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Covid-19: Europe and the post-economic crisis triggered by the pandemic

Henry Marty-Gauquié, member of JFC Conseil, member of the FEMISE Steering Committee, Honorary Director of the EIB




 Covid-19: Europe and the post-economic crisis triggered by the pandemic
SPECIAL FILE COVID-19. On 21 April 2020 a poll was published according to which 71% of Italians believed that the European Union had "reacted badly" to the health crisis and that they "no longer see any point in being part of it", while 58% of the same Italians considered that leaving the euro zone could be "a good thing". These lamentable results are certainly a reflection of the disastrous management of the migration crisis of the years 2015-18, but they also reflect the political collapse of Christian Democracy and its pro-European ideology in the face of populism. However, as Lenin said: "when the people take hold of an idea, it becomes legitimate"; it is therefore necessary to hear and explain.

First of all, it should be noted that Europe does not have competences in the field of health: it could therefore not act without the agreement of its member states. Indeed, although European construction is much more advanced than simple multilateralism (the EU has its own institutions, the Commission is a kind of government and the Parliament exercises legislative power), Europe remains dominated by the Member States: it is they who decide, on the proposal of the Commission.

A primarily national reaction, based on the "every man for himself" principle

In this crisis, as in that of 2008, the States therefore initially did not want Europe: each believed that it could get by on its own with national means and reflexes (closing borders, refusing to lend each other stocks of products or equipment, etc.). This attitude was the result of populist movements which had a lot of faith in the three most affected countries: Italy, Spain and France, as well as in Germany, where the majority government was weak, sandwiched between the extreme right (AFD) and the right of its own party, the Bavarian CSU.

These national reactions to the crisis have led the States to take an unprecedented measure (the containment and abrupt shutdown of the economy, a political decision with limited health justification) and to decide on budget spending on a scale never before reached: i) deferral of corporate taxes and social charges; ii) almost total coverage by the States of short-time working; iii) guarantee by the States or their financial arms of bank loans to businesses. In France, these measures amount to €110 billion, a figure that is likely to rise in the future ...

These national emergency measures resulted in considerable costs and economic damage. In mid-April the IMF estimated the global recession in 2020 at -3%, that of the United States at -6%, of the EU at -7.5% (France at least at -8%); only China would have a growth of +1% (but it needs at least +6% to ensure stable employment for a population of 1.3 billion). The European Commission estimates that the developed countries will thus have to issue an additional debt of 2 650 billion for the EU and 4 000 billion (at least) for the United States! In addition to these economic costs, there are also social costs: social violence and the distress of isolated people, the agricultural crisis, potential unemployment of several million workers if the recession persists, and the preparation of health crises in the fields of oncology and paediatrics due to delays in screening and care caused by the priority given to the fight against the pandemic.

This state policy therefore appears to be very costly and very risky since it is not known whether there will be a second wave of infection, nor how recovery will take place: it will depend on how people react to the deconfinement from an economic and social point of view. This is a political gamble that is only tenable in the short term.

Europe reacts in advance, without waiting for the approval of the Member States

Fortunately, the EU institutions had already prepared proposals to provide financial leeway to Member States before the confinement:
  •     the Commission had proposed to increase the mechanism for State compensation for short-time working (SURE mechanism up to €100 billion), put forward a draft amending budget for the current year and warned that the multi-annual budgetary framework 2021-2027 would have to be revised; it had also decided to relax the rules of the "Fiscal Stability Pact" (deficit and debt ceilings) and to liberalise the system of State aid to companies. Finally, the Commission proposed aid measures for the poorest countries (mainly in Africa): health support, financial aid for local businesses and macro-financial aid of €3 billion for North African and Eastern Mediterranean countries;
 
  •     the European Central Bank (ECB) had announced, on 10 March, the strengthening of its "QE 1" programme in order to refinance the public and private debts that would be created to the tune of €1,100 billion and took several technical measures relating to financing and the banking prudential framework. This is pure money creation which, logically, should turn into inflation. But it is far from certain: the euro zone has been living under ECB infusion since the previous crisis and is experiencing very low inflation (around < 1% per year) because powerful deflationary factors are still at work globally: massive production in low-wage countries, low productivity gains, still high unemployment in OECD countries, ageing populations, etc.
 
