US & Canada

Larry Summers: Europe crisis hit by 'realism failure'

Larry Summers
Larry Summers is a veteran of the Clinton and Obama administrations who is now at Harvard

A top US economic policy-maker has told the BBC of a "deep and profound and continuing failure of realism" by European leaders over the euro crisis.

Professor Larry Summers said politicians in the US and around the world were right to be frustrated at how Europe has dealt with the crisis.

He served as Bill Clinton's treasury secretary and head of Barack Obama's National Economic Council.

Business and Wall Street concerns about the eurozone are on the rise.

On Thursday Spain's credit rating was downgraded as estimates on the size of the bailout it might need began to mount up.

'Global threat'

Larry Summers says it is not just about concrete effects like a drop in exports.

"There are also very large psychological effects," he said, "and the sense that a large part of the world economy could encounter really grave financial problems is a source of uncertainty.

"When people are uncertain, they wait, and that means they don't spend, and in a demand-short economy, that can be a serious problem.

"Europe is a threat not only to itself but to the global economy."

Mr Summers tells me he can understand that European leaders want to maintain confidence, but adds:

"Sometimes there's nothing more demoralising than being told that the emperor's well-clothed when you can see for yourself that the emperor is naked.

"They are errors that tended, in the name of maintaining confidence, to seek to perpetuate illusion."

No excuses

He says the European leaders may also feel they have been told so many times that they are on the brink of crisis that they feel they are doing enough. He understands the pressure they are under.

"You know, it's a common model of political behaviour that confronted with a problem, governments do enough to avoid any imminent collapse, but they don't do enough to put the problem in the rear-view mirror. They are satisfied, if you like, with simply averting disaster.

"And that's what it's been, stage after stage in Europe. Some of it is a reflection of political timidity; more of it probably is a reflection of balancing between competing goals.

"Look, from the point of view of northern Europe, of Germany, there are really twin imperatives: reassuring markets and holding policy makers' feet to the fire in the periphery. It's easy to figure out how to act to achieve one of those objectives; it's harder to figure out how to act to achieve both of those objectives."

But the complexity of the problem doesn't excuse the leaders, Mr Summers says.

"I think there has been a deep and profound and continuing failure of realism, and that that persists to this day.

"I think the international community has probably been more timid than it should have been in pointing out the reality of a variety of things that were being said, though one doesn't of course know what's said in private rooms.

"It's much easier to counsel saying tough words than it is to say them in an official position. But I think that it is a failure of realism that has been a central part of what has brought us to this point."

Next moves?

I say that from what I have heard the White House is deeply frustrated.

"The White House can speak for itself, but I certainly think financial officials from around the world should be very frustrated by the fact that really substantial efforts on their part have the risk of being lost in this vortex.

"I think President Obama needs to keep the pressure on with respect to Europe; I think he's very much done that. I think there needs to be more insistence on realism and I think you're seeing that over time."

It is not certain what form that realism would take. What would Larry Summers do?

"I'd like to see a judgement - either to move backwards, or a judgement to accept some of the necessary concomitants of union, in terms of a much greater level of transfers, a much more European-wide approach to banking than has been present so far.

"As long as they're saying things like the belief that the sovereign debt of European countries is riskless from the point of view of the bank regulatory system; as long as they're holding out the prospect that debts that will never be paid will in fact be paid, as long as they're claiming that an adequate growth strategy is in place, even as growth deteriorates; as long as they're saying things that people can see with their own eyes are very unlikely, they're very unlikely to win back the confidence of the markets or the public.

"But I think that the internal contradictions in the European architecture are becoming more apparent and I think sometime before long we're going to need to go for much bigger approaches if we're likely to put this problem behind us."