John Bruton

Opinions & Ideas

Category: Germany (Page 2 of 2)


I have attended a number of conferences in the past few weeks where the future of the European Union has been discussed. Where previously the EU’s continuance was complacently taken for granted, now there is much more uncertainty, but also much more interest.
The European Union has been a remarkably successful institution building project. It is the first ever voluntary coming together of sovereign states, pooling some of their sovereignty, so that they could do more together, than they could separately.
Almost every other political unification or state building in history has involved the use of force, including the creation of the UK and the maintenance of the USA. The EU came together peacefully and voluntarily.
Some might argue that the EU was necessary only in order to cement a post war reconciliation of Germany and France and that, now that that is achieved, it has done its job and needs no further development.
This is wrong for two reasons.
 Firstly, the fact that there is a queue of states still lining up to join the EU shows that the EU still provides a necessary political and economic umbrella under which reconciliation and mutual security between states can be  assured in the twenty first century.
This was why the Baltic states, Poland and other central European states joined, and it is the reason several Balkan states, and even Georgia and Ukraine might like to do so. It is also the reason why Greece, much to the surprise of many, has favoured Turkish membership. While the United States of America is remarkably successful in many ways, there is no queue of other American states lining up to join. Even Puerto Rico has not done so after more than 100 years of Washington rule
Secondly, the EU is the most advanced effort in the world providing a measure of democratic supervision into globalisation. Unlike other efforts to supervise globalisation, like the United Nations and the World Trade Organisation, the EU has a directly elected Parliament which co legislates for the EU alongside the 27 Governments, who often decide issues by majority. Other international organisations operate on a purely intergovernmental basis, which means that there has to be unanimity to get a decision, and democratic involvement only arises when a deal already negotiated in private, has to be ratified in national parliament  without possibility of further negotiation or amendment.
As a result, other organisations, like and the WTO and the UN, can do much less, and have to  do much more of what they do behind closed doors, than is the case with the EU.
My view is that the EU provides a unique model for democratic rule making, at supra national level, something which will become more, not less, necessary as we proceed into the 21st century.
  Indeed the failure of the world to deal with climate change is a good example of the weaknesses of present intergovernmental models of global governance. If the different regions of the world had Unions, like the EU, which could negotiate seriously, and with genuine political legitimacy, as the EU can, the failures of Copenhagen and other climate change summits would not have happened.
If the EU were to break up, either because of the collapse of the euro or because a major country like the UK feels it has to exercise its right to leave the EU, and either event were to set off a breakdown of the trust that keeps the EU itself together, we would have lost a unique instrument for security building in Europe, and for problem solving in the wider world.
I would now like to analyse those two potentially existential threats to the EU, the euro crisis, and the UKs possible desire to leave.
Of these, a  break up  the euro is undoubtedly  by far the  more serious existential threat to the EU, because the scale of the economic losses is potentially much greater, and the  means of controlling  those losses, are much less.
The euro crisis has become slightly less acute in recent weeks. The announcement of a new bond buying policy by the European Central Bank has calmed the markets. But there is no doubt that the markets will test the ECB’s will power at some stage.
Meanwhile the link between the solvency of European banks and the solvency of European states has not been removed.
 A default by any EU state would wreck the banks of that state, because each state’s banks tend to be big  purchasers of the bonds of that state.
Similarly a potential collapse of a bank in a state would force that state to inject capital into banks, if it did not want a run on banks generally to take place, and contagion to other countries. The  confidence loss caused by a major bank getting into difficulty could lead to a dramatic collapse in state revenues, leaving it with a much increased budget deficit, at the very time it was also having to find the money to recapitalize the bank.
If these problems are to be resolved, four things will have to happen, more or less at the same time.
1. Greek Government debt will have to be forgiven.
2. The ESM will have to be seen to be big enough to stand behind Spain and other countries that might get into difficulty, on a contingency basis,
3. The new mechanisms to supervise, and if necessary rationalize, Europe’s banks will have to be put in place.
4. The already agreed reforms to reduce deficits, and to promote growth by opening up the job and service markets to competition will have to be demonstrated to be being fully implemented, in letter and spirit, to show creditors that, if one forgives debt or creates enlarged the ESM, one is not throwing good money after bad.
At the moment, the Greek debt issue is not being tackled, and seems to have been postponed until after the German election in September. The delay may not be the worst thing in the world, if it allows time for Greek reforms to begin to establish credibility. It also allows time to educate public opinion in creditor countries like Germany, and in countries sitting complacently on the sidelines, of the true consequences for themselves of a euro break up. Greece also need immediate help to finance itself to the end of 2013, and that bridging finance cannot await elections in Germany or anywhere else.
