A Big Surprise: Bhagwati Defends Free Market Economics

Jagdish Bhagwati is a poster child for multiple intelligences. He is famous for having manipulated the equations of neoclassical trade theory with consummate skill, but whenever he jumps into a verbal argument he makes embarrassing errors of reasoning and commits the greatest sin of the disputant, failing to understand the views of the other side. When you read his screeds, you wonder why anyone pays attention.

So the first response I had to his latest outburst, Feeble Critiques: Capitalism's Petty Detractors, was to delete it. But then I thought, maybe there is something to learn from a critique of this guy—he can’t be that vacuous, can he? So I read it again. No, he is that vacuous, but now that I’ve invested the time I feel I have to say something about the experience.

Bhagwati is defending “capitalism”, by which he means a primary reliance on free, unconstrained markets in national and international affairs. He seems to be reacting especially against Joe Stiglitz, who has written widely on the inadequacies of neoliberalism, especially in the wake of the ongoing economic crunch. In typical Bhagwati fashion, he introduces his nemesis by mentioning that he shared a Nobel prize with George Akerlof, and then spending several sentences praising the latter to the skies, with nary a mention of the former. (I’m a big fan of Akerlof, but Stiglitz’ innovations in economics are of the highest order.) In other words, pure pettiness.

Then Bhagwati gets down to argument, sort of. He says that the current crisis is just a temporary speedbump on the path to universal riches—but, of course, to simply assert this is to assume what needs to be proved. He should read up on “begging the question”. (Perhaps his background in trade theory, a giant piece of question-begging in its entirety, has preconditioned him in this respect.) He invokes China and India as examples of countries that have adopted liberalism and prospered, without being aware that his critics dispute this. (To regard China as “liberal” is bizarre, and Dani Rodrik has written persuasively on why liberalization should not be seen as the basis for India’s accelerating growth rate.)

There are many pixels spilled over the effort to tar all critics of neoliberalism with the experience of the Soviet Union: you are either with us or with the Stalinists, for free markets or for central planning. What this has to do with someone like Stiglitz I can’t imagine. Add to Bhagwati’s reading list Whither Socialism?, Stiglitz’ post mortem on the formerly-existing mode of production.

What about the claim that trade competition from the poor countries, and especially China, have depressed wages in the US? Bhagwati cites his own work and that of two other authors, but does not given even a brief explanation for why his results should be regarded as a refutation of those who come up with something else. (He does make an ad hominem swipe at Paul Krugman: K’s paper on trade and wages was commissioned by Larry Summers, and, well, you know about him.) Homework assignment: look up “cherry-picking”.

We learn that the Washington Consensus was not imposed, but was taken up “with gusto” by India, China and Russia. This gusto business is a strange descriptor for the ex-USSR, as is “liberalism”, but the main problem is that critics of the Washington Consensus never claimed that China or India were bullied—rather, that most of Latin America, sub-Saharan Africa and southeast Asia were. To put it simply, debt was the lever, and China and India were the only two developing countries not laboring under massive debts to western banks (thanks to the policies Bhagwati deplores).

A few paragraphs later, Bhagwati launches into an attack on financial deregulation. It was an intellectual error, he says, and reflected not only cognitive capture by what he calls the “Wall Street–Treasury Complex”, but also “old-fashioned lobbying”. I was starting to warm to him, but then he attributes regulatory failure to leftists and protectionists. Hank Paulson, you see, is an “ardent environmentalist and graduate of liberal-leaning Dartmouth College” (guilt by matriculation) and Charles Schumer (the only politician identified by name) is a serial Japan-, then India-, then China-basher. If you’re Bhagwati, this proves financial deregulation was a conspiracy by the forces opposed to free markets.

