Europe’s long night of uncertainty

S P SETH

There is not a day when you don’t hear or read about how bad things are in Europe. For instance, the unemployment rate in Spain and Greece is 27 per cent while the youth unemployment rate is inching close to 60 per cent. The overall unemployment rate in Europe is around 12 per cent. Even its healthy economies, like Germany, are close to recession. France is now in recession, with a negative growth rate. So much was written recently about the economic disaster overtaking Cyprus, an otherwise idyllic Mediterranean island with a population of just over 1 million people. Quite a few of the euro zone countries are in intensive care, barely surviving on bailouts by the troika of European Commission, European Central Bank and the International Monetary Fund. Even Italy, Europe’s fourth biggest economy, is doddering, not knowing what tomorrow will bring. To continue receiving bailout funds, these countries have to undertake specified austerity packages to cut their budget deficits, necessitating drastic reduction in employment, pension entitlements, health, social welfare and so on.

It is, therefore, not surprising that these countries, like Greece, Spain, Portugal and Cyprus (Ireland seems to be managing a bit better), are going through social and political turmoil. Worse still, the new rescue package, starting with Cyprus, is a mix of bail out and bail in to deal with its economic crisis. What it means is that to receive external emergency funds, Cyprus is required to raise significant amount of funds internally. That will involve raiding depositors’ savings in the country’s banks. Which is quite scary if it becomes the norm for future bailouts in euro zone. Apart from the usual package of austerity measures, harsh as they are, people might not always be sure that they have their savings to bank on.

Even as Europe keeps drifting further into a crisis mode, notwithstanding hopeful sounding notes at times, the debate continues about how best to deal with the situation. The prevailing wisdom is that the European Union, particularly its 17 members euro zone, must put its financial house in order by significantly reducing their respective budget deficit and debt. This, hopefully, will generate a process of sustainable growth for European economies. David Stockman has argued in his best-seller, The Great Deformation, that when an economy hits hard times, the government should let the economic crisis play itself out rather than use fiscal and monetary instruments to prop up. In his view, attempting to resuscitate a really sick economy with injections of more money leads to cycles of booms and busts. As he puts it, without periodic “purges of excess and error”, artificial stimulation will only lead to greater economic disaster.  

This is broadly the approach that Germany, the leading economy of the euro zone, is advancing by way of austerity packages to bring debt and deficit under control. Lately, though, there seems to be some softening of this position but austerity still remains the goal.

Another approach is the Keynisian model of lifting a recessionary or depressed economy through more public spending, even if it initially leads to increased debt and deficit.  The United States government has been experimenting with a mix of increased public spending and targeted spending cuts, the result of a tug-of-war between the Congress and the White House. While President Obama would like to further stimulate the economy, the Republican-dominated Congress (in the House of Representatives) would rather cut public spending drastically to reduce debt and deficit--- something along the lines of Europe’s austerity package.

The argument against austerity is that it is self-defeating and counter-productive, as it will further depress an already ailing economy. A revived economy through greater public spending will start generating more revenue, helping to repay debts incurred during recession. There will be more employment, greater investment, more consumer spending, creating a virtuous cycle of general economic prosperity. This is the theory. It is quite possible, though, that more debt and deficit to stimulate the economy of a country might worsen the economy through a spiral of deficit and debt.  In other words, the Keynisian solution of greater public spending to lift an economy out of recession or depression is not a panacea.

There are structural problems too. Today’s recession is largely caused by a financial industry gone berserk with dodgy financial products and lending practices. The banks, insurance companies and the likes went on a lending spree that was supposed to take care of itself. The subprime housing crisis in the United States was a classical example of it. The European banks also bought into those shoddy securities bunching together all sorts of financial products of dubious value.

 Besides, in Europe, some of the euro zone countries found easy access to cheap and plentiful credits after they joined the monetary union and ran heavy debts as proportions of their GDPs.  It was all supposedly self-sustaining as long as the credit chain was kept going. But, as it happened, the chain broke off at places when some creditors wanted to cash in their chips creating a ripple-like effect. The euro zone is trying to deal with this through a major spring-cleaning operation of indebted member countries through austerity packages. Even if it works, it will take a long time and much more misery before any real recovery.

In the meantime, the added economic misery of people from austerity regimes is creating problems of legitimacy for the liberal capitalist system. Ever since the collapse of the Soviet Union in the nineties, western system of democracy and its concomitant free market capitalism has been hailed as the ultimate answer to the world’s problems. Indeed, Francis  Fukuyama, an American political philosopher, wrote a book titled, The End of History and the Last Man. Which broadly argued that the successful liberal western capitalist system was the culmination of human striving for a perfect system that has finally arrived. As for the erratic nature of capitalism, there was no need to worry as markets tended to be self-correcting. The ongoing global economic malaise has put paid to the so-called self-correcting mechanism of global markets, hence requiring economic bailouts and regulations.

The austerity regimes in Europe are causing tremendous social unrest in some countries. Which, in turn, is creating problems of political legitimacy of the system. The elections held in some of the affected European countries to break the political logjam has tended to put together coalitions that lack popular support. This has happened in Greece, Italy and is likely to become the norm wherever and whenever elections are held in other European   countries. There is thus an emerging crisis of governance in Europe, as well as in the United States where Congress and President are at odds over questions of debt and deficit.  

And if the economic situation doesn’t improve, this crisis of governance is likely to deepen social unrest, possibly leading to violence. In other words, the European Union is in for a long night of uncertainty.

Note: This article was first published in the Daily Times.

Contact: sushilpseth@yahoo.com.au