An economic suicide pact

PUBLISHED : Tuesday, 13 December, 2011, 12:00am
UPDATED : Tuesday, 13 December, 2011, 12:00am


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Different geographical locations and even different political philosophies can provide radically different views of the same event. This is truer than ever of last week's all-night European summit in Brussels in which leaders tried to find a deal to save the euro.

British Eurosceptics and many Conservatives were triumphant that Prime Minister David Cameron cast his veto in defence of the City of London; to the British left, it was a night of shame that the UK was so easily isolated; to Europe generally it was a chance to move on, Germany rules, France reigns, and Britain is lost in a fog in La Manche (or English Channel as it is called beyond the fog).

In the United States and markets, there is scepticism mixed with cynicism whether the European fiscal pact can work, with some economists saying 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 Tim Geithner, the US treasury secretary, does much to recharge global growth or even has a vision beyond Europe. Asia will be badly affected and needs to develop its own pan-Asian leadership and economic plan as it seems 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 John Major called a 'four-shirter' - when leaders spent four nights arguing.

This time Britain was swiftly isolated, told it could not expect special favours for its financial industry and bade, as Der Spiegel headlined it, 'Auf Wiedersehen, England'. The rest of Europe went their own way in following the Merkozy (as Dr Angela Merkel and Nicolas Sarkozy are nicknamed) plan for austerity and punishment for countries that don't keep their deficits under control.

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 Britain represents only 7.5 per cent of gross domestic product and the City only a third of that. Europe is the dominant influence on the British economy and the country is already suffering greatly from turbulence in the euro zone, but the country's politicians pretend they are a mid-Atlantic player, not a comfortable place to be during economic storms with an increasingly indifferent US.

Still, Britain's sulk is likely to make the euro zone's already difficult task more difficult since members of the EU will have to manage treaties intended for the full membership with one or more 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, since austerity will reduce growth and increase the debts as a percentage of GDP. Dr Mario Draghi, the new head of the European Central Bank, has again sternly refused its funds to bail out governments. No wonder, it is being called a suicide pact.

The Organisation for Economic Co-operation and Development is about to warn that borrowing by industrialised governments has topped US$10 trillion this year and the 'animal spirits' of markets - meaning their unpredictability - will be a threat to nations that need to borrow. Italy needs to borrow Euro157.4 billion (HK$1.62 trillion) by the end of April, Spain Euro63.4 billion and France Euro177.8 billion. If Italian bond yields go back to 7 per cent, it could not afford to borrow.

By the measures of the Stability and Growth Pact (of 1997), setting 3 per cent of GDP as the limit for a government's deficit and 60 per cent of GDP as the limit for total debts, 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 per cent of GDP last year and debts of 83.2 per cent, 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 per cent and debts of 82.3 per cent. Yet the new fiscal compact demands balanced or surplus budgets, with an annual structural deficit of no more than 0.5 per cent of GDP. Where is the money going to come from to pay the fines - if the deal ever gets that far?

The more closely the EU fiscal pact is examined, the more it appears to be a deal for the future 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, even as Europe's slowdown towards recession will sharply reduce the 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 number of euro-member states, out of a total of 17, that Standard & Poor's last week put on a downgrade warning