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Europe’s Outlook in 2014

Sunday, January 12, 2014

With European policymakers complacent, it is unlikely that progress will be made this year in reducing Europe’s record unemployment rate or in preventing a further fragmentation of its politics.

An unhealthy sense of complacency about Europe’s economic and political outlook pervades European policymaking circles. It does so despite the fact that the European periphery’s economy is still very depressed, which is driving a disturbing political divide between the euro’s southern and northern member countries. And there are few reasons to expect that the year ahead will bring progress either in reducing Europe’s record unemployment rate or in preventing a further fragmentation of its politics.

One of the more striking features of the European political economy over the past three years has been the radicalization of its politics. In Greece, for example, at the start of the economic crisis in early 2010, its two main centrist political parties, New Democracy and PASOK, received around 70 percent of the vote. Today, after six years of painful economic recession, those parties command barely 30 percent of the vote and extremist parties on both the left and the right have ascended.

Bowing to these political trends, Prime Minister Antonis Samaras’s Greek coalition government, whose majority in a 300-member Greek parliament has been whittled down to three members, is now taking a harder line in its negotiations with the International Monetary Fund and the European Union. It is indicating in the clearest of terms that Greece has now reached the political and social limits of budget austerity and that further demands by the troika could very well cause the Greek government to fall.

Equally troubling has been the marked political deterioration in France and Italy, the Eurozone’s second- and third-largest economies, respectively. In France, against the backdrop of a struggling French economy and growing resistance to austerity, President Francois Hollande’s poll ratings have dropped to barely 20 percent, or to the lowest level recorded by any president in France’s Fifth Republic. At the same time, Marine Le Pen, the leader of France’s National Front, is polling more votes than either of France’s two main centrist political parties. Ominously, she is now teaming up with Geert Wilders, the leader of the Dutch extreme right, to campaign against Europe in the upcoming May 2014 European parliamentary elections.

One of the more striking features of the European political economy over the past three years has been the radicalization of its politics.

Meanwhile, in Italy, the populist Five Star political party headed by former comedian Beppe Grillo, which three years ago was barely visible on the political map, now polls 25 percent of the Italian vote, making it a serious force with which to be reckoned. Of equal concern is the recent rise of Italy’s grassroots “Pitchfork” movement, which has taken increasingly to the Italian streets in a populist protest against the government and budget austerity.

Driving the fragmentation of European politics has been German-imposed budget austerity and structural reform in return for bailout loans to the European periphery and for the most gradual of moves toward eventual European banking union. That policy prescription, within a euro straitjacket and at a time of a European credit crunch, has resulted in a deep economic recession and staggeringly high unemployment in the European economic periphery. Five years after the 2008 Lehman Brothers crisis, the Italian and Spanish economies are both still operating at around 7 percent below their pre-crisis levels. Meanwhile, unemployment in Spain and Greece now exceeds 25 percent, with youth unemployment in those two countries above 50 percent.

Absent a major change in macro-economic policy, there is little prospect that Europe will experience an economic recovery.

Absent a major change in macro-economic policy course, there is little prospect that Europe will experience an economic recovery that would make a meaningful dent in its record rate of unemployment. In that context, it is of note that the European Central Bank and the European Commission, which are both optimistically forecasting a modest European economic recovery over the next two years, are still projecting that European unemployment will remain stuck at close to 12 percent by the end of 2015. And should unemployment indeed remain at such a high level, it is likely that the European economic periphery will become even less governable and public antipathy to budget austerity will only increase.

Sadly, policy complacency in Europe heightens the risk that 2014 could see a renewed intensification of the European sovereign debt crisis. Markets, in a much less benign global liquidity environment than in 2013, may begin to focus on Europe’s poor economic and political fundamentals. Complacency makes it all too likely that Europe will continue the same policies of budget austerity and structural reform within a euro straitjacket that have brought the European political economy to its present dismal state. It also makes it likely that little will be done to alleviate the European credit crunch, which has proved to be a strong headwind to a European economic recovery.

Without a meaningful European economic recovery and a significant decline in unemployment, there is every reason to expect that the European political climate will deteriorate.

Desmond Lachman is a resident fellow at the American Enterprise Institute.

FURTHER READING: Lachman also writes “Why Greece Will Leave the Euro,” “Europe’s Deflation Challenge,” and “5 Economic Lessons Europe Can Learn From Greece.” Tino Sanandaji explains “The American Left’s Two Europes Problem.” Lee Harris describes “The Hayek Effect: The Political Consequences of Planned Austerity.”

 

Image by Dianna Ingram / Bergman Group

 

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