In case you were wondering, it was not the private sector that gave us subprime mortgages either. This was a conspiracy hatched by populists within the government, who wanted to maximize home ownership. Granted, there have been many public programs that unwisely pushed people into mortgages who should have put their scarce savings somewhere else, but surely the folks at Countrywide had something to do with it too, not to mention the securitization bandwagon that was entirely of Wall Street’s doing. And is Bhagwati aware that housing bubbles have had a tendency to appear in the buildup to financial crises throughout modern history, or that there have been recent housing meltdowns in other countries (Spain, Ireland, England) with different sets of laws and policies? Add Reinhart and Rogoff to the man’s bookshelf, and maybe also Chapter 3 of the IMF’s latest World Economic Report.

Bhagwati concludes with a call for charity on the part of the rich and a safety net for the poor. This will keep the population pacified, he hopes, so that economists of a critical bent cannot “enjoy a success that they do not deserve.” Do I hear a rumbling among the ranks? Increase their rations and they won’t cause us any trouble....

On third thought, deletion would have been the best choice.

Reporters Don’t Need to Know Arithmetic....

to get a job at the New York Times. In an article about broadband adoption, after a reference to Finland’s promise to extend 100 Mbps service to its entire population, we read:

Finland occupies a compact 130,558 square miles, versus more than 3.5 million for the United States. The economics of broadband deployment are greatly affected by physical distances.

Right away something smelled fishy. As anyone who has been there will know, Finland can hardly be described as “compact”; it’s a land of wide open spaces, many of them inhabited by a fierce, warlike breed of mosquitoes. This may be why sitting indoors in front of a computer screen is the national pastime. But I digress.

Finland is smaller than the US but has fewer people. In fact, while the land area of the US is 30 times that of Finland, the population ratio is about 60:1. In other words, average population density is about twice as high in the US as Finland. Perhaps there are regional variations in density that offset the overall average for cost calculations, but that would need to be demonstrated, and in any case it doesn’t follow from the data given in the article.

OK, comparisons between the price of broadband in the US and Finland are a bit esoteric for the purposes of this blog. But the same standards are applied to economics stories with depressing consistency: as Dean Baker has shown, a large portion of the reportorial staff at our leading newspapers have problems with the concept of a denominator. (“Congress voted an extra $3 billion for program X, an exorbitant sum that will surely bankrupt our great-great-grandchildren....”)

Pension Fund Fraud: The Wall Street Journal vs. Unions

The Wall Street Journal posted a story about Orange County's pension fund, gloating that it outperformed the supposedly union dominated California state pension fund: CALPERS.

Jim Carlton and Tamara Audi. 2009. "Orange County Dodged Bullet by a Avoiding Calpers: Southern California Locale Decided to Stick with Its Small Pension Fund in 2006." (16 October): p. A 4.

Orange County had a chance three years ago to join the California Public Employees' Retirement System. Instead, county leaders stayed with a small Orange County pension fund, and now they feel vindicated for their stay-local strategy. While Calpers's investments went on to lose almost 30% of their value during the crash of financial markets last year, the Orange County Employees Retirement System, or Ocers, lost only 21%.

Now that Calpers has revealed that a former board member allegedly reaped $50 million in fees for arranging investments that could saddle state taxpayers with hundreds of millions of dollars in losses, those in Orange County who once lobbied to ditch Ocers are even happier their side lost the debate.

Calpers, whose board is dominated by union ties, has invested much more aggressively in equities.

In fact CALPERS lost big by investing in real estate and hedge funds. Also, Orange County had a curious investment history, when in 1994, its treasurer, Robert Citron, lost heavily investing in derivatives, which he did not understand. The county went bankrupt.

Of course, treasurers were expected to make big bucks as a way to keep taxes down. This sort of pressure still continues.

CALPERS's losses are also worth another look. Why did CALPERS get involved in so many risky ventures? I once confronted a member of the board, asking why they were taking on so much risk. I thought that they were just being foolish, but I had not thought everything through.

Here is a snippet from the Financial Times regarding CALPERS's investment strategy:

Calpers, for example, has invested $21bn in private equity and committed another $22bn. While last year its private equity investments had fallen by nearly a third, Joe Dear, its chief investment officer, expects to allocate more of its assets to private equity. Calpers, like other state pension schemes, needs the higher returns available from private equity if they are to meet the 7 to 8 per cent returns required to fulfill promises to scheme members. But a lot rides on cutting the charges that eat into returns.

