Earlier this week, French President Emmanuel Macron gave a speech outlining his proposals to reform the European Union. And there were a lot of proposals in that speech. Surprisingly, though, not many of them focused on the euro area or on the process of European macroeconomic governance. Macron talked about creating some kind of common budget and naming a European Minister of Finance, but he did not touch on the major issues sketched in European Commission President Jean-Claude Juncker’s State of the Union address or the letter of intent and reflection papers that the Commission has produced as well.
Instead, Macron stressed the importance of domestic reform. There is a powerful logic to that argument – only part of which is economic. European countries do need to reform their labor and product market institutions. They need to undertake those reforms both because these institutions are not functioning adequately at the moment and to prepare for the implications of technological change at home and competition from abroad. Nevertheless, the political aspect of reform is at least equally important. European leaders need to change their labor and product markets in ways that make them function better not because ‘better function’ is some overriding goal but because they need to demonstrate to one-another that reform is possible. Macron seems to have hit on that theme as well.
Once European leaders demonstrate that they are in control of the reform process, perhaps they can start to trust one-another enough to talk about undertaking meaningful reform at the European level. Make no mistake, such reform is imperative. Here I disagree somewhat with the French president. We do not need some magical institutional formula that will make all of Europe’s problems go away, but we do need to complete Europe’s banking union by pooling sufficient resources to backstop deposit insurance and to finance banking resolution. We also need to pay some attention to the flight-to-quality dynamics that wreaked such havoc during the recent economic and financial crisis. At some point, as the European Commission keeps insisting, we should explore the creation of a European safe asset. Such an asset might ultimately involve the mutualization of sovereign debt. That remains to be seen.
What seems evident for now is that nothing big is going to happen at the European level until we restore sufficient mutual trust across Europe’s heads of state or government. That trust will be difficult to re-establish. There are too many signs that political leaders in Europe do not control the pace of reform. Indeed, many – even the strongest and most respected among them – seem to be losing control over the forces at work in their domestic politics and hence also over the pace of events. So, while I am a staunch advocate of meaningful European institution building, I have to agree with Macron on the one big message I took away from his speech. Reforming Europe will have to begin at home.
This post includes a long citation from Macron’s speech followed by a presentation on made on the European economy at ‘The Meeting’ in Rimini last August. This is the second of two presentations I made. I am grateful to the organizers for giving me that opportunity. The photo at the top was clipped from http://www.elysee.fr.
Key passages from Macron’s speech that relate to macroeconomic governance and the euro
[Une] puissance économique durable ne peut se construire qu’autour d’une même monnaie, c’est pourquoi je suis profondément attaché à l’ambition de la zone euro. Je n’ai pas la zone euro honteuse, je suis désolé de cela et je pense d’ailleurs que ça ne soulage ni ne fait plaisir à aucun membre de l’Union européenne hors de la zone euro que celles et ceux qui partagent cette monnaie n’osent pas dire qu’ils la partagent pour en faire quelque chose.
Parce que c’est à partir de cette Union économique et monétaire, en son sein, que nous pouvons créer le coeur d’une Europe intégrée. J’entends les questions et les préoccupations sur ce sujet et je veux être clair : l’enjeu fondamental ce n’est pas un mécanisme qui par magie résoudrait tous les problèmes, s’il existait nous l’aurions déjà créé. Ce n’est pas de mutualiser nos dettes du passé, ce n’est pas de régler les problèmes de finances publiques d’un Etat ou de l’autre, l’enjeu c’est de réduire le chômage qui frappe encore un jeune sur cinq dans la zone euro. C’est donc une stratégie économique et politique dans la durée dont nous avons besoin, l’enjeu qui est le nôtre au coeur de la zone euro c’est de savoir comment nous arrivons à faire de cette zone une puissance économique concurrente de la Chine et des Etats-Unis et c’est comment nous arrivons à résoudre ce que depuis dix ans nous échouons à faire, de créer de l’emploi et de faire qu’une génération, celle de la jeunesse actuelle, ne soit pas une génération vouée au chômage par nos dysfonctionnements, par nos déséquilibres !
Alors pour ce faire chacun doit prendre dans son pays ses responsabilités, c’est pour cela qu’en France nous avons engagé des réformes inédites, je les avais annoncées, le gouvernement les met en oeuvre. Les réformes du marché du travail, de la formation professionnelle, du financement de l’économie permettront justement de créer la croissance, l’emploi et de faire ce que nous devons faire chez nous. Car nous ne serions pas écoutés une seule seconde si nos ambitions européennes n’étaient là que pour régler nos problèmes internes, ça n’est pas de cela dont il s’agit, et je ne permets à personne en Europe compte tenu de ce que nous sommes en train de faire en France d’essayer d’expliquer que la France aujourd’hui n’est pas légitime pour proposer. Nous faisons les réformes, nous transformons notre pays mais nous le faisons aussi avec une ambition européenne. Moi je n’ai pas de ligne rouge, je n’ai que des horizons.
My own thoughts on the state of the European economy as delivered last August
Good morning and many thanks to the organizers for giving me this opportunity to talk about the future prospects for the European economy. The brief they gave me was to discuss de-globalization, the rise of populism, Brexit, transatlantic relations and the current state of European economic performance. I want to do that within the overarching theme of the conference — which tells us to make the most of what we have inherited and to face the world as it really is.
