The Sovereign Right To Be Poor And Inefficient

Written by Hilary Barnes

It should be a fundamental right of nation states to be badly managed, poor and inefficient if that is what the majority of the people seem to want.

The people probably don’t see it quite this way. They may know very well that the country is not as rich and efficient as some other countries, which they would like to emulate, but they nevertheless remain very attached to the customs, inherited ideas and institutions of the country. The forces of inertia are always strong; change comes but it comes gradually.

In the Post-1945 world of fixed but adjustable exchange rates, the less efficient countries would find themselves with trade deficits that became so large that they ran out of foreign currency. The answer was to devalue the exchange rate.

This did not make the country more efficient, but it did make it more competitive in international markets. The price of imports rose and the price of exports fell. It was possible to reduce the trade deficit for a period – and if necessary a few years later there might be another devaluation.

Devaluation was always regarded as a political defeat and embarrassment for the government of the country in question, but it was a simple and effective way of solving a difficult problem. It was also relatively painless. Consumers suffered a loss of income relative to those in other countries, but the general result was to give the economy a lift via exports.

Above all, devaluations of the exchange rate were (are) a means of improving competitiveness without causing a rise in unemployment.

The leaders of the European Union, however, thought that there would be many advantages of having a single currency, not least because it would rid Europe of those pesky devaluations. Exchange rate changes might be good for employment in the country that devalued, but they were not good for the businesses in the other countries that were exporters to that country.

It would also be great for tourists not to have to change currency every time they crossed a frontier and in general make payments across borders much faster and less expensive.

But the system as set up by the Euro zone did not permit countries to choose to live with in their relatively happy state of inefficiency and bad management.

This would have been possible if the monetary union had turned the Euro zone into a united states of Europe. There are plenty of badly managed, inefficient and relatively poor states in the USA, and they rub along with the other states without any trouble.

But Europe was not prepared for this, so when a Euro zone country runs into a crisis caused by trade deficits that it can no longer manage to finance it has only one way out.

Not only does it have to become more competitive, but it also has to become more efficient. That means it has to make all kinds of structural reforms that, in due course and if managed competently, will enable the country to become competitive in terms of its international trade.

The Maastricht Treaty contains a set of simple rules and gives the European Commission powers to try to enforce the rules : general government budget deficits not to exceed 3 % of GDP ; general government budget debt not to exceed 60 % of GDP.

This in effect forces the countries concerned to reduce domestic demand with the intention of lowering domestic wages and prices, and thus enabling the country to attract more tourists and its export industries to export more of their products.

But where the problems are deep-seated, in the Mediterranean countries especially, the cost in terms of employment and unemployment are very, very high, threatening the political and social fabric of the nation in the case of Greece, where austerity has reduced a large proportion of the population to abject poverty. Things are not much better in Portugal either, and Spain and Italy are not in much better shape.

Of course, Greece did have an alternative : it could have left the euro, but its political leaders decided by a large majority that this would be an even worse alternative. Perhaps they were right.

The Euro zone countries also have an alternative : they could turn themselves into a federation or confederation with a central fiscal authority and consolidated national debt, thereby creating the conditions by which money would flow seamlessly across borders, as it does in the well-constructed federations. And let it be done by the end of next month at the latest, please !

In the meantime this situation has set the Euro countries against each other, the rich fearing that they will be forced to pay the debts of the poorer countries and the poorer countries resenting the very high costs they are paying by their impoverishment.

The only surprising thing about this is that so many people are surprised by the rising tide of those who think the European project in general and the single currency in particular has become a disaster.

Europe being an association of democratic states, there is a realistic possibility that these forces will become strong enough to have a real influence on the future of Europe when the results of next summer’s elections to the European Parliament are in.