EUROPE´S FAILURE OF AMBITIONS STUNTS GROWTH / THE FINANCIAL TIMES COMMENTARY & ANALYSIS ( RECOMMENDED READING )

Europe’s failure of ambition stunts growth

By Wolfgang Münchau

Published: September 6 2009 20:11

One of the probable long-term consequences of the financial crisis is an acceleration of Europe’s economic decline. This is by no means an inevitable outcome, but I fear it is likely.

No matter what we do, China and India will eventually displace the European Union as the world’s largest economies. What I mean by decline is a decline in living standards. The financial crisis has led to a fall in potential growth in the entire North Atlantic region. Both the US and Europe will go through an adjustment period, during which growth will be lower. The US will be first to recover: it is a more dynamic economy, has a more coherent framework for macroeconomic policy, and, unlike the EU, has a genuine internal market which is not unravelling.

So what should the EU do? A good macroeconomic to-do-list for Europe came in an essay last week, published in Memos to the New Commission by the Bruegel think-tank in Brussels. It was co-authored by Professors Jürgen von Hagen and Jean Pisani-Ferry. They propose six points – not a complete list, but a sensible one.

First, don’t all rush to exit from stimulus policies at once. Ensure a proper sequencing, with the goal of preventing a double-dip recession.

Second, adopt a five-year growth programme. I would add that this is not to be confused with the competitiveness programmes the EU has been running for ages. This should be about policies specifically designed to raise the rate of potential growth in gross domestic product, without the usual long list of extra objectives.
Third, move beyond a mechanistic, legalistic adherence to the stability and growth pact, the current framework for fiscal policy co-ordination. This should not only include binding commitments on deficits and medium-term strategies, but also institutional reform, which is probably necessary in several member states.

Fourth, the crisis has shown that macroeconomic policy in the euro area needs to be better co-ordinated, especially when it comes to crisis and post-crisis management.

Fifth, speed up the introduction of the euro in central and eastern Europe. The authors rightly point out that one membership criterion, the inflation rate, currently suggests everybody qualifies, while another – the deficit – suggests nobody does. A bureaucratic application of the criteria is not a mature way to deal with eurozone enlargement.

Finally, undertake some steps towards a common external representation of the eurozone.

Unfortunately, most of this stands no chance of implementation. Adopting these policies would require that elusive quality of political leadership EU leaders lack. If you read the five-year action plan by José Manuel Barroso, the president of the Commission, also published last week, you would discover a shocking lack of imagination and ambition.

Why is such lack of ambition a problem? Because the post-crisis policy response is in many ways more important than the crisis response itself. The crisis response was relatively straightforward. Guaranteeing the liabilities of the banking system and stimulating the economy were policies adopted in varying degrees by all governments. Most were national policies, with minimal co-ordination at EU level. The EU would have benefited from a greater degree of co-ordination. But the response was sufficient to prevent an all-out catastrophe.

Post-crisis responses are not going to be so binary, and the Commission will need to play a much more prominent role because we are dealing with deep structural issues.

Now, even with Mr Barroso in office, there will probably be some minimal action on a subset of those proposals, but don’t hold your breath. In the absence of action, there would be a reasonable chance that Mr Barroso could oversee the re-introduction of the escudo in Portugal, his own country. I do not believe that this will happen, because I would expect to see the minimum policy moves needed to prevent a fully-fledged catastrophe.

But they will probably not sequence an exit strategy. As we learned last week on these pages, the European Central Bank will independently pull the interest rate trigger at the first sighting of the inflation fairy. As for fiscal policy, Germany and the Netherlands will be the first to exit, come what may, and France will be among the last. So the sequencing is partially given. There will be no growth programme; any programme will not target growth, but some lobbyist’s agenda.

The Commission will desperately cling on to the stability pact, and will eschew any talk about a more flexible and strategic application of the rules; it will continue to ignore current account imbalances, since there is no treaty base for doing otherwise; and you can forget the last two points of the Bruegel memo. Prospective euro members will only be able to join if they fulfil criteria that no eurozone members would presently fulfil. Common external representation has been pushed right down the agenda.

So the eurozone will probably survive. But it may wither, as potential growth and living standards are falling. Europe was always in danger of heading towards the “irrelevant but pleasant to live in” category of places. Now even the latter is no longer assured.

Copyright The Financial Times Limited 2009