European problems, European solutions

A few weeks ago, Gordon Brown, the former British Prime Minister and Chancellor of the Exchequer, was quoted advocating that global problems must be tackled through global solutions. This is because issues like financial capital flows, climate change, terrorism and poverty all have a global dimension and, therefore, they have to be internationally regulated in order to reduce the possibilities of unsustainable “bubbles”.

Moreover, it was argued that the majority of the existing international bodies have been designed mostly to deal with the “old” world and, thus, like the United Nations, the World Bank, the International Monetary Fund and the G20, should change and be more representative of the world’s economic composition through a constituency system. As a result, these institutions would gain more democratic legitimacy in the eyes of the international community and citizens.

The same is being argued about the European Union. Recent crises in Greece, Ireland and Portugal have all called into question the EU model for financial, fiscal, economic and monetary policies. The EU is quite centrally developed in both fiscal and monetary policies, especially through the soon-to-be-amended Stability and Growth Pact and also the euro project, even though the former has been subject to lots of previous changes in order to accommodate the larger countries like France and Germany when they were faced with difficult political decisions in balancing their books. However, the main challenge remains in the financial and economic regimes of the EU. Here I will only focus on the economic perspective.

Economics is not the same as dealing with statistics. Economics goes into the area of individual and institutional behaviours in managing their limited resources. On a regional level, economics plays a very important role in dealing with consumption and investment patterns of different EU member states in relation to their fiscal and monetary positioning. In simple terms, the biggest challenge for the EU is to develop at, more or less, the same pace, especially across the eurozone area.

Unfortunately, all recent public debt crises in the EU clearly illustrated the policy failures of the member states in designing a regulatory structure that prevented unsustainable practices from happening. See what happened in case of Ireland, whereby low interest rates by the European Central Bank prior to 2008 led national policymakers to implicitly or explicitly encourage economic development based on higher property prices, which eventually led to the implosion of the same economy.

Nobody foresees the future. But it is important that lessons be learnt by different policy actors, mainly by designing more regulations that are effective in bringing member states closer to each other in the areas of fiscal, financial and economic policies. The main purpose should be to find a balance that would prevent any repetition of such crises.

Today, we are talking about the possibility of Greece defaulting on its own debt, which is expected to reach 160 per cent of GDP in 2012, even though it could be mostly speculation for unknown short-term financial gains. On the other hand, there are also some “encouraging” calls for more political and economic solidarity from Germany and France, for example through their encouragement of banks to extend their bond investments in Greece. However, when one considers the pain that the Greek people have gone through during this last year, and will also be experiencing in the coming years, then this call for a closer economic union would surely make sense.

To mention just a few of the changes that have been proposed recently by the Greek Finance Minister for the next two years, fiscal deficits will be further reduced through expenditure cuts in wages and pensions and increases in value added and other taxes. Moreover, there will be more liberalisation of collective bargaining arrangements.

On the other hand, expenditure controls and overspending by sub-national entities will be strengthened. In order to improve the fiscal area, tax administration to combat tax evasion is expected to improve while its 450,000-strong civil service will be downsized dramatically.

Other changes include the liberalisation of labour markets, the opening up of highly-regulated professions, cutting administrative barriers to export, strengthening public procurement procedures and enhancing the competition authority. Public assets will have to be sold, amid high resistance by the unions, while the country’s education and health systems will be revamped in order to make room for future policies that promote research and development.

Greece is a case study that truly represents the post-crisis pains that have to be experienced after many decades of having an economy based on corrupt practices and also on artificial spending patterns that did not reflect economic productivity.

However, the fault does not stop at national level. Today, the EU is faced with three main options: whether to go backwards to national regulations and no regional policies, or to limit itself only to successful economies with the implied transitional shock of partial break-up, or to move forward by developing regulation that reflects tomorrow’s global economy.

The choice may not be made today. But, as the well-known economist Martin Wolf says, this choice has to be made.