Posts Tagged 'Fiscal Adjustment'

France and the New Balance of Power in a Crisis-Stricken Europe

So the main reason I’ve been neglecting my blogging duties of late is because I’ve been preoccupied studying for an exam on international relations theory and history. With the exam safely behind me I’m back to blogging, but still have academic IR debates on the mind, so today I want to write about what the history of early 20th century European relations can tell us about the continent’s current political economy.

To grossly oversimplify, back in the pre-WWI days Europe was controlled by a number of Great Powers of roughly equal strength, who were in continual competition with one another to run the world. They typically pursued their goals by forming loose and shifting alliances; whenever any one state seemed to be getting too strong, a collection of the others would team up to balance against it (hence the “balance of power”). Britain, which then as now prized its position as being of but not in Europe, considered itself the ultimate balancer, frequently weighing in against the strongest continental power to ensure no state could establish hegemony over the mainland.

Now fast-forward to the Europe of today, as the debt crisis stretches into its third year. Of everything that has been written on the Euro crisis so far, I think one of the most perceptive and insightful pieces was an op-ed by Anne Applebaum all the way back in September 2010 (doesn’t that feel like a long time ago?), which made one simple but important point: thanks to the crisis, the East-West divide, which had dominated intra-European relations since at least the end of World War II, has now been overtaken by the North-South divide. The “North” – represented by Germany, Scandinavia, and some Eastern European economies like Poland and Estonia – are ruled by budget hawks committed to fiscal discipline; the “South” – including Greece, Portugal, Spain, Italy, and perhaps Bulgaria and Hungary – are home to bloated public sectors and seem unable to get their public finances under control. The geography doesn’t match up perfectly, of course, and it’s easy to argue about which countries belong on which side, but the fundamental divide is hard to ignore. And while the two groups aren’t anything like formal alliances, the economic interests within each group are more closely aligned than those across the divide, and hence it’s easy to imagine the major disagreements about how to manage the European economy over the coming years falling more or less along this fault line.

As Applebaum noted at the time, “France floats somewhere in between”. I think this means that France is positioned, if it wanted to, to play something like the role Britain played 100 years ago, able to weigh in – perhaps decisively – on the side of either the North or the South. The analogy isn’t watertight – Britain’s role as balancer was based in its fundamental strength, whereas for France today it’s more about being considerably weaker than Germany but aspiring to be viewed as its neighbour’s equal. (Which, incidentally, is another theme that reappears throughout European history…) But still, in the new North-South Europe France could represent the crucial swing vote, and throw some political clout behind the interests of the South, preventing Germany from fully setting the economic agenda for the continent.

In any case, up until now France has clearly sided with the North, epitomized in the “Merkozy” romance. But as the French prepare to head to the polls it appears increasingly likely Sarkozy is on his way out, which could dramatically shake up the picture. From many of the campaign statements he’s made to date, it seems at least possible a Hollande government would rupture the informal Franco-German alliance and move the French into the “South” camp. (It’s worth noting that I’m not particularly talking about whether Hollande would actually harm the French economy and investment culture, as some seem to fear, but rather whether France will continue to stand behind Germany in intra-European political economy battles or rather take up the cause of the Southern nations.)

To bring back some academic IR terms, the impetus for such a transition can be understood in both realist/materialist terms and constructivist/identity terms. From a realist point of view, it could be that France’s interests no longer lie with the Northern interests of tight money and imposed austerity. From a constructivist point of view, it’s easy to imagine the French self-identity under Hollande evolving from Germany’s little brother to the champion of the downtrodden South. As these two forces interact, I don’t think it’d be that surprising to see France pivot from backing up Germany to balancing against the strongest power on the continent, and challenging the Germans on their vision for the future of the European economy.

Over the past several months the Eurozone has entered a strange period of stasis, what has effectively become a period of permanent crisis. Since the crisis first erupted pretty much every policy measure adopted has been an effort to “buy time”, but nothing’s really been accomplished with this time, and so nothing’s really changed. There aren’t a lot of ways to break out of this status quo; you could have some sort of surprise, disorderly default from a periphery economy, but no one really wants that outcome (though I’m starting to think it might be better than continuing down the current path). One thing that could really shake up this political equilibrium, though, would be if France decidedly announces that it no longer supports the current Northern establishment position of forcing austerity on the South.

