Angela Merkel may have got just about everything else wrong, but she was right to tell the German parliament that urgent action is needed to save the euro area, otherwise the future of Europe is at stake. Europe’s reaction to the sovereign debt crisis has been an almost unmitigated disaster – denial, delay and dithering followed by uncoordinated panic reactions that are a mixture of the necessary, the irrelevant and the disastrous. The governments of the largest economic entity in the world have been driven like sheep by the very same financial market actors whom they bailed out just a year ago. This is bad enough. What is worse is that the crisis is far from over. Only in the very short term has a solution been found, a finger has been placed in a dyke whose very foundations must be renewed.
There are other issues as well, but the urgent need is for European policymakers to ‘get real’ about three critical facts relating to the future of the euro area and EU economy. The first is that the austerity policies envisaged for deficit countries simply will not work. The second is that competitive imbalances must be resolved from both sides, not just one. And the third is that the longer-term strategic orientations, the proposed macroeconomic and employment policy guidelines as part of the EU2020 strategy, are completely ill conceived and must be replaced.
I want to focus on the third issue, so very briefly on one and two. Fiscal consolidation in Greece and other countries is not, repeat not, a matter of political will and facing down protests. It is simply impossible to reduce deficits as a share of output (which is what must happen to regain fiscal sustainability) by means of contractionary policies in an economy in which: outstanding government debts are high, nominal GDP is already falling, there is no recourse to monetary policy (debt monetisation), the trade share in output is quite small, and firms are price uncompetitive and face a fixed exchange rate with their major trading partners. The tougher the policies the faster the downward spiral of output, prices and tax receipts, ending unavoidably in default and exit from the monetary straightjacket. This is not new and not hard to understand. Yet policymakers, brainwashed by twenty years of wrongheaded fiscal orthodoxy, don’t get it – or have capitulated to reactionary public opinion stirred by xenophobic and irresponsible media.
Related to this, second, countries with nominal unit wage and price levels that have risen 30% or more higher than in the ‘anchor’ economy of the euro area, Germany, since the start of monetary union cannot, repeat cannot, adjust on their own, at least not without a massive and prolonged recession that makes debt servicing impossible. There has to be faster wage and price growth in Germany and faster nominal growth (higher inflation) in the euro area as a whole. This is not new (here, p. 21f.) and not hard to understand (here). Yet policymakers, brainwashed by twenty years of wrongheaded thinking about ‘competitiveness’, don’t get it – or have capitulated … but I am repeating myself.
Against this background it is not surprising, but nonetheless depressing to see, that, third, the medium-term plans for Europe are so badly off target. The recently announced proposals from the European Commission for macroeconomic and employment policy guidelines, which, as a key part of the EU2020 strategy, are supposed to set Europe on a stable growth path coming out of the crisis, have almost totally gone under in media coverage of the crisis. Let me therefore dwell on them a little longer.
A quick explanation of the relevant background (and translation from eurospeak to English) may be helpful for some readers. Together, these two sets of guidelines form the ‘Europe2020 integrated guidelines’ (EU2020 is the ten-year successor to the famous Lisbon Strategy). As such the ten guidelines (GLs) are supposed to guide member states and the EU as a whole in setting their economic and employment policies, in accordance with the Treaty requirement to ‘regard their economic policies and promoting employment as matters of common concern and coordinate them within the Council’. Once adopted by the Council and European Parliament, they are to remain in force until 2014. In theory at least – i.e. to the extent that member states actually take them seriously – they are of key importance for the way Europe emerges from the crisis and rebuilds its economy, financial and economic and social system (but apparently not important enough to displace stories in the newspapers about early-retired Greeks sipping ouzo on the beach).
Before I summarise the guidelines (or look for yourself: here and here), may I suggest you mentally draw up your own top five economic and employment policy priorities for Europe for the next four or so years, given where we stand now. My own top five, in brief, would be something like: 1) coordinate fiscal stimulus with full monetary policy support in line with the fiscal capacity of different countries until growth is above trend and unemployment falling; 2) encourage social pacts and collective bargaining, under a European frame, so as to rectify competitive imbalances symmetrically; 3) engage in large-scale and coordinated overhaul of the financial sector to stabilize the upturn and prevent bubbles; 4) raise additional fiscal revenue and reduce inequality by tapping, again in a coordinated way, the financial sector and the wealthy; and 5) introduce an EU-wide carbon tax with a border levy to force the economy on to an ecologically sustainable path.
