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What does this resemble?

In response to a recent response of the economic collapse of Portugal, commenter EndivioR had the following to say:

I lived in Spain during Gonzalez and Aznar. Foolishly, as I saw motorways roll out across the plains, buildings shoot up, high-speed trains whistle past, and cool graphics appear on TV news intros, I thought that some seriously good country management was going on. Now I realise that “economic miracle” means what it says. A miracle is something that defies the laws of nature. Spain is a mirage floating over the quicksand of unredeemable loans. I hope there are still people around there who know how to steer a donkey.

Oddly enough, Spain and Portugal remind me of something I have seen before. In the 1990s, we had a telco bubble. In mobile telephony, most places had two or three digital 2G mobile networks built. The spectrum was usually obtained cheaply by these companies, and the resultant networks were valuable, and useful, and there was a good return on the capital put up to build them. One or two companies made enormous amounts of money by figuring out something was happening early in the piece, building suddenly immensely valuable companies, and selling out, often to incumbent telcos who had read things less well than they had. Telecoms equipment manufacturers made huge amounts of money as their business was suddenly much bigger than it had been before. Other people got excited by this, and governments got excited by this, and there was an enormous piling in by new entrants to this industry. The equipment manufacturers (many government backed) wanted to follow up their first round of sales with subsequent rounds, and there was massive pressure to keep building. Many of the people and organisations who entered this business late were, shall we say, more dubious than some of the earlier ones. In many cases, they were the well connected rather than the prescient.

One thing that came from this, towards the end of the bubble, was a lot of what is known as “vendor finance”. Someone probably well connected wants to make money by building a telco, and probably selling that company on to someone else once it was built and had a customer base. A telecoms equipment manufacturer would lend the new telco money which the telco would then use to pay the manufacturer to build the network. This was all great as long as the network could be build, credit remained cheap, the network could gain customers and profits could be gained from these customers. In short, it was great as long as the bubble continued. Lots of people were making money as long as the bubble continued, and didn’t really care how it continued.

Of course, few of these things remained true. Credit became expensive, and what customers newer telcos could gain were very low value customers. For a time, mobile phone companies were valued simply on the number of customers, with little attention paid as to whether they were good customers. However, this eventually stopped, as it had to. Credit became expensive. Vendor financed networks defaulted on their debts and went bust. The companies that did the vendor financing went bust too. Bye bye Lucent. Bye bye Onetel. Amazingly, the banking system as a whole did not go bust for more than five years after this.

Which makes me think of Spain and Portugal. These countries joined the EC (as it was then) in the early 1980s after many decades of authoritarian government: poor, and woefully lacking in infrastructure. They lacked the capital markets, the expertise and the international connections to build modern infrastructure themselves, but there was the potential to catch up rapidly if they were exposed to international markets and international practice.

The avenue through which they did this was the EC and later EU, of course. The benefits of rejoining the international economy were immense, and EU aid and expertise did help them and pay for infrastructure. The scale of this in the 1980s and early 1990s was surprisingly modest, actually, and the infrastructure that was built was fairly hardly argue with. Motorways from Madrid to Malaga, or Lisbon to Porto, eminently sensible, and the economic value created by the motorways obviously exceeded costs. Given that they were and are tolled, a fair bit of this value was even captured by the people who built and financed them. Looking back now, it seems fairly obvious that market mechanisms could have build the 1980s and 1990s developments. The sad thing is that market mechanisms did not build them, and Spain and Portugal instead got used to the EU way of doing this. Money flowed from France and (particularly) Germany and French and German banks via the EU institutions, and this money flowed back to France and Germany to the companies who did a lot of the work in building them. Vendor financing, shall we say. No particular harm was done, as long as the infrastructure being built was actually economically sensible.

