Blog Post

Should Europe Emulate the US?

Paul Krugman, the Princeton University economist and blogger, recently summarized diverging transatlantic trends as follows: “Better here, worse there.” It is a shocking observation: as recently as in 2009, European politicians and commentators lambasted the US for being at the root of the financial turmoil and hailed the euro for protecting the continent from it. […]

By: Date: November 23, 2012 Topic: European Macroeconomics & Governance

Paul Krugman, the Princeton University economist and blogger, recently summarized diverging transatlantic trends as follows: “Better here, worse there.” It is a shocking observation: as recently as in 2009, European politicians and commentators lambasted the US for being at the root of the financial turmoil and hailed the euro for protecting the continent from it.

Unfortunately for Europe’s boosters, the facts are unambiguous. According to the European Commission, US per capita GDP is expected to return to its 2007 level next year, whereas it is expected to remain 3% below that level in the eurozone.

Likewise, unemployment was roughly the same on both sides of the Atlantic in 2009-2010, but it is now almost four percentage points lower in the US. Capital expenditure in the US is recovering more strongly, and exports are picking up. Even inflation is likely to be lower in America than in Europe this year.

The one area where Europe is posting better results is public finances. In 2012, the aggregate fiscal deficit in the eurozone is expected to be slightly above 3% of GDP, compared to more than 8% in the US.

There are two competing explanations for Europe’s relative malaise. One is the claim that Europe is paying the price of misguided austerity. The other is that the US, too, will eventually face its day of fiscal reckoning, and that Europe had no choice but to start it earlier: as the euro crisis demonstrates, things would have been worse had austerity been postponed.

There is truth in both views, but both overlook an important part of the story. In the aftermath of the Great Recession, the US and Europe (including the United Kingdom) adopted opposite strategies. President Barack Obama’s administration and the US Federal Reserve gave priority to healing the private sector. After expeditiously restoring confidence in the banks by forcing them to undergo severe stress tests, they gave households time to repair their balance sheets. The task for economic policy was to compensate for the resulting shortfall in private demand until households eventually recovered. Fiscal consolidation was put on hold (although some did occur, owing to the balanced-budget rules of most US states), and monetary policy was geared toward flattening the yield curve.

Europe, by contrast, put early emphasis on restoring fiscal sustainability, but neglected its private-sector maladies. As early as the second half of 2009 – that is, before bond markets got nervous – policymakers’ top priority was to find the exit from fiscal stimulus. Private-sector problems were overlooked on the way out. Banks, for example, were said to be in good shape, whereas several were barely solvent. Households were assumed to be ready to consume, although, in Spain and elsewhere, many were over-indebted. And labor-hoarding was encouraged at the expense of productivity and profitability.

As a result, Europe emerged from the recession with too many zombie banks, wounded households, and struggling companies. In Germany, the private economy was fit enough to recover, but this was less true in southern Europe or even France.

The UK, which has not suffered directly from the euro crisis, is an interesting test, for it also followed the European strategy. Instead of the productivity surge experienced in the US, it has gone through a sort of productivity holiday, with serious consequences. The Bank of England’s latest Inflation Report reckons that UK productivity is 10% below pre-crisis trends, owing to low investment and a slowdown of the Schumpeterian process of creative destruction. As in continental Europe, productivity has suffered from a combination of insufficient profitability and dysfunctional capital markets. Unit labor costs have risen, and potential output growth has fallen.

Neglect of the private sector has left Europe in a sad quandary. On the supply side, permanently lower output makes fiscal adjustment even more compulsory; but, on the demand side, a weak private economy lacks the resilience needed to weather fiscal retrenchment.

At this stage, struggling European countries evidently cannot afford to put public-sector adjustment on hold to concentrate on private-sector balance sheets. Nor should they take inspiration from America’s “fiscal cliff” theater. Nonetheless, the US approach holds three lessons.

First, banking-sector repair should be policymakers’ top priority wherever it has not been completed. Second, the pace of consolidation should remain moderate as long as private demand remains constrained by deleveraging or credit restrictions. Finally, attention should be paid to the balance between fiscal tightening and supply-side reforms: whenever appropriate, more priority should be given to the latter than has been the case so far.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint. Anyone is free to republish and/or quote this post without prior consent. Please provide a full reference, clearly stating Bruegel and the relevant author as the source, and include a prominent hyperlink to the original post.

Read article
 

Blog Post

Will European Union recovery spending be enough to fill digital investment gaps?

The recovery facility will boost digital transformation, but questions remain whether it will be sufficient to achieve Europe’s digital ambitions.

