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Saturday, Dec. 17, 2011
Merkozy's euro suicide pact
Special to The Japan Times
HONG KONG — British Euro-skeptics and many Conservatives were triumphant that Prime Minister David Cameron cast his veto in defense of the City of London at the European summit recently; to British liberals, it was a night of shame that the United Kingdom was so easily isolated; to Europe generally it was a chance to move on.
It is said that Germany rules, France reigns and Britain is lost in a fog in La Manche (the English Channel). In the U.S. and other markets, there is skepticism mixed with cynicism whether the European fiscal pact can work, with some economists claiming that the deal amounts to an economic suicide pact.
We in Asia should be worried that nothing discussed in Brussels, even with the prodding and advice and help of visiting fireman Timothy Geithner, the U.S. Treasury secretary, does much to recharge global growth or even offers a vision beyond Europe. Asia will be badly affected and needs to develop its own pan-Asian leadership and economic vision since it seems that the West is ready to surrender to economic Alzheimer's disease.
As summits go, it was a minor drama. Bleary-eyed performances after a single all-night session are nothing in the history of the European Union, especially compared with what former British Prime Minister John Major called a "four-shirter" — when leaders spent four nights arguing. This time the U.K. was swiftly isolated, told it could not expect special favors for its financial industry and bade, as Der Speigel headlined it, "Auf Wiedersehen, England." The rest of Europe went their own way in following the "Merkozy" (as German Chancellor Angela Merkel and French President Nicolas Sarkozy are nicknamed) plan for austerity and punishment for countries that don't keep their deficits under control.
Observer columnist Will Hutton, principal of Hertford College, Oxford, declared that Cameron was guilty of "an act of crass stupidity" in putting the casino interests of the City of London before the country, pointing out that the financial services industry in the U.K. represents only 7.5 percent of gross domestic product and the City only a third of that. Europe is the dominant influence on the U.K.'s economy and the country is already suffering greatly from turbulence in the eurozone, but the country's politicians pretend that they are a mid-Atlantic player, not a comfortable place to be during economic storms with an increasingly indifferent U.S.
The U.S. has made it plain that the political influence and the economic investment that the U.K. gets derives from the country being a key player in the EU. Japanese corporate investors have said similar things, and that the offshore market of the U.K. alone would not justify building British factories. Equally, the U.K. exclusion from the new group of 27 (with the addition of Croatia as the 28th member of the EU) means that it could be left out while the Merkozy EU enacts new financial rules without British participation.
Still, the U.K.'s sulk is likely to make the eurozone's already difficult task more difficult since the other 27 members will have to manage treaties intended for the full membership with one major member missing.
Even if they can get round the legal obstacles, Merkozy has set a difficult to impossible task. The fiscal pact aims to ladle out austerity medicine as a way of servicing massive existing debts, something that is almost a contradiction in terms: Austerity and cutbacks tend to reduce growth and increase the debts as a percentage of GDP. Mario Draghi, the new head of the European Central Bank, has again sternly refused its funds to bail out governments. No wonder, the Merkozy plan is being called a suicide pact.
The OECD, the club of rich countries, warned that borrowing by industrialized governments has topped $10 trillion this year and the "animal spirits" of markets — meaning their unpredictability — will be a threat to governments that need to borrow. Italy needs to borrow €157.4 billion by the end of April, Spain €63.4 billion and France €177.8 billion. If Italian bond yields go back to 7 percent, it could not afford to borrow.
Commercial banks in the EU are already facing dire times. The latest stress tests revealed a capital shortfall of €115 billion among eurozone banks, with German banks showing notable deterioration in core capital assets. The risk is that Europe is spinning into a giant whirlpool of a vicious circle, even without further austerity.
By the measures of the Stability and Growth Pact (of 1997), setting 3 percent of GDP as the limit for a government's deficit and 60 percent of GDP as the limit for total debt, only Estonia, Finland and Luxembourg have been within the limits every year for the past 11 years. Ireland was within the limits until the 2008 crisis sent its deficits and debts soaring as it went to the rescue of its banks.
Germany, with a deficit of 4.3 percent of GDP last year and debts of 83.2 percent, has exceeded the deficit limit in all but four of 11 years and been within the debt limit only in 2001. France is in a worse state, with a deficit of 7.1 percent, and with recalcitrant trade unions, and debts of 82.3 percent. Yet the new fiscal compact demands balanced or surplus budgets, with an annual structural deficit of no more than 0.5 percent of GDP. Where is the money going to come from to pay the fines — if the deal ever gets that far?
Arguments will continue about how right the Germans are to be so stubbornly self-righteous defending their own austerity and damning the "Club Med" countries for their profligacy. There is a democratic as well as political problem with letting Eurocrats decide tighter fiscal rules.
Jose Manuel Barroso, the head of the European Commission demanded that countries should submit draft budgets to him as part of Brussels' "enhanced surveillance." Who elected him and which voters can throw him out?
The more closely the EU fiscal pact is examined, the more it appears to be a deal that ignores the present grim reality.
Where is Asia in all this? Where are the brave leaders of China, India or Japan in trying to help Europe come to its senses? The only way that Europe can get on track if austerity is the order of the day is by exporting. But can export-led Asian countries like China and Japan offer markets? It seems unlikely. Europe's slowdown towards recession will sharply reduce Asia's export markets — and thus the overall economic growth prospects — for China and Japan. India is somewhat better off in not relying on exports.
But no Asian country can feel comfortable about what happened in Brussels. The risk is that we are all being sucked into an economic whirlpool.
Kevin Rafferty is editor in chief of PlainWords Media