Burgess, Kate and Martin Arnold. 2009. "Transparency Vital to Investors' Lobby." Financial Times (29 September).

Part of the problem is that the state does not adequately fund CALPERS -- another self-defeating policy. But the Wall Street Journal suggests that the problem is unions.

Ideologically Loaded Rhetoric of Mainstream Economics

A half-century ago, John Kenneth Galbraith had a marvelous description of the shaping of language regarding crises.

Galbraith, John Kenneth. 1958. The Affluent Society (Boston: Houghton Mifflin, 1998).

38: Marx's reference to the "capitalist crisis" gave the word an ominous sound. The word panic, which was a partial synonym a half century ago, was no more reassuring. As a result, the word depression was gradually brought into use. This had a softer tone; it implied a yielding of the fabric of business activity and not a crashing fall. During the great depression, the word depression acquired from the event described an even more unsatisfactory connotation. Therefore, the word recession was substituted to connote an unfearsome fall in business activity. But this term eventually acquired a foreboding quality and a recession in 1953-1954 was widely characterized as a rolling readjustment. By the time of the Nixon administration, the innovative phrase "growth recession" was brought into use.

I am presently reading Reinhart and Rogoff's new book.

Reinhart, Carmen M. and Kenneth S. Rogoff. 2009. This Time Is Different: Eight Centuries of Financial Folly (Princeton: Princeton University Press).

The book is an encyclopedic study of crises through the lens of monetarism and public finance. The authors also casually bandy about the expression, "financial repression," for any policy that inconveniences the financial system.

I wonder what the academic economics community would think of a book that routinely described economic policies in terms of labor repression. I suspect that no matter what the quality of the book might be such language would automatically convict the author of unacceptable bias.

Did Lawrence Kudlow Say That President Obama is Doing a Great Job?

No - this quote:

I have long believed that stock markets are the best barometer of the health, wealth and security of a nation. And today's stock market message is an unmistakable vote of confidence for the president.

was written back on June 20, 2007 when George W. Bush was the President. Then again - Paul Krugman has had fun with it on a couple of occasions.

Of course, most well informed people would argue that the stock market is not the same thing as the labor market. I guess Mr. Kudlow could distance himself from his quote back then by acknowledging the error in his old thinking.

Senator Snowe on the Public Option

Eric Zimmerman watches MSNBC's Morning Joe so we don’t have to:

"The public option would be problematic," Snowe told MSNBC's Morning Joe when asked what changes to the bill could cost Democrats her vote. "As I've said I'm against a public option because I think the government would be another vast new bureaucracy, and also create a disproportionate advantage in the marketplace. And inevitably government's not going to do it better."

Does this make any sense at all? I know conservatives love to think government run organizations are horribly inefficient. But if a government run insurance company is not going to provide lower cost health insurance – how does the Senator think that it will have an advantage in the marketplace? And even if the government run insurance company does provide lower cost health insurance – isn’t this what we’d hope from competition?

God turns 100

Today is 100th anniversary of the birth of Art Tatum, who was certainly the best jazz pianist to ever walk the earth. I lifted the title from the name of the thread on a jazz e-mail list group I subscribe to. It comes from a story told about Bud Powell - another hall-of fame jazz pianist. He was playing in a club on 52nd street when Tatum walked in the door. Powell stopped cold, right in the middle of his solo, and said, "Ladies and Gentlemen, God is in the House."

Happy Birthday, Art!

Books vs Articles: The Flaying of Elinor Ostrom

I am not going to link to the obnoxious economicsjobmarketrumor blog, where lots of grad students supposedly seeking jobs have been savagely trashing Elinor Ostrom on all kinds of grounds, most of them involving that they have not heard of her and that she has not published articles in top four journals. Her important book that was key to her prize, Governing the Commons, 1990, has been riduculed because presumably unlike an article in the AER, it did not go through a "peer review" process. Wow. Somehow the fact that it has been cited over 7000 times, more than all the citations of some economics Nobelists, including Stiglitz and Prescott, does not register with these dingbats (some of whom were pushing Nancy Stokey, "if you need to give it to a woman," whose citations barely exceed 1,000, but by gosh, she has published with Lucas in the JPE!).

