Tuesday, March 26, 2013

Does Emigration Put Spain’s Health and Pensions System At Risk?

According to the Economist’s Buttonwood, “desperate times require desperate measures”. I am sure this is right, times in Spain are certainly getting desperate and many of the measures being implemented in Brussels, far from representing radical and innovative solutions look much more like continually closing the barn door after the horse has bolted.

The issue Buttonwood draws our attention to in the blog post which accompanies this statement is that of migration trends within the Euro Area and the impact these have on trend GDP growth and structural budget deficits in the various member countries. This is an important issue indeed, since such movements seem to be an unforeseen and largely unmeasured by-product of the current monetary and fiscal policy mix being pursued by the EU and the ECB, yet the consequences they have shape the long term future of the whole Eurozone, and with it the sustainability or otherwise of the component states.

As I said in my last Spain post
One of the less commented features of Spain’s boom during the early years of this century is the way the arrival of economic migrants fuelled a significant part of GDP growth. The country’s population grew by more than six million (from 40 to 46 million) in the first eight years of the century, raising employment levels in both the formal and the informal economies. Migrants are still arriving, but the balance has now turned negative. According to data from the National Statistics Office, as of last June the net outflow was 20,000 a month and accelerating. That is to say a quarter of a million a year, or a million every four years. And the final numbers will almost certainly be much larger.

So a country which already doesn’t have enough people working to pay for its pension system now faces having less and less as time goes by, while the number of pensioners looking to claim will only grow and grow. In part that is the end result of sitting back and watching a 1.3-child-per-woman fertility rate for over 30 years. But to this grave underlying problem is now being added a new and potentially more deadly one. Those leaving are not only migrants who came earlier. Increasingly, young, educated, Spanish people are upping and leaving, and unlike in earlier periods many who go now will never return. Not only is there a massive human capital loss involved here, trend GDP growth is evidently being reduced as the workforce steadily shrinks, while all those unsellable surplus-to-requirement houses become even less sellable.

The motivation for the Buttonwood post was a research report published at the end of last week by the European Financial Economist at Jefferies International, Marchel Alexandrovich. Ostensibly his concern is about optimal currency area theory as applied to the Eurozone, but underlying this concern is a further one: that Mario Draghi and his governing council at the ECB may not be living up to their promise. That is to say they may not be doing enough to hold the Euro together. The Outright Market Transactions (OMT) policy was intended to try to remove break-up risk in the capital markets. Despite the fact that the programme has not been made operational, it has worked reasonably well in that capital flight has been brought to a halt and even reversed, the bank deposit base in most countries on the periphery is now rising, and the break-up risk component in national bond spreads has been virtually removed.

But as often happens in economic matters, solutions to one problem may inadvertently lead to the creation of another. Avoiding radical debt restructuring on the periphery, and going for a "slowly slowly" correction doesn’t necessarily mean that all other things remain equal. Take the labour market, for example (I have already touched on this whole topic in my recent post on Bulgaria). As Alexandrovich points out one of the pre-conditions for the existence of an optimal currency area is the existence of cross frontier labour mobility, and the workings of the  Eurozone have often been criticized on precisely these grounds. Buttonwood puts it like this:
“A SINGLE market works best when its workers are mobile; Americans have shifted to the south and west over the years, for example, as jobs in the rust belt have disappeared. Europeans have the right to work anywhere in the EU and have been doing so for decades; a British series about Geordie builders in Germany (Auf Wiedersehen, Pet) appeared all the way back in 1983. But language barriers mean it is more difficult in practice for Europeans to move than for their American counterparts”.
But now, suddenly, in the wake of the current crisis things are changing. While “the political process to evolve the euro area toward an optimal currency area is slow,” says Alexandrovich, “the migration data suggest that there are rapid changes made in terms of the labour mobility dimension”.

The question is, is this good news? Obviously in one sense it is, if this is needed to make the Euro work it has to happen. But there is a downside, one which Alexandrovich points to: changes in the political process are lagging well behind developments in other areas, and especially in the migration one. It has been clear since the Euro debt crisis that a common treasury was a necessity for the good functioning of the currency union, yet progress in this direction has been painfully slow, and full of bitter recrimination. The migration problem might be just about to bring this simmering issue right to a head.