  •     The European Investment Bank (EIB), for its part, proposed to finance or guarantee SMEs and VSEs to the tune of €240 billion, the establishment of a pan-European Guarantee Fund with €25 billion and an emergency loan package for the health sector worth €5 billion;
 
  •     the European Stability Mechanism (ESM 2), for its part, drew attention from the outset to the issue of the debt of countries that were already over-indebted (Italy in the first place); there was no need to start again as in 2008 and wait for one country (Greece) to default before taking action. It was therefore proposed that the ESM should see its intervention conditions relaxed and its lending capacity increased to 2% of the eurozone's GDP, i.e. €240 billion.
 
At the same time, the Commission set up cooperation measures between countries that it could decide on without waiting for the agreement of the States: sending doctors to Italy and then Spain (there were even Norwegian doctors in Italy!), buying masks, gowns and respirators in China for Italy, organising flights to repatriate European nationals living abroad (China first), intervening with Germany so as not to close its borders tightly, which would have suffocated Luxembourg and Alsace, etc. The Commission also proposed that the ESM should have its conditions of intervention relaxed and its lending capacity increased to 2% of the GDP of the euro zone, i.e. €240 billion.
 

States mobilise the European Union

It was only once the crisis had been declared and national measures taken, that the States turned to Europe. In one month (17 March-9 April), the Eurogroup finance ministers mobilised a European package of €580 billion to complement the action already decided by the ECB (€1,100 billion). This package, made up of proposals from the institutions, was ratified by the Heads of State and Government on 23 April. It has three components: the EIB, the SURE mechanism and the enlargement of the ESM.

The eighteen-member decision on the assumption of the Italian debt by the ESM was not easy: Germany, the Netherlands and Finland were firmly opposed to it ("why should we assume the debts of a poorly managed and over-indebted country?"); this is why the Finance Ministers did not manage to decide on their own (on 9 April) and why it was not until the Heads of State on 23 April that the Heads of State "took the piece". In practice, it is a question of pooled debt (Europe borrows to lend to the States at low rates), a wall that seemed impassable in 2009 during the Greek debt crisis and which was again the subject of tough negotiations in 2020.

Compared to 2008, the lessons have been heard: no "austerity measures", but the reflex is once again sadly national; however, recourse to Europe is otherwise quick: one month instead of two years! So there is considerable progress, but how many crises will it take for the States to have the European reflex instead of first resorting to domestic policy, which is costly and delaying?

The difficult question of reviving an economy that is deliberately blocked

The next step is economic stimulus measures after the end of the pandemic. These are additional to emergency measures to repair the damage left by the Covid-19 crisis and to invest in the new economy.

Here, the discussions of the European Council on 23 April were not conclusive; there are two positive points already acquired: a European instrument is necessary and it must be on a large scale (between €1000 and 2000 billion). But the disagreement persists between the Heads of State on the nature of the instrument: if it seems excluded to foresee a very important increase of the European budgetary framework 2021-2027, it will undoubtedly be increased and mobilised. At the same time, the Council is considering the creation of a Recovery Fund that will be able to borrow on the markets with the guarantee of either the European budget or the European States. However, several questions remain as to the parameters of the Fund's action: what type of financial risk will it be able to take? will it include a grant component to help non-market sectors unable to carry a debt (social aid, certain sectors of health, education, administrative modernisation, etc.)? what will be the priority sectors and how will the climate issue be taken into account?

Similarly, to come back to the ECB's monetary creation, the challenge is to know how it will be distributed: how much will be devoted to the repurchase of State debt and how much in cash to the banking sector? And how will the banks translate this liquidity into loans to companies, individuals, to which sectors, etc.?

The European Council referred these questions back to its May meeting and asked the Commission to make proposals; the same applies to aid to third countries, particularly in the EU's southern and eastern neighbourhood, for which the Commission has announced that it is ready to provide macro-economic assistance to ten Mediterranean countries to the tune of €3 billion; but it needs the Council's approval.
This is in my view a crucial and underestimated issue. Up to now the Member States and Europe have only looked after themselves and have created considerable debts in the knowledge that a large part would not be repaid, but diluted by the action of the Central Bank and bank credit. For developing countries or countries not protected by a system of economic and financial cooperation (such as the euro zone), the situation is quite different. We remember the consequences of the 2008 crisis on the Arab Mediterranean countries, ravaged by 4 civil wars. Once again, signals of strong capital flight 3, a fall in foreign trade and services (such as tourism), as well as the collapse of export resources (including oil) foreshadow strong recessions (-6 to -10%), hence political instability, social violence and migration.