I’m not saying this necessarily will happen, or even that it’s particularly likely to. But I definitely think it’s a storyline worth watching, and a reason we should all be paying close attention to the upcoming French election…

Advertisements

File Under “Austerity Doesn’t Work Without Political Buy-in”

So it turns out the Greeks aren’t the only ones capable of skirting austerity-friendly legislation, driving a wedge between de jure and de facto fiscal tightening. The latest from Ireland (via NYT):

DUBLIN — Anti-austerity protesters are claiming victory after the government acknowledged that around 50 percent of Ireland’s estimated 1.6 million homeowners failed to pay a new, flat-rate $133 property tax by the March 31 deadline. […]

Introduced on Jan. 1, the household charge was intended as a forerunner to a comprehensive property tax next year. It has become a lightning rod for widespread disenchantment on an assortment of issues like cuts to services, findings of political corruption, taxpayer liability for debts to private banks and even European legislation intended to enhance wastewater treatment from septic tanks. […]

The Irish government argues that it has no choice but to introduce the interim tax at the behest of its lenders and has vowed to identify and prosecute those who have refused to pay.

“We will begin with sending out letters and then escalate it from there to the maximum fine of 2,500 euros” — $3,330 — “on top of the outstanding amounts due in late fees and interest,” a spokesman for the Department of Environment said in an interview on Monday. “We will be taking people to court if necessary, and if there is refusal to pay, then that could be seen by a judge as contempt of court.”

That last sentence hints at the hidden costs of unpopular austerity programs, in the form of compliance costs. How much does it cost to have a judge make a ruling on whether a failure to pay a small fine is a contempt of court? I’d imagine pretty high, undoubtedly way way too high to have anything like half of the population held in contempt.

Obviously the government’s plan isn’t to hold half the population in contempt, but rather to turn up the social pressure in hopes of getting people to come forward and pay themselves  (though it’s worth noting that even this can come at a pretty high administrative cost, just in terms of keeping track of who’s paid, finding those who haven’t, etc). Maybe this will work, but I’m not too optimistic, especially for the Irish. Other peripheral economies with deep structural problems can (somewhat) convincingly spin a story of the need for shared sacrifice for the national good. But the Irish for the most part have a reasonably well-functioning economy, and are being asked to swallow deep-cutting austerity simply to pay off the misguided 2008 all-encompassing bank guarantee, much of which went to pay back foreigners. That’s a tough sell.

Did the German Finance Minister Seriously Just Suggest Greece Postpone Elections?

I didn’t think it was possible, but the situation between the Greeks and the Germans just grew considerably more ridiculous. German finance minister Wolfgang Schäuble said in a radio interview that the Greeks should postpone national elections planned for April and instead adopt a technocratic government that leaves out the country’s major political parties (h/t Tyler Cowen, who correctly files this under ‘Department of Yikes’, and it’s worth noting that the Finns and the Netherlands are also apparently on board with this plan).

Good lord. Due to the Eurozone crisis a lot of things which would have seemed unthinkable a few years ago are now plausible, but even by our new 2012 standards this is just insane. Suffice it to say, the German finance ministry should not be in charge of determining whether Greece is a democracy or not! A situation where the Greek people want to choose their own government and the German finance ministry tells them they cannot is completely untenable. For anyone who forgets their European history, the response from Greek President Karolos Papoulias was a not-so-subtle reminder: “[W]e cannot accept insults from Mr Schäuble. Who is Mr Schäuble to insult Greece? … We have always defended not only the freedom of our own country, but the freedom of Europe.”

What’s particularly bizarre is that the current fight comes down to the Germans demanding various Greek politicians sign letters saying they’ll stick to austerity after the next election, and not all the politicians are happy about it. For the life of me I don’t understand why the Germans care about these letters. It’s clear that Greek politicians have a problem credibly committing to undertaking wide-sweeping austerity measures, and for good reason – their people don’t want them, and austerity without political buy-in doesn’t really work. But how are signed letters supposed to solve that problem? What magical powers are these letters supposed to have?

