To read/ 2 August 2016

The Dangerous Imbalances Threatening the Global Economy

Review of Yanis Varoufakis’ The Global Minotaur

by James Foye

Amid a vast and ever-expanding range of books offering explanations and prescriptions for the world’s economic malaise, this one stands out as an instant classic. While most economists of his generation were moving towards the right, Yanis Varoufakis embraced Marxism. Following a career as an academic economist, he was appointed Greece’s finance minister, spending six tumultuous months leading negotiations with the nation’s creditors. Varoufakis’ casual dress sense and trademark leather jacket cut an incongruous sight in a sea of traditionally-attired counterparts, and he achieved a level of celebrity unique among finance ministers, aided by the newsy negotiations of his Greece to extract bail-out money from the EU. The book is certainly written from an idiosyncratic perspective: after all, few other radical dissenters have held the office of finance minister. Furthermore, it is written in Varoufakis’ characteristic blunt yet charismatic style, which makes it the most readable and thought-provoking of economics texts.

The book begins with Varoufakis carefully tracing the path followed by the global economy since the end of World War Two. America’s emergence from the war as the world’s creditor nation ensured it of the hegemony it still enjoys today. It was, therefore, of little surprise when America assumed the dominant position in the negotiations to rebuild the international financial system, at the Bretton Woods Conference in 1944. As it controlled two-thirds of the world’s gold, America’s negotiators insisted that the new financial order should be based upon both the dollar and gold. The currencies of the other Bretton Woods signatories would be convertible to dollars at a fixed rate, and the dollar was fixed to gold at a rate of 35 dollars an ounce. In the following years, the USA’s status as a creditor nation became greatly diminished, firstly in the wake of President Johnson’s Great Society program, and then by the escalating costs of the Vietnam War. In 1971, President Nixon announced that he was suspending dollar convertibility into gold. This marked the end of the Bretton Woods era. Henceforth, we have lived under a system that allows currencies to float.

Since the collapse of the Bretton Woods agreement, America has run persistently increasing trade and finance deficits. The central thesis of the book is that the financing of these deficits has created an unstable global monetary system which, Varoufakis contends, led to the financial crisis. To illustrate his argument, Varoufakis employs a clever allegory, using the ancient Greek mythological character of the Minotaur. Deficits have to be financed and, just as the Cretan monster was paid a tribute of maids and youths by the Athenians, the USA’s twin deficits (the Minotaur) have been financed by vast capital flows from the rest of the world.

So why have other countries shown such a remarkable willingness to finance America’s deficits for the last 45 years? The progressively-increasing imports associated with America’s ballooning trade deficit ensured a vast and expanding market for the export-driven economies of Germany, Japan and, more recently, China. The exporter nations then reinvested the proceeds from their trade surpluses in dollar-denominated assets – with much of the funds flowing through Wall Street – allowing America to maintain ever-increasing deficits, which financed further consumption of imported goods: a process Varoufakis defines as the “global recycling mechanism.” This was the engine of the post-1971 global economy. It seemed a virtuous cycle, with each iteration resulting in increased imports to the USA, meaning an American population happily consuming more, Wall Street banks recording record profits, while the economies of China, Germany, and Japan were boosted by increasing exports. Virtuous cycles require a positive feedback mechanism and, in this case, it came in the form of a continual increase in the USA’s twin deficits. In the decades since the breakdown of the Bretton Woods system, the imbalances have become so huge that they have resulted in a system that has is now dangerously out of control.

Varoufakis blames Greece’s current predicament squarely on the “twin peaks” of America’s trade and capital inflows, and considers his homeland to be one of a long list of victims of an unstable global financial system. Regardless of the merits of Varoufakis’ views on the workings of the global economy and the single currency’s design flaws, the book’s arguments lack balance, as the author fails to mention Greece’s home-grown problems. The widely-held concerns about the country’s bloated public sector, generous pensions and poor tax collection are overlooked. Furthermore, Varoufakis ignores the fact that the integrity of Greece’s leadership has been called into serious question. Accession to the Eurozone requires applicants to have a budget deficit of less than 3% of the GDP. In 2004, Greek finance minister, George Alogoskoufis, admitted that “It had been proven that Greece’s budget deficit never fell below 3% since 1999 [the year Greece became one the Euro’s founding members].” The announcement prompted former ECB Chief Economist, Otmar Issing, to claim that “Greece cheated to get in.” There were many who felt that Greece’s lack of candor, vis-à-vis its fiscal position, added another, more sinister, dimension to the nation’s predicament.

As the world entered its greatest downturn since World War Two, commentators were left questioning the wisdom of the economic orthodoxy. The tepid recovery has only led to a further erosion of confidence. The stage is clearly set for someone different to offer new and refreshing ideas, and Varoufakis is certainly not shy about rising to the challenge. The book will be highly-appreciated by readers looking for a provocative alternative narrative of the situation that the global economy has been facing since the recession of 2008.

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AUTHOR

James Foye

holds a master's degree in investment management from Cass Business School, London and a PhD in economics from the University of Ljubljana. After spending nine years working in financial markets, seven of which were combined with his doctoral studies, James now teaches finance at the Faculty of Economics, University of Ljubljana. He lives in the Slovenian mountain town of Kamnik in an apartment which his two cats are kind enough to let him share with them. He is an avid reader, traveller, and cat lover. 

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