafer thin relative majority, the PN needs to appear making some concessions to the opposition in the appointment of persons to positions of national status. By picking a President from the opposition’s crop, the PN can claim having settled this electoral bill without in any way impairing their space for executive manoeuvring throughout the rest of the legislature. It also lifts from the opposition ranks a growing voice of influence, a person who was the delegates’ second choice as the party leader and a source of advice and support for the new Labour leader in his mission to overcome the considerable resistance for internal change to render the party electable again after a wasted decade.

Dr Muscat’s quick acceptance is symptomatic of a person growing well and fast in his leadership position. To succeed, Dr Muscat has to take decisions which disappoint those who helped him gain leadership at such a young age. I suspect some of the party seniors that sponsored his appointment did so in expectation that they can continue to preserve influence and in the process protect their own legacy.

Muscat’s over-riding influential pockets of internal objections to Abela’s nomination, shows the man has his vision firmly on the future and is confident enough to risk alienating those who put their own personal legacy ahead of the party’s best interests. Just imagine what poor image Labour would have made of itself if it even hesitated about its support for Presidency to one of its own, especially one who was the delegates’ second choice for party leadership as recently as last June.

Rather than fighting over past legacies, Muscat needs to focus his energies on re-inventing Malta’s political left. Like many of its European peers, Malta’s PL remains prisoner of its past, obsessed with anachronistic ideology and overly reliant on trade union support. Often PL has been obsessed with protecting personal legacies rather than extending opportunities to society’s outsiders. In so doing it has allowed the PN to occupy the middle ground and to brand themselves as fresh and fashionable. The PN has stolen the PL’s clothes and have been broadening their appeal consistently for three decades.

Muscat’s PL must provide solutions for tomorrow’s problems rather than waste energy defending past ideology. Chiefly it must make it its policy to protect people not simply their jobs. It must acknowledge that the most successful economies that also protect social harmony, are the Nordic models that permit employers to hire and fire employees relatively freely but only in the context of substantial state support to those laid off and private sector contribution to retrain employees they lay off.

Muscat’s PL has to show it can succeed by rendering our economy capable of winning in the globalisation challenge, that it rejects the uglier forms of nationalism and distinguish itself by being an enthusiastic champion of the European Union contributing to shape its vision for integrating further countries into the Union even if this means more internal flexibility and opt-outs to avoid consensus sclerosis.

Muscat’s PL has to convince that it has better credentials on the environment and that it can be more effective in making the public and the private sectors work together to make a greener environment economically viable.

Finally Muscat’s PL has to make efficiency the hallmark of whatever it does. The State does not have unlimited resources so it can only socially support those who really deserve and at a degree that truly makes a difference to the under-privileged, if the State uses its resources at a high level of efficiency. This applies in education, in health, in the civil administration as much as in security, law and order.

Denied of Abela’s internal support and advice, these objectives would become harder to achieve. The country’s gain is Labour’s loss. But Muscat’s performance so far gives confidence that he can overcome internal resistance and keep his eyes clearly set on the objectives that truly make a difference; on the objectives he must achieve to re-invent Malta’s political left; on the four E’s – Employability through education, Europe, Environment and Efficiency.

Sunday, 11 January 2009

An Obvious Choice for President

11th January 2009

11th January 2009
The Malta Independent on Sunday
The new game in town is guessing who will be the next President of the Republic when Dr Fenech Adami’s term comes to its natural conclusion in spring.

We have had outright suggestions or mere speculation involving names ranging from retired and still active politicians, a philosopher poet, a former international judge, a former ombudsman and others. Most are worthy of serious consideration but frankly there is an obvious choice that somehow has escaped everybody’s attention.

Before revealing my suggestion let me list the criteria on which I made my selection. The person for the honourable post of President has to be a figure of national stature. This narrows the selection from over 400,000 to barely a 1,000.

The person has to be of mature age at the end of a career that made him a national figure and at an age that will permit the person to slip easily into retirement once his/her term as President expires. Surely we need ex-Presidents to behave in their retirement in a manner that is decorous of their status, avoiding involvement in commercial or political activity and limiting any public expressions purely to noble philanthropic causes. This reduces the selection to a mere few hundreds.