As Alexandrovich points out, migration trends have recently reversed in some key Euro states. While Spain had rapidly growing population due to large scale immigration during the first decade of the century, migration into Germany was falling steadily, and at one point even went negative. Now all that has changed, people, on aggregate, are moving into Germany and moving out of Spain.

In fact a similar situation exists in Portugal, Ireland and Greece (see my last piece on Portugal), while the UK, for example, has steadily been receiving economic migrants.

These migration patterns affect working age population growth, and with this the rate of underlying potential GDP growth, the number of people paying taxes and social security contributions, the rate of new family formation and demand for new housing, etc etc. As Alexandrovich notes, movements in population momentum are an important economic indicator, and the degree of uncertainty about what individual national population dynamics  are is rising.

One of the interesting details within the latest European Commission Winter economic forecasts for instance is the downward revision to Spanish population estimates, with the country’s population now expected to shrink in size by 0.2% in both 2013 and 2014 – the previous forecast from only a few months previously was a 0.1% annual fall (see table below). This may not seem particularly significant, but these are obviously just first estimates and as the economy goes through another tough year this years outcome could be much worse than expected with the drop potentially extending for years into the future.

In fact the negative movement in Spain’s population is accelerating and no one really knows how far this acceleration will go, or how long it will continue. What we do know is that the likelihood of Spain’s unemployment rate falling below 20% by 2020 is small (it is currently over 26%), and with such high unemployment the pressure to move will continue to be strong.

Now, if we look back over Spain’s “good” economic years, it is clear that even though growth between 1999 and 2006 was normally in the 3% to 4% range, most of this growth came from population increase, which was extraordinarily rapid, while productivity growth was miniscule, and even in the best of cases less than 1%.

Spain’s population had been virtually stationary in the second half of the 1990s, and the subsequent rise was almost entirely due to immigration, the overwhelming majority of which was of working age population, as can be seen in the chart below from the Spanish national statistics office.

Now why, if this was the case you might ask, did Spaniards feel so much better off during these years, since GDP growth per capita, and especially per working age person was not exactly stellar. Well, the next chart tells us why.

Basically Spain as a country was getting into debt, by borrowing abroad through the European interbank market, and consuming a lot of products which were produced elsewhere. Naturally, with house prices going up each year, homeowners felt increasingly well off. Now, of course, house prices are going down each year, and exports are being increased to help pay down all the accumulated debt. So we getting the “continually feeling worse” effect.

Not unsurprisingly, IMF growth forecasts for Spain are being steadily revised downwards to reflect the new reality. And naturally if the current working age population dynamics continue they will be revised down further and further. This is what makes listening to that continuing string of speeches from Spanish politicians just so tiresome. They continually talk about recovery being just around the corner, but in reality they have no idea what recovery will mean in Spain, or even of what they are talking about.

And there’s yet another nasty twist here. Spain’s employment legislation effectively protects older workers at the expense of younger ones. That is why while the overall unemployment rate is 26% the rate for 15 to 24 year olds is 55%. This “older worker bias” also has implications for productivity, as a recent report by Deutsche Bank’s Gilles Moec indicates:

"The dualism of the labour market in many European countries means that, on average, workers under the age of 25, since the beginning of the crisis, have contributed 4 times as much to the contraction in employment as their actual share in total employment (see Focus Europe 9 November 2012). Young workers often are the vehicle of innovation in companies and any labour market adjustment which is skewed towards young workers will ultimately reduce aggregate productivity.

Using data collected at the firm level in Belgium (which in our view is a good proxy for the Euro area in general), Lallemand and Rycx estimated the impact of a change in the age structure of staff on productivity, by adding to a canonical model of productivity based on firms’ characteristics (such as sectoral specialization and educational attainment of workforce) the share of three age groups (below 30, 30 to 49, above 50) in firms’ workforce, as explanatory variables. To provide an illustrative order of magnitude of the negative impact of the recent change in the age structure of companies on aggregate labour productivity in the peripherals, we applied the coefficients estimated by Lallemand and Rycx on the actual changes observed in Spain and Italy between 2007 and 2012 (see Figure 1). This effect is actually quite sizeable, with an adverse shock on the level of aggregate productivity of around 2% in both countries".