The EU has already enacted a raft of legislation, including the Fiscal Compact Treaty, to ensure that countries reduce their deficits, and liberalise their labour and service markets. . One of the reasons growth potential has been low in Greece, Italy, and Spain is lack of competition or flexibility in key sectors
But Germany is not yet satisfied. It wants to have an EU Commissioner with the power to veto state budgets, and enforceable contracts on reforms between states and the EU.  But not enough attention is being paid to the fact that Germany, France and other core countries could also be doing a lot more themselves, to open up their own digital, financial, energy, retail and professional service markets. While Germany has set a good example in labour market and pension reform,  there are other reforms it could initiate, that would help other EU countries to sell more goods and services into the German market, and thereby trade their way out of their problems.
There is understandable political resistance in Germany to any further debt forgiveness for Greece. But debt forgiveness within the euro is one thing. Greek exit from the euro is an entirely different matter. It would be far more dangerous, and that needs to be explained to German public opinion.
Even a disorderly default by a country within the euro, no matter how severe its consequences for its own people and for its creditors, would have far less severe consequences for the euro, and for the EU itself, than an exit of a country from the euro would have.
I have heard a view from some Northern Europeans that an orderly exit of Greece from the euro could be contemplated, if it was accompanied by building up a huge fund, much bigger than the existing ESM, to stand behind all the other euro area states, so as to prevent a Greek exit leading to a loss of confidence in the financial position of the rest of the euro zone.
I believe this view, that Greek exit from the euro can be managed, is profoundly mistaken.
The whole edifice of the EU rests on law. The EU has no police force to enforce its will. It relies on member states freely respecting the interpretation of EU law by the European Court of Justice, and implementing the Court’s decision, however unpleasant that may be. The exit of a country from the euro is, quite simply, a breach of their Treaty obligations, and treaty obligations have the force of law.
The euro was established on the basis that it was irreversible. A Greek exit, particularly if it was condoned or encouraged by other members, would say loudly that the euro is not irreversible.
That would lead to constant speculation in the markets as to who would be next. And as speculation increased, so too would the size of the funds or guarantees needed to check it, increase. That in turn would then lead heightened risk that some of creditor countries, who would have to provide these funds and guarantees, might decide that they themselves should exit the euro, and re-establish their own currencies. That would be the end of the euro.
Breakups of currency unions have happened before, in Austro Hungary after the First World War, and in Eastern Europe in the 1990s when the rouble zone broke up. As described in a recent article by Anders Aslund of the Peterson Institute of International Economics, the consequences of this were disastrous.
New currencies would have to be established. The relative value of these currencies would be unknown and unknowable. Some would lose value very quickly and others would shoot up in value.
Exports would become dramatically uncompetitive in some cases, and in others they would become  so cheap that there would be  accusations of dumping, currency manipulation, and calls for  immediate reintroduction of  import duties to level the playing field. Such duties, if imposed, would  end the Single Market.  And that would be tantamount to the break up of the European Union itself. Open markets, the assumption on which Ireland built it entire economy over the last 50 years, would be gone.
In some countries the banking system would break down, and people would have no access to credit for even the most basic transactions.
In others, people would cease to trust the value of their own money, and money, after all, is based on a promise and if people can no longer trust the states standing behind the promise that underlies their money, the basis for money itself is gone.
This is not fiction. It is what happened when the rouble zone broke up in the 1990s and explains why incomes fell by 50% in the former rouble zone countries. And the exporter nations within the rouble zone, like the Russian Federation, suffered just as much hardship as the importer nations, like Latvia and Estonia.
The political stresses that this scenario for the 500 million people of the EU, and their Governments, would be such that trust between European nations would easily break down completely.
We see signs of that happening already, but it is being held in check by the hope that problems can still be resolved on a collective basis. A break up of the euro would show that that was impossible to resolve matters on a collective basis, and it would then be a case of every nation for itself, with particularly severe consequences for smaller countries, like Ireland.
As if Europe did not have enough problems, one important EU country, the United Kingdom of Great Britain and Northern Ireland, is preparing to renegotiate the terms of its own membership of the EU, and hold a referendum on the outcome, which would potentially decide whether the UK would stay in the EU or leave.
The first thing to say is that the UK is entirely free to do this. Unlike other Unions, like the United States or the United Kingdom itself, the European Union is a Union which states are free to leave, so long as they fulfil their normal obligations under international law, which arise when any country withdraws from any international treaty.
