Paris and Berlin are Out to Save the Welfare State

Article published on Dec. 15, 2003
community published
Article published on Dec. 15, 2003

This article has not been vetted by an editor at Paris HQ

It is certainly right to put the brakes on the ECB’s anti-inflationary zeal. But on its own a little helping hand from EcoFin isn’t enough to kick start economic recovery. What we really need is a European Social Pact.

EcoFin’s decision on November 25th 2003 to spare France and Germany very costly proceedings following their excessive budget deficit is undoubtedly a point of no return for European economic and political relations.

But it really is incumbent upon us to understand why France and Germany were in the right on many points. It is fair to say that the Stability and Growth Pact (SGP), which the President of the Commission himself has described, in passing, as “stupid”, has not helped Europe’s economic motor emerge from the global recession. And this has happened for a very straightforward reason, repeated ad infinitum in many of the most important specialist newspapers in the world, even those who are not exactly supportive of State interference: when an economy is in recession the worst thing that you can do is turn off the public spending tap.

A political loss of face

And yet that is just what was asked of France and Germany and what was imposed on Portugal a year ago – to reduce public spending; to bring the deficit/GDP ratio below the 3% threshold; to show partners, the Commission and the markets that they were countries with healthy budgets playing by the rules. But doing that would have checked the nascent possibilities for recovery in the world markets, especially given the insatiable appetite of the American consumer. And it would have contributed to stopping the stagnation which is now having a notable effect on job creation. But what possible stings in the tail are there from failure to comply with the SGP if we pay heed to the Commission’s criticisms and the “virtuous” countries?

There are effectively three dangers. An increase in debt could lead to an increase in interest rates, due to the fact that indebted countries would put markets under pressure to sell newly issued shares. The second danger is that an increase in inflation would put countries in debt, and who want to reduce the real value of their debt, under pressure. The third danger concerns the credibility of European economic policy and the rules that govern it.

But it is easy to see that from those listed above the only real danger for European economies is the last one. European and global financial markets are perfectly capable of absorbing a deficit which is not too high (less than 5%) without any pressure on taxes, whilst increased inflation shouldn’t frighten a depressed European economy. The real danger would be price stagnation– a Japanese-style deflation if you like.

On the road to federalism

The EU’s loss of face in front of the entire financial world should not, however, be underestimated because it means a considerable loss of confidence with potential effects on currency markets. But the way the Euro has evolved, reaching new peaks against the dollar, would imply that the loss of faith in European institutions is likely to cause political rather than economic damage.

From this brief analysis we can therefore confirm that EcoFin’s decision has more positive than negative effects…provided that Europe seizes the opportunity to reform the rules. This reform should be based on three principles:

1) Making the Pact more flexible, setting a higher limit so that States can pay off debts due to recession.

2) Clearly abandoning a monetary and economic policy based on budget and price stability, and promoting policies that create jobs and development. To achieve this aim it is essential to modify the anti-inflationary zeal of the ECB and allow European public finances the chance to intervene in their own economies.

3) The stipulation of a European Social Pact, to include all the social forces of the continent (governments, European institutions, trade unions, employers’ federations) in a transparent and open debate which leads to the emergence of a new European economic government subject to the democratic control of citizens. Economic federalism would thereby be achieved which would overcome the current prevailing technocracy and represent a step forwards towards full political federalism.

The main problem with European economic policy is that it has lacked critical debate on the rules that underpin it. Given that the current system is so clearly in crisis, the only alternative, dear to many, is to introduce large-scale liberalization and privatization of European economies, including heavy cuts in current public spending.

But the demolition of Europe’s welfare state is neither what the doctor ordered nor what the majority of European citizens want, especially because it would be imposed by technocratic and undemocratic institutions. The cuts required to get back inside the limits of the Stability and Growth Pact would necessarily eat into current public spending, i.e. social welfare spending, research spending and unemployment benefits.

A reform of this kind cannot be undertaken without a clear social consensus which would require difficult consultations and negotiations. And by negotiations, I mean negotiations between institutions which legitimately represent citizens and not between career civil servants. This is what the French and German ministers were effectively saying at the latest EcoFin Council.