So really the whole current situation is most lamentable, since Spain’s ongoing loss of young talent means that the country may well be losing growth potential just as fast as the implementation of structural reforms is recovering it.

But, to go back to the start, and Buttonwood’s point that “desperate times require desperate measures,” these are just what Marchel Alexandrovich at Jefferies is calling for, serious and substantial political measures to shore up the Euro fiscal system, to enable people to move without making the instability in health and pensions systems, and the difficulty of carrying through national level fiscal adjustments, even worse. Spain’s pension system shortfall added at least 1% to the 2012 deficit, and the situation is only deteriorating as fewer people contribute to the social security system with each passing month  while ever more people retire and claim benefits.

Alexandrovich is not, however, as Buttonwood appears to suggest, advocating “a fiscal union where tax revenues is distributed to the smaller countries to allow people to stay put”. This is what happened to the Spanish system of inter-regional solidarity following the 1970s transition  and has now become part of the problem in Spain’s labour market. No, he is arguing for automatic health and pension fund stabilisers to be put in place, so that workers can move freely around without worrying about the implications for their parents or grandparents back home. Otherwise we really will have winners and losers coming out of this crisis, with some countries shoring themselves up, while others are (unknowingly) melting themselves down.

But first, we need to take more determined steps to really measure what is happening. At the moment our knowledge about these flows and their implications is woefully limited. As the European President of the Migration Policy Institute Demetrios Papademetriou put it recently: “The current knowledge base on the economic and social impacts of free movement is slim — in part because its evolving, flexible nature is difficult to capture in official data sources — but it must be improved, to afford a greater understanding of the effects on communities, local workers, and the public purse.”

In conclusion, I leave the last word to Mr Alexandrovich:

"And so we have gone full circle back to the idea of an optimal currency area. The way that a banking union tries to mitigate the effects of a potential bank run, similarly one could help mitigate the effect of Spanish or Greek workers going to work in Germany by having a union where tax revenues get redistributed between the various countries. Otherwise, debt needs to be serviced by fewer taxpayers which then need to be squeezed even harder to keep the whole thing ticking over. So on various levels arguably the euro project remains incomplete and migration data simply help shine a light on some of its further shortcomings, where some countries get isolated and left even further behind".


I have established a dedicated Facebook page to campaign for the EU to take this issue more seriously, in particular by insisting member states measure the problem more adequately and having Eurostat incorporate population migrations as an indicator in the Macroeconomic Imbalance Procedure Scoreboard in just the same way current account balances are. If you agree with me that this is a significant problem that needs to be given more importance then please take the time to click "like" on the page. I realize it is a tiny initiative in the face of what could become a huge problem, but sometime great things from little seeds to grow.

This is a revised version of an article which originally appeared on the Iberosphere website.

Tuesday, March 12, 2013

When Is A Promise Not A Promise?

Mario Draghi is proving to be a man of his word. He said he would do whatever he needed to do to hold the Euro together, and - so far so good - he has. Up to now of course some would say his will has not been truly tested, since all he has had to is sit there and twiddle his thumbs, and that has worked. It seems to have been the subliminal symbol the markets were waiting for.

But now he has added to his repertoire, and gone one stage further. This time he really did do something. Last Thursday he openly and publicly turned a blind eye to a blatant example of  monetary financing being carried through out there adjacent to  the flagship's starboard bow. Like Nelson peering along the length of his telescope at Trafalgar, he saw no monetary financing activity in Ireland. The reason he didn't see it was because he simply didn't look. Naturally he did tell curious journalists last Thursday that someone one day would do so, but such was his control of the situation  he even feigned  he couldn't remember the date when they would take that look. Nice one Mario.

Thus he kept to his promise, while allowing the Irish government to sharply revise down the net present value of one of  theirs. 