And afterwards: what will "tomorrow's world" be like?

After such a trauma and so much mobilization, it seems difficult to think that the world will start again "as before". The overriding question is, of course, the restoration of public confidence, without which there will be no economic recovery. This confidence must be restored on three levels: firstly, on the health level (hence the importance of clear guidelines, tests, masks and treatments), but also from an economic point of view (what means for what recovery plan?) and politically: restoring the credibility of public speech 4 and sketching out the vision of the 'new world'?

This will result from the answers given to three key words:
  •     "demon-globalisation": calls for a gradual review of the organisation of some of our production systems ("value chains") and for the EU to reindustrialise in order to restore its production independence in strategic sectors. Didn't the very liberal Commissioner for Competition, Marghrete Vestager, invite the Member States to take over stakes in strategic companies in difficulty (as Italy has just done with Alitalia)? This reorganisation of our own productive capacities will be all the more difficult to do as world governance is weak, national interests are divergent, the actors are multiple (States, international organisations, multinational companies, civil societies) and the consequences are long term. Moreover, withdrawing certain areas of activity from China may make us independent, but it may also weaken certain jewels of our industry (e.g. automobile, electronics) and create massive poverty in certain Asian subcontracting countries, which will lead to social or human disasters, generating tensions and migration 5.
     
  •     "regionalisation": in a world that will remain "globalised", only the large regional areas are capable of providing an economic and political alternative to openness and unbounded liberalism; thus, the current crisis may be decisive for the future of the European Union. Two scenarios are possible: that of mistrust and that of confidence.
     
Mistrust: European negotiations fail, states and public opinion retreat behind their borders, several states default on payments and the euro zone breaks up; protectionism develops, the weakest countries switch to "democracy" and become dependent on "strong countries" such as China, Russia and Turkey. This is a collapse; it must be used as a repulse to forge a more ambitious response!
 
Confidence: European negotiations are succeeding in establishing lasting solidarity between member countries, which is sufficiently perceptible to public opinion; we are rediscovering that protection is exercised at the Union's borders and that genuine coordination of economic policies makes it possible to release the means for environmental transformation and the fight against job and social insecurity. The EU is becoming a pole of stability and reference for its neighbourhood. It is a way out from above.
 
  •     "Social reconstruction": we are living in Europe on a social contract dating back to the post-war period (75 years), which has been modified on several occasions without public debate and which has been financed by debt for 40 years; moreover, the content of this contract is unknown to the younger generation and no longer has any federating power. We must seize this opportunity for a "rethink" to regain decision-making agility (in a society stripped of its "political correctness" and its petty procedures) and rebuild a collective consensus at a sustainable cost on the essential priorities: human, social and food security; sustainable environment; environmental, technological and commercial independence. From this point of view, public aid will of course have to carry a conditionality linked to the achievement of these essential priorities; but this conditionality must be coordinated at the European level to avoid distortions of competition and losses of efficiency.
     
To face the effects of the pandemic, we should, unlike China, equip ourselves with new democratic forces and overcome our fears; it is a question of benefiting from the resilience of our societies and from the European project, which is stronger than the populists would have us believe!

 
 
1 - "Quantitative Easing": a programme to buy back public or private debt on the markets, implemented from 2015 to 2018, then temporarily reactivated in 2019.

2 - When Greece declared bankruptcy (January 2009), the Member States resolved to lend it money that it could no longer borrow on the financial markets, first directly and then through an intergovernmental mechanism enabling lenders to pool risks: the EFSF and the EFSM created in May 2010; given the scale of the crisis, the Member States decided to create a permanent mechanism, but one that could be used on a piecemeal basis: the EFSM, which came into force on 27.09.2012.

3- Capital outflows from 24 emerging Mediterranean markets amount to US$80 billion in March 2020 alone, four times more than during the 2008 crisis (source COFACE).

4- All European opinion polls show that confidence in crisis management is poor and that the public voice is not credible, particularly in France (cf. Eurobarometer of 20 April 2020). Without credible public speech, social hatred has increased, leading to political violence.

5- Over the past 20 years, globalisation has lifted some 300 million people out of poverty, mainly in Asia.


 

Henry Marty-Gauquié, member of JFC Conseil


Tuesday, May 5th 2020



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