The long and slow-stunted recovery of the eurozone economies is a major source of concern for the IMF and international bankers. Six years after the collapse of Lehman Brothers signalled the onset of the Great Recession, we are now faced with the prospect of a Long Stagnation, rather than the return to economic growth that policy makers and the public alike desire.
Not only have many economies still to return to pre-crisis levels of economic activity, but there is also a strong risk that the eurozone economies will enter a further recession. It’s a bleak outlook. But should we be worried about this failure to return quickly to past levels of economic activity? And what does this tell us about the resilience of European economies to economic shocks?
Not just the eurozone
One of the first points to make is that this is not a crisis that is confined to the eurozone. Many non-eurozone economies are also struggling to raise growth rates, even if, like the UK, they are not in recession themselves. And, given their circumstances, several economies in the eurozone have navigated the years of the crisis rather successfully. So to label this simply as a malaise of the eurozone risks missing the point.
One of the most significant factors that caused the 2008-09 economic crisis were the decisions taken by businesses, households and governments in the years preceding it. Key to this were the levels of debt built up by governments, banks and households, which led to massive support for the financial system and resulted in the imposition of austerity measures in many, but not all, parts of Europe in the ensuing recession.
The austerity politics that now sweeps much of Europe is recognised as something of a blunt instrument. The constraints they impose on government expenditure run the risk of depressing demand and stymieing efforts to stimulate economic activity.
There is a real risk that in many parts of Europe levels of economic activity will become permanently depressed, leading to a long-term economic decline of living standards and economic opportunity. This fear underpins concerns within the European Commission of the unravelling of the gains made previously in securing convergence in living standards between European regions.
The failure to return to economic growth, and to begin to close the gap on pre-crisis levels of economic activity affects us all. Slow growth, unemployment and low wages reduce the demand for goods and services and spreads the costs to other areas, as recognised by UK chancellor, George Osborne.
The effects are more pervasive though. As households and businesses fear for the future they cut their expenditure, which further deepens an already serious situation. In a situation of low, or even negative inflation, purchases are further delayed and the costs of investment mount.
In a hard place
The eurozone countries most affected by the crisis are currently caught in a hard place. Tied by EU rules that limit their budget deficits and hampered by existing austerity measures, all eyes are on the European Central Bank (ECB) to ride to the rescue with a round of quantitative easing. Yet, as Mario Draghi, president of the ECB himself recognises, quantitative easing in the absence of structural reforms and actions to lift demand are unlikely to prove successful in easing Europe’s uneven crisis – even if it succeeds in lifting overall levels of economic activity.
Rather, we need to move towards a more long-term approach that seeks to promote economic growth while supporting the transformation of economic structures, labour markets and governance arrangements. Spain and Italy are showing the first positive signs towards this, but it has taken too long for policymakers to really grasp these nettles.
Building more resilient economies
Some of our recent research highlights the key features of more resilient economies – features that are also fundamental to seeing sustainable routes to growth for those that are struggling. These include things like the ability to promote innovation, ongoing skills development and, significantly, the importance of good quality governance.
We need to go further though. It is increasingly clear that external assistance is required to stimulate economic growth in many parts of the EU. There is, in particular, scope to strengthen the risk-sharing element of the EU Structural Funds to give targeted financial support to countries with the most need. Approached correctly, in ways that encourage the sustainable transformation of economies, with due regard for community well-being, this could provide gains for all the economies of Europe.
Current eurozone policy rightly emphasises economic growth and new employment opportunities, but this must not be pursued in a manner that simply repeats the mistakes of the past. We should all be concerned about the eurozone’s sluggish recovery – it would be short-sighted to pretend that these are simply the problems of others. It’s one that faces all of us and we must work together to prevent a long stagnation condemning all our futures.