I see this as a broader problem in the economics profession. In particular it calls to mind the tragic situation at Notre Dame University, where the original economics department is now being closed down. The original shot against it came some years ago when a dean wanted a grad program that was "highly ranked," with these rankings based on the publication rates in "top journals" being the key. A characteristic of that department all along has been a tendency for several of its most prominent members to publish more in books than in journal articles. The leading example of this is Phil Mirowski, and I have already argued here that I predict that, say, 30 years from now there will be more citations to his books, More Heat than Light, and Machine Dreams, than to the entire corpus of publications up to this point of the members of the new, self-labeled "neoclassical" department, even though some of them are publishing articles in the AER and so on. In any case, these silly criticisms of Ostrom seem to be of the same piece as the sort of arguments that have been brought to bring down the very fine Notre Dame department.

Child Labor Through the Strange Filter of Orthodox Economics

There is much to endorse in the innards of the argument made by Matthias Doepke and Fabrizio Zilibotti in their recent post on Vox EU. Yes, consumer boycotts and trade sanctions are a poor way to address the blight of child labor, and double yes, income transfer programs that pull poor families out of poverty and keep their kids in school are a proven remedy. But why is it that, whatever the question, the economically correct answer is always “Don’t mess with trade”?

Actually, the fundamental problem with consumer activism around child labor is that very few of the world’s child laborers work in the export sector, and even fewer are part of the value chain for branded products. The sad truth is that first world consumers who obsess about what to buy are mainly assuaging their own conscience and not doing a whole lot for the downtrodden. Whether such activism has more costs than benefits is dubious, however, despite the authors’ assumption-laden modeling exercise.

But let’s take as our starting point the observation that child labor is much more widespread and more harmful in poor countries than rich ones. Surely anyone concerned about the problem would be thinking about ways to reduce the burden of poverty. Unfortunately, global poverty is exploding in the wake of the current economic crisis, and this will make the problem of child labor—and child hunger, and child disease, and child death—far more severe.

This crisis has many causes, but none has been more fundamental than the unsustainable imbalances engendered by the very trading system we are instructed not to mess with. It turned out that flooding western markets with goods produced by extremely cheap labor depended on western consumers piling up a mountain of debt. These imbalances have now collapsed, and they will not be rebuilt. If we are to put globalization on a sustainable footing, we will most definitely have to mess with trade, so that it can grow on the basis of a more equitable pattern of demand.

One other item jumped out at me. The core argument of Doepke/Zilibotti turns out to be this:

In our analysis, we find that international interventions weaken domestic support for child-labour restrictions because they reduce competition between children and unskilled adult workers in the labour market. Unskilled workers then have less incentive to push for child-labour regulation.

When effective, trade sanctions or consumer boycotts move child workers from formal employment in the export sector to informal production, often in family-based agriculture. In the export sector, particularly in factories, children and adults perform similar tasks and therefore compete directly for jobs. In the informal sector, children and adults usually have different work responsibilities.

As it happens, I have actually conducted research into the potential competitive effects of child labor on adult markets. As far as I know, no one else has investigated this empirically. It turns out that children do not always offer higher profits to employers, but they often do, and this situation is not confined to production for export. Let’s not let a little evidence get in the way of their nice, neat theorems, however.

Prediction Markets Again Utterly Fail To Predict Econ Nobel

I made a lot of predictions about the Econ Nobel (noticed Williamson and said environmental, which Ostrom is, at least partly). However, one I made was that once again the prediction markets for the Econ Nobel would fail, and they have, spectacularly.

Ladbroke's had Fama as top at 2 to 1, followed by Paul Romer at 4 to 1, and Fehr, French, and Barro at 6 to 1. Williamson and Ostrom were both far down the list at 50 to 1.

