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Wednesday, January 21, 2004

dangerous thinking in Italy 

The Parmalat scandal is creating a "free for all" environment, where all sort of interventionist proposals are being peddled under the excuse that "we have to do something to prevent this from happening again".

From a variety of fronts all sorts of proposals have been made:
to enhance European harmonization of corporate governance
to change the regulatory powers of the Bank of Italy
of course to support the milk producers
to ban the use of foreign finance subsidiaries
to refund bondholders who bought through banks

It is useful to recall that legislation concocted "on the spur of the moment" is likely to be primarily influenced by populist motives and by an ill-conceived notion that the design of ad hoc regulations can be effective.

First of all, a lot about what happened is yet to be discovered, but most importantly care should be taken to assess the systemic implications of regulations. As a general principle, as unpopular as it may seem to say it:
1) the markets know best how to value assets and allocate capital; when a business is bankrupt, it is often preferable to sell the parts which can be sold to the highest bidder; the Government or the Courts are not qualified to manage businesses!
2) bygones are forever bygones in economics (to quite Hicks); losses which have occurred cannot be reversed and to dig deeper by supporting financially a loss-making enterprise is only destroying value for everyone.
3) investment is about risk. There cannot be profitable growth and enterprise without financial instability; regulations can be useful, but should not (underline should) eliminate risk. Otherwise we fall back to oriental despotism, where commerce is forbidden unless specifically authorized by the sovereign. The last one to try that route was Mao in China for 25 years, and his system was booted out by Deng Xiaoping.

The recent proposals mentioned by the Italian Economics Minister in a statement to the parlament on January 15th include something very dangerous, when it is suggested that a black list is established regarding "legal havens", or jurisdictions whose contracts the Italian law would not respect or recognize, for instance disregarding corporate entities and statutes. Given the absence of a readily enforceable international civil jurisprudence and the weakness of the WTO, an aggressive unilateral stance by a given country or cartel of countries could be very detrimental in creating a medieval system of princes recognizing each other on a bilateral basis or only respecting the use of force. The US State of Delaware is at great risk of ending up in such a list. Let us see if the are asleep or awake at the US State Department...

For the sake of clarity, let me emphasize that again institutional competition is essential; if a government finds inconvenient to respect contracts stipulated under alien jurisdictions, too bad for them; there is no god-given power in any government to have the "cornerstone" of legislation. Quite on the opposite it is from the interplay of different legal systems and contract forms that insitutional progress occurs.

To blame some foreign jurisdictions for the Parmalat scandal is very hypocritical by the Italians: the fraud was made in italy by Italians and to blame the instruments used is like blaming the car makers for the way cars are driven.


Sunday, January 04, 2004

the works of Roland Vaubel 

Roland Vaubel is a professor in the department of Economics at the university of Mannheim in Germany.

He was, together with Angelo M. Petroni, one of the key participants to the European Constitutional Group, which published 10 years ago (1993) a blueprint for a Liberal (libertarian in US terms) European Constitution. The failure of the Giscard constitutional dirigisme will make the work of the European Constitutional Group a leading contender for a better approach to an European Institutional setup more respectful of liberty and competition.

Vaubel has written in English but is not well known in America. A search for references to his works in the Cato Institute web site, one of the preeminent libertarian organizations, yields nothing, although certainly Ed Crane knows him.

On the subject of institutional competition, I recommend in English:
a) Enforcing Competition among Governments - in Constitutional Political Economy n. 10 (1999)
b) The Centralisation of Western Europe - IEA Hobart Paper n. 127 (1995)
c) The constitutional reform of the European Union - in European Economic Review n. 41 (1997)
d) introduction to: Political Competition, Innovation and Growth - with P. Bernholz and M.E. Streit - Berlin, Springer (1998)

Prof. Vaubel is the only author I know who extensively researched and quotes the key principles of political philosophy underpinning the necessity of Competition among Governments, also called "institutional competition".
He refers appropriately to Kant's "Idea of Universal History from a Cosmopolitan Standpoint", as well as Weber, Hayek, Tiebout and Douglass North; especially notable is the reference to Brennan and Buchanan (1980) - the power to Tax - published by Cambridge University Press.

The key thesis of Vaubel is that "horizontal competition among governments not only requires the removal of barriers to trade, capital movements and migration and the enforcement of private contracts. State Governments must not only be prevented from protecting their territorial tax and regulatory monopolies against inter-jurisdictional substitution by the market. They must also be prevented from setting up tax and regulatory cartels among themselves." (Vaubel (1999) pag 328).
Vaubel goes on to observe that with the virtual completion of the internal free market in the EU, the problem is now the setting up of barriers between the EU and the outside world, and internally the stifling of inter-jurisdictional competition due to the imposition of "harmonization" and regulatory cartels.

As the protectionists erect barriers to private competition under the guise of "anti-dumping" and "unfair competition", governments in the EU and OECD do quite the same under the excuse of "unfair tax competition" and "regulatory arbitrage". The prescription of Vaubel is simple: setting up a directly elected competiton authority among governments, independent of the Commission and of National Governments. He calls this an "European Court of Review".

Vaubel also notes in the end that getting political consensus on this proposal will be quite difficult, for both the median voter and EU institutions have a vested interest in getting patronage and extending their powers by limiting inter-governmental competition.

Along the lines of Kant, who observed long ago that a "world government" would lead to an insufferable tyranny, Vaubel concludes that a competitive order for Governments does NOT require a supra-national Government!

In a different note I shall discuss the shortcoming of the prevailing economic literature on federalism and tax competition, epitomized by the work of Wallace E. Oates [an essay on fiscal federalism - JEL Sept 1999] which based all his work an the flawed goal of maximizing Government power, starting from the axiom: "the mobility of economic Units can seriosly constrain attempts to redistribute income". Obviosly only a Socialist would accept such a premise!

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