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The fundamental trends in Europe’s economy are illustrated in Figure 1. This shows the changes in different components of European Union (EU) GDP since the first quarter of 2008 – the peak of the last business cycle, immediately before the onset of the financial crisis. The negative trends in the EU economy are shown to be largely due to falls in investment.
The EU’s trade balance has improved during the financial crisis, government consumption has risen, and the fall in personal consumption is relatively small. But the fall in fixed investment is huge, amounting to 150 percent of the total decline in GDP. This fall far more than offsets the performance in other economic sectors. The economic situation in Europe is therefore entirely dominated by this investment fall.
After four years of failing to face economic realities, an understanding of this core problem in Europe’s economy is beginning to emerge. President of the European Parliament Martin Shulz recently wrote on Europe’s crisis: “What is to be done? First, targeted investment should be prioritized.”
José Manuel Barroso, the European Commission president, and Olli Rehn, the European commissioner in charge of dealing with the euro crisis, have said it is likely EU leaders would soon agree to increase the capital of the European Investment Bank by €10 billion (US $13 billion). This could be used as collateral to start large infrastructure “pilot projects” on a pan-European scale. Fran?ois Hollande campaigned with a similar message during the French presidential election.
But while these policies go in the right direction, they are too small to turn the situation round. The EU is a US $16 trillion economy. The idea that a€13 billion program — 0.06 percent of EU GDP, can offset the US $343 billion decline in EU investment since the first quarter of 2008, is clearly unrealistic.
The European Commission admits that there is€82 billion (US $106 billion) in unused structural funds in the EU’s medium-term budget. This could theoretically be used to tackle the investment decline. This entire sum, however, is less than one third of the decline in investment that has taken place in Europe, and national governments haven’t yet agreed to the use of these funds for a European investment program.
So, four years after the outbreak of the crisis, EU governments are beginning to discuss the right issue. But the practical measures they are proposing are still much too small to deal with the scale of the problems Europe faces. The differences between Europe and China can be seen clearly in Figure 2. China’s GDP breakdown
is a testament to the results of the stimulus program it launched in 2008 to counter the international financial crisis. This stimulus program directly targeted raising investment, in particular infrastructure and now housing. The results are evident. Far from falling sharply, as in Europe and the U.S., China’s investments rose. China’s economy has expanded by over 40 percent in the four years since the crisis, compared to growth of 1 percent in the U.S. and a contraction of 2 percent in Europe. China’s stimulus program was US$586 billion, about 13 percent of China’s 2008 GDP. The major part of this program was targeted at investment.
China’s stimulus as a proportion of GDP would be equivalent to a program of US $2 trillion in the EU today. An investment program on that scale would be too large for the EU at present, since the situation is not as critical as in 2008. Nevertheless, it is only necessary to compare this number to the US $13 billion discussed by EU commissioners today to see how inadequate the scale of the proposed EU response to the present situation truly is.
Jens Weidman, president of Germany’s Bundesbank, has complained about the lack of policy tools available in Europe: “Now that fiscal stimulus has reached the bounds of feasibility in many countries, monetary policy is often seen as the ‘last man standing.’ However contrary to widespread belief, monetary policy is not a panacea and central banks’ firepower is not unlimited.”
But Weidman’s despondent conclusion exists only because Europe refuses to study the country that passed most successfully through the international financial crisis – China. Two years ago I wrote in this column. “The dispute between the U.S. and Europe over ‘economic stimulus’ versus‘deficit reduction’ convincingly demonstrates the superiority of China’s system of macro-economic regulation. China has faced no similar dilemma. It has simultaneously carried out the world’s biggest economic stimulus package while running a budget deficit that is entirely sustainable at under 3 percent of GDP. Therefore, China has not had to face the choice between continuing fiscal economic stimulus measures and placing the priority on budget consolidation.”
This remains the key problem. Unless Europe is prepared to grasp the concept of a large, “China style” program based on state-led investment, the continent is likely to face, at best, years of economic stagnation.