The really impressive part in the performance was the extraordinarily skillful way in which the ECB's very own Lord High Admiral managed to navigate his flagship through the tiny skiffs of the assembled press corps. At one point he almost taunted them with their own impotence, appealing to some seemingly innate masochistic tendency they share  by giving them a dressing down for the way in which they constantly get things out of proportion while jocularly  drawing their attention to how they were prone to a sort of  “angst of the week” syndrome. It always helps when you want to insult someones intelligence if you start off by saying, "let me tell you a joke."

What he had in mind were things like, well you know, the size of the ECB balance sheet (what a thing to fret about), the value of the Euro, the threat of currency break up, deposit flight from the periphery, the hawkish Bundesbank etc etc. The list of causes for such childlike angst could be very, very long. When all is for the best in the best of all possible worlds, what on earth could reasonable men and women be doing worrying their silly little heads about so many and such varied topics? These things are better left in the capable hands of the big boys over on the ECB governing council who, self evidently, know exactly what they are doing. Another nice one Mario.

Curiously though one "angst of the week" the journalist didn't seem to be suffering from at last Thursday's press conference was whether or not "monetary financing by stealth" might be going on in Ireland. After all, why should they have been, it's such a trivial item.

However, surely even those with the shortest of short memories must somehow or another be able to  recall  that notorious Irish Promissory Notes issue. This certainly was fret of the week in February, but had somehow - apart from one isolated question - conveniently slipped off the radar by the time we got to March. But just as a reminder, here's the story so far.
February Press Conference

Question: Unfortunately, I have one more question about Ireland. You said that it is a decision of the Irish government and probably the Central Bank of Ireland, and not your problem. But, at some point, I guess it could still be a Eurosystem problem because, as I understand it, the Central Bank of Ireland is now the owner of a promissory note, or something else, maybe government bonds with longer durations, which should be part of the so-called ANFA assets. I know that there are certain rules which cap these assets so, at some point this year, you have to look at that. Do you have any proposals for the Central Bank of Ireland to reduce that?

Draghi: You are running too fast, you are running ahead. We will certainly review the situation in due course. I am not saying that this is the last word on this. I am only saying that, today, the Governing Council unanimously took note of the Irish operation. So I have to say that this is certainly not the last word. We will come back to this.
Fine, we don't want to precipitate things. We need to consult so for the moment we are only taking note with no further comment. But what a difference a day makes, come March  they were not even taking notes. Poor Mario couldn't even remember the date when the Governing Council was planning to come back to the matter. Curious..................
March Press Conference

Question: Last month you said that we have not heard the last word on the Irish promissory notes. So, I wonder, when will we hear the last word?

Draghi: We periodically review compliance with Article 123 by all countries. If I am not mistaken, the review should happen at the end of the year, but the Governing Council will decide in complete independence when to have this review, or a review of similar situations. I do not have a date to give you now. I think there is a date when this is going to be done, and I believe it is at the end of the year, but I cannot let you know for sure .
Now for those who need reminding  Article 123 of the EU Treaty is the one which explicitly prohibits monetary financing by either the ECB or national central banks. The agreement reached between the Irish central bank and the Irish government would certainly appear to breach the letter of that article, and given the way the Bundesbank has voiced such concerns over the months about anything that even vaguely smack of it, you'd have thought it would have been a hot topic.

Under the agreement, the Irish Central Bank agreed to assume full ownership of the 25 billion Euros in in promissory notes issued by the Irish government when it bailed out Anglo Irish bank. Subsequently these notes were exchanged for Irish sovereign bonds with maturities of up to 40 years. The first principal payment is not due till 2038 and the last payment will be made in 2053.

In addition the average interest rate was massively reduced. Interest on the new bonds will begin at just over 3%, compared with  well over 8% on the promissory notes. Evidently the Irish government has just been relieved of a short term burden on its finances to the tune of over 2  billion Euros a year. This money can now be put to use stimulating the Irish economy, avoiding damaging cuts as the fiscal deficit is steadily reduced. If this isn’t monetary financing, then it isn’t exactly clear what would be.

