Joseph Stiglitz: Austerity not the way to go for Europe
- 4 October 2011
- From the section Business
Most economists thought that when the euro was put together, it was an incomplete task. They'd taken out too many adjustment mechanisms and had not put anything in its place.
One of the things that makes the American common currency work across the country is we have a common fiscal authority and high migration - we're willing to allow North Dakota to become empty.
In Europe, there's no fiscal authority, migration is more difficult and most of the countries are not willing to let themselves become empty. So the framework for allowing for an effective common currency is not there.
Now you might be able to make up for the deficiencies in one part by strengthening another part, for instance by having a stronger fiscal authority. But they don't have that.
What they did fiscally was tie themselves to the stability and growth pact, which was a pact for recession rather than for growth because limiting deficits when you have a shock is a recipe for recession, which is what is happening in Greece.
So the question was always: when a crisis occurred would they be able to finish the task? And I think the jury is still out.
The agreement that they made in July was a reasonably good agreement. It recognised that Greece needed help to grow but they haven't put in any money and the process of ratification has been very slow.
So I think it's really a question that has not yet been resolved.
There are a number of institutional ways of going about helping to resolve it. The European Financial Stability Facility (EFSF) needs to be larger or to have more ability to leverage itself. That's a minimum.
Over the longer term they're going to need European bonds and a number of other actions, and they have to recognise the framework of austerity is not the way to go.
Issuing bonds should be one part of the fiscal framework.
The problem with the eurozone was the one part of the framework that they thought they needed was limiting fiscal deficits and that was just a misguided analysis.
Ireland and Spain had surpluses before the crisis. But they thought that having limited fiscal deficits was necessary and sufficient for protecting the economic framework and that was just wrong.
The July agreement was a good start if they implement it quickly. But that's not been happening.
Let me say, for democracy it's not been that slow. Two months to get landmark legislation through is not a long time. But markets move quickly. So I don't criticise the fact that there's been a deliberate pace - that's the nature of democracy.
My criticism is they didn't do anything in the 10 years before there was a crisis.
I suspect that we're going to see a lot of volatility. Whether at the end the eurozone will emerge intact or not, it's hard at this point to say.
It all depends on the politics. Even though I think the commitment of the leaders to do something is there, the political process in some ways is not in tune with the economics. The problems are deep.
I think there is a reasonably good chance that a year from now you would find the eurozone smaller than what it is today.
There's a broad consensus among economists that the best way of doing it would be for the northern European countries to leave. That would be the easiest adjustment.
But the general view is that is not what's going to happen. The view is that some of the weaker countries will leave and that will lead to very large trauma in the global financial markets such as freezing the credit markets, a repeat of 15 September 2008 (when Lehman Brothers collapsed).
If Europe insists on going forward with the kind of austerity packages in Germany and without the kind of assistance they need to help those countries with severe economic problems, such as Greece, then almost surely the eurozone will break up.
But if they come forward with that money, then it can survive, at least for a while.
The European Central Bank (ECB) is the one institution that has the kind of flexibility that is necessary to deal with the crisis. It will be absolutely essential, because they will be able to step into the breach and be willing to do that.
Now the problem is that some people in Germany and elsewhere have said the ECB should not be buying Italian and Spanish bonds and that it should not be stepping into the breach. But if the ECB doesn't do that, then the eurozone's prospects are very, very bleak.
It's not inevitable that Greece will default if they come forward with enough assistance for it to grow. It has enormous growth potential, so if Europe comes up with enough money, it will grow and that will enable it to manage its debts.
But so far I've seen nothing in the form of growth assistance as opposed to austerity assistance just to meet its budget shortfall, and I'm not very optimistic that it will avoid a default.
Joseph Stiglitz is a recipient of a Nobel Prize in Economics and a former chief economist at the World Bank.
The opinions expressed are those of the author and are not held by the BBC unless specifically stated. The material is for general information only and does not constitute investment, tax, legal or other form of advice. You should not rely on this information to make (or refrain from making) any decisions. Links to external sites are for information only and do not constitute endorsement. Always obtain independent, professional advice for your own particular situation.