The UK has been an uneasy member of the EU from the outset. While Churchill envisaged a United States of Europe, he did not envisage the UK, which still had a global Empire at the time, being part of it. The UK did not attend the 1955 conference in Messina which led to the Treaty of Rome. When it eventually joined the Common Market, a decision endorsed by a referendum, the idea was sold to the electorate as an economic arrangement, whereas even the most cursory reading of the Treaty of Rome would have shown it to be much more than that.
The United Kingdom is now threatening to veto the entire EU budget,  something it is legally entitled to do, unless there is an absolute freeze on the size of the budget. The difficulty with this stance is not legal, it is political.
 The EU Single market, which guarantees free movement of people, goods and services, was created as a political deal.
 Weaker economies opened up their markets to stronger ones, and removed protection from local businesses, on the basis of a promise that they would qualify for structural funds to modernise their economies. These funds are what the EU budget provides. (Some of the EU budget also goes on agriculture, but that has fallen from almost 80% of the total originally, to only 30% today.)
The political difficulty with the UK stance is that of fairness.
In the past, when countries like Ireland, Spain, Greece, Portugal, and even the UK itself, joined the EU, we all qualified for very substantial EU structural funds, in the form of aid for agricultural modernisation, general infrastructure, training, communications etc.
Now, when the EU has taken in 12 central European countries who are almost all relatively far poorer by comparison with the rest of the EU,  than we were when we  joined, these 12 are to be told, if the freeze the UK  wants is to go into effect, that they are not to get even a fraction of the help Ireland, Spain, regions of the UK and others qualified for as of right after we joined. This is causing resentment.
I heard an Estonian Minister complain recently that, under the existing EU budget which is already an unfair compromise, his farmers have to compete in the same EU market with west European farmers who are getting three times the subsidies. Unless there are to be drastic cuts, this sort of anomaly can only be put right by an increase in the EU budget.
The problem is that the UK Government has made the size of the budget a red line issue without getting into any informed debate about what the money is actually spent on, or about what sort of EU budget is necessary to ensure that the  EU Single Market, to which the UK itself is very much attached, works fairly and is preserved.
The UK wants access to the single market, but is not prepared to pay any entry fee.
The same problem arises in the renegotiation of the terms of UK membership for which the current  UK Government wants. In preparation for this renegotiation, the UK Government is now doing a comprehensive audit of all EU laws, to identify areas of activity that could be taken back from the EU to be administered exclusively under UK law instead. There may be some good ideas emerging from this, on which all other members could agree, but there may also be a lot of problems.
The difficulty is that the UK wants to take back, yet to be specified, powers, but also to retain full and unfettered access for all its goods and service exports to the EU Single market. 50% of UK exports go to the euro zone, whereas only 15% if euro zone exports go to the UK, so this is important to the UK.
The difficulty is that the EU Single Market, like any market, is a product of common rules, regulations and conventions. A market is a political construct. Without common rules or understandings nobody could rely on what they were buying.
That is why, for example, there have to be common EU quality standards to construct a common EU market. Otherwise one country could impose peculiar quality standards, designed to exclude competitors from its market and to enable its own producers to make monopoly profits at the expense of its consumers. Any rulemaking power that could be abused in this way, cannot be handed back to national level without endangering the Single Market. That is the problem that the proposed UK renegotiation of  its EU membership terms will encounter.
And the competition in any market also has to be fair, and someone has to regulate that. If competitors have different environmental, or product liability standards, or if some firms are operating monopolies or cartels, the competition will not be fair. These matters cannot be handed back to be decided by national authorities without also endangering the Single Market.
 If the UK were to draw up a list of EU rules it would like to make in Westminster rather than Brussels, the other 26 could also do the same, but they might come up with a very different list. The process could become bogged down in serial  reopening of compromises, made years ago, on issues that have little relevance to the urgent existential threat  the EU faces today.
One gets the impression that many in the UK do not really care about that.
 The EU is still regarded by many in the UK as a foreign country, not a Union of which the UK itself has been an integral part for the past 40 years. Membership of the EU is seen as a convenience rather than as a commitment. If the price of satisfying UK voters is to cause more problems for the “foreigners”, in “Europe”, that is not seen by some UK political leaders as such a bad thing.
The difficulty is that the “foreigners” in Europe may not see it like that.
With so many genuinely urgent things to do, such as safeguarding the very existence of the EU itself, the other 26 member states may just not be inclined to devote time to a painstaking case by case analysis of a series of requests for new UK opt outs from some bits of some rulemaking authority, with UK opt ins to others, and to a judicious analysis of whether each one of these decisions might affect the integrity of the Single Market, either now or at some time in the future.
