December 13, 2012 2:23 am

Europe must abandon discredited policies

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From Mr Andrew Watt.

Sir, Olli Rehn, EU commissioner for economic and monetary affairs and the euro, defends the austerity policies the EU Commission has foisted on member states (“Austerity is working – Europe must stay the course”, December 11). He sees light at the end of the tunnel. While there have indeed been some positive signs recently, his arguments do not withstand scrutiny. I will make just two points, on austerity and competitive rebalancing.

The European economy was recovering quite strongly in late 2009 and 2010: there was light, and not just at the end of a tunnel. But it plunged back into recession in 2011 and 2012. How does Mr Rehn explain this, if it was not the swing to continent-wide austerity in early 2011?

He does not. He ignores it. In late 2011 the commission predicted a difficult 2012 and a robust 2013. Now it is predicting the same pattern for 2013 and 2014. There is always light at the end of the tunnel.

Simulations by the ECLM/IMK/OFCE show that growth and employment would be higher if fiscal consolidation had been less ambitious and delayed until the economy was more robust. The reason is simple: the fiscal multipliers are higher the wider the negative output gap is.

After disingenuously quoting Keynes – whose whole point was that adjustment should be borne mainly by surplus rather than deficit countries – Mr Rehn claims that faster demand and expansionary policies in Germany would do almost nothing to help adjustment in the south. Although I have not been able to find and verify his calculations, his message is implausible. Germany accounts for more than 10 per cent of the exports (goods and services) of Spain, Greece and Portugal. Exports in turn represent close to a third of output in the Iberian countries and almost a quarter in Greece. Plus there are indirect effects: higher German demand also raises incomes (and thus the imports) of countries such as France and the UK. Last but not least, Germany itself is now facing sluggish growth. Expansionary fiscal policy is entirely in its own interests.

Europe must change course, not stick to discredited policies.

Andrew Watt, Deputy Head, Macroeconomic Policy Institute (IMK), Düsseldorf, Germany

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