Growing Weariness At Both Ends Of The Curve

 So what happened between the two press conferences? The Italian elections happened, that's what happened. What the Italian election outcome suggests is not just that Italy won't find it easy forming a government, that part is obvious. More importantly there is a growing recognition that even after a government is formed, twisting its arm to push through a hefty reform programme is going to be difficult, and in the meantime Italy's debt to GDP ratio is simply going to keep going onwards and upwards (it was near 130% by the end of 2012, and rising), no matter how much soothsaying goes on about how the country now has a primary balance.

So at some point this surge in the debt level will need to be capped, and I think there is a growing resignation about this fact in Brussels, Berlin and Washington. It is this resignation that the markets are sniffing, when they aren't taking the appropriate advisers out to lunch to get them to spill the beans, and this is why the periphery bond spreads are reacting so calmly to almost anything.

Italian debt will need to be restructured, or at least "re-profiled" (that basically means extending the term of the debt  say to 30 or 50 year bonds in a way the the Net Present Value is significantly reduced), just like that of its Greek peer. But hey, isn't that just what the Irish government got the Irish central bank to sign up to and, as John Dizard points out, didn't Maria Cannata, director-general of public debt in Italy, recently go so suggest that the country might soon be issuing bonds in the 30 to 50-year range? "We intend to restart with the lengthening of the duration in the average life of our debt," she told an investor conference in London recently. "We are ready to launch also a new 30-year (bond) as soon as possible."

So while Europe's central-bank-watching journalists may momentarily have lost sight of the problem, hedge fund research teams surely  haven't, indeed I think it would be pretty difficult to understand why markets are responding so calmly to the absence of even the first signs of a stable government in Italy. Somehow or another one gets the feeling that none of this now matters, risk premia will come down regardless.

Something similar seems to be happening in the case of Spain. At the end of last week Spanish 5 and 10 year bonds reached their lowest yield level since November 2010. And this in a week when credit rating agency Moody's announced they had identified 200 billion euros worth of badly classified property assets in Spain's bank balance sheets, assets which had not been specially provisioned for. Isn't financial sector risk supposed to be one of the main risks to Spanish debt and solvency? How come the stock market continues to go up even as almost every real economy indicator deteriorates. A combination of reform weariness on the periphery and bailout weariness in the core is producing what many perceive as being the perfect storm. A world where almost nothing can go wrong, unless that is you are in Spain or Greece and searching for a job. In fact it is now starting to look increasingly unlikely that Mariano Rajoy will ever ask for those famous Outright Monetary Transactions bond purchases ever to be implemented. Landon Thomas - like many of us - had it wrong, the world wasn't waiting for Mariano, it was waiting for Mario to see if he would just keep twiddling his thumbs.

Will The National Central Banks Support The Bond Markets No Matter What?

Naturally this is a win win solution - for the ECB, the Bundesbank and for Angela Merkel who won't have to keep going to the German parliament to get authorisation for yet more bailout money. So maybe this is an important moment in the crisis. The moment when you can say that one stage is over, and another, the one Citi Chief Economist Willem Buiter once called the Rubelisation of the Euro Area , about to begin. Now it could be that national central banks rather than  the ECB will become the focus of attention, at least in terms of assuming the risk of growing debts in countries that are going to have trouble ever paying it all back.

As I said in this post back in October last year:
The heart of the issue is that Mario Draghi has vowed to do enough, and enough seems to have no limits. So what could the ECB do if we really put our imagination to work on the issue? Well like Ray [Dalio] argues, they could print money, lots of it, even to the point of doing it helicopter style. Those people who think the ECB is already printing money (which they aren’t necessarily doing when they increase their balance sheet) ain’t seen nothing yet. That’s what the “it will be enough” promise means. None of this is in the mandate yet, naturally it isn’t, but it could be, and it would be much easier to put more in the mandate than it would be to keep going to the German Parliament to ask for more money. So it could, and most probably will, happen.When you’re crossing that rope bridge and it starts to creak and sway then you just have no alternative but to continue moving towards the other side. We have all seen far too many movies about what happens to the people who try to turn back.

FT Alphaville's Izabella Kaminska also senses it, "Something very important has changed, which makes this a very different type of bubble.The government will continue to support the market no matter what....The crisis happened precisely because there weren’t preset expectations of government support."