 And the European Court of Justice would certainly have difficulty interpreting the consistency of a special EU menu for one country with the basic freedoms for all on which the EU is based.
 There is also the old question of whether UK Ministers and MEPs should continue to have voting rights on things they are opting out of. As it is, one has to say that it is distinctly odd that the present Chairman of the Committee of the European Parliament that deals with euro currency matters, represents a constituency in the UK, which has no intention of joining the euro.
If,  as is likely at the end of its proposed renegotiation, the UK is dissatisfied with the result, because not enough powers are being handed back to Westminster, it will have little option but to recommend that the UK withdraws from the EU. 
 It is setting itself up now, to find itself in exactly that position, in 2016.
 This will require careful handling because 50% of UK exports go to the EU, and London is Europe’s main financial centre, for the time being anyway.
 How is the UK to protect these interests if it is outside the EU?
One possibility is to join Norway, Iceland and Liechtenstein in the European Economic Area, which would guarantee full access for UK goods and services to the EU market. But the price for that would be having to implement all EU legislation that was relevant to the Single Market, and contribute to the EU budget, but without having any say in EU decisions.
That would be worse from a Euro sceptic point of view than the UK’s present position, even though it would guarantee continued access for the UK to the EU market for both goods and services.
The other possibility is to follow Switzerland and negotiate a series of bilateral trade deals with the EU. The UK would not be entering such negotiations from a position of strength, because it relies more on the EU market, than the EU relies on the UK market.
Switzerland has negotiated full access to the EU market for goods, but not for services. Services are the UK’s key export sector, so a Swiss style deal would not be attractive.
If Britain negotiated a Customs Union with the EU, like that of Turkey, it would find its trade policies with the rest of the world were still being determined in Brussels, but with less input from London than at present. Again it would also only have a guarantee of access for goods exports but not for services.
Finally, the UK might simply leave the EU, without negotiating any special deal. That would leave it paying tariffs on its exports to EU member states, including Ireland, and would necessitate the reintroduction of customs posts on the border in Ireland. It would undermine years of peacemaking by successive   Irish and UK Governments, and would cost thousands of jobs in export firms in both the UK and Ireland.
My sense is that the pressures that cause fracture in the EU derive from a lack of understanding among the general public of the extent to which their livelihoods  depend on economic developments in other  countries and of how unrealistic, in modern conditions, is an “ourselves alone” policy.
 Political leaders make little  effort to explain this, because to do so would undermine the  nationalist myths which brought most states into being in the first place, and also because it is often convenient to blame the EU for  the effects of decisions that were necessary but are unpalatable. For these reasons, little effort is made to forge any form of patriotic pride in the EU or its achievements.
No venue has been created in which an EU wide public opinion might be formed.
This must be done, if sufficient mutual understanding and support is to be created to allow the EU to create the degree of burden sharing and mutual supervision that is necessary to guarantee the long term  robustness of the euro, and thus of the EU itself.  In a word, the EU needs more democratic cement to hold itself together.
European Parliament elections are not truly European. They are 27 different elections, in 27 different countries, in which national issues predominate.
The European Parliament itself has refused to contemplate the election of some of its members from EU wide party lists, which would begin the process of creating an EU wide debate because it would necessitate an EU wide political campaign on behalf of the rival EU wide lists of candidates.
The President of the European Commission, and the President of the European Council, are selected in private meetings of heads of government. They do not have to win the votes of EU citizens, and consequently EU citizens do not have the feeling that they can vote the government of the EU out of office, in the same way that they can vote their national government out of office.
Thus the EU does not enjoy democratic legitimacy in quite the same way that national governments do.
As a member of the Convention that drafted what eventually became the Lisbon Treaty, I urged unsuccessfully that the EU should have a Presidential election on these lines.  I suggested that the President of the European Commission should be selected in a multi candidate election in which every EU citizen would vote, rather than be selected, as at present, by 27 heads of Government, meeting in private, to be approved in a single candidate vote in the European Parliament.
This proposal received almost no support at the time, although it has since been adopted as policy by the German CDU. If that had happened when it was proposed, the EU would now be in a much stronger democratic position to devise a more coherent response to the euro crisis, and to find a solution to the UK’s difficulties. The UK press would not be able to argue that EU leaders were “unelected”. The Commission, headed by a President with a full EU wide democratic mandate, would have more authority to propose solutions. The council of 27 heads of government would still play a vital role,  but the EU would be less constrained by the electoral timetables of individual countries, as is the case with the German election of 2013.