The most logical explanation is probably that, like with the call to impose a budget commissioner a few weeks back, this is ultimately another attempt by the Germans to accelerate the Greek endgame. Both the Germans and the Greeks seem to be inching toward the realization that they could live with Greece outside of the Eurozone, at least relative to other available alternatives. The simple fact is, real relative wages in Greece need to fall a lot if the Greek economy is going to sustainably grow again. This can happen one of three ways: through Greek nominal wage cuts (which the Greeks can’t accept), through high Eurozone inflation and stable Greek nominal wages (which the Germans won’t accept), or through Greece getting control over its own currency, which will depreciate considerably relative to the Euro. It increasingly appears the only question left is how to get to the latter option with minimal collateral damage to the European banking system.

This post also appears on Politics in Spires, the joint Oxford/Cambridge politics and international relations blog.

The Greek Structural Adjustment Programme

Taking a step back from the immediate uncertainty over Greece (see here for the latest updates), I’m struck by how similar the situation is to the old IMF and World Bank Structural Adjustment Programmes (SAPs) of the 1980s and ’90s. Reading accounts of the negotiations (especially this one in the Times today about how the Germans, IMF, and ECB don’t trust the Greeks), you could rather easily replace “Greece” with “Nigeria” or “Senegal” and be transported back in time 20 years. An emergency need for new official lending to roll over past debts? Check. Tough loan conditionality attached? Check. Domestic pushback and questionable democratic legitimacy? Check. It’s all playing out more publicly/more quickly in Greece today than in sub-Saharan Africa 20 years ago – maybe because the power imbalance isn’t quite as large, so Greece has more room to manoeuvre – but the fundamentals are remarkably similar.

Now I’m actually someone who thinks history has judged the SAPs a bit too harshly, and that the economics of the Washington Consensus – if not the politics or the implementation process – deserve at least some credit for the great boom being seen across the developing world over the last decade. But even still, it’s pretty clear SAPs didn’t work all that well, mostly because there was never domestic political buy-in and hence little follow through on reform programmes. You don’t need to accept a narrative of the World Bank and IMF as being out to exploit the poor to have a problem with this; from a pure positivist/rationalist perspective, SAPs didn’t do a good job of meeting their stated goals.

Coming back to Greece today, the lesson is simply that imposing austerity from outside – no matter what you think about democratic legitimacy – just generally doesn’t work very well. Over the past couple days there’s been ample media coverage painting the current situation as “will the Greek coalition sign on to the deal or not?”, with the implication that the critical question is whether a deal is agreed, that’s what will rally the markets, etc. To me this largely misses the point. I think the historical lesson from the SAPs is that the deal itself is of very little value, it’s the follow through that counts. And a loan agreement that imposes structural adjustment against the wishes of the domestic political class (not to mention the people) is barely worth the paper it’s written on, and is certainly a very poor predictor of what policy changes we’ll actually see over the coming years.

There’s a chance that the next few days will see the situation in Greece unravel if negotiations completely fall apart. But we should be honest that there’s no real chance of anything being “resolved” if a deal is agreed. And in fact, I’d even say that if the Greeks sign on to a deal that clearly lacks domestic legitimacy, the likelihood of the country’s finances being a mess two or three years from now probably only increases…

This post also appears on Politics in Spires, the joint Oxford/Cambridge politics and international relations blog.

The Headline of the G20 Summit

Well, there wasn’t much of one, really.  Of course heading into it we knew Toronto was only going to be a pit stop on the way to Seoul in November, but even still I’ve been surprised by the general lack of enthusiasm and the minimal media coverage of the event.  Talk of a bank tax seems to have completely evaporated over the past couple weeks (count that as a victory for Canadian diplomats), and there wasn’t much on financial regulation at all.  The biggest takeaway seems to be the commitment of advanced economies to cut deficits in half by 2013 and stabilize debt-to-gdp levels by 2016.  Leaving aside the question of whether or not this is the right strategy, it seems unlikely this “commitment” will actually do anything to shift behaviors.  Like most parts of these communiques, the section on fiscal tightening is triple- and quadruple-caveated, full of language about how plans will need to be adopted to national circumstances.  In other words, if a country wants to do this great, but if not, don’t worry about it.