However, the French and Germans and French and German banks, and the Spanish and the French and German engineering companies got used to this. The inevitable greasing of wheels and protection and paying off of the well connected created a while class of people whose interests were in this continuing, long after anything was economically sensible. So in the late 1990s and 2000s, Spain and Portugal got huge networks of motorways in absurd and pointless places. (One evening several years ago, I drove in the evening along the old road from Regua to Vila Real in Portugal. It was a scary, winding, narrow single carriageway. The next day I discovered that there was a new road, which was a beautiful dual carriageway, four lane motorway, apparently being used only by me). These later ones tend not to be tolled, as if you were to toll them it would become immediately obvious how few cars were using them and how economically pointless they are. Then, things got nuttier. Spain got an enormous network of high speed trains. These are particularly good from the EU aid point of view, as there are two different European technologies – one French and the other German – and the contracts can alternate between the two. Pointless, but great in terms of being financed by German banks and then bought from the Germans. Then Spain got the world’s largest system of wind farms. The further we went along, the more pointless the things being built actually became. We started more or less with sense, but because the incentives were all wrong, this evolved into madness.

So here we are. The EU vendor finance bubble has ended. The French and (particularly) the Germans created this mess, because their banks and their industrial companies were benefiting in the short term. Blaming the Spanish is beyond the point. The Spanish let the Germans lend them money and then build them stuff with the lent money, and they were foolish to do this, but it appeared they were having a rapid miracle of modernity, and given the history, I can see why they wanted to believe this. The German banks are screwed, after doing the bidding of the German government. If the German government has to bail them out, well they created the mess.

Except, the political class made the mess. As that political class keep wining and dining one another as they discuss how to make things worse fix things, it is actually the German taxpayer doing the bailing out. The mess is certainly not the fault of the ordinary bloke making Volkswagens in the factory in Wolfsburg, but he has to pay for it. Hopefully the anger of such people is with the German political class and the European political class, rather than with “The Spanish” or “The Southern Europeans” amorphously, because it is the political class who are responsible.

In the case of the vendor financed telco bubble that I discussed earlier, the companies that did the lending and the borrowing generally both went bankrupt, their assets gobbled up by new and more sensible companies. In the case of governments that have done the same thing, cleaning up is messier. The German and Spanish political classes are not just going to go away, however much we wish they would.

Perhaps there is anger with the German political class. Support for the traditional Christian Democrats and Social Democrats appears to be in serious decline, which has led to support for the Green party approaching 30%. Which is not going to help. It is hard to see any scenarios in which we are not totally fucked.

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12 comments to What does this resemble?

  • Well, I’m honoured to be quoted. As for the EU junkie angle, well, here’s a true story. I had a friend in Barcelona who applied to the EU for funding for a “school textbook exchange” project. I understand the application was on a single sheet of A4 and basically said the following:

    I have a great new project that will enhance cooperation and understanding between European nations.

    It consists of schools swapping textbooks.

    I would like an initial grant of (add the number you first thought of) to promote this project.

    The grant was given. This friend (well, I say friend, she was the co-author of a textbook I wrote in the 80s) embarked on a tour of high class hotels in various European cities. In only one (Paris) did she bother to visit any schools, and was soon informed that swapping textbooks was a dumb idea, which she had already kind of figured out herself.

    As they say in Spanish, “que me quiten lo bailado” (“they can’t take that away from me”). Happy days.

  • Myno

    I hope there are still people around there who know how to steer a donkey.

    At first I thought you meant a metaphorical donkey… e.g. the newly recalcitrant Spanish economy… but then I smartened up…

  • Andrew Duffin

    “The French and (particularly) the Germans created this mess…”

    As Nicholas Ridley said (iirc) – “the whole thing is a German racket”.

    Can we leave yet?

  • Laird

    The Financial Times is claiming that Europe is seeing its own “tea party moment“. Of course, since much of the protesting appears to be over “austerity”, I don’t think that’s truly in the style of America’s Tea Party movement, but it does seem to indicate growing anti-EU sentiment. Does this seem a fair characterization of the popular mood?

  • Paul Marks

    The ultimate establishment interviewer “Charlie” Rose (of PBS and CNN – not that there is any difference) recently interviewed Mr Martin Wolf (of the ultra establishment Financial Times).

    Mr Rose set Mr Wolf up to attack the greedy bankers and their lending to real estate – but Mr Wolf (in a rare fit of honesty) admitted that in the Portugese case the loans were not for property development – they were mostly directly to the government of Portugal (i.e. to finance the Portugese Welfare State). Although, of course, the property boom in Spain was created by the (government) European Central Bank, just as the property boom in the United States was created by the Federal Reserve (and so on).

