Analysis originally appeared in the EUobserver 10.12.10.
But how did we get into this mess in the first place?
In the 1990s during the run-up to the single currency and throughout the 2000s, all European countries battened down wage demands and loosened the regulations on companies (or, to use the jargon you often hear on the news without really knowing what it means: ‘They liberalised their labour markets’), but it was Germany that won the mad dash to the bottom. The steroids that Berlin had access to that no one else did to the same extent were the aforementioned discipline of labour enabled by the cheap-as-chalk ex-GDR and the rest of the east.
This drastically heightened Germany’s competitive advantage as labour costs per unit – how much it takes to make a given widget – in the periphery of the eurozone outstripped those in the core. This also freed up more spondoolees for German capital to upgrade its products, making sexy German machines that much sexier.
Now, normally, a country in such a situation is able to devalue their currency, making their widgets comparatively sexy, or at least cheap, once again. But strapped into the strong Deutschmark – sorry, ‘euro’ – this was no longer possible.
The massive gap in competitiveness in turn results in a massive, and as it turned out, permanent, structural current account deficit in the peripheral economies. Essentially, they had to buy a lot more stuff than they could sell. Borrowing money to pay for stuff replaces the money you otherwise get from selling stuff.
You’ve heard about the US trade deficit with China, where they’re importing more stuff than they export? And China’s lending the US the cash to buy the stuff that China makes in an unsustainable, rather unsymbiotic relationship? Yeah? Well, this is roughly the same thing.
Germany, as conservative American economist Irwin Stelzer has put it, is the China of Europe.
Eurozone peripheral households made up for this gap by borrowing on their credit cards and against their houses while companies and banks borrowed using what they have instead of credit cards – access to cheap credit. Household debt in Spain, Greece and Portugal skyrocketed between 2002 and 2007 at an average annual rate of 5.34 percent, 4.48 percent and 3.1 percent of GDP respectively, while in France the rate was 1.77 percent and in Germany, it actually declined, -0.71 percent.
Just as in the States, where predatory lending to those with poor credit ratings gave great returns to American lenders pretending that these households were triple-A rated, lending by EU core countries – by banks in Germany, France and the UK – to enterprises, banks and households in the EU periphery also let the money roll in to these core European lenders who pretended, now that these southern countries were in the eurozone, that peripheral debtors were as trustworthy as those in Germany. They pretended that they were, in effect, mini-Germanies. In Spain and Ireland, famously, this led to real estate bubbles.
These massive, permanent, structural current-account deficits in the periphery were mirrored by massive, permanent, structural current-account surpluses in Germany.
As with China, German and other core-nation banks lent – indeed became massively overexposed – to Spain, Greece, Portugal, Ireland and Italy – so that these undercompetitive countries could buy stuff from the core.
While the eurozone rescues of Greece and Ireland – and perhaps eventually Portugal and Spain – have been sold as bail-outs of these countries, in effect, they are actually a second bail-out of core European banks.
The austerity being imposed on these nations by the EU-IMF-ECB troika is a wholesale transfer of public wealth into the pockets of EU-core bankers, who, as we are well aware, have continued to pay themselves handsome billion-euro-and-pound bonuses.
Tied into the euro, these countries cannot devalue to regain competitiveness with Germany. The only policy option left to them, or, rather the only policy option left to them by the troika, is what is called ‘internal devaluation’ , a.k.a. austerity. By cutting wages and stripping the public sector to the bone, internal demand is sharply reduced. A sort of balance is restored and products become cheaper.
But of course at enormous human cost.
And there is no guarantee that this path will even work. Even if we assume that there is no violent backlash from the populace of the peripheral countries as such draconian measures are enacted – and there is evidence so far that people are not exactly copacetic about all this, given the wave of general strikes, occupations, blockades, boss-nappings, riots and even small-scale terrorism that has accompanied this policy choice – historically, internal devaluation has rarely if ever worked.
Lord Robert Skidelsky, the economic historian, author, baron and one-time member of each of the British Labour, Social Democratic and Conservative Parties, has recently returned to the bestseller shelves with his slim volume explaining the economic crisis to the layman via a Keynesian framework, Keynes: The Return of the Master. He is scathing about the ever-impoverishing strategy chosen by Brussels.
“As a general principle, if you impose austerity on an already weak economy, one that has suffered severe shocks, then you destroy your recovery mechanism as you are decreasing aggregate demand,” he says. “In Ireland, the government will be taking an extra £5 billion out of the economy, and I don’t see where you get the growth.”
A more likely scenario is that growth in these countries is arrested, pushing them further into debt as they fail to meet interest payments and putting further strain on the eurozone, making default perhaps inevitable.
He worries particularly that the EU will become synonymous with brutal austerity in the minds of its citizens, threatening her very existence.
“It is a huge political gamble to associate the European project with years of austerity. In my view the current path will substantially reduce political support for the single currency, and for the whole European project.”
Cypriot economist Tombazos again: “This [austerity] scenario perpetuates the economic crisis rather than contributes to overcoming it, thus escalating the centrifugal tendencies of the euro.”
“The danger exists that it will lead to the dissolution of the eurozone,” and, echoing Skidelsky’s words precisely, “if not the entire European project.”
This is the second of a four-part in-depth look at the eurozone crisis. To read the other articles in the series, please visit the following links:
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