The person has to have wide acceptability across a broad spectrum of society. He has to represent the whole nation. Dr Fenech Adami’s appointment was highly criticised at the time as inappropriate coming hot on the heels of 27 years as leader of the Nationalist Party and holding the position of either Prime Minister or Leader of the Opposition. Involvement in politics at such high level renders the figure divisive by nature and rather unrepresentative of former political opponents, which form approximately half of the Maltese nation. In fairness, it must be said that for all prior reservations, Dr Fenech Adami has discharged his presidential duties with full dignity and honour. In the process, his performance challenged the concept that a former high-level politician would be inappropriate for a unifying Presidency.

So those are my three criteria for selection: national status, mature age, and broad acceptability.

I can see no candidate that fits these criteria better than Dr Alfred Sant former Leader of the Labour Party and former Prime Minister.

As to national status, there is no doubt that Dr Sant scores more maximum points than any other candidate from outside the political stables. As to age, Dr Sant will receive his kartanzjan next month. He comes without any business or commercial connections and it is perfectly obvious that after a presidential term at age 66, he will have no desire to re-involve himself in active politics. His scores maximum points on this second criterion too.

My suggestion probably raises eyebrows in so far as the third criterion of broad acceptability is concerned. It will find resistance from those who feel that this time we should look outside the political box when we choose the next president. I feel that Dr Sant still scores very high points on the concept of broad acceptability and, following the experience with Dr Fenech Adami’s presidency, I think we can wait at least another term before considering a president from outside the political crop.

Dr Sant is not merely a politician. He is an intellectual, an established writer and probably one of the most academically intelligent persons around. Even though his political performance has not been stellar, in the sense that he spent 14 of the 16 years in Opposition when he was Labour leader and in the process losing three of the four general elections he contested, he must be credited as the person who was most instrumental in bringing maturity and calmness in the way we do politics.

Labour will obviously endorse Dr Sant’s nominations with open arms, probably with enthusiasm. After four consecutive terms where the presidency was occupied by former stalwart PN personalities, Labour feels it would be a fine gesture, in recognition of the fact that Labour command a very robust minority which is only a hairline below the PN’s relative majority as expressed in the March 2008 election, if the PN government were to offer the presidency to a Labour personality. After all, the presidency carries no executive power and will in no way prove an obstacle in the execution of the electoral mandate. When the late Paul Xuereb carried on as Acting President in the first years of the PN legislature of 1987 – 1992, the government functioned as well as it would have if the President were a normal PN selection.

Dr Sant’s nomination would provide space for a new green shoot among Labour’s parliamentary candidates, projecting a better image as a party with solutions for the future rather than a legacy-baggaged backward looking lot.

This week Dr Sant wrote a rare piece in l-orizzont, which proves that he quickly got infected with what I call the curse of Labour’s ex-leaders. The curse where Labour ex-leaders rather enjoy their retirement in silence, allowing space and time for their successor to shape the Party in his own vision, create obstacles in an effort to defend their legacy. Dr Sant criticised the independent report commissioned by Labour to analyse the third consecutive general election defeat under his leadership and repeated past claims that the narrow defeat is all due to the government’s abuse of its power of incumbency and one need look for no further reasons. Dr Sant does not explain why there was a smooth change of government in 1987 and 1996, in spite of substantial power of incumbency of the sitting government, and takes no account that long tenure of power brings with it liability of incumbency and not just its power. Often the liability is greater than the power.

Dr Sant’s election to the presidency would save Labour further embarrassment from ex-Leaders bent on putting defence of their personal legacy ahead of the party’s general interest. PL leader Dr Joseph Muscat commented with clinical precision in reacting to his predecessor’s outburst. “The country is facing new challenges and the answer to these challenges cannot be the failed solutions of the past.” It was as close as he could get to tell Dr Sant to shut up in diplomatic speak. Dr Muscat is growing impressively in his role as PL leader, better than my best expectations. This week he grew taller still.

Why should the PN also accept Dr Sant’s nomination even if with muted enthusiasm? It’s all a matter of gratitude. Nobody has given the PN more than Dr Sant did. Nobody has given the PN three election victories, which Labour could easily have won were it not for Dr Sant’s failed policies. In 1998 Dr Sant threw away a mandate when he compromised his parliamentary majority by publicly denigrating Mr Mintoff. In 2003 Dr Sant forced the electorate’s hand to vote him into Opposition when he delivered the choice of either Labour or the EU. In 2008 he stayed in position even though he knew he was the PN’s best asset, so much so that Labour campaign strategists would not dare put their leader’s face on a party campaign billboard.