The long running crisis in the euro area is caused, at least in part, by the fact that the participants in the bond markets have little understanding of, and for a long time had little interest in, how the  eurozone makes its decisions at political level.

In the past, these bond market participants assumed, without much enquiry as to why, that Greek  government bonds were no more risky than German Government bonds, simply because Germany  and Greece had  the same currency.

At that time, they took no interest in the internal politics, or  relative  competitiveness, of Greece and Germany. This misunderstanding often also encompassed economic commentators, especially in the English language media, who, then and now, are unduly influential in the mind of  bond market participants.

Then, in the wake of the shock of the Lehman collapse, everything changed.
The slightest political ripple now sends  amplified shock waves through the  bond markets, and the interest rates charged to lend to different  countries  within the euro zone  vary greatly. Long ignored indices are now scrutinized obsessively.

Both bond buyers and economists, having blithely ignored the EU political system for years, now  crave complete and definitive answers from it, and they want those answers  yesterday!
Of course, the markets worry about the viability of the public finances of individual countries or of their banks, but an even greater concern is to know whether a particular country will stay in the euro in all circumstances.  A country leaving the euro could impose an immediate and shocking loss on lenders to that country, and to its banks.

So the first priority for the markets is convincing them that, no matter what happens, nobody is going to leave the euro. That is a matter of political conviction, not macroeconomic analysis. After that, everything else can be negotiated.

But the political leaders of the euro zone come at things from a very different angle to that of the  commentators and bond buyers. While the political leaders understand the bond buyers  craving for  certainty, they are  engaged in a complex multidimensional political negotiation, in which they have to balance the interests of  17 different sets of national taxpayers, some of whom want to shift liabilities to someone else, and others of whom  who want to  take on  as little  liability as possible, for the debts of others.

 The political negotiation is further complicated by the fact that the EU does not  yet have the  legal power to do some of the things it needs to do, and  some of its members  want to withhold  agreement to giving it those powers, in pursuit of national concessions . Britain is the most outstanding example of this, but more recently Italy played that game. In Ireland, one political party wanted to veto the ESM, which is beneficial to Ireland, simply to get concessions on something else. This sort of silly thing goes on often in EU negotiations, because EU negotiations are conducted by humans, not  by angels.

While there is a European Union, the people who make the final decisions for the Union are national politicians, elected by national electorates, and the national electorates frequently do not understand one another very well, or choose not to do so.

The cheap caricaturing of Germany in some other EU countries has been matched by equally  juvenile caricatures in parts of the German press of other countries, like Greece.  Sometimes the critics have a point, as when Germans complain about the possibility of  extending  their credit to countries ,like France, which  are reducing their  retirement  age to  60, while Germany  feels it has to raise its retirement  age to  70 to maintain German creditworthiness.

As well as making decisions, leaders have to bring their parliaments, which reflect these very diverse electorates, along. Sometimes they need a two thirds majority, as in Germany, or a referendum, as in Ireland.

To use a construction analogy, the markets want the EU to produce a fully constructed and furnished building in time for next week’s bond auction.  But the politicians are trying  to  build the  foundations without having  finalised the architectural drawings,  while  simultaneously arguing about the height of the building, investigating whether  they can buy some units prefabricated, and deciding  how much  bricklayers are paid  per hour by comparison with carpenters.