I want to do this in five points. Since I have ten minutes, I will try to spend about two minutes on each. This points concern what we inherited, the role of perspective, the power of emotion over reason, where this emotion is leading us, and what can be done about it so that the world we leave behind is at least as good as the world we entered.
Let’s start with what we inherited. The focus here is primarily on institutions. At the domestic level we could point to liberal democracy, the market economy, and the welfare state. At the European level, we would point to the single currency, the European Union, and a suite of other organizations that are much less famous and yet still important. Across the Atlantic we have NATO and what can only be described as the world’s deepest economic relationship. At the global level we have the UN organizations, globalization and the G20.
I mention these things because it is so easy to complain about any of them as institutions. Everything is in need of reform. Democracy is not representative, the market economy is inequitable, and the welfare state is making matters worse and not better. What’s true for the national level is even more true for Europe. Just think about the criticisms leveled at the euro, the European Union, and all the rest. The transatlantic relationship is hardly any better. Both NATO and the Transatlantic Trade and Investment Partnership were in trouble before Donald Trump became President. As for the UN, the G20 and globalization, these are valuable institutions but they are also deeply problematic.
So from one perspective we could argue that we have inherited a tangled nest of problems. But that is only one perspective and it should make us wonder why the people who came before us invested so much in creating these institutions in the first place. That suggests there is another perspective. Each of the institutions we have inherited was once regarded as a great advancement. What we see as a problem, the people who came before saw as a solution. That change in perspective is important — because it forces us to consider what our inheritance does for us that we may inadvertently take for granted. It also forces us to ask what we will lose if we don’t take proper care of that inheritance.
Let me give you a couple of illustrations. We spend a lot of time complaining about the rise of populism. Why don’t we ask instead what happened to our traditional political parties? Those parties were created to help integrate European voters into the democratic process. Their function was precisely to ensure that people were represented and to prevent people from organizing against liberal institutions. Indeed, the whole of western democracy is built around the effective functioning of those political parties. Populists have always been a challenge; if they are making headway now it is because of the weakness of the mainstream parties and not the strength of populist movements.
The European Union and Brexit offer another illustration. The British applied three times to join the European Economic Community. They had a popular referendum to validate their choice of membership. And they had a powerful influence on the evolution of the European project and particularly on the completion of the internal market. If you look at most of the complaints of the British, therefore, it is ironic that they center on how the single market functions. They dislike common regulations and standards and they fear the free movement of people — particularly after Europe’s historic enlargement. Yet these are all things that the British government advocated. So why is it that the British people have turned against them?
I place a lot of emphasis on perspective, but the real force of the argument comes from emotion. When you survey the British on why they voted to leave they will tell you quite frankly that they want to take back control. If you explain that they have more influence working through the European institutions than outside them, they simply won’t believe you. You can reason all you want. But they have the force of emotion to support their argument.
You can find similar emotions on both sides of the Atlantic. Those emotions explain why so many Germans rebelled against the investor-state dispute settlement provisions in the Transatlantic Trade and Investment Partnership. They also explain why the Walloon Parliament voiced such strong opposition to the Canada-Europe Trade Agreement. And they explain why millions of Americans voted for Donald Trump. I am not trying to denigrate these choices. Emotions are not just powerful but they are also important. You cannot have legitimacy without emotion. Emotion is also crucial to faith. So when I say that people are basing their economic decisions on emotion, I am not trying to say that they are being irrational. I am trying to say that we should listen to those emotions and then try to figure out how best to respond.
This argument about emotion is not just a matter of politics. What we are learning is how important emotion is to economics as well. This is where the argument is leading us on both sides of the Atlantic. Economists used to believe that emotion was idiosyncratic. If we aggregate enough people together, those emotions should all cancel each other out. That belief has underpinned the design of many of our institutions. The global trading system is one illustration. Liberalized global finance is another.
What we learned during the recent crisis, however, is that emotion is even more powerful in economics than it is in politics. Actually ‘learned’ is probably too strong a word. If you read the great economists like John Maynard Keynes the lesson they drew from the Great Depression was very similar. That is why policymakers focused so much attention on the promotion of full employment; it is why the postwar economic system was built on the basis of capital controls.
The challenge is not to go back to the solutions of the past. Rather it is to adapt the institutions that we have inherited to meet the requirements of the present and of the future. That adaptation is where financial economists have been working for the past two decades and more. Now we are able to build on their insights. The European banking union is one example and yet there are other arrangements that we could establish. We also need to adapt our labor markets and trading relations. The goal is not simply to maximize welfare but also to pay attention to the needs of those who suffer most from any necessary adaptation.
Ironically, this was the policy agenda that Europe was adopting before the recent crisis. In 2005, the Belgian economist Andre Sapir showed how we do not need to trade off equity for efficiency. We can adapt our welfare state institutions and trading relations to achieve both goals at once. That was what the European Commission was trying to accomplish before the financial crisis hijacked the policy agenda. Now that crisis appears to be receding. The question is whether we can devote the political attention and resources that the new reform agenda requires. Europe’s economic future depends upon it.Follow @Erik_Jones_SAIS