The PN owe Dr Sant the presidency. No one is better suited for it.

Friday, 9 January 2009

The Challenge is Now


9th January 2009

The Malta Independent - Friday Wisdom

 Two years ago almost to the day I had titled this column ‘The challenge comes after’. There I had stated that:
“The true challenge for making success of the euro will not be 2007. It will have to be a few years down the road when we can draw some conclusion about the success or otherwise of our euro project. Unlike what many might think, the euro challenge is not the preparations for smooth changeover, which will be largely forgotten a few weeks after the event. It is the process of the unfolding years after the event that will decide whether the euro has enabled us to accelerate the restructuring in order to preserve our competitiveness.

2007 is pretty much a transitory year. Being the last full year before the latest date for holding fresh elections, governments tend to go soft on the restructuring process. Such issues like restructuring of the health services and a thorough overhaul of our fiscal system will have to wait till after the next election.

All in all, therefore, 2007 will be a cruising along year. The real challenge comes after. Making success of our joining the euro depends on our determination to continue restructuring to avoid waste, as is currently inherent in our public services, and accepting that there is no such thing as a free lunch.”

By extension of this argument, the real challenge of the euro is now. How are we shaping up to face it?

Many have made the argument that our being in the euro monetary system has protected our banking and financial system, and by implication our general economy, from Icelandic type of financial disasters and has spared our government from any need for significant intervention to stabilise our banking system.

I find these claims exaggerated, if not inappropriate. While being on board a stable large ship adds comfort when the sea turns stormy, the real comfort is not being caught in the eye of the storm. Ireland is a founder member of the euro system but because its regulators allowed its banks to take imprudent over-exposures, it practically had to re-nationalise its banking system. Even Germany itself had to intervene to save its regional banks that had sought additional yield on their investment portfolio and in the process had built exposure to the US sub-prime mortgage market.

I maintain that what has preserved stability in our banking and financial systems, rather than our being euro members, is our thrift culture and our conservative banking system where all bank investments and lending are financed by retail deposit with money to spare over and above legal reserve requirements. This priceless endowment should be protected and cultivated.

I am developing cold feet seeing foreign financial institutions using the freedom granted to them by the EU single passport rule, plugging aggressively into our savings pool by offering attractive rates on deposit products written in man-sized digits on billboards. Local authorities should conduct meaningful information dissemination on the difference in rating of the deposit institutions pitching for local deposits and the extent and limits of the deposit protection insurance offered for such products by foreign regulators under whose licence it is possible for such non- Malta registered banks to compete with locally regulated deposit institutions.

Arguing that our economy has been spared from international financial turmoil is wishful thinking. Being the open economy we are, there is no way that we will not be affected adversely by the recession taking hold internationally. Our tourism numbers have been sinking since October and the outlook for 2009 appears grim especially from the UK market where EUR based holidays have become too pricy in GBP terms given the sharp fall in the foreign exchange value of the Pound Sterling. Our factory order books are getting shorter and price competition will seriously erode trading margins. Our property market has cooled down and unless given some macro-economic stimulus could well slip into a dangerous coma.

The challenge of the euro is therefore ahead not behind us. When things around us are getting tough, it is those who have restructured that stay competitive enough to win even in a shrinking market. Italy, Greece and Ireland are suffering as their unit labour cost has increased by 20-30 per cent since their euro entry whereas Germany through its successful restructuring has achieved efficiency gains large enough to keep its unit labour costs on the same level it was in 1999.

Since we joined the Euro we have done little or no restructuring. 2008 was an election year and this inevitably slows down any restructuring process. The only real change we have seen is the phasing out of subsidies on energy and bread and indeed in the case of energy government has probably gone from one extreme to another and will hopefully right the pendulum in the middle during the course of 2009.

But we have seen no real restructuring to render our expensive health services sustainable. We have had no overhaul of our fiscal system leading to a reduction in marginal tax rates moving hand in hand with solid improvements in tax compliance. We have seen no serious attempt to cut the waste in our public service employment. These are the real challenges which could make our euro experience a real success. I finish off just as two years ago: “The euro is certainly no free lunch. It is a veritable challenge”.

Friday, 2 January 2009

A Healthy New Year ZIRP

2nd January 2009
The Malta Independent - Friday Wisdom

2008 was the year that was. While most are probably happy to see its back as it walks out of the door into history books, I am confident that in the due course it would be re-evaluated as a landmark year that brought about real change, the benefit of which will only be visible in the fullness of time.