That’s politics, and this is a political negotiation. It is the way it has to be. No one is going to show their full hand until the moment they are satisfied that everyone else is going to show their hand too.

But commentators criticise the outcome of individual meetings as if it was not a political negotiation, but an academic exercise, and the 17 euro zone leaders were  “Platonic guardians” unconstrained by anything except the requirement to produce a theoretically symmetrical outcome.

For example, one notable commentator (Wolfgang Munchau in the Financial Times) announced recently that the crisis was going to last 20 years, just because Angela Merkel had not accepted that there would be joint euro zone insurance of deposits in euro zone banks, before she had seen the details of exactly what level of central scrutiny of their banks, the other countries would accept, so as to ensure that they would not take a free ride on the backs of German depositors.

What did he really expect? Mrs Merkel will not show her hand until she absolutely has to, any more than Enda Kenny or Francois Hollande will.

Likewise, it is unrealistic of people, like Nouriel Roubini, to  demand that the size of the  ESM fund be doubled  or trebled at this stage, before anyone knows for sure whether the  intended beneficiaries of an enlarged ESM will do all that is required of them, to deserve the money.  Uncertainty about the size of the fund, and doubt about whether it will be big enough in all circumstances, is essential as an incentive to get debtor Governments to do the things they need to do, to be sure they do qualify for the fund, if they need it. 

The Euro area Summit statement of 29 June said it was “ imperative to break the  vicious circle between banks and sovereigns.”.

But it also said that, for EU funds to be directly invested in banks,  an “effective (European) supervisory mechanism” would have first have  to be established, and that any injection of funds would have to be accompanied by conditions that would be  “institution specific, sector specific, and economy wide”.   So a deal will have to be negotiated in respect of each individual bank, each national banking sector, and each country.
According to a paper published recently by the highly regarded  Brussels based think tank, the Breugel Institute,  a  European Banking Union  would require decisions on at least 8 big questions

  1. whether to include countries not yet in the euro
  2. whether  to bring all banks under direct EU supervision, or just the big ones
  3. the scope of an EU wide deposit  guarantee, as to the  amount covered and whether there would have to a local contribution, without which the system might be abused
  4. an EU wide system for closing banks  down and distributing the losses between  shareholders, different classes of creditors, taxpayers and other banks in the  country in question and elsewhere. Associated with this is the question of requiring all banks to draw up “living wills” to say what would happen if they go out of business
  5. Some form of limited  euro zone wide taxing capacity to act as a back stop if  the deposit guarantee fund proves insufficient.
  6. how to  distinguish between past, and potential  future liabilities
  7. the proper focus of euro zone bank  supervision. Should it be on capital ratios, liquidity ratios, business models, diversification or other variables? Should different  types of banking be separated from  one another, or  does a  mixed system make it easier to get over  short term  difficulties?
  8. what to do about Britain, which wants nothing to do with the euro or a a European Banking Union, but still  wants unfettered access to euro zone financial markets  on the same terms as everyone else.

These are difficult political issues and they will need to be resolved in a way that is BOTH theoretically sound, AND politically balanced, between all the 27 countries in the EU. Patience  will be required.


We read that there is a severe outbreak of anti German feeling in Greece.Under the second EU/IMF bailout, Greece is being lent extra money  at interest rates  far below those at which it could borrow commercially, and in the meantime a portion of its existing debts are being written off. 
But  Germany is being blamed for the  unwillingness of the EU and the IMF  to sign off on this  second bailout , without , what some Greeks see as,  humiliatingly detailed assurances that
  • the money will be used properly ,
  • Greece will adopt specified policies to cut back state spending and raise taxes and that it will
  •  liberalise its economy, so that it can grow fast enough to be able to repay the extra money it is now to be lent.

The trouble is that Greece has a poor record in presenting honest accounts, and in implementing in practice, changes it has agreed to in principle. The extra assurances are being sought so that more good money is not poured down a black hole along with the debts that are now being partially written off.
Without this loan, Greece would default and it would leave the euro.
In fact, what Germany is really doing is defending the interests of savers, including Greek savers, from what would happen, if Greece defaulted and left the euro. If Greece left the euro, its banks would collapse, and Greeks would see their savings, whether   in the form of bank deposit accounts, life assurance policies, or claims on pension funds, disappear.


