Europe in Denial

By Desmond Lachman  

 

Despite an electorate that is increasingly hostile to the European project and the risk that Europe could be drifting towards Japanese-style deflation, European policymakers remain complacent.

Among the more glaring weaknesses in European policymaking over the past few years has been the complacency of its political elite. Sadly, today, despite clear evidence that the European political center is crumbling, the European political elite manages to convince itself that this is but a fleeting phenomenon of no great significance. And despite the very real risk that Europe could be drifting towards Japanese-style deflation, the policy reaction of the European Central Bank continues to be too little too late.



Tectonic changes are occurring in European politics. In last month’s European parliamentary elections, close to 30 percent of the European electorate voted for an assortment of political parties that are openly hostile to the European project. At the same time, parties at the political extremes that were barely on the scene some three years ago continued to make gains and now constitute a real threat to parties in the political center. Even in a country like Spain, where three years ago the two center parties enjoyed an 80 percent majority, today they poll less than 50 percent of the vote.

Without a move toward more expansionary policies by countries like Germany and the Netherlands, there is every prospect that European unemployment will remain at  close to its present levels, which are near a postwar record.

The rise of the French National Front has to raise questions about the continued effectiveness of the Franco-German alliance that has been central to Europe’s move to greater integration. The rise of UKIP in the United Kingdom is all too likely to harden Prime Minister David Cameron’s stance in negotiations with Brussels on returning authority to London; he has promised a referendum on whether the United Kingdom should remain in the European Union. Meanwhile, the rise of the extreme-left Syriza Party in Greece is bound to make it increasingly difficult for the Greek government to continue with the budget austerity and economic reform so necessary to get the Greek economy moving again.
Yet rather than see the recent rise of these political parties as a threat — and as what was to be expected from the depressed state of the European economy — the European political elite is assuring itself that the recent losses at the polls were but a protest vote of no great significance and that there is no real need for any major change in policy course.
The political elite’s state of denial about the strong winds of political change blowing through Europe is to be regretted. Without a move toward more expansionary policies by countries like Germany and the Netherlands, there is every prospect that European unemployment will remain at  close to its present levels, which are near a postwar record. Were that to occur, one would have to expect yet a further weakening of the European political center, in much the same manner as high unemployment has caused political fragmentation over the past three years.

In last month’s European parliamentary elections, close to 30 percent of the European electorate voted for an assortment of political parties that are openly hostile to the European project.

Compounding matters is the European Central Bank’s apparent state of denial about the seriousness of Europe’s deflation risk. This is all the more surprising considering that European inflation is now as low as 0.5 percent, or around one quarter of the ECB’s inflation target of close to but below 2 percent. And the ECB is predicting only a weak European economic recovery with unemployment not declining much below 11.5 percent by the end of 2015.
The ECB adopted a range of measures last week that included negative interest rates on bank deposits at the ECB and a loan for a lending scheme. But while these steps might have been a big move by the ECB’s past standards, they fell far short of the aggressive quantitative easing policies practiced by the Federal Reserve, the Bank of England, and the Bank of Japan in response to similar threats of deflation. As such, the ECB’s action is unlikely to do much to stimulate acceleration in European growth or to contribute to a meaningful reduction in Europe’s unacceptably high unemployment rate.
The experience of the past few years suggests that Europe’s policymakers only react strongly and decisively at a time of crisis. While this might provide some comfort, it would be better if policymakers took full advantage of the present calm in global financial markets and put Europe on a policy path that addresses Europe’s present political and economic vulnerabilities.