© 2012, W. W. Norton & Company
Boomerang, by Michael Lewis, W. W. Norton & Company (2011). Hardback. ISBN: 978-0393081817.
As a former investment banker, Michael Lewis understands better than most the tango between borrowers and investors. It must have been something of a no-brainer for the editors of Vanity Fair to send Lewis on a tour of European basket case debtor nations, along with the region's biggest creditor, for a series of articles now compiled in book form.
The debtors are represented by Ireland, Greece, Iceland (Lewis's home state of California also makes an appearance), and the creditor by Germany. Lewis is interested in how spendthrift nations go about spending the money that they won't be able to pay back, and their inability to raise the revenues that might keep them out of trouble.
He compiles anecdotes about Icelandic takeover kings, Irish real-estate barons, Greek tax collectors and Californian police unions. There's a serious point running through the anecdotes, about the destructive self-interest of entrenched institutions and powerful players, against whom honest officials and politicians stand little chance.
His approach works best in Iceland, a tiny nation population-wise whose banking bubble can be understood as a psychological eruption following centuries of fishing-based insularity. It's fun reading Lewis on Iceland because the country's bank debts in 2008 were so absurdly out of proportion to its peoples' ability to repay them that defaulting made obvious sense, even to Iceland's creditors. The process has been so clean that just over three years after its banks defaulted, the country recovered its investment grade rating from Fitch.
Greece and Ireland are sadder stories, not least because we know that after Lewis finished writing about them, things got worse rather than better. With Ireland, he investigates the fateful decision by the country's government in September 2008 to guarantee the liabilities of its stricken banks, a move that by 2010 would increase Ireland's deficit to over 30 percent of GDP. Entwined with the country's real-estate powerbrokers, the banks were so entrenched in the Irish establishment that the politicians were unable to perceive how dubious the bankers' protestations of solvency were, when they should have placed taxpayers' interests above those of bond creditors.
There's no stereotyping of the Irish in Lewis's account, and in a way, that's the point. Until the European Union came along, Ireland was mired in stereotypes that were either sentimental (for Americans) or derogatory (for the British). Thankfully, the EU helped Ireland kill those stereotypes, and it's my guess that allowing banks to default in the way the Icelanders did was too retrograde a step for the Irish to countenance. That's why the Irish today remain surprisingly placid about the burden that the politicians accepted on their behalf.
Greece is different. Unfairly or not, this country has become the archetype of Europe's most deceitful nation, a stereotype that Lewis's account does little to dispel. As a journalist who has written about Greece for almost a decade, my impressions chime with his. Greek officials tend to be garrulous straight-talkers who freely acknowledge the dishonesty or mendacity of their compatriots. At first, the foreign journalist feels grateful to have stumbled upon the ‘one good man’. However, after a few of these conversations, one thinks of the ancient Cretan philosopher Epimenides, who famously wrote that ‘all Cretans are liars’.
Lewis gets to the end of his Greece chapter musing on whether the Greeks will actually default or not. At least since March 2012 we now have an answer to that question: what one of those Greek officials told me was ‘the largest debt restructuring in history'.
The most important and most controversial chapter in Lewis's book is on Germany. Entertainingly (for non-Germans), Lewis attempts to unpack Germany's challenging historical baggage and its national stereotype of an obsession with bodily functions in order to psychologically profile Europe's creditor nation.
More than merely delivering entertainment, Lewis thinks he has found a grand theme, combining Germany's role in the subprime bubble with its current stance towards Europe's spendthrifts. I have to raise my hand and confess to a cameo role here. Back in 2004, I wrote an article about an obscure German institution called IKB Deutsche Industriebank that had emerged as one of Wall Street's biggest customers for collateralized debt obligations. IKB's near-collapse in July 2007 was the moment the subprime crisis went global, and in 2011, Lewis interviewed me for what became the German chapter of this book.
Lewis likes the IKB story because it supports his psychological profile of a country whose anal-retentive obsession with precision engineering led it to stumble into highly-rated toxic investments created by swindlers. The eurozone was a form of CDO for the Germans, who failed to appreciate that a system of rules they trusted would be abused by cheats like Greece. Either that, or a desire to flush away the guilt of the Holocaust, led Germany to adopt the single currency, according to Lewis.
There may be a grain of truth in this psychological profile. However, there are other, less entertaining explanations that Lewis neglects to mention. With subprime, German CDO investment was less to do with an obsession with order and rules and rather another example of poor governance. It's telling that the German victims of that crisis were mostly regional or state-owned banks that spawned out-of-control subsidiaries to boost flagging returns.
For the euro crisis, Lewis's theory is even more off-target. Rather than being law-abiding innocents trusting in a rules-based investment, Germany used the euro as a tool to economically de-fang troublesome southern European neighbours who had a dangerous ability to use currency devaluation to boost their German trade surpluses. Once locked in to a fixed exchange rate after euro entry, southern Europe could no longer compete, and almost overnight became one of Germany's biggest export customers, borrowing heavily to do it. By ignoring this zero-sum game aspect of the single currency, well supported by economic data from the Bundesbank's own website, Lewis lets Germany off the hook.
Lewis can hardly be blamed for not foreseeing how Italy and Spain would get sucked into the crisis after his book went to press. However, these developments make his thesis on Germany look a little shop-worn, as the argument that debtors should simply tighten their belts and repay obligations in full becomes increasingly untenable. If there is a psychological blockage that can be laid at Germany's feet, the aversion to money-printing in the wake of debt deflation is probably the biggest and that is the key missing piece in what is otherwise an excellent book.
Nicholas Dunbar
Bloomberg Risk Newsletter © 2012, Nicholas Dunbar