– EU leaders have called on the G20 to address ‘global imbalances.
– The internal imbalances of the eurozone should also be a priority.
European Council President Herman Van Rompuy and European Commission President Jose Manuel Barroso wrote to the G20 leaders on Saturday setting out their priorities for the upcoming G20 in Cannes (full text here http://www.telegraph.co.uk/finance/financialcrisis/8858304/Joint-letter-from-Herman-Van-Rompuy-and-Jose-Manuel-Barroso-to-G20-in-full.html).
Top of the list was promoting growth and tackling global imbalances. With regard to the latter, they mentioned insufficient savings in some advanced economies (i.e. the US) and “undervalued exchange rates in key emerging surplus economies”. I am not sure that the reference to the RMB (and if not the RMB then which currency could they be referring to?) will be found endearing in Beijing, or that it will increase the prospects of China stumping up the cash to buy the AAA tranche of the new EFSF CDO.
What some countries on the receiving end of this advice from Europe may find a bit rich is that Europe’s means of tackling its own imbalances – austerity for the peripherals – does not seem to be particularly growth enhancing. Neither does there seem to be much action from Europe’s own economies with “undervalued exchange rates” to tackle imbalances.
Europe’s current account of the balance of payments is pretty much balanced. But within the total there are some very big imbalances. In 2010, Germany had a current account surplus of some EUR 139bn. The current account deficit of Italy, Spain, Portugal, Ireland and Greece put together was EUR 142 bn. In 2009 the corresponding figures were a German surplus of EUR 135bn and a peripheral deficit of EUR 133bn. Chart 1 shows how the deficits and surpluses have evolved over the years. It is pretty obvious that the German surplus and the deficit of the periphery are mirror images – two sides of the same coin.
The system we have forces unequal adjustment as between creditor and debtor countries. The creditors see themselves as having done everything right and, since they control the purse strings, force a disproportionate burden of adjustment on debtors. There are parallels here with how Keynes interpreted the lessons of the Great Depression. After WWI, Keynes had argued (see, for example, his “The Economic Consequences of Mr Churchill”) that returning to the Gold Standard and trying to regain competitiveness by cutting wages would lead to a conflict between capital and labour and to mass unemployment as a result of lower real wages and consumption. The General Strike of 1926 and mass unemployment seemed to prove him right. Eventually, unable to take the economic and social costs, Britain quit the Gold Standard in 1931.
We see parallels in the eurozone today. There are big imbalances but the recipe is only for the debtors to endure pain, which is inherently disinflationary and could have undesirable social and political consequences.
Van Rompuy and Barroso need to set out what he creditor countries in Europe need to do to boost growth and reduce imbalances before they start lecturing China and the US on what they should do.
The most important step that creditor nations in the eurozone could make towards a more equal and sustainable address of imbalances is to boost German domestic demand. Between 1999 and 2010, German domestic demand increased by only 6%. No wonder the country has had to turn to exports to fuel growth. Germany’s export performance is a great testimony to the quality of German products and the competitiveness that has been built over the last decade. But it is also an implicit condemnation of the failure of Germany to stimulate domestic demand.
What could be done?
- Structural reform of the services sector to raise the potential growth rate, permanent income expectations and both investment and consumption: e.g extension of shop opening hours, lower barriers to entry in the liberal professions, deregulate prices, reduce advertising restrictions in the professions, further reform insolvency regulation, boost venture capital, increase labour market flexibility (including allowing more immigration to meet skill shortages).
- According to the OECD, Germany ranks 16 out of 28 countries in terms of product market regulation. (http://www.oecd.org/document/23/0,3746,en_2649_34117_44808343_1_1_1_1,00.html);
- Temporary slower fiscal consolidation in Germany to offset accelerated tightening in the periphery; and
- Raise payroll taxes and cut VAT, in a fiscally neutral way, to achieve an “internal revaluation”.
Of course it is difficult for the debtors to force adjustment on the creditors (what are they going to say, “we’re not going to allow you to lend us money we desperately need unless you liberalise shop opening hours”?), so the responsibility has to fall on the German government itself or on the EU institutions. Unfortunately, none of them seem to either see the point or to be willing to act on it. That can only make the reduction of eurozone imbalances more painful and contractionary than it needs to be.
Click here for PDF version of the report:
http://www.easyforexnews.net/wp-content/uploads/2011/11/G20.pdf
BNP Paribas
Corporate & Investment Banking