Some argue that “austerity” is a mistake, because the cuts in spending and tax increases dampen confidence so much that the economy stops growing. In the short term, this is true.  But those who criticise on that basis,  have no realistic alternatives to offer.
Where can Greece get the money on better terms than it is getting from the EU/IMF?  
There really is no Keynesian alternative for Greece.   The Greek economy is too elderly, too inward looking and too riddled with restrictive practices, to benefit from a Keynesian stimulus, even if someone could be found to finance it. Greece must modernise first. The EU/IMF programme gives it some breathing space (perhaps too little) in which to do that.
Keynesian economics might have been relevant in the  1930s, when the European  population was much younger and could respond to an economic stimulus.  Europeans today are much older, many are retired, and their priority is saving for their old age, rather than going out shopping in response to a boost in government spending. It is not going to get easier. The age dependency ratio in the EU in 2007 was  25%, by 2050 it will be 50% !   What people are looking for now, is stability.

 Greece faces an alternative of two forms of austerity
  • austerity through  planned  cuts and tax increases under the EU/IMF programme or
  • austerity through indiscriminate inflation, of the kind that would  occur, if Greece  left the euro and devalued.
One of Greece’s problems is that it finds it very difficult to reduce wages, which is one of the many things it needs to do if it is to make its exports more competitive. Wage setting is highly regulated in Greece. That is why some favour Greece leaving the euro and allowing devaluation and inflation to cut the real value of Greek wages, and thus  regain competitiveness.  Inflation is the politically easy way to impose wage cuts, but the effect on living standards is at least as bad as cutting the wage rate, and much harder to control.
 But the price of this inflation/devaluation option would be high.  If Greece left the euro, its banks would collapse and the savings of ordinary Greeks, who were patriotic enough to leave their money in Greek banks, would disappear.  Inflation is hard to keep in check once it starts, and Greece also lacks big export industries ready to boost exports quickly on the back of a devaluation.

It is true that current EU policies are favouring savers over borrowers.    This is so because the ECB, unlike the US Federal Reserve and the Bank of England, is not willing to engage in “quantitative easing” ,printing money indiscriminately, to revive the economy temporarily.
ECB refuses to print euros without limit, and refuses to use them to buy Greek bonds without conditions. It refuses to do so because that would lead to inflation, and to a devaluation of euro. The more euros that are printed the less the euro will be worth.  That, of course, might suit borrowers, because the euros they would using to pay back their debts at the end of their loan, would then be worth less,  than the euros they borrowed in the first place.
But that approach would be bad for savers, who would see the purchasing power of their savings disappear.
The real political divide in our societies today, is not between Greeks and Germans, or between the profligate Mediterranean nations and the thrifty northerners.
It is between savers, who do not want their savings devalued or confiscated, and borrowers, who would like to be allowed to pay back less than they owe.


But if borrowers pay back less than they owe, someone somewhere else has to take the hit.
If  borrowers are helped by having  their debts being  written off, or having  their debts  are  devalued by inflation, someone else will lose.
Who would lose? 

  1. The losers would include taxpayers, who now own  many of the banks, and who would  see the value of those banks go down
  2. Other losers would be pension funds and insurance companies who own bank shares, and the people who rely on these pension funds and insurance companies to pay their pensions, or insure them against risk.
  3. Yet other losers would be   the people who have deposits in banks, who would see the value of those deposits reduced by inflation, and who could even lose those deposits if the bank collapsed. 
The challenge we face is that of devising an economic policy that acknowledges that there are ”ordinary” decent  people on both sides of this divide.
We also need to acknowledge that no one will be willing to lend any European Governments money any more unless they face up to realities about the cost of ageing societies that will  grow steadily everywhere over the next twenty years.
Greeks bashing Germans, or all of us bashing bankers, may give emotional satisfaction, but it will not pay our bills.
We need to think things through , rather than emote. We  need to strike a balance between debt relief, and protecting the savings we need to prepare ourselves for  a time when, instead of four,  there   will only two people at work,   for every one  that is  one too old to work