By: Zsolt Darvas, J. Scott Marcus and Alkiviadis Tzaras Topic: European Macroeconomics & Governance, Innovation & Competition Policy Date: July 20, 2021
Read about event More on this topic
 

Upcoming Event

Sep
1
12:30

The EU recovery fund - state of play and outlook

Bruegel Annual Meetings, Day 1- In this session we will discuss the EU recovery fund, its state of play and outlook.

Speakers: Nadia Calviño, Karolina Ekholm and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read about event More on this topic
 

Upcoming Event

Sep
2
10:00

Conversation on the recovery programmes

Bruegel Annual Meetings, Day 2- In this session, we discuss the recovery programmes.

Speakers: Maria Demertzis, Henry Foy and Tadeusz Kościński Topic: European Macroeconomics & Governance Location: Palais des Academies, Rue Ducale 1
Read about event
 

Upcoming Event

Sep
2
13:00

European banks: under global competitive pressure?

Bruegel Annual Meetings, Day 2 - European banks have lost stature and remain generally low-profitability, low-valuation in comparison to their global peers. Is that a problem? If so, what can EU policymakers do to address it?

Speakers: José Antonio Álvarez Álvarez, Mairead McGuinness and Nicolas Véron Topic: European Macroeconomics & Governance, Finance & Financial Regulation Location: Palais des Academies, Rue Ducale 1
Read about event More on this topic
 

Upcoming Event

Sep
2
15:45

Blending physical and virtual: shaping the new workplace

Bruegel Annual Meetings, Day 2 - This panel will cover the changes the COVID-19 pandemic made to our workplaces, and what to expect in the near future.

Speakers: Nicholas Bloom, Michael Froman, Mario Mariniello, Sara Matthieu and Luca Visentini Topic: European Macroeconomics & Governance Location: Academy Palace
Read about event More on this topic
 

Upcoming Event

Sep
3
09:00

The role of the EU's trade strategy for an inclusive and sustainable recovery

Bruegel Annual Meetings, Day 3 - We are delighted to welcome Valdis Dombrovskis, Executive Vice President of the European Commission for An Economy that Works for People to talk about Europe's trade strategy.

Speakers: Valdis Dombrovskis, Alicia García-Herrero and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Palais des Academies, Rue Ducale 1
Read about event More on this topic
 

Upcoming Event

Sep
3
10:15

Conference on the Future of Europe: envisioning EU citizens engagement

Bruegel Annual Meetings, Day 3 - Panellists will discuss different options and what they may entail while revisiting the debates on the future of Europe at national and EU-level that have been conducted thus far.

Speakers: Caroline de Gruyter, Kalypso Nicolaïdis, Niclas Poitiers and György Szapáry Topic: European Macroeconomics & Governance Location: Palais des Academies, Rue Ducale 1
Read article Download PDF
 

Policy Contribution

A new direction for the European Union’s half-hearted semiconductor strategy

The EU needs a more targeted strategy to increase its presence in this strategic and thriving sector, building on its existing strengths, while accommodating its relatively low domestic needs.

By: Niclas Poitiers and Pauline Weil Topic: European Macroeconomics & Governance, Innovation & Competition Policy Date: July 15, 2021
Read article More by this author
 

Blog Post

Fit for 55 marks Europe’s climate moment of truth

With Fit for 55, Europe is the global first mover in turning a long-term net-zero goal into real-world policies, marking the entry of climate policy into the daily life of all citizens and businesses.

By: Simone Tagliapietra Topic: Energy & Climate, European Macroeconomics & Governance Date: July 14, 2021
Read article More on this topic
 

Blog Post

Fair vaccine access is a goal Europe cannot afford to miss – July update

European countries must do more to tackle the vaccine uptake gap. Vaccination data should be published at the maximum granularity level so researchers and local decision-makers can monitor progress.

By: Lionel Guetta-Jeanrenaud and Mario Mariniello Topic: European Macroeconomics & Governance Date: July 14, 2021
Read article More by this author
 

Blog Post

SPACs in the gap

Special-purpose acquisition vehicles could fill a gap in European equity markets and lure risk-averse investors off the sidelines.

By: Rebecca Christie Topic: European Macroeconomics & Governance, Finance & Financial Regulation Date: July 13, 2021
Read article More on this topic
 

Blog Post

A breakdown of EU countries’ post-pandemic green spending plans

An analysis of European Union countries’ recovery plans shows widely differing green spending priorities.

By: Klaas Lenaerts and Simone Tagliapietra Topic: European Macroeconomics & Governance Date: July 8, 2021
Load more posts