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The Daily Reckoning

The pain of restoring investor confidence

Americans and Europeans have bailed out banks, run public deficits, and added to debts. What will it take to restore investor confidence?

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As usual, Krugman sees the superficial mechanics of the system, but misunderstands its deep moral structure. Pain is for losers, he seems to say, as if enlightened economists could rid the world of suffering forever.

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Sensible, solid finances bring forth long-term investment, capital formation and real growth. But not without some pain. Everyone makes mistakes; owning up to them is always painful. Ask Dominique Strauss-Kahn. By taking some pain now economies will be able to rebuild confidence…and thereby encourage greater investment and prosperity in the future. That’s the argument in favor of austerity measures. After all, banks and governments of the European periphery states borrowed too much and gambled too recklessly during the boom years. They need to pay for those mistakes before their economies can build on a more solid foundation.

Krugman ridicules the idea. He believes there is no payoff to austerity. He must think the ‘austerians’ want pain for its own sake.

“The confidence fairy hasn’t shown up yet,” he writes.

What does he expect? You don’t get confidence overnight. Besides, what have the Europeans done to deserve it? Like their American counterparts, they’ve generally listened to simpletons like Krugman. They’ve bailed out their banks, run public deficits, and added to their debts.

And now ‘confidence is plunging,’ says Krugman. Well, yes. Investors don’t know what to expect. Will there be another round of bailouts? A ‘soft default’ by restructuring and ‘re-profiling’ debt? Will Greece be booted out of the EU? Who could have confidence in this?

Krugman worries that the ECB will show some backbone – refusing any more bailouts to Greece. Then, “it’s all too easy to see how it could start financial dominoes falling across Europe.” That would be a disaster to the Nobel winner. Just like the failure of Wall Street banks…and Fannie Mae…and Freddie Mac…and GM…would have been disasters.

The man learns nothing. Central banks have spent the last 4 years trying to prevent a reckoning of the worlds’ debts. And the debts just get larger.

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