(updated version) The euro is playing the starring role this week in a global loss of confidence in bonds issued by Governments, although the average Government deficit and debt situation of euro area countries is actually is no worse than that in the United States, the United Kingdom, and Japan. The euro area is the target because it is easier for speculators to pick off euro area countries one by one. But this is not the root problem. Even if the euro was somehow broken up, the underlying problem of the credibility of sovereign debt would still be there.
 The real problem of almost all developed countries, except Germany, is that we have used Government and/or private borrowing, to smother the symptoms of a deeper loss of earning capacity.
The sovereign debt crisis is a symptom. The disease is a profound loss of competitiveness.
Since about 2000, the developed world, except Germany, has lost ground in the competition to produce goods and services at prices the rest of the world is willing to pay.   China, India, Brazil and others are now competing for markets that the developed world previously monopolised. They are doing this with technologies developed in the West, but at costs much less than those applying in the West.
This loss of markets over the last ten years should have meant a relative fall in relative living standards over the same period. But almost all developed countries avoided this, and kept their standards up by borrowing more, either directly as households, or indirectly through their Governments.  In Ireland during the boom the number employed in the traded sector actually fell, while the number employed in services ballooned. This was all too easy because the countries, like China, who were winning markets, lent their profits back to us at cheap interest rates.
In essence, the cause of today’s debt problems  is that developed countries awarded themselves a living standard they had not earned. That could not go on forever. Now we must tackle the disease as well as its symptoms.
Any short term fix for the euro area finances must be accompanied by a long term plan to rebuild up our capacity to produce goods and services that the rest of the world will want to buy on a greater scale than they are doing today.
 Europe must abandon its culture of entitlement.
For example, there must be reform of educational systems.  Third level education in Europe must be changed from being an undemanding and free rite of passage for young people , into an innovative and flexible system to help people of all ages, who have lost their jobs,  to readapt themselves for a world which has changed utterly.
Getting our costs down will also require an end to restrictive practices, and padded  costs,  in the Government sector, in schools, in the labour market, and in the professions.  However indirectly, all these reduce Europe’s ability to reduce its export prices enough to win back markets abroad. This is particularly necessary in countries like Italy and Greece, but also in Ireland.
It will all mean postponing increases in living standards, paying more tax, and getting less benefits from the Government. Germany did this in the 1990s when it dealt with the huge cost of reunification. Since 1990, living standards in Germany increased by only 20%, whereas they increased by over 100% in Ireland.  Germany kept its costs down, shared the burden of adjustment by short time working rather than unemployment, and focussed on exports.
Some will argue that what worked for Germany will not work for Europe as a whole. They will say that if the rest of Europe adopts  an austerity and export model, there will be no market for the exports because of the austerity. Their preference would be for Germany to start inflating its economy, so as to buy the exports of the rest of Europe.
 That will not work for a number of reasons. If Germany did inflate its demand, the imports would come from the rest of the world, not from the rest of Europe (unless, of course,  the rest of Europe becomes competitive). Furthermore, Germany has an ageing population and needs to save now to support its future retirees.
This is also a problem with proposals for the issue of Eurobonds to meet the funding needs of euro area countries, like Ireland, who are too weak to borrow commercially on their  own account. Until the rest of Europe becomes competitive, these bonds will essentially be issued against the credit of Germany.  Given its ageing problem, even German credit has limits.
The ECB can give out more credit as a way of getting through our present short term difficulties. That is what it is doing by buying bonds of countries like Ireland, Italy and Spain. It could also extend a credit line to the European Stability Fund to allow it to buy bonds too.  To the extent that such activity increases money supply faster than present or future economic activity justifies, it builds up future inflation.  
 And who does inflation hit hardest? Elderly people with fixed incomes, and those with savings.
 And what European country has the biggest number of people who will soon be in that category? Germany.
 Germany increased the money supply to pay for the cost of the First World War, and that led to the inflation of the 1920’s, which wiped out the German middle class. That is part of German folk memory and explains why Germany insisted that the ECBs mandate be concerned solely with keeping inflation in check.
What is needed now for Europe, as a whole, is a convincing overall plan, a plan that links short term relief for those with financial difficulties, with long term plans to permanently lift productive capacity.  Only in that way can Germany be convinced that  short term relief now will not lead to more inflation later.
It is not reasonable to expect Chancellor Merkel to produce such a plan on her own.  Every euro area Government must contribute. We have all got to start thinking as Europeans, and devise a plan that is based on realism and modesty in what we ask of our neighbours, and strict honesty in  what we  ask of ourselves.  None of us can solve our problems on the back of someone else’s sacrifice.

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