|Hervé Carré: I think the challenges we face now
are easier to face than the ones we successfully faced in Europe
ten years ago. There are many challenges. But I will just elaborate
on three of them.
The first is economic policy coordination. In Europe, we have
a single monetary policy, entrusted to a federal institution.
And on the other hand, the responsibility for all other economic
policies and budgets remains decentralized – although subject
to common rules. This decentralization provides the necessary
room to adapt to national economic structures and to adjust to
country-specific preferences. However, the growing interdependence
of member states, and the potential for spillover effects calls
for coordination of national economic policies.
new member states will join the European Union soon
next year. This will bring
The extension of the zone of peace, stability, and prosperity
The second is structural rigidities. Six million jobs were created
in the EU between 1999 and 2001. But since then employment growth
has stopped. More structural reforms are needed in the labor
market to raise employment and productivity, and ultimately to
increase the standard of living of European citizens. In 2002,
GDP per capita in the EU was only 71 percent of the level in
the U.S. The employment rate is 86 percent of the U.S. level.
This means that in Europe we do not work enough. We also need
structural reform that allows wages and prices to adjust more
quickly to changes in supply and demand.
The third challenge is enlargement. Ten new member states will
join the European Union soon next year. This will bring extraordinary
benefits: The extension of the zone of peace, stability and prosperity
in Europe; the addition of more than 100 million people in rapidly
growing economies; and the strengthening of the EU’s role
in world affairs. But the criteria for accession to the EU require
these countries to be functioning market economies. And our institutional
framework must continue to guarantee an efficient management
of economic policy.
Tom Cooley: I’ll focus on the countries that have opted
to stay outside the monetary union, like the U.K., Sweden and
Denmark. And I thought I would relate it to the debate a couple
of years ago about whether countries like Mexico and Brazil and
Argentina should adopt the U.S. dollar as their home currency.
It turns out there are incentives for countries that are not
in a currency union to stay on the periphery. If Mexico could
be reasonably disciplined in its monetary policy, there were
more gains to Mexico to stay out of the union, but to have a
monetary policy that's sort of close to what the U.S. policy
is. And this same logic applies to the case of the U.K. and Sweden.
It's clear that the U.K. has had a very different monetary policy
than the EU in the last few years, and as a consequence has had
a very different inflation rate, as has Sweden. If you conclude
that Sweden and the U.K. are achieving growth rates that are
closer to their potential growth rates over this period, then
it's hard to see what the incentive would be for them to join.
So the prediction would be that we're not going to see them joining
any time soon. Now, if they decide to stay out and they have
weak fiscal discipline, then I could imagine that it might undermine
the currency union. But it’s definitely a factor that in
the long run has to be thought about.
Francesco Giavazzi: I've been asked to talk about a more mundane
problem: Fiscal policy and the stability pact. Do we need rules
in the monetary union? Yes, we need some rules. But the stability
pact provides the wrong incentives. It forces countries to focus
attention on the short run rather than on the long run. It encourages
people to focus on this year’s budget, when an issue like
pension reform – which the French government enacted in
July – is much more significant for deficits over the next
ten years. In Germany, issues like pension reform and health
reform are more important for the long run sustainability of
public finance then an effort to keep the deficit within three
percent of Gross Domestic Product at a time when there are 4.5
million people unemployed.
What can be done? I think there are two ways out. My ideal would
be to take the U.K. code of fiscal responsibility, put it in
the constitution and give the Commission the power to monitor
fiscal policies based on that. But this solution is very unlikely.
The second is to increase transparency, and, hence, market pressure.
Italy has, in a single year, shifted two percent of public expenditures
into a special purpose vehicle that under Luxembourg rules, is
outside the government accounts. Had that not been done, Italy
would be far above the three percent deficit-GDP limit.
Mickey Levy: If you look at Europe in recent decades, economic
performance has been disappointing. Since the EMU was established,
the euro-zone growth has averaged nearly a percentage point below
the United States. And it doesn't seem like the establishment
of the EMU or the euro has had any significant effect on overall
economic performance. It seems to me the underperformance is
a direct function of misguided fiscal and regulatory policies.
The ECB has pursued a consistent and successful low-inflation
monetary policy. But when you look at the excessive government
spending, taxes, regulations that reduce labor supply and reduce
the implementation of capital spending, therein lies the problem.
stability pact provides the wrong incentives. It forces
to focus attention
short run rather on the long run.”
Fiscal policy reform is constrained and distorted by the Stability
and Growth Pact, particularly its deficit to GDP limitation.