The Harvard betting pool had as their tops in order: Jean Tirole, John Taylor, Paul Milgrom, and Martin Weitzman (who I said was likely, and was also in the top ten at Ladbroke's, as was Tirole).

Thomson Reuters had their tops as Ernst Fehr, Matthew Rabin (also in top ten of Ladbroke's) and William Nordhaus, also sort of on my list.

others mentioned in a Real Time Economics post included Christopher Sims, Richard Thaler, Oliver Hart, Halbert White, Thomas Sargent, Lars Hansen, and Peter Diamond. Neither of the actual winners anywhere in sight.

Neoconservative Idiocy: How An Unconstrained Lust for Profit and Power Implodes

I can understand the attraction of an unconstrained lust for profit and power, but I am puzzled by the stupidity of its practitioners. I'm presently researching the life and work of William Petty, more than three centuries ago. Petty was an avaricious land pirate, who is willing to move entire populations from one country to another and promoted wars in order to win favor with the government, but Petty was not stupid.

For example, Petty, who is trained in medicine, realized the economic benefits of a healthy population. He even called for clinics to care for orphans and poor children.

I was struck by a recent Wall Street Journal article that reminded me of Petty's intelligence. David Wessel reported on a paper from the Chicago branch of the Federal Reserve Board, showing how children's health care boosted test scores. The study itself pointed to a relatively obvious outcome, I wondered why so little attention has been paid to the economic payoffs from better health care -- especially in the mainstream media.

Here is a snippet from the articlet:

Wessel, David. 2009. "Wider Health-Care Access Pays Off." Wall Street Journal (8 October): p. A2.
http://online.wsj.com/article/SB125493500031971173.html#mod=todays_us_page_one

Federal Reserve Bank of Chicago Working Paper 2008-20

"Kenneth Chay of Brown University, Jonathan Guryan of the University of Chicago's Booth School of Business and Bhashkar Mazumder of the Federal Reserve Bank of Chicago ... (link) improvements in test scores of black teenagers from the South in the 1980s to improved health care they received as children after Southern hospitals were integrated in the 1960s. The bottom line, in a working paper circulated by the Chicago Fed, is this: "Improved post-neonatal health among blacks born between the early 1960s and early 1970s ... led to long-term improvements in the academic and cognitive skills of these cohorts as teenagers."

Then on Sunday Gov. Schwarzenegger vetoed two bills regarding higher education. One limited excessive administrative salaries during hard times and the other would have brought more accountability to the State University System and the University of California. Supposedly, limiting executive salaries in higher education would do a disservice to students. Presumably, if salaries were limited, students would like the opportunity to pay as much tuition.

Here again, William Petty emphasized the importance of tapping the potential of ordinary people.

Finally, I read an AP story, which describes how soldiers are dying because of weapons they carry to not function properly.

So what we have is government that demands we have excellent education to compete in the world. To do so, we can cut funding, as long as we are willing to smash teachers unions and force students to take endless multiple-choice tests. We praise our brave soldiers are carrying out our imperial ventures, but let war profiteers supply them with inferior materials.

William Petty, once accurately described as a great land pirate, would have immediately recognized the stupidity of our neoconservative leadership.

Well, He Did Say It Was A Caricature...

by the Sandwichman

Paul Krugman:

There was an old tradition of economics that focused on the origins and nature of economic institutions. This tradition was very influential before World War II.

But it proved not at all helpful during the Great Depression. My caricature version is that when the Depression hit, institutional economics, asked for advice about what to do, replied that well, it’s all very complicated, and has deep historical roots, and … Meanwhile, Keynesian economists, using very simple mathematical models, basically said "Push this button — we need more G".

My version -- still a caricature -- would go something like this: institutionalists, who "captured the powers of government during the first two terms of the Roosevelt administration" were quick to embrace Keynes's ideas. The policies of the New Deal were a mixture of Keynesian and institutionalist reforms. After the war, under intense pressure from business orthodoxy, the more radical implications of a Keynesian-institutionalist synthesis were played down (see the controversy over the 1947 Laurie Tarshis textbook) in favor of Samuelson's "apolitical" Keynesian-neoclassical synthesis. Institutionalists were thus recruited, absorbed, and demoted rather than competitively surpassed.