Now consider that the European Commission is proposing the following.
First and foremost: fiscal consolidation starting ‘in 2011 at the latest, earlier in some member states’ of more than half a percent of GDP a year for the foreseeable future (GL 1). The barn door thuds shut at least five years too late when GL 2 calls for member states to ‘avoid unsustainable macroeconomic imbalances’. Worse, it is focused one-sidedly on deficit countries (‘imbalances rooted in a persistent lack of competitiveness’). There is an obsessive-compulsive and in the present context at best irrelevant call for wage differentiation by skill and local area; it is member states’ national wage and productivity trends that are key. For good measure GL 3 also addresses imbalances in the euro area. Deficit countries are called upon directly to reduce real unit labour costs. This couldn’t be much wronger: real unit labour costs are equivalent to the wage share, which has been falling in many deficit countries. The problem is rather the rise in nominal unit labour costs and prices. Surplus countries are not called upon to raise wages or stimulate demand, but rather to remove ‘structural impediments to private sector demand’: if only Berlin would allow the shops to stay open for longer, Germans would spend more and the surplus will shrink. Guideline 4 calls for R&D expenditure to rise to 3% of GDP. This is worthy, but it is a) irrelevant to the task of rectifying a huge gap between actual and potential output (just ask Japan which spends way over 3% on research) and b) is merely a repeat of a target set under the Lisbon Strategy in 2000 for 2010 with precisely zero progress to date. Similar considerations apply to GL 6 on modernising the business environment.
GL 5 sets ambitious targets for, and makes sensible suggestions regarding, increasing energy efficiency and reducing greenhouse gas emissions. But while the whole point of the guidelines is supposed to be policy coordination, in this crucial area they dodge the key issue, which is the need for a coordinated European approach to resolve the collective action problem and thus enable the implementation of carbon taxes and some form of border levy to prevent carbon (and revenue) leakage.
In short, what is in the macroeconomic policy guidelines is in large part at best irrelevant and frequently, especially regarding forced budget consolidation, downright harmful. And what is not in it is what is urgently needed: a coordinated strategy for economic recovery, medium-term stabilisation and symmetrical rebalancing, and longer-term decoupling of growth and emissions. Incredibly, there is not a word on financial market re-regulation: has the proximate cause of the crisis been forgotten already?
Against this background the – mostly – worthy language of the employment policy guidelines (GLs 7 to 10) is scarcely worth the paper it is written on. Whatever the intentions, in the current economic context and given the macroeconomic guidelines, the employment policy guidelines are, at best, symbolic politics.
It is good to have a target of raising the employment rate of adults to 75% (GL7), but to set such a target while at the same time calling for fiscal austerity and deflationary policies in at least half of Europe is deluded. Appealing to governments and employers to invest more in skills (GL8) while tightly constraining both public and private funds for education and training must sound hollow to the record numbers of unemployed suffering de-skilling and facing overwhelmed and underfunded public employment services. And with public education accounting for a very substantial proportion of government spending in all countries, how can the lofty educational goals of GL 9 be reached when the prime focus is on forced fiscal consolidation? Last but not least, the (worthy) target of substantially reducing relative poverty by 25% (GL 10) is laughably ambitious given the measures considered (anti-discrimination measures, lifelong learning), even in a conducive macroeconomic environment; for instance the UK made some painfully slow progress in this area during an economic boom with massive increases in spending on public services. It is good for the EU and member states to address the burning issue of poverty, but in a context of high unemployment and fiscal austerity implied by the macroeconomic guidelines, one is forced to the conclusion that this last guideline either betrays wilful ignorance of economic realities or is intended as a cynical sop to potential critics.
The guidelines in their present form are dangerous. If implemented they increase the risk, already non-negligible, as Angela Merkel and others have already recognised, that there will be no European Union, as we know it, in 2020. We may come to be thankful for the fact that, as with the Lisbon Strategy, the constraining power of the guidelines on national governments is limited. Be it in the Council (national governments), the European Parliament or the Commission, the Left is currently politically too weak to bring about meaningful changes to the text of the guidelines before they are ratified. It should not lend political support to the text in anything like its current form. European progressives should use the heightening of the crisis since the text was originally drafted to call for it to be temporarily withdrawn, in favour of a shorter-term programme for economic recovery. Only then should a balanced and forward-looking medium-term strategy be drawn up.