    Of course the establishmentrians of the Financial Times (“FT”) – Economist magazine have a “solution”.

    Just accept these nations are bankrupt.

    However, “bankuptcy” to estabishmentarians does NOT mean an end to the Portugese and Spanish and Greek (and ….) Welfare States – or that govenrment property (such as the Parliament buildings) be put up for sale.

    On the contrary it just means that “we accept they can not pay their debts” i.e. DEFAULT.

    “Well Paul, at least that means that the German and other fractional reserve banks go bankrupt and close their doors”.

    Again, not so.

    The establishmentarians (the Financial Times, the Economist magazine, the university “economists” and so on) just assume that the German taxpayers should be forced to bail out the privately owned German banks.

    Of course the idea that private corporations are the responsbility of the state is FASCISM, but the estabishmentarians do not care about that.

    And people wonder why I hate them so much.

  • lucklucky

    “The French and (particularly) the Germans created this mess…”

    Sad to see once again socialists arguments here.

    No French and Germans, they did not created this mess. Portugal created its own mess.
    No one else.

  • “the economic value created by the motorways obviously exceeded costs.”


  • bloke in spain

    “I hope there are still people around there who know how to steer a donkey.”
    There are indeed.
    Unfortunately they are currently attempting to steer their cars down the wonderful new highways using the same techniques…….

  • Rich Rostrom

    Circa 2003, I did some research.

    I discovered that the “dot-com” bubble was dwarfed by the telecom bubble.

    Something like 2/3 of the lost market cap was in telecom companies and telecom suppliers, and a very large portion of the IT/electronics market was telecom.

  • Thanks the the EU Spain is in the shit, but unless its government does something as monumentally stupid as the Irish government it will not go bankrupt. They are doomed to a decade of recession as they pay back the full value of their debt rather than using the stealth default option of letting their currency devalue (as the British government has done), but they are not going to be the ones that will blow the Euro apart and free those trapped in it. That honour I expect to go to Italy.

    The coalition that replaces Bellosconi will be left wing and therefore financially incompetent. When it collapses, probably within two years if it is anything like any non-Bellosconi Italian government, the markets will naturally start to look closer at the financials: which are not pretty even now. Italy currently has a debt to GDP ratio well over 100%, and fairly close to greece. It has been stagnating since it joined the Euro and shows no signs of turning around. Not that you would expect any as year after year it looses competitiveness thanks to being in the Euro. However Italy also has the third largest economy in the Eurozone, so it cannot be bailed out. Back in Italy’s 2005 recession there where serious politicians talking that it might be better if they left the Euro, and the are correct as it would mean their currency would devalue allowing them to effectively default on anybody holding their bonds while simultaneously becoming price competitive against the Germans again. If those holding Italian Euro bonds start to get worried about this and decide to switch to French or German then Italy goes the way of Greece and can either get cut loose or bankrupt everybody.

  • Paul Marks

    If the economic benefits of a road exceed the costs then it will be fiananced privatly – and by real savings (not credit bubble fictional “savings”).

    The fact that a project can only be financed by government spending, or by creidt bubble finance, proves that its costs exceed its benefits – not the other way round.

  • If you have a free market, sure.

    I think that if you had properly functioning capital markets, and you had a regulatory environment that allowed private companies to build roads, own them, and then both toll them and gain other economic benefits from them (by which I mainly mean profit from real estate development due to the roads), and such companies were not subject to onerous planning and other regulatory requirements when building the roads, then you would have no difficulty getting fairly comprehensive systems of motorways built.

    States tend not to allow this, though. Obviously they should. However, if they don’t, though, the question is not whether a state built motorway is better than a privately built motorway (it isn’t) but whether a state/EU built motorway is better than no motorway at all. In the case of the first few motorways built in Spain (eg Madrid to Barcelona), they were. In the case of most of the subsequent ones, they weren’t, often to a spectacular degree. When the first case was what was happening, building more motorways was not going to lead to national bankruptcy. When it was the second case, it was. A major problem with the state/EU model of developing these things is that the system itself created a huge number of rentseekers/cheerleaders determined to push these countries way, way, way into case 2.