A Most Excellent Pair of Nobels

Bravo to the Swedes for selecting Oliver Williamson and Elinor Ostrom as econ Nobellers. (Nobellians? Nobelistas?) Williamson was on everyone’s short list; transaction cost economics is largely traceable to him. (Coase of course was already honored, but Williamson did more to develop and apply the germinal ideas.) Ostrom was a big surprise. She rarely publishes in economics journals (she’s officially a political scientist), and her approach is antithetical to mainstream economic thinking in almost every particular of content and method. The two make a balanced pair: Williamson uses institutional analysis to argue that hierarchy is needed if we are to uphold market discipline, and Ostrom uses it to support collective action. Much will be made of the fact that Ostrom is the first woman to win this prize, a true scandal that is not erased by moving from N=0 to N=1. It is revealing that this pioneer operates largely outside the realm of professional economics.

Incidentally, whether consciously or not, the Nobel committee has endorsed Paul Krugman’s point that, to move forward, economics has to abandon its obsession with mathematical elegance at the expense of genuine insight and usefulness. Not every economist has to be non-mathematically oriented as Ostrom and Williamson, but the discipline suffers if it cannot accord equal respect to those who do the sort of work exemplified by these two winners.

Really Bad Journalism About Europe

When I was a little kid I liked the picture puzzles that asked you to find all the mistakes—the dog with three ears, the plant growing upside-down, the mirror image that wasn’t a mirror image. Maybe that’s why I took a perverse pleasure in reading this thoroughly awful bit of “reporting” about Europe’s economic prospects. Of course, the problem in cases like this is never simply incompetence (although that has to be a factor), but also ideological zeal, which causes “serious” commentators to assume that, if there’s a problem, it has to have something to do with populist meddling with free markets.

So let’s see how many errors we can find:

Crisis Leaves Europe in Slow Lane
By NELSON D. SCHWARTZ and MATTHEW SALTMARSH

PARIS — Two years ago, Europe was growing more rapidly than the United States, and the Old Continent finally seemed prepared to tackle longstanding economic challenges like rigid labor markets, runaway government spending and a rapidly aging population.

But as Asia and the United States emerge from the global economic crisis, Europe appears likely to be the world’s laggard, threatening a return to the dark days of “Eurosclerosis.” Leaders who once spoke optimistically of fundamental changes aimed at enhancing productivity have turned to the more prosaic tasks of protecting jobs and avoiding painful political choices.

“Asia” (all of it?) and the US are emerging? Europe (all of it?) lagging? There is no statistical support at all for this sweeping generalization, and in any case it’s much too soon to tell.

“It’s worse than being back to Square 1,” said Gilles Moëc, a senior economist in London for Deutsche Bank.

That’s true for everyone.

And just when it is needed most, the political will to address Europe’s bigger economic problems seems absent, according to many experts across the region and around the world.

When he was elected president of France in 2007, Nicolas Sarkozy spoke of the need for a “rupture,” including the loosening of a highly regulated labor market to better compete in the global economy.

Excuse me: how can the world’s largest deficit country, or at any rate its journalists, lecture those with whom they have bilateral deficits? Some individual European countries have overall surpluses, some (like France) overall deficits, but none is as off the rails as the US. What better measure than the trade balance is there of the ability to “compete in the global economy”? And even if there were a problem on this front, why should we assume that the cause is excess regulation of labor markets? Those who are paying attention know that the trend of recent economic research has been against the rigid labor market hypothesis.

But now, “President Sarkozy has gone, if not 180 degrees, then at least 90 degrees in the opposite direction,” said Charles Wyplosz, director of the International Center for Monetary and Banking Studies in Geneva. “The things he talked about then still need to be done if we want to have growth, but the crisis has slowed some of the impetus for change.”

In Germany, Angela Merkel, who was elected last month to a second term as chancellor, has also avoided taking on the country’s powerful unions and its regional banks. She has embraced the “social market economy” and has insisted there is no alternative to relying on exports rather than consumers to drive growth.

