So what’s new in the world since yesterday’s Daily Reckoning arrived in your inbox? Not much could be new, as we explained on the weekend. We’ve seen it all before, on a regular basis. Sovereign debt crises, housing bubbles, debt ratings – nothing new here. But we might be a little wiser since yesterday. Thanks to the likes of Blackbeard and his marketing department.
That’s because Blackbeard and the pirates before him invented the system of governance you might call constitutional democracy. Or, at the very least, they popularised it, and well before the likes of Madison put pen to paper to write the American constitution.
The idea that pirates were better at governing themselves than the European Union might seem a little surreal, unless you’re a very sceptical person when it comes to the EU. So prepare for your timbers to be shivered and your preconceptions of pirates to be swashbuckled. According to Peter Leeson, author of the Invisible Hook, a wordplay on Adam Smith’s invisible hand, pirates were quite a civilised bunch. When it came to governing themselves, that is.
They didn’t have plain packaging laws, but did ban smoking in certain parts of the ship. Not in the ship’s restaurants and cafes – that would be pointless. Just where the gunpowder was kept. And things like theft were forbidden, while gambling and drunkenness were regulated.
Pirates had bonuses for everyone based on performance, but not golden handshakes for captains who lost their ship. All races were treated equally, negating the need for anti-discrimination rules. Pirates even had workers compensation for injuries. The right leg and left leg were valued differently.
It’s very interesting that a bunch of criminals from many different nations, races and religions, speaking many languages, could live together in very close quarters in a civilised way. All without any police force or legal recourse. That’s the difference between governance and government, according to Leeson. A government has a monopoly on power – the threat of violence.
Once you remove that monopoly, everything must be agreed to or all hell breaks loose. The fact that pirates were armed was a pretty good incentive for powerbrokers on board the pirate ship to keep everyone happy. It forced the captain to stick to the rules. That’s an incentive the American constitution took on board too, providing the ‘right to bear arms’.
But here are the parts of pirate governance (not government) that the Europeans should learn from:
- Pirate crews could call an election for captain at any time.
- Pirate crews agreed to the Ships Articles – think of it as a constitution.
- Pirate crews were paid a share of the spoils, not a wage. The only way to get paid more was to perform well.
These three things aligned incentives and balanced power – neither of which the EU features much of. Hence EU politicians engage in the following type of behaviour:
‘Past projects [the EU] has backed include a £5.7million European Identity programme, featuring a donkey travelling from country to country complete with a solar panel and video camera, a TV channel costing £7million and watched by just 830 viewers per day and £570 million for development in Turkey, which isn’t even in the union.’
Ever heard of a solar powered pirate ship? Or one carried by a donkey? No, because it’s not efficient, and inefficiency costs pirates money. Each one of the pirates, that is. For EU bureaucrats, inefficiency buys votes and creates jobs.
Pirates were also much better at dealing with crises than the EU. In battle, the Captain’s order was law. But that ended as soon as the battle did. The rest of the time, someone called the Quartermaster carried out any administrative tasks. And he was up for election any time as well.
Pirates mastered public relations too. How many times have we heard the EU’s politicians claim that their ideas are brilliant, but they just can’t communicate them effectively? If people would just listen… Pirates mastered the art of making people listen. How they did it is very interesting.
Merchant ships were often raided by other nations’ ships as well as pirates. Resisting a foreign ship was honourable. Resisting a pirate ship was stupid. If you lost the battle with a foreign ship, there was a good chance of mercy. Pirates, on the other hand, had a reputation to uphold, and a business to run.
A sunken ship is a failed business venture to a pirate. So you want to incentivise the crew to give up without a fight. Pirates provided this incentive by being rather gruesome to any crews that did resist and were caught. Of course, dead men tell no tales, so a few of you might still survive.
But if you cooperated with the pirates, things were likely to go a little better. You might even get a job offer. And be allowed to vote for your captain, unlike on merchant ships where captains had absolute power.
That sort of tyranny wouldn’t go down well on a pirate ship. Best of all, you get to share in the spoils if you joined in the looting. So what do you think merchant sailors did if they saw the skull and crossbones? They gave up, and considered joining in on the plunder.
