The Atlantic Ocean Is Getting Wider
Published in Le Monde
(France) on 10 January 2011
by Jean Pisani-Ferry (link to original)
Like brothers in arms who were united in the fight but divided by the peace, Europe and the United States, which fought together against the depression in 2009, displayed their disagreement in 2010 and entered 2011 with divergent positions.
In November 2010, the Federal Reserve's decision to start a new round of quantitative easing (the purchase of government bonds with newly created money) drew strong criticism in Europe.
Last December, while the Europeans were turning to austerity measures, Congress passed the extension of former U.S. President Bush's tax cuts, which was interpreted as a new reflationary measure.
There is a clear monetary policy divergence. Of course, the European Central Bank (the ECB) has also bought bonds since last spring, but for limited amounts (€70 billion, i.e. $90 billion, against $600 billion for the Fed) and only to support countries in difficulties. All the while, it avoided any increase in money supply.
As for budgetary policy, things are a bit less clear: In Europe, Angela Merkel, the chancellor of Germany, has a big mouth, but she has a weak stick policy because her budgetary restraint will be of very small scale, whereas in the U.S., last December's agreement does nothing but prevent a sharp contraction.
Nevertheless, the fact remains that the eurozone and the United Kingdom took a step toward austerity — something the United States is still reluctant to consider.
The power of issuing the international currency — which is what Charles de Gaulle called the United States' "exorbitant privilege" — is often brought up in order to explain this divergence. This explanation is only half convincing.
Washington Would Rather Have China Increase the Value of Its Currency
China is accumulating dollar reserves without a doubt. But no one forces it to do so. On the contrary, Washington would rather have China increase the value of its currency. Emerging countries could also invest in euros — but only if they were given an asset as liquid as U.S Treasury bonds. This is the stake of the debate on the creation of a Eurobond.
A second interpretation is that policies diverge because situations are different. American businesses addressed the recession with massive layoffs, whereas European businesses — Spain excluded but the U.K. included — did everything they could to keep their workforce.
As a result, U.S productivity grew by 6 points since 2007 while it stagnated in Europe. The political imperative for a macroeconomic measure is much stronger in the U.S. than in Europe, where unemployment grew less and where benefits are more generous. As Nobel Prize-winning economist Joseph Stiglitz said, the United States welfare state is actually its monetary policy.
Finally, there is a third interpretation, more subtle, that has to do with beliefs.
For most Europeans, ground lost during the crisis will never be regained — or only a little part of it will be. It would be dangerous if the ECB tried to boost demand too much since supply declined, and tax and social revenues lost must be compensated by austerity measures.
On the contrary, the Americans are convinced that lost ground will be recovered. The administration and the Fed — which is a bit more cautious — say so and act accordingly.
In other words, the Europeans are pessimistic about the future, and this is the reason why they are reluctant to boost economic growth, whereas the Americans remain optimistic and therefore are ready to use every tool they have to give growth a chance.
This divergence is going to last at least as long as bond markets remain the buyers of American public debt. This has many consequences: difficulties to coordinate with each other as we do not agree on the diagnosis; possible comeback of a strong U.S. external imbalance while Europe would be near balance; and a weak dollar trend that would appear if the eurozone crisis eased.
All of this is going to make the functioning of the G-20 more difficult and might sidestep the only deep and real topic: the dealing of power relations between developed and emerging countries.
In November 2010, the Federal Reserve's decision to start a new round of quantitative easing (the purchase of government bonds with newly created money) drew strong criticism in Europe.
Last December, while the Europeans were turning to austerity measures, Congress passed the extension of former U.S. President Bush's tax cuts, which was interpreted as a new reflationary measure.
There is a clear monetary policy divergence. Of course, the European Central Bank (the ECB) has also bought bonds since last spring, but for limited amounts (€70 billion, i.e. $90 billion, against $600 billion for the Fed) and only to support countries in difficulties. All the while, it avoided any increase in money supply.
As for budgetary policy, things are a bit less clear: In Europe, Angela Merkel, the chancellor of Germany, has a big mouth, but she has a weak stick policy because her budgetary restraint will be of very small scale, whereas in the U.S., last December's agreement does nothing but prevent a sharp contraction.
Nevertheless, the fact remains that the eurozone and the United Kingdom took a step toward austerity — something the United States is still reluctant to consider.
The power of issuing the international currency — which is what Charles de Gaulle called the United States' "exorbitant privilege" — is often brought up in order to explain this divergence. This explanation is only half convincing.
Washington Would Rather Have China Increase the Value of Its Currency
China is accumulating dollar reserves without a doubt. But no one forces it to do so. On the contrary, Washington would rather have China increase the value of its currency. Emerging countries could also invest in euros — but only if they were given an asset as liquid as U.S Treasury bonds. This is the stake of the debate on the creation of a Eurobond.
A second interpretation is that policies diverge because situations are different. American businesses addressed the recession with massive layoffs, whereas European businesses — Spain excluded but the U.K. included — did everything they could to keep their workforce.
As a result, U.S productivity grew by 6 points since 2007 while it stagnated in Europe. The political imperative for a macroeconomic measure is much stronger in the U.S. than in Europe, where unemployment grew less and where benefits are more generous. As Nobel Prize-winning economist Joseph Stiglitz said, the United States welfare state is actually its monetary policy.
Finally, there is a third interpretation, more subtle, that has to do with beliefs.
For most Europeans, ground lost during the crisis will never be regained — or only a little part of it will be. It would be dangerous if the ECB tried to boost demand too much since supply declined, and tax and social revenues lost must be compensated by austerity measures.
On the contrary, the Americans are convinced that lost ground will be recovered. The administration and the Fed — which is a bit more cautious — say so and act accordingly.
In other words, the Europeans are pessimistic about the future, and this is the reason why they are reluctant to boost economic growth, whereas the Americans remain optimistic and therefore are ready to use every tool they have to give growth a chance.
This divergence is going to last at least as long as bond markets remain the buyers of American public debt. This has many consequences: difficulties to coordinate with each other as we do not agree on the diagnosis; possible comeback of a strong U.S. external imbalance while Europe would be near balance; and a weak dollar trend that would appear if the eurozone crisis eased.
All of this is going to make the functioning of the G-20 more difficult and might sidestep the only deep and real topic: the dealing of power relations between developed and emerging countries.