OK, now we’re getting into really silly territory. First you tell us that Germany has to switch from exports to domestic demand, and then you say it has to attack the unions. I suppose this means that the surge of domestic spending has to come from the bosses. And why the swipe at the Landesbanks? They’re the main reason why Germany has the world’s most productive small and medium-sized firms. I guess they should stop financing capital equipment and switch over to playing shell games with securitized mortgages or some other clever avocation. Like our guys do it.

In addition, her government has come under withering attack from elsewhere in Europe for providing billions of euros in aid to keep the automaker Opel at the possible expense of workers in Belgium, Britain and Spain.

With Europe plagued by huge manufacturing overcapacity, other automakers are likely to suffer further losses. After surging this year on cash-for-clunkers incentives in many countries, car sales in Western Europe are expected to drop 5 to 6 percent next year, according to Credit Suisse.

Yes, cash for clunkers was a bad idea—there as well as here.

In Germany, where the automobile industry is as much a symbol as beer at Oktoberfest, Credit Suisse projects that sales to individual buyers will fall 21 percent, in contrast with an expected 18 percent increase in the United States.

A minor detail: the German auto industry depends primarily on exports; any surge in US demand will mean a corresponding surge in imports.

It is not just the auto sector that is threatened: analysts also contend that recent stress tests applied to the Continent’s banks were not as effective as those used in the United States.

The only folks who think the US tests were stringent are in the banking industry or the Obama administration. (Remind me again, what’s the difference?)

Despite losses on both American subprime debt and local loans in boom-to-bust economies in Spain, Ireland and the Baltics, “the banking system has not really been restructured,” said Nicolas Véron, a research fellow at Bruegel, a policy center in Brussels. As a result, Europe runs the risk of repeating Japan’s “lost decade” in the 1990s, when huge losses clogged bank balance sheets and inhibited new lending.

Certainly true, but also true of the US. Big writedowns are yet to come on both sides of the Atlantic. See the IMF estimates, for instance.

The slowdown is an abrupt reversal from the period leading up to the crisis. Ireland’s economy grew 5 percent a year from 1999 to 2007 and became known as the Celtic Tiger, while unemployment fell during sustained growth in Europe’s biggest economies, Germany and France.

Underscoring the new pessimism, new statistics released Wednesday showed a 0.2 percent contraction in the euro zone in the second quarter, worse than forecast.

“The Europeans are losing out,” said Simon Johnson, a professor at the Sloan School of Management at the Massachusetts Institute of Technology. “The Europeans are the biggest losers of the economic crisis, even though the home of subprime madness was the U.S.”

And the greatest challenge Europe faces is over-reliance on US trade deficits.

To be sure, the American economy is not out of the woods yet, either, with unemployment still on the rise, homeowners still burdened by mortgage debts and Washington offering few details about how it will cure its own huge government deficits.

But the euro’s recent surge against the dollar mostly reflects higher interest rates on the Continent rather than optimism about Europe’s prospects, and the stronger currency actually makes European exports less competitive globally.

The euro-dollar exchange rate is not an indicator of economic health for either party. It could reflect carry trade factors, as the article asserts, or the continuing effects of the US current account deficit (down but not out), or simply a return to the pre-crisis status quo, before the wave of panic that hit international capital markets.

Already, the euro zone’s share of world trade has slipped to 28 percent in 2008 from 31 percent in 2004, according to the World Trade Organization.

The share of world exports is a valid measure of economic vibrancy, but why would total trade, which can be swelled, as it is in the US case, by imports, indicate anything meaningful?

Economies in Spain, Ireland and Greece are all expected to keep shrinking in 2010, while the region’s economic powerhouse, Germany, ekes out a 0.3 percent gain, according to a bleak new outlook from the International Monetary Fund.

And there are signs that Europe’s anemic economic performance will translate into less political power. European countries had an outsize voice in the Group of 7, the world’s principal economic forum since the mid-1970s. But late last month, world leaders said that elite club would soon be eclipsed by the Group of 20, a much more global assembly that includes emerging economic giants like Brazil, China and India.