Don’t for a moment think that pirates were interested in stealing the likes of livestock though. No, they were sound money enthusiasts – another credit to their name (pun intended). And while income tax didn’t exist back then, it’s worth noting that pirates didn’t pay tax at all.
It’s no surprise that the Americans borrowed the ideas of constitutional democracy from the pirates. The system of governance worked. And it’s also no surprise that one of the libertarian movement’s heroes is a pirate who goes by the name of Ragnar Danneskjold.
He’s a fictional pirate in the world of Atlas Shrugged, where governments have taken their crony capitalism to its illogical end. While some of his productive contemporaries do a Harold Holt (disappear), Ragnar takes up arms and decides to rob the crony capitalists of their stolen wealth. More on that tomorrow.
Unlike the world of pirates, Europe uses a truly disastrous governance scheme. If the pirates had an invisible hook instead of an invisible hand, then the Europeans have an invisible screw loose. A more polite and sophisticated way of putting this is that Europe’s governance systems are a tragedy of the commons.
The incentives are completely unaligned. This is something politicians don’t get, so they don’t worry about it. But it explains a whole lot. And economist Phillip Bagus does the explaining in his book Tragedy of the Euro. It’s an excellent book. Here’s one point Bagus makes on the EU’s monetary system.
Usually, a government can’t just spend and inflate the currency willy nilly to create jobs and buy votes. At least, it eventually ends badly when they try. Inflation and the interest rate that lenders demand both serve as warning signs. But in the Eurozone those two warning signs disappear.
You can export the inflation that spending and printing creates, because everyone uses the same currency. Monetising part of Greece’s deficit would be hardly noticeable because the effect of inflation is spread across Europe. It’s not just a Greek problem. Of course, when every country figures this out, they all abuse the currency.
As for the interest rates that lenders demand, the Greeks were spared that harsh feedback too. To understand how, things might get a little technical for a moment. Government bonds can be pledged as collateral with the ECB in exchange for money. This is how monetary policy is conducted within the EU.
It’s also very similar to the way Bear Stearns and Lehman Brothers financed themselves. But ignore that for now. Because Greek bonds could be pledged as collateral at the ECB alongside German ones, but the Greek ones paid more interest, Greek bonds were in demand. And demand for bonds means the interest rates stay low, despite the growing Greek debt.
Economists call this situation, both with regard to inflation and interest rates, a moral hazard. The benefits of government spending and inflation are not felt by the same people as the costs. And so European governments spent and inflated away.
The problem with this is that it sets the stage for another financial crisis. Banks like government bonds because they are considered safe by their regulators (talk about conflict of interest!) and because they can be pledged as collateral with the central bank. That also happens to be why they liked subprime CDOs back in 2006. And once again, the assumptions are wrong and dangerous. Government bonds are not safe, AAA rated or not.
While pirates were very careful about how they stowed their cargo, the Europeans have been stuffing their ships with the financial equivalent of gunpowder. Gunpowder with its fuse already lit. CNBC reports:
‘US and European regulators are essentially forcing banks to buy up their own government’s debt – a move that could end up making the debt crisis even worse, a Citigroup analysis says.
‘…”having banks loaded up with domestic sovereign debt will only increase the domestic fallout if the sovereign ultimately reneges on its obligations.”‘
If you ever wondered what 2008 would have looked like without government bailouts, you may yet get your opportunity to find out. Not that it will be much fun. Especially if governments are failing alongside the banks.
If only the EU politicians and their voters had the same political wisdom as pirates. This never would have happened.
for The Daily Reckoning Australia
From the Archives…
When Capital Comes A Knocking
2012-06-01 – Greg Canavan
When the Pain From Spain Moves Across the Plain
2012-05-31 – Greg Canavan
Greek Game Theory: Default, Devaluation, Austerity, Deliverance?
2012-05-30 – Nick Hubble
Desperate Stock Market Traders Waiting To Be Made Whole
2012-05-29 – Murray Dawes
Greek Elections: The Fear of Uncertainty
2012-04-28 – Dan Denning