It limits counter-cyclical fiscal policy and tax reform. It has
led to budget gimmickry and it has not addressed the major problems
of government spending and taxes. I strongly believe the deficit
to GDP ratio is an inadequate, limited and potentially misleading
representation of fiscal responsibility. For example, the deficit
to GDP ratio in Germany is pretty close to that in the United
States. But in Germany, government spending exceeds 50 percent
of GDP. In the United States, it's about 33 to 35 percent.
To really address the problems of Europe, the pact needs to focus
on government spending and taxes as well as budgets. Firstly,
I would put limits on the ratios of government spending to GDP
and of taxes to GDP. But I would phase them in over time. And
to the extent that taxes are cut before spending, I would relax
temporarily the deficit to GDP ratio. That would make policy
makers focus on the real issues that are inhibiting economic
What’s more, the figures on national debt and cash-flow
deficits don't capture the unfunded liability of the pensions.
The long-run projections are very unfavorable. But with regard
to the issue of debt, and deficits, you have to ask the question,
well, what are you deficit spending for?
Hervé Carré: I'd like to respond to Mickey’s
point. We were aware of the crude character of the three percent
deficit to GDP ratio when we adopted it. And the level of debt
is clearly the major problem in terms of sustainability. On pension
reform, I fully agree. The Commission for four years has been
recommending to member states that they take necessary measures
to change the present system. But here again it's a political
problem. Government spending is also a hot potato. All the ministers
from the Scandinavian countries will tell you that they don't
want to decrease the level of taxation, because their voters
want to keep the social safety net. So it’s easier when
you're an economist, than when you are a politician.
Tom Cooley: I think all this discussion is kind of missing the
boat a bit. It seems to me that the real compelling problem of
Europe is that their productivity growth is so much lower than
the U.S. And I think the answer lies in structural reforms that
will remove the conditions that inhibit Europeans from taking
risks and engaging in the kind of innovative activities that
drive productivity growth elsewhere in the world.
Francesco Giavazzi: On productivity, one has to be very careful,
because the level of productivity per hour worked is higher in
most European countries. The productivity per person is lower
because as suggested before, the amount of hours worked in Europe
are 30 percent below hours worked in the U.S.
Sir Nigel Wicks, Former Member
of the EU Committee of “Wise
Men” on European Securities Regulation, Former Principal
Private Secretary to Prime Minister Margaret Thatcher,
and keynote speaker at the dinner following the EMU panel,
speaking with Dean Cooley and Hervé Carré.
Mickey Levy: Well, the statement about productivity
I think is well stated. I think the problem in Europe is you've
sharp decline in aggregate hours worked per employee. And that's
in part endogenously determined by misguided policies. I understand
the difficulties in implementing my proposal about the ration
of deficits to GDP. But if you think about targeting deficits
as a percentage of GDP, it's just as silly. Go back to U.S.
history in the 1970s. There was abysmal productivity and very
labor costs, and double digit inflation and interest rates.
The fiscal and monetary policy makers lacked credibility. The
marginal tax rates were 70 percent. And the forecast of potential
growth was less than two percent – less than what potential
growth now is forecast for Europe. It took a fairly radical
change in tax rates to generate positive economic results and
standards of living. And so I'm not just pointing to Europe
and saying you need a straitjacket, but you need incentives
Hervé Carré: For the Commission, the choice of
taxation level and choice of spending to GDP ratio, is a political
choice. It's the expression of a choice of society. It cannot
be taken by bureaucrats. That's all. No taxation without representation.
Audience question: I’m an economic consultant. As I recall
there is one success story within the European Union, and that's
the Netherlands. They had a debt to GDP ratio which was more
or less around 100 percent. And they managed to lower it very,
Hervé Carré: Right. At the time of the Mastricht
negotiation, the ratio to GDP in the Netherlands was close to
90. Now it's below 60 percent. But I think the best example of
a very quick reduction of debt to GDP was Ireland.
Georges de Ménil: Can the Irish miracle be a model for
Europe, for the Continent?
Mickey Levy: Ireland is a great story. They certainly didn't
need any limitations. But their growth, their economic performance
was so bad, what did they do? They lead with tax cuts and a constraint
on government and they created an environment that put incentives
in place. What if one of the ascension nations recommends sharp
tax cuts? And then that nation becomes a very attractive destination
for capital and jobs, even though they violate every deficit
to GDP concern in Europe? What happens then?
Georges de Ménil: Well, with that open
and challenging provocative question, let me thank the panelists.