Izabella is of course talking about the United States government, but the point is generalizable. The Euro crisis broke out precisely because there weren't expectations of collective support for the struggling countries. As I pointed out at the time, the Greek crisis broke out in the wake of what happened in Dubai, where markets started to doubt that big brother Abu Dhabi would bail the country out. The same thing happened to Greece, expectations of German government support dwindled largely because the government itself was denying it would. But now, four years later a formula has been found: march together but strike separately, or something like that.

So it is to Mario Draghi's credit that he has shifted that perception, he vowed he would save the Euro no matter what, and now inadvertently the Irish government have offered investors a blue print of how it might all work. The national central banks will support their sovereign bond markets, no matter what. After all, isn't that just what the new Japanese Prime Minister Shinzo Abe has said he is going to do, and aren't the global financial markets whirring resplendently with joy just hearing him saying it.

Why in the end should Europe be so different? Maybe it will all end in tears, but it will be fun while it lasts.

So we are off on a splendid monetary experiment, with Japan leading the pack. As Paul Krugman so aptly puts it it in the title of a recent article -  "Is Japan The Country of the Future Again." And the moral - "It will be a bitter irony if a pretty bad guy, with all the wrong motives, ends up doing the right thing economically, while all the good guys fail because they’re too determined to be, well, good guys."

He wasn't by any chance talking about Silvio Berlusconi, was he?

This post first appeared on my Roubini Global Economonitor Blog "Don't Shoot The Messenger".

Saturday, March 09, 2013

The Great Portuguese Hollowing Out

With every passing day Portugal has less and less economy left, while fewer and fewer people remain to try to pay down the debt.

As Portuguese President Aníbal Cavaco Silva once put it, "A country without children is a nation without a future." He was, of course, referring to his country’s ultra-low birth rate, which is just over 1.3 (Tfr) and has been below replacement level (2.1Tfr) since the early 1980s. In 2012 only just over 90,000 children were born in the country, the lowest number in more than a century – you need to go back to the nineteenth century to find numbers like the ones we have been seeing since the crisis really took hold.

But added to this longstanding, yet unaddressed, problem there is now another, just as dangerous, one. High unemployment levels and the lack of job opportunities are leading an ever increasing number of young Portuguese to emigrate. The numbers are large, possibly a million over the last decade, victims of the country’s ridiculously low growth rate – under 1% a year. And the departures are accelerating. Jose Cesario, secretary of state for emigrant communities, estimated recently that up to 240,000 people may have left since the start of 2011.

Naturally this is one of the reasons why Portuguese unemployment numbers haven’t hit the Spanish or Greek heights. According to data from the Portuguese Institute of Employment and Professional Training, during the first nine months of last year 24,689 people cancelled their unemployment registration due to a decision to emigrate. This compares with 16,977 in the first nine months of 2011. In September alone, 2,766 people signed off for the same reason, a 49% increase on September of 2011. Yet between January and September Portugal’s EU harmonized unemployment rate rose from 14.7% to 16.3%, suggesting that without so many people packing their bags and leaving the figure would have been significantly higher, and offering some explanation as to why government officials don’t do more to try and stop the flow.

Nobel economist Paul Krugman recently suggested that among the ailments Japan was suffering from was a shortage of Japanese. Or put another way Japan’s slow growth is partly a by-product of the country's ageing and shrinking workforce. Looking at the country’s population dynamics Portugal certainly looks a likely candidate to catch this most modern of modern diseases. Not only does Portugal have the key ingredient behind the Japanese workforce shrinkage – long term ultra-low fertility – it has some added issues to boot. Japan may be immigration averse, but its inhabitants aren’t fleeing in droves.

Of course, a shortage is always relative to something. Many hold that the planet is overpopulated, and that energy constraints mean fewer people would be better. So shouldn’t we be celebrating all these children who aren’t getting born? Well, no, at least not if you want sustainable pension and health system, and that is what the developed world sovereign debt crisis is all about, how to meet implicit liabilities for an ever older population. One thing Portugal won’t have a shortage of is old people, since the over 65 age group is projected to grow and grow, even as the working population shrinks and shrinks. No wonder the young are leaving, even if the youth unemployment rate wasn’t 38.3%, just think of all the taxes and social security contributions the remaining young people are going to have to pay just to keep the welfare ship afloat. Patriotism at the end of the day has its limits.