The financial crisis is painful but it is a cleansing process from the excesses of high finance and back to basics sort of structural adjustment. This should form a better basis for sustainable growth.

The election of Obama as the 44th president of the United States broke all the rules of accepted convention. It is a victory for non-conformism as the US electorate got electrified by the message of change and disregarded the unconventional superficialities that Obama came all wrapped up in, being an Afro-American without much Washington experience and being the first post baby-boomer to reach such high office.

2008 was not shorn of geo-political instability including events of terrorism and war. Painful and undesirable as these are at the point of their occurrence, they do in fact offer prospects for solutions to deep rooted problems.

The sharp spike in the price of oil followed by a sharp fall, to almost unsustainable level, could have considerable long-term benefits. The spike has probably imprinted in consumers’ minds, in a manner no educational programme ever could, the need to change their energy consumption patterns. It has also facilitated governments’ job to adopt policies taxing energy use and crediting conservation.

The terrorist attacks in Mumbai have been dramatic and condemnable. But for all the posturing, India and Pakistan have behaved rationally in not allowing such event to raise tension on the Kashmir border to go beyond tipping point. Could these events lead Pakistan to take more seriously the need to control Muslim fundamentalism on its borders with both India and Afghanistan?

The hostilities currently underway in the Gaza strip are extremely sorrowful. Hamas rocket attacks on Israeli civilians and Israel’s incommensurate reaction are both condemnable. But in the end something had to happen to shake the status quo so that the Palestinians do something to patch up their internal divide between Hamas and Fatah and for world to put pressure to bear for progress on a final status two state solution.

2008 was the year of financial turmoil, of mega bank bailouts and of the return to Keynesian style government intervention to stabilise the market following catastrophic failure of free and loosely regulated markets. 2009 will likely be the year of increasing unemployment and of the ZIRP. That is the acronym for Zero Interest Rate Policy. Monetary Authorities are either at or cruising towards zero interest rates in an effort to smoothen the recession and avoid the risk of its morphing into a full scale depression.

2009 will be the year which will give a real test to the structure of the euro single currency monetary system following its highly successful first decade. Claims that the currency zone would fall apart or would be an unstable soft currency have proved groundless. For all the pain of undergoing economic restructuring without having the possibility to adjust the external value of the currency, there are many countries planning and accelerating the process to join the system including previous doubters as Denmark and Sweden whilst none of the present members, for all their ouches, are seriously contemplating leaving it.

Still, I think the real test for the euro is yet to come. The first ten years were relatively free from major economic turmoil, and evolved in the context of low inflation and high economic growth. The going will be harder now that we are heading into a recession and with constituents economies registering highly divergent record of efficiencies through restructuring. Countries like Italy and Greece, with high deficit and public debt, will find it hard to compete with the same currency used by Germany who restructured so successfully that efficiency gains means that its unit labour cost is the same today as in 1999 while Ireland, Italy, Spain, Greece and Portugal are experiencing unit labour cost increase of between 20% and 30%.

Now that the financial turmoil is forcing operators to price risk more correctly we are seeing great divergence in the interest paid for the same bonds in euro issued by Italy and Greece compared to Germany. If Italy and Greece now loose the euro benefit of low cost public sector financing, they will have either to seriously restructure or risk default on their sovereign debt. Without economic growth to oil the wheels of the monetary union these problems will have to be faced for the euro to do as well as it has done in the first 10 years.

Given that we have a liquid economy where all public sector debt is domestically financed, we do not have the same pressures of Italy and Greece even though we are also lagging behind in the due restructuring of our economy. And this is where health comes in.

Politicians feel good about themselves giving re-assurances that the public health service will remain forever universally free, in spite of exploding operational costs, following a massive capital investment in the Mater Dei Hospital. Yet realism should force us to accept that unless re-structured, free universal health services will lead to its gradual degradation forcing those who can afford to seek recourse to private health services and those who cannot just to lump it.

A healthy new year means we have to start serious discussions about launching a compulsory basic national health insurance scheme leading all hospitals, public and private, to offer competitive commercially based services. Social responsibility will then provide for those who truly cannot afford to pay the relative insurance premium to be socially assisted by the State to do so.

I wish you all a healthy new year.