Europe

Shift in eurozone policy of austerity

  • 29 May 2013
  • From the section Europe
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OECD Chief Economist Pier Carlo Padoan
OECD Chief Economist Pier Carlo Padoan said Europe was in a "dire situation".

In Brussels a bugle sounded on Wednesday. It marked the retreat from austerity. It was not presented like that, of course, but six eurozone economies have been allowed to breach the rules on reducing deficits.

Those governments in France, Spain, the Netherlands, Poland, Portugal and Slovenia, will be given more time to make spending cuts so as not to throttle fragile growth.

Policing budgets and reducing spending have not been abandoned but they are no longer the priority. European officials, these days, fear recession and unemployment more than debt and deficits.

''The reality is that the tide has turned decisively against the entire economic reform drive in the eurozone," said Nicholas Spiro of Spiro Sovereign Strategy.

Increasingly the charge is made that the policies, designed in Berlin and Brussels, have deepened the recession in countries like Greece and Portugal and have led to a sharp rise in unemployment.

Others say that officials seemed to have been more influenced by rising resentment towards the EU than by the fact of unemployment itself.

'Dogmatic adherence'

Professor Simon Evenett of Global Trade Alert says: "Dogmatic adherence to austerity has failed. Poor economic results didn't prompt Brussels to change heart; the slump in public support for the European project did."

This shift away from rigidly-enforced austerity comes on the day that the OECD delivered a sobering assessment of Europe. It predicted that the eurozone economy would shrink 0.6% this year - far worse than previous forecasts.

Its chief economist Pier Carlo Padoan said: "Europe is in a dire situation." It expects the eurozone to fall further behind the recovery taking place in the United States and Japan.

So today France has been given an extra two years to reduce its deficit, from 3.9% of GDP to 2.8% in 2015. But Paris has been told to reform its pension system by the end of the year and loosen up its labour market. The message is that it can no longer rely on increasing taxes. Reducing social security contributions will prove a major challenge for President Francois Hollande.

Spain has also been given an extra two years to reduce its deficit and get its finances under control. There were two warnings today of how deep the Spanish problem is.

The OECD said the jobless rate would rise to 28% next year. The Bank of Spain warned that the recession would continue, although the rate at which unemployment increases may well slow. That might just boost consumer confidence. The Commission said today that Spain's "debt overhang" remains a matter of concern.

Resentful generation

Italy has been taken off the list of those countries which were under increased surveillance because it had lowered its deficit - but the debt-to-GDP ratio is still forecast to reach 132% by 2014.

Slovenia, which many suspect might need a bailout later in the year, has not only been given more time to reduce its deficit but has been told to hire external advisers immediately to review the quality of its bank assets. The country has also been told to move swiftly to privatise state assets and clean up its banks, to avoid needing a rescue.

Germany has been nudged to support wage growth in order to boost domestic demand, which would help other European countries hoping to export to Germany.

In exchange for the new leniency, many countries are being told to deepen structural reforms - loosening up the labour market.

European officials believe that such reforms are the key to finding growth and increasing competitiveness, but the problem is that they take time and can be counter-productive when introduced in a recession.

Yesterday, Europe's leaders were warning of a future generation turning against the whole European project if high unemployment persisted. The prospect of a lost and resentful generation is haunting officials in Brussels.

There was one hopeful note from the Secretary-General of the OECD, Angel Gurria. He predicted that some of the reforms already undertaken will soon bear fruit. He pointed out that southern Europe had moved more swiftly than elsewhere to loosen up its labour market and that boded well for the future.

But the message today was that the exit from the eurozone crisis is a long way off, with fragile economies, many in recession and with rising unemployment. The OECD warned that prolonged weakness in Europe could lead to a period of stagnation.