But this change is not occurring because European growth is slow, but because growth—or at least reserve accumulation—has taken off in a new set of countries.

Though symbolic, the shift from the G-7 to the G-20 crystallized fears that the world economy would actually be steered by what C. Fred Bergsten, director of the Peterson Institute for International Economics, calls the G-2 — the United States and China. “Ideally, it would be the G-3, but Europe doesn’t speak with a single voice and they can’t coordinate and function the same way the U.S. and China can,” Mr. Bergsten said.

That’s what the Lisbon treaty was supposed to deal with. If someone can sequester Vaclav Klaus in one of the CIA’s black sites for a few months (they could torture him by showing old newsreels of John Maynard Keynes), Europe might find its single voice after all.

What is more, the economic crisis has also paralyzed European efforts to come to grips with longer-term factors inhibiting growth, like an aging work force and slowing population growth in many countries.

Slower population growth is absolutely OK. It is growth per capita that counts, not growth itself. Less population, all else being equal, means less pressure on the environment.

Over the next 25 years, Western Europe’s population is expected to increase just 0.7 percent, to 189.8 million, from its current 188.5 million, compared with a 20 percent increase in the United States over the same period, according to the United Nations. At the same time, the overall population is getting older across the region, from the Russian border to the Atlantic.

The best way to compensate for an aging population — and therefore fewer workers — is higher productivity. But that indicator, too, has been moving in the wrong direction. After rising smartly in the 1970s and 1980s, productivity in the last decade and a half has inched up 0.9 percent annually in Europe, compared to 1.7 percent in the United States, Mr. Moëc said.

But as long as productivity growth exceeds growth in the dependency ratio (nonworkers as a share of total population), Europe will be fine, as will the US. And if, for any reason, Europe wants a younger population, and a larger one, there are lots of folks in Africa and the Middle East who will be willing to help them out.

“Productivity growth in the U.S. has not been spectacular lately, but it’s been much better than Europe, and the U.S. doesn’t have this massive demographic problem,” he said. “Until now, we thought of the demographic issue as theoretical, but it’s starting to bite.”

Over the long term, that is likely to require workers to rethink the generous social benefits, long vacations and early retirement plans they once took for granted.

Yes, these things were so much more affordable in the 1970s and ‘80s; after decades of economic growth people need to realize how much less affluent they are. That’s why we have productivity growth: to reduce our ability to enjoy free time.

Louise Richardson, 65, had planned to retire now as chief executive of the Older Women’s Network, a charity based in Dublin. She will now have to delay that at least two years because of the toll the financial crisis has taken on her retirement savings.

“I can’t retire. I can’t afford to,” said Ms. Richardson, a widow whose savings have dropped to 80,000 euros, or $118,000, from 240,000 euros over the last decade. “My pension’s been completely knocked off its trolley. The money was just swallowed up.”

Swallowed up by demographics? By rigid labor markets? Or by a global financial crisis whose motor was the unsustainable borrowing by deficit countries—some of them European (Ireland, England, Spain), but the main culprit ours truly?

The Obama Peace Prize

There is much that Obama is doing that is not particularly peaceful. However, I think that the strongest argument for him deserving it is in a post by me still up here on good news about US-Iran relations. His agreement with Iran about their enriched uranium is a serious move towards reducing the threat of nuclear war in the Middle East, including importantly because it reduces the probability of an Israeli strike by Israel on Iran. This outcome, on the very first day of negotiations, reflected some very smart moves by Obama, including his cancellation of the ABM sites in Eastern Europe, which brought the Russians on board. Also, I would say that the timing of his announcement in Pittsburgh about the second reactor in Iran was perfect.

Beyond this, those who are so loudly complaining about the prize, I am waiting to hear from any of them who was more deserving of it this year who has not already gotten it? Should we give it to the leader of Sri Lanka for ending the war by defeating the Tamil Tigers and killing their leader? Any other candidates?