Unfortunately population flight and steadily rising unemployment aren’t the only problems the country is facing. The economy is also tanking, and getting smaller by the day.

Far from the recession getting milder as last year progressed it actually accelerated, and there was a 3.8% output drop in the three months to December in comparison with a year earlier. Naturally, it isn’t all bad news. Exports are doing extremely well. They were up by 5.8% during the course of 2012, and the really good news was an increase of almost 20% in shipments outside Europe - exports to countries outside the EU jumped 19.8% to13.1 billion euros. These now constitute nearly 30% of total exports, up from just over 25% in 2011. In contrast exports to other EU countries – where domestic demand is contracting rather than expanding - were up a mere 1%. In contrast retail sales were down nearly 10% on the year, construction output 15%, and industrial output 5%.

This is a familiar picture across Europe's southern periphery, where positive export performance does not compensate for shrinking domestic demand due to the smallish size of the export sector, generating a negative environment which ongoing reductions in government spending do nothing to assuage.

And next year it looks set to get worse. The Bank of Portugal is now forecasting a GDP drop of 1.9% in 2013, compared with earlier expectations for a much softer fall. As recently as last October the IMF was expecting only a 1% drop. In any event it will be the third consecutive year of decline, making for five out of the last six years where the Portuguese economy has gone backwards following the best part of a decade where it scarcely moved forwards.

But if there is a shortage of both growth and young people, there is no shortage of debt. Gross government debt as a percentage of GDP hit the 120% of GDP level last year. And it isn’t only public sector debt, the Portuguese private sector owed some 250% of GDP at the end of last year, according to Eurostat records, one of the highest levels in the EU.

Worse still the country’s net international investment position had a negative balance of nearly 110% of GDP, the worst in the EU.

This last detail is important, since according to conventional economic theory it is by drawing down on overseas assets (which have been acquired by pensions and other saving) that elderly societies can help meet their pension and health liabilities (the Japan case). But in Portugal far from reaping returns on this account, paying down these debts, or interest on them, will be a drain on public resources for many years to come.

So with less people working and paying into the welfare system, less GDP, and huge debts the numbers simply don’t add up. This year we will see GDP levels last seen in 2000. Yet in their latest Article IV consultation report the IMF Executive Directors actually “welcomed the [Portuguese] authorities’ impressive policy effort to gradually reverse the accumulated imbalances and prevent future crises”. How they can say this and keep a straight face when talking about a country which is actually travelling backwards in time is hard to understand. It looks increasingly like the Fund is suffering from “integrity flight” and relegating itself to the role of a public relations body for a group of fumbling European politicians.

The depth of ignorance which exists on the challenges the country faces was revealed last year when Prime Minister Pedro Passos Coelho actually said that the best solution to youth unemployment problem was for young people to emigrate. We are increasingly handling the new and complex problems presented by the 21st century with the aid of simplistic formulas derived from 20thcentury textbook economics. It’s time for someone somewhere to wake up to the fact that the old models don’t work, because there are growing number of key factors they simply don’t capture. The poor performance of economists using these models is increasingly getting the profession a bad name among the public at large. Mr Draghi’s outright monetary transactions programme may well be doing a marvelous job of addressing the issue of financial capital flight but it offers few solutions to the human capital one. In the absence of policies which acknowledge these issues exist and then address them none of the sustainability analyses – debt, financial sector, whatever – are worth the paper they have been written on.


I have established a dedicated Facebook page to campaign for the EU to take this issue more seriously, in particular by insisting member states measure the problem more adequately and having Eurostat incorporate population migrations as an indicator in the Macroeconomic Imbalance Procedure Scoreboard in just the same way current account balances are. If you agree with me that this is a significant problem that needs to be given more importance then please take the time to click "like" on the page. I realize it is a tiny initiative in the face of what could become a huge problem, but sometime great things from little seeds to grow.

This is a revised version of an article which originally appeared on the Iberosphere website.