Bill Emmott - International Author & Adviser


How Hollande and Merkel could make it work
The Times - April 30th 2012

Two ideas are gripping minds all over Europe. One is that next Sunday’s elections in France and Greece, spiced up by local elections in Italy on the same day, the campaign for the May 31st referendum on Europe’s fiscal treaty in Ireland, and the fall last week of the Dutch government, might be about to send the euro-zone countries in a turbulent, anti-establishment direction. The other, encouraged by the very establishment figure of Mario Draghi, president of the European Central Bank, is that fiscal austerity—a plan for sloth—needs urgently to be accompanied by a plan for growth.

            The question is whether these two ideas can be reconciled. And a question that follows from that one is whether these outbursts of democracy are destined to cause a new period of panic in the financial markets that could again bring the euro to the brink of disaster.

            In principle, they can indeed be reconciled. And if they are, it would likely be in the form of Francois Hollande, the man who has sought to transform his image from that of bank-clerk impersonator to rabble-rousing candidate and thence to what the polls say will be France’s first Socialist president since Francois Mitterrand in 1981. The means of reconciliation need to come quickly, probably in the form of his first phone calls and meetings with Angela Merkel, Germany’s hard-line but strongly pro-euro Chancellor.

            Here is what he should—and might well—say. “Regardez, Madame la Chancelie’re,” he could begin (for he should be polite), “I hold no grudges over your support for my opponent, Nicolas Sarkozy. I would probably have done the same in your position. We now have to work together and make some sort of deal. This shouldn’t be impossible. We are both establishment figures: after all, I was educated at the elite Ecole Nationale d’Administration. I am no rebel.”

            For that is true. The wealthiest French probably should take seriously Mr Hollande’s plan for a 75% top income tax rate and draconian punishments for bankers, as he is bound to toss some red meat to his most-left-wing supporters, especially with parliamentary elections still to come in June. But the idea of him as a euro-wrecker or budding protectionist underminer of the whole European Union is far-fetched.

            What he is likely to want is a pact that Germany will find hard, but not impossible, to accept. For senior German figures, including politicians and officials surrounding Mrs Merkel, know that the euro-zone’s current course is not sustainable. Fiscal austerity is unavoidable given the doubts held by investors about the solvency of Greece, Spain, Italy, Portugal, Ireland and even perhaps France, but it is bringing about a deepening recession that is also making continued austerity appear untenable. Something needs to change.

            None of the Western economies is in a happy position. But the 17 euro-zone members are in an especially miserable predicament. Public spending cuts and tax rises are shrinking demand. But the biggest holders of euro sovereign debts, European banks, are also feeling obliged to make things even worse by cutting their lending, to make themselves more robust in case things go belly-up—which the resulting credit crunch is making likelier.

            It is a hard trap to emerge from. Left as things are, the likeliest outcome is that despite harsh cuts, several European countries will miss the budget-deficit targets they have agreed to under last December’s fiscal treaty, thanks to worsening recessions. Greece, whose public debt is the most obviously unsustainable, will have its fourth successive year of sharp economic contraction, and a new parliament after May 6th which even on optimistic predictions will leave a wobbly coalition government facing an increasingly extremist set of opposition parties.

            Ideally, a Franco-German plan to get out of this trap would have three main elements. The first would be a Greek default and exit from the euro, with an accompanying package of financial support from the European Union and the IMF. The second would be a euro-wide plan for publicly financed capital investment. The third would follow the proposal tabled in February by Italy’s Mario Monti and our own David Cameron, along with nine other European leaders, to launch a liberalization drive to extend the continent’s single market and thus stimulate private investment.

            The Greek exit is the least likely, at least in the near term, as the new Greek government is not going to favour it. It is desirable, from the point of view of the remaining 16 members of the single currency, as it gets rid of their most gangrenous limb, but it would also be risky. So more likely is some sort of new “final” rescue plan for Greece.

            The other two elements could, however, emerge, and quite quickly. The capital investment plan would face German objections and the liberalization plan French ones, which is what makes a deal possible, especially if it were to be supported by such impeccable Europeans as Mr Monti.

            A capital investment plan might seem an odd proposal when everyone is slashing their budgets. But the real oddity is that for the soundest creditors, led by Germany (and, incidentally, Britain), public borrowing costs are now at record lows, which ought to be just the time to borrow billions to build things like superfast broadband networks (which would facilitate growth by a wide variety of companies) as well as new railways, roads and other infrastructure, which would create jobs directly.

            What the Germans would have to agree to, therefore, is that such capital spending should be financed collectively rather than nationally in order to exploit those low borrowing costs, perhaps through a big expansion of the European Investment Bank. They would stomach this only if they could convince themselves that the money could be kept out of the hands of southern European Mafias, thanks to strong European-level controls.

            The French stomach, and especially Mr Hollande’s, would be disturbed more by the idea of liberalization, for his campaign line has been that this is “neo-liberalism”, and that it is such Reagan-Thatcher policies that got us in our current mess. So a spot of creative re-labelling would be required, in the grand tradition of post-election promise-junking.

            Will this actually happen? So far, every time the euro has come to a fork in the road, its leaders have just carried straight on. But the French election, along with the spectre of right-wing trouble in the Dutch election now due in September, could prove to be the moment when that changes. No one, least of all Britain’s Tory eurosceptics, should under-estimate the desire among Europe’s governing elites to keep the euro alive. Eventually, that could even include doing the right thing.


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