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Germany’s austerity mindset threatens the European economy

Only a radical rethink on wealth distribution and an embrace of pro-growth policies can keep the euro-zone from sinking into the abyss

PUBLISHED : Monday, 11 July, 2016, 11:44am
UPDATED : Tuesday, 12 July, 2016, 10:50am

It is now argued that Brexit poses the biggest threat to European unity and to global financial stability. Clearly Britain’s decision to quit the EU has been a seminal event, but bigger homespun risks are crystallising which threaten to rip Europe apart in the next few years. Brexit is not the cause but a symptom of deep fault lines which lie at Europe’s heart. Dangers are lurking that Europe’s policymakers can ill-afford to overlook much longer.

Europe stands deeply divided, riven by growing inequalities over wealth, employment and economic opportunity. Europe’s economic powerhouse, Germany, is getting richer and more dominant, while the less well-off nations like Greece, Portugal, Spain and Italy are falling further behind in the economic success stakes. Political strains are showing and even France voters are balking at the notion of closer economic integration in future.

EU leaders need to start thinking outside the box and begin to use carrots rather than sticks to help the rebuilding process

Unless the EU authorities in Brussels get to grips with the problem, there is a very good chance that the euro zone, European monetary union and the single currency could be dead before the decade is out. Brexit is a wake-up call to European policymakers to solve the simmering crisis before it is too late.

It should be no surprise that euro scepticism is on the rise. The global financial crisis has hit Europe very hard over the last eight years. Recession, deflation, soaring unemployment and rampant debt have come very close to tipping the euro zone into complete collapse and it is still not out of the woods, despite the European Central Bank’s best efforts to hold it all together with monetary super-stimulus.

Negative interest rates and the fall in the euro have been major windfalls for Germany, but they have made little difference for the hard-pressed euro zone economies. Glaring divergences in employment opportunities have been striking in recent years. German unemployment has hit record lows, while up to one in four of the workforce are out of a job in countries like Greece and Spain. In some countries the employment situation for young people is so dire that up to 50 per cent are out of work with little hope of getting a job any time soon.

It is driving Europe’s unemployed and disaffected youth into the hands of anti-austerity protest movements with growing hostility being turned towards the EU and Brussels. What is deeply disturbing is that, despite the flood of cheap money pumped in by the ECB, consensus forecasts are looking for little more than 1.5 per cent average euro zone GDP growth over the next two years. The ECB’s stimulus programme is failing to beat stagflation and probably still not providing sufficient protection for the euro zone if the global economy suffers another hard landing.

Europe’s leaders must ensure that the recovery, monetary union and the single currency not only thrive, but that prosperity is shared evenly throughout Europe’s 500 million strong economy. For this to happen, Germany needs to play a much stronger leadership role, rather than blocking more effective policy solutions. German’s hard-line monetary and fiscal models need to be set aside in favour of a much more pragmatic approach to tackling Europe’s crisis.

Germany can make amends by dropping its rigid opposition to ECB plans for additional QE measures and more interest rate easing. Germany should also give its blessing to stronger fiscal reflation from European governments, allowing increased deficit spending to complement the ECB’s monetary stimulus. Berlin must bury the hatchet with Brussels over the EU’s recovery-dampening fiscal stability pact.

More importantly, Germany needs to plough back its budget and trade surpluses to the benefit of Europe as a whole and not just for its own domestic economy. Without closer fiscal integration, European monetary union and the single market will always be a two-legged stool destined to keep falling over. Fiscal surpluses of the wealthy northern nations should be channelled back into the less well-off economies. A fairer redistribution of wealth and capital resources are vital to pull Europe together again over the future.

Brexit is the first shock but it will not be the last. EU leaders are trying hard to stamp out any further spread of the contagion by being tough on Britain. But they need to start thinking outside the box and begin to use carrots rather than sticks to help the rebuilding process.

Germany can help facilitate change but it needs to be quick before the old order breaks down with catastrophic consequences for the rest of the world.

David Brown is chief executive of New View Economics

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