After more than two years of austerity measures, the European Union is no closer to solving its financial crisis. National debt burdens remain heavy, bond yields are higher, and unemployment in the eurozone is at a 15-year high of 10.9%. What’s worse is that economic growth is still elusive. As a result, some influential figures are now pushing to balance budget cuts with measures to promote growth.
European Central Bank president Mario Draghi is advocating for a “growth compact” for the continent in addition to maintaining budget discipline, a policy recently backed by the EU’s internal market commissioner. International Monetary Fund president Christiane Lagarde and European Commission president José Barroso are also talking more about growth—not just austerity—which is welcome news for some.
“The austerity doctrine that has ruled European policy is a big fat failure,” economist Paul Krugman wrote in a recent blog post. Greece, for example, reduced its government debt-to-GDP ratio by 6.5% between 2009 and 2011, but its economy shrank by more than 7% during the same time period. Spain has since fallen back into a recession. Same with the United Kingdom.
Often the only option to keep government debt from growing, austerity can nonetheless trigger a vicious circle. Indebted EU countries are scrambling to reduce spending, but slashing payrolls and public services only serves to damage an already weak economy. That means lower tax revenue in the short term, further imperilling government finances and ultimately worsening the very problem the EU is trying to solve.
Moreover EU citizens, even in the core of the free trade zone, are increasingly fed up. Witness the popularity of French presidential candidate François Hollande, who trumped incumbent Nicolas Sarkozy in the first round of voting, in part due to his opposition to spending cuts. The prime minister of the Netherlands also resigned in April after failing to secure support for massive budget cuts. The frustration may even be getting through to Germany, which has driven the EU’s austerity agenda. “We’re not the (fiscal) consolidation Taliban,” the country’s deputy finance minister said at a recent conference.
Whether talk of growth will turn to action is far from clear. “We’ll probably hear more about it,” says Megan Greene, a senior economist with Roubini Global Economics, “but it’s very difficult to come up with a growth strategy for the eurozone.” Countries that need to provide stimulus to their economies do not have the means—or the credit—to do so.
One approach touted by policy-makers is to increase funding for the European Investment Bank, which finances private-sector development. Similarly, EU-issued “project bonds” to fund development in energy, transportation and other infrastructure schemes could also boost growth. Even Germany has expressed support for more EIB funding, but remains skeptical about project bonds.
What’s clear is that continued austerity will only hasten the EU’s decline, says Greene. “It’s killed the patient.”