I’m not someone who believes that international agreements which leave room for national discretion can’t have an effect; indeed, they can often provide important political cover and international pressure to pass unpopular but necessary legislation.  (“We aren’t happy about having to do this, but it’s important we do so to remain a member in good standing of the international community.”)  But this is only going to work for countries and in situations where populations see some benefits to supporting supra-national causes, even at the cost of a little national sovereignty.  Today, I’d guess this is probably the case in Canada and Australia, two small-ish powers eager to prove they belong on the global stage (and for whom multilateralism is tied into national identity); maybe the case in France, another country that enjoys playing an out-sized, magnanimous role in global affairs; but I doubt is true of many other advanced G20 countries.  You certainly aren’t going to see any Republican Senators here in the US justifying a vote saying “I know people aren’t going to like this, but a global governance institution told us to do it, and I think we should do what they say”.

Coincidentally, the two countries that might actually shift their behavior in response to an international commitment happen to be the two with the least fiscal issues:  Canada and Australia already have plans to return to balance budgets — a seemingly infinitely far off prospect for most advanced economies —  by 2014/15 and 2012/13, respectively.  So my take on the G20 pledge is that it might, at the margin, slightly increase France’s likelihood of taking meaningful action on the fiscal front.  Quite an accomplishment.

All that said, I don’t want to be too down on the G20; this was always meant to be an in-between meeting, and it’s better for the G20 to make modest statements than overreach.  Let’s hope for more out of Seoul.

And somehow the G8 still managed to make the G20 look incredibly effective by comparison: the G8’s big headline, a new initiative on maternal and infant health, came in at several billion less than expected, and even then still consisted of mostly repackaging previous commitments rather than any new funding. Sigh.

The Political Fallout of Fiscal Adjustment

In a recent VOX column, Alberto Alesina argues that the conventional wisdom surrounding the political economy of fiscal adjustment — that governments that raise taxes and/or cut spending to get fiscal balances under control tend to be voted out of office — is wrong.  This is intended to be encouraging to European governments today, almost all of which face the need for immediate and sustained fiscal adjustment.  But I’m not sure how comforting Alesina’s analysis really is.

The table below shows Alesina’s data for the 10 significant fiscal adjustments undertaken in Western Europe over the past 25 years.  The fourth column shows the number of times a sitting government was upended, while the fifth shows cases where a government survived an election (or a new government was installed with a similar political orientation).  Alesina notes that there were a total of 13 government changes compared to 26 non-changes, meaning government changes made up 33% of the total.  In the full sample of these countries from 1975 to today government changes were 39% of the total, suggesting that governments that were pursuing fiscal adjustment were no more likely to be removed from office.

So far, so good.  However now look at the final column, which shows the average annual growth rate during that period (not included in Alesina’s table but added here using IMF data).  Not surprisingly, governments that ruled over periods of fiscal adjustment and economic growth were considerably more likely to survive.  Of the ten cases above, in those for which average growth was above 2 percent governments were removed from office less than 30 percent of the total.  But when growth was below 2 percent, governments were removed a full 50 percent of the time.

Fiscal adjustment during a period of growth is in some ways quite a different undertaking than during periods of low or no growth.  To begin with, when an economy is growing, fiscal adjustment can occur “naturally”: in raw terms tax receipts will increase, so simply holding the level of service provision constant will help bring the budget balance back in line.  Moreover, during eras of low or no growth fiscal adjustment means a pro-cyclical, anti-Keynesian reduction in aggregate demand just when it is needed most.  It appears voters can swallow higher taxes and/or lower services much more easily during periods of overall economic expansion.

Now, guess what the IMF forecast is for average annual growth in the Eurozone over the next five years? 1.6 percent.  (And this was estimated before the worst of the Greek crisis, so if anything is probably slightly lower today.)  Do you think governments should still be comforted by Alesina’s analysis?



%d bloggers like this: