Rising economic growth in southern Europe, coupled with a slump in the French and German economies, has fueled talk of a “reversal of fortunes” in the euro zone. Not yet Bob Hanke To illustrate, the economic reality may be much bleaker than it appears.
It’s hard not to feel a little disheartened when you read about the remarkable change in fortunes of the Eurozone’s southern GIPS (Greece, Italy, Portugal and Spain). On January 14, the Financial Times joined a growing news trend analyzing the recent “reversal of fortunes” (the term is important, see below), with Germany and France weakening and southern states booming. .
Others have already wondered whether Portugal and Greece (as well as other GIPS countries) have abandoned their vicious demand-led growth model of buying goods from Germany with German capital flowing freely into the European Economic and Monetary Union (EMU). We built an economic model based on credit and debt and replaced it with an export-led model.
Many of these articles are morally disturbing in nature or have an equally problematic “naturalistic” tone. According to the first, the EU, ECB, OECD and other similar countries were right. If you put your house in order through tough structural reforms, you will prosper. The second seems to view the process as part of the natural ebb and flow of capitalism. Sometimes you win and sometimes you lose. This is actually a “reversal of fortune.” You see, luck happens to you, not something you make happen.
Still poor after all these years
When the situation of our poor neighbors improves, of course we should be happy as well. However, these recent reports support some counterclaims. First, a fact check: Recent economic growth may be impressive, but despite recent successes, growth has not been enough to return southern European economies to their growth peaks prior to the 2008 financial crisis.
It is certainly true that the pandemic has hit these economies as hard as all others, but inflation following the end of lockdowns has also artificially boosted GDP. In other words, inflation-adjusted real levels of economic activity (relative to growth) are still below their pre-2009 peaks in most regions.
The negative real-world impact of the decline during the financial and sovereign debt crisis, the subsequent austerity measures imposed by the EU, and the pandemic on economic growth has been truly enormous. A few years of economic growth of around 2% will not make much of a difference.
For example, Greece is estimated to have lost 25% of its output during the sovereign debt crisis. This, like many others, is close to half of what it was during the pandemic, and the ECB’s tightening response to inflation has caused GDP to fall by a few percentage points. A few years of slightly above-average growth cannot erase more than a decade of economic collapse.
Supply-side reform Redux
But even more importantly, recent newspaper reports ignore key but worrying developments. Many people claim, without much evidence, that structural supply-side reforms are the root cause of the economic miracle. A recent article on Italy lists a flexible education system, small family-owned companies, niche product market strategies, supportive innovation policies and good brand management as key explanations for Italy’s export success.
Now that reform may have occurred. I haven’t studied Italian political economy in several years and prefer to reserve judgment on the facts. However, many of these positive factors were already present for most of the 2000s and 2010s, but without any beneficial effects. And while there may still be a burgeoning, if still weak, export-oriented political and economic union in Greece and Portugal, exports from these countries (what exactly?) did not take off suddenly, or at least not in an impactable way. Broader economic performance does not occur in these smaller economies either.
This approach bypasses a simple fact: Much of southern Europe’s recent growth appears to be related to the construction boom, green energy, industrial construction, infrastructure projects such as the transition to solar, wind and electric vehicles, and impacts on supply chains. In the South, NextGenerationEU fiscal spending has (smartly) loosened since the pandemic.
This may look good, but it is actually a serious drawback. Those with memories long enough to go back to the late 2000s will remember that one of the main problems for economies such as Ireland and Spain was the massive property and construction boom that inflated assets and sucked up qualified labor. thus excluding them from other sectors and occupations). The result was a severely unbalanced growth system based on cheap credit and asset inflation, and a collapse of the economy’s skills base as young workers preferred well-paying jobs in construction to further education in high-skill sectors.
The same thing seems to be happening again today. Construction projects in Spain are drawing workers from Madrid to the countryside for higher wages. Perhaps it’s anecdotal evidence at the moment, but given the construction needs of the green transition – from increasing the energy efficiency of residential homes through the construction of wind and solar farms to new plants for green products while discarding old brown plants – the sudden impact There is a temptation to build protection. The sector could be a Cassandan leading indicator of the coming crisis.
EMU as an international monetary system
If this supply-driven analysis overstates aspects of structural reform and underestimates various aspects of capitalism and the broader growth regime, it also ignores the structural dimension of the international monetary agreement, EMU. In both their similarities and differences, the problems we see today with the southern boom and EMU-centric economies reflect in important ways the North-South divide that preceded the eurozone crisis.
At the time, Greece, Ireland, Portugal, and Spain were booming, but Germany and France seemed to have lost some of their vitality. Understanding this did not require supply-side disruption, as the economic renaissance of Germany and France in the late 2000s suggests.
This is because in a monetary system dominated by conservative central banks such as the ECB, the single nominal interest rate that reflects average economic conditions in the EMU is never the exact interest rate in individual member states. On a weighted basis, it will always be too high in half the countries and too low in the rest, stimulating already booming economies and suppressing economic activity in laggards. The result is a deep and growing economic gap.
Conservative central banks, following the ECB’s hierarchical “inflation before growth, after growth” mandate, will suppress growth unless they are satisfied that inflation is fully under control. ECB governors remain very cautious. Therefore, strong economic performance by one country or group of countries mechanically (by weight) implies weak performance by another group of countries.
As Wolfgang Münchau suggests in a recent book, such a process of divergence and lack of coordination may not be helped by Germany’s (and perhaps France’s) structural problems. Germany’s crisis is over. “It’s different now” is not a matter of analysis, but a matter of faith. However, it is simply wrong to look only at the supply side for reasons for poor economic performance, while ignoring the structural elements of EMU’s aggregate demand regime.
In fact, the ideas underlying these macrosystem constraints have been around for some time. One of Thatcher’s top economic advisers, the late Alan Walters (sadly you can’t always choose your friends in these discussions), raised the issue almost 40 years ago when he opposed Britain’s accession to the European monetary system. Although he may have been driven by considerations other than the long-term viability of EMU, his criticism of the single currency policy for a large number of countries was well received and has taken on different guises since then.
Those who dismiss these macrostructural arguments point out that in EMU the nation-state is an inappropriate category or that structural problems are balanced by equally close and complex nexuses of solidarity. Ironically, it may seem so, as good times, including times of deep crisis, allow E(M)U to take a major leap forward following its founder, Jean Monnet. But between boom and crisis, in a period of mounting contradictions, the bifurcation appears to change from healthy diversity to destructive regime competition with undercurrents of xenophobia. Sit back and wait until the Greek tabloids suggest that Germany could sell the Brandenburg Gate or privatize Rhine boat trips.
First as a tragedy, then as a tragedy again.
Of course, history never repeats itself. Even if fundamental structural problems still exist, the context of current and impending tensions is very different than it was 20 years ago. The legacy of the pandemic and expectations of a green transition, along with a rebellious Russia, a resurgent China and an inconsistent United States, will form a large part of the coming crisis as a new geopolitical and geoeconomic order. But history sheds light even today. In the end, history can repeat itself, first as a tragedy, then as a tragedy, but not as a comedy.
Note: This article gives the views of the author and not the position of EUROPP (European Politics and Policy) or the London School of Economics. Main image source: manfred city /Shutterstock.com
