Financial media and analysts in the last few days have begun to espouse the idea that German-led austerity in Europe is finally facing some backlash amid the collapse of the Dutch ruling government and mounting support for Socialist French presidential candidate Francois Hollande.
While these developments constitute important steps away from a German-backed, anti-expansionary crisis ideology that is not working, both events actually send mixed signals.
In reality, there will be no short-term changes to crisis management, and countries like Greece, Portugal, Ireland, Italy, and Spain will continue to face steep economic reforms that slow growth.
To date, the Franco-German coalition of French President Nicolas Sarkozy and German Chancellor Angela Merkel has been responsible for pushing through European leadership measures like a fiscal compact that would impose sanctions on countries that did not keep down spending or make substantial progress towards a debt level of just 60 percent.
Merkozy has also advocated sharp fiscal adjustments in Greece, Ireland, and Portugal in exchange for bailout money. Demands that Greece reduce wages in the private sector by 20 percent, for instance, have unsurprisingly deepened the scale of the country’s now five-year-long recession.
Merkel has often carried the upper hand in these debates, discounting more activist suggestions from Sarkozy and others to recapitalize banks, adopt eurobonds, or change the mandate of the European Central Bank.
For this reason, analysts have lauded French challenger Francois Hollande, who supports many such policies. But the Socialist candidate isn’t actually likely to produce much of a change in policy. Analysts from the Eurasia Group explained why earlier this week:
We do not think a Hollande victory, by itself, will lead to a fundamental change in policy direction/substance regarding crisis management. A number of reasons speak to this.
Firstly, Hollande’s objectives regarding the fiscal compact–where he is not seeking formal renegotiation but is looking to introduce a growth component–will be easy for Merkel to concede. In some respects, Article 3 of the fiscal compact (which speaks about Economic Partnership Programs) was designed to allow for this eventuality. And there are reasons to believe that both Hollande and Merkel will be able to develop a co-operative approach as the main elements of Hollande’s growth and governance agenda are not completely out of sync with recent German thinking (where Merkel has shifted her own emphasis in recent weeks, happily opining on the importance of growth). Perhaps more tricky is Hollande’s pledge to seek a change in mandate for the ECB. However, he will soon realize that this objective is a non-starter: not only are the Germans clearly opposed, but all 27 EU countries would need to agree to the change, which is extremely unlikely (even if there is a camp that would be willing to get behind Hollande on this issue).
Merkel and the German government have long supported some kind of “growth compact,” however, in reality these efforts are mostly lip-service. Just take Merkel’s belief that painful austerity must precede economic growth in Greece, shortly after endorsing a growth fund back in December.
Further, clamor over the collapse of the Dutch government is also overrated. Dutch Prime Minister Mark Rutte resigned after the populist Freedom Party failed to support more domestic spending cuts. However, instead of suggesting that the Netherlands is becoming more supportive of growth measures relative to austerity, the party’s euro-skeptic views suggest that this is actually a movement away from supporting stronger measures to bail out Southern Europe.
True, the resultant government that forms may come to power with a stronger mandate to support pan-European bailout efforts (as support for the Freedom Party is faltering), but the pro-euro coalition that will rise to the surface would likely continue to endorse the strict financial discipline that it has supported to date.
Finally, comments by Mario Draghi today about a “growth compact” mean little. According to MNI, he shortly followed up those statements by telling reporters that structural reforms will continue to cause difficult economic contractions in the short run and that competitiveness and growth are firmly long-run goals.
It is ultimately undeniable that countries like Greece, Italy, Ireland, Spain, and Portugal do need economic reforms. The eurozone business model is not sustainable: northern Europe—and Germany in particular—cannot survive by throwing money at the South to create high demand for German goods. Righting these fiscal imbalances will be painful for all involved.
What analysts have been pressing for is some guarantee that Europe will not go under—the adoption of eurobonds or a change in the European Central Bank’s mandate to make it the lender of last resort—not a full stop to economic reforms. Adoption of either of these ideas remains far off, as Northern Europe remains staunchly opposed to such policies, partly because they do not want to commit more money to profligate spenders and partly because they would suffer from the inflation and/or higher borrowing costs these moves would entail.
It is true that swift, harsh austerity without guarantees of survival is not helping anyone, but we will never see a complete elimination of such policies, nor should we. Recent developments may represent steps towards a more sensible crisis approach, but this baby is still learning to crawl, not run.