By Anatole Kaletsky
October 24, 2014
Europe is at a make or break moment. Two very different events on Sunday, occurring at opposite ends of Europe, will largely determine the entire continent’s direction for years ahead: the parliamentary election in Ukraine and the bank “stress tests” and Asset Quality Review conducted by the European Central Bank. Before explaining the significance of these two events, and their unexpected linkage, I need to mention a third announcement, due next Wednesday: the European Commission’s verdict on the budget for 2015 submitted last week by the French government.
The Commission will next week have to come up with a Solomonic judgment that somehow reconciles the French government’s determination to stimulate its economy by cutting taxes with the German-imposed “fiscal compact” that former-President Nicolas Sarkozy rashly accepted in a moment of desperation in the 2012 euro crisis and which requires France to raise taxes or drastically cut spending in order to reduce its budget deficit to 3 percent of GDP. The fiscal compact rules, if applied literally, would make economic recovery in France a mathematical impossibility. Yet bending these rules will provoke a German public backlash, and perhaps even a constitutional court challenge, that could even force Angela Merkel to renege on her commitment to support the rest of the euro-zone.
Depending on how these three events turn out, Europe will either be on the road to a moderate economic recovery next year or it will condemned to permanent stagnation, possibly leading to the break-up the euro or even the European Union as a whole.
Why are the stakes suddenly so high? With most of Europe sliding back into recession over the summer as a result of the war in Ukraine and the failure to implement the sort of policies of monetary and fiscal stimulus that revived the U.S., Japanese and British economies, Europe now has an obvious choice: stick to the failed policies which are almost certain to perpetuate economic stagnation or to change course.
When faced with this choice, the German guardians of the euro’s monetary and fiscal rule-book defend the status quo, no matter how dismal. Germany’s Bundesbank and Constitutional Court are steeped in the tradition of Ordnungsliberalismus which insists that rules must be obeyed at all costs and that following the letter of the law is more important than observing its spirit or achieving a desired outcome. But this legalistic philosophy is now running run up against the even more inexorable laws of mathematics, democracy and geopolitics.
What if it is mathematically impossible for governments in France and Italy to abide by EU budget rules, because raising taxes and cutting public spending would crush economic activity and thus widen budget deficits instead of reducing them? What if electorates refuse to accept a decade of austerity and stagnation simply for the sake of preserving the EU monetary and fiscal rules? And what if Ukraine’s absolute sovereignty and territorial integrity just cannot be re-established without risking an all-out war with Russia that Western democracies will not tolerate?
While politicians prefer to dodge these dilemmas, the fact is that Europe has now reached a point where some of its rules will have to be changed or reinterpreted and some of its principles compromised. The only real question is whether Europe arrives at the necessary compromises through conscious political decisions or waits for them to be imposed chaotically by economic and electoral upheavals.
Which brings us back to the three big events next week and some reasons for optimism. Starting with the Ukrainian election, a victory for President Poroshenko’s moderate party should allow EU leaders to launch a genuine peace process that recognises the loss of Crimea as irreversible and acknowledges Russia’s vital interests in maintaining the military neutrality of its immediate neighbours. Once these basic conditions are satisfied, a rapprochement with Russia should become possible, allowing sanctions to be gradually dismantled or at least confirming that sanctions will expire by mid-2015, as currently legislated. Removing the threat of war or further sanctions in eastern Europe will have a major beneficial effect on businesses in Germany and Italy, which been hurt much more by the confrontation with Russia than European leaders expected.
Sunday’s completion of the AQR has always looked like a necessary, though not sufficient, condition for a substantial improvement in monetary policy. This is because the ECB wants to stimulate private borrowing, as Britain did with the sub-prime mortgage subsidies it announced in March 2013, rather than supporting public debt, as in U.S. and Japanese quantitative easing. For this plan to work, European banks must be recapitalized and cleaned up, which the AQR is designed to achieve. If Sunday’s AQR plan proves convincing (admittedly still a big “if”) the stage will be set for the ECB to announced some serious monetary stimulus at its next meeting on Nov. 6.
Finally, a U-turn on fiscal austerity is highly probable when the Commission delivers its verdict on the French budget on Oct. 29, or failing that, in mid-November after a symbolic “re-negotiation” leading to some cosmetic strengthening of French structural reforms.
Putting these three events together, Europe has a decent chance of breaking out in the next few weeks from its vicious circle of policy failure and economic stagnation. Whether policymakers seize this chance is, of course, open to question given Europe’s long record of doing too little, too late. If Europe again disappoints expectations, the recession will deepen, with no serious hope of economic recovery next year. In that case, public opinion will veer onto a course of political nationalism and economic disintegration, not just in Greece and Italy but also in France and Germany. By next year it may be too late to reverse this. That’s what is meant by a make-or-break moment.
PHOTO: A candidate presenting himself as “Star Wars” villain Darth Vader and representing the Internet Party of Ukraine leaves a meeting of his supporters in Kiev, Oct. 22, 2014. REUTERS/Valentyn Ogirenko
No comments:
Post a Comment