China’s authorities have always maintained that its economy shouldn’t necessarily be a model for others. They argue that every country is unique and therefore no country can or should mechanically copy another’s policies. But China did learn many things from other countries. For its own sake Europe should start to learn from China.
The EU’s trade balance has improved during the financial crisis, government consumption has risen, and the fall in personal consumption is relatively small. But the fall in fixed investment is huge, amounting to 150 percent of the total decline in GDP. This fall far more than offsets the performance in other economic sectors. The economic situation in Europe is therefore entirely dominated by this investment fall.
After four years of failing to face economic realities, an understanding of this core problem in Europe’s economy is beginning to emerge. President of the European Parliament Martin Shulz recently wrote on Europe’s crisis: “What is to be done? First, targeted investment should be prioritized.”
José Manuel Barroso, the European Commission president, and Olli Rehn, the European commissioner in charge of dealing with the euro crisis, have said it is likely EU leaders would soon agree to increase the capital of the European Investment Bank by €10 billion (US $13 billion). This could be used as collateral to start large infrastructure “pilot projects” on a pan-European scale. Fran?ois Hollande campaigned with a similar message during the French presidential election.
But while these policies go in the right direction, they are too small to turn the situation round. The EU is a US $16 trillion economy. The idea that a€13 billion program — 0.06 percent of EU GDP, can offset the US $343 billion decline in EU investment since the first quarter of 2008, is clearly unrealistic.
The European Commission admits that there is€82 billion (US $106 billion) in unused structural funds in the EU’s medium-term budget. This could theoretically be used to tackle the investment decline. This entire sum, however, is less than one third of the decline in investment that has taken place in Europe, and national governments haven’t yet agreed to the use of these funds for a European investment program.
So, four years after the outbreak of the crisis, EU governments are beginning to discuss the right issue. But the practical measures they are proposing are still much too small to deal with the scale of the problems Europe faces. The differences between Europe and China can be seen clearly in Figure 2. China’s GDP breakdown
is a testament to the results of the stimulus program it launched in 2008 to counter the international financial crisis. This stimulus program directly targeted raising investment, in particular infrastructure and now housing. The results are evident. Far from falling sharply, as in Europe and the U.S., China’s investments rose. China’s economy has expanded by over 40 percent in the four years since the crisis, compared to growth of 1 percent in the U.S. and a contraction of 2 percent in Europe. China’s stimulus program was US$586 billion, about 13 percent of China’s 2008 GDP. The major part of this program was targeted at investment.
China’s stimulus as a proportion of GDP would be equivalent to a program of US $2 trillion in the EU today. An investment program on that scale would be too large for the EU at present, since the situation is not as critical as in 2008. Nevertheless, it is only necessary to compare this number to the US $13 billion discussed by EU commissioners today to see how inadequate the scale of the proposed EU response to the present situation truly is.
Jens Weidman, president of Germany’s Bundesbank, has complained about the lack of policy tools available in Europe: “Now that fiscal stimulus has reached the bounds of feasibility in many countries, monetary policy is often seen as the ‘last man standing.’ However contrary to widespread belief, monetary policy is not a panacea and central banks’ firepower is not unlimited.”
But Weidman’s despondent conclusion exists only because Europe refuses to study the country that passed most successfully through the international financial crisis – China. Two years ago I wrote in this column. “The dispute between the U.S. and Europe over ‘economic stimulus’ versus‘deficit reduction’ convincingly demonstrates the superiority of China’s system of macro-economic regulation. China has faced no similar dilemma. It has simultaneously carried out the world’s biggest economic stimulus package while running a budget deficit that is entirely sustainable at under 3 percent of GDP. Therefore, China has not had to face the choice between continuing fiscal economic stimulus measures and placing the priority on budget consolidation.”
This remains the key problem. Unless Europe is prepared to grasp the concept of a large, “China style” program based on state-led investment, the continent is likely to face, at best, years of economic stagnation.
China’s authorities have always maintained that its economy shouldn’t necessarily be a model for others. They argue that every country is unique and therefore no country can or should mechanically copy another’s policies. But China did learn many things from other countries. For its own sake Europe should start to learn from China.