The European Union is a funny beast. There is no doubt it's the most successful economic bundling of nations on the planet. The euro, used in 15 of the 27 EU countries, has gone from weakling to contender for reserve currency status within a decade.
But what the credit crunch and recession have made abundantly clear is that, in times of stress, the EU states can lose any sense of common direction and strategy. In theory, the EU is a fine idea; in practice the “U” part of the equation is coming apart.
Take Britain, Germany and Italy, three of the EU's four economic heavyweights (France is the other). In an effort to prevent the economy from swirling down the toilet, British Prime Minister Gordon Brown is cranking open the fiscal spigot. Not so in Germany, where Chancellor Angela Merkel refuses to launch a bust-the-budget stimulus package – “Frau Nein” she is called. Italy's Silvio Berlusconi, the perma-tan prime minister with the perma-smile, is tweaking here and there but otherwise says, or pretends, that all is well in the land of Valentino, vino and Viagra (he's prone to bragging about his sexual stamina).
Britain's approach is the most active, in the classic American sense of fix-it-now-and-fix-it-good. Banks were nationalized with alacrity. The Bank of England flooded the system with liquidity and hammered down interest rates. In late November, when the recession became a clear-and-present danger, the government unveiled a €20-billion ($34-billion) stimulus package, dominated by a reduction in the value-added tax (or VAT, equivalent to Canada's GST), to 15 per cent from 17.5 per cent. It has been Europe's only VAT cut.
The Brits will keep going on the stimulus front if the efforts announced so far don't do the trick. There might even be industrial bailouts; government loans to Jaguar Land Rover are under consideration. But Britain may already be running short of firepower. Public sector borrowing is expected to hit 8 per cent of GDP next year. If Britain were part of the euro zone (the countries that share the euro), it would be red-flagged for blowing the 3-per-cent budget deficit rule.
Germany is aghast at the spending spree in Britain and some other European countries. In a speech in Stuttgart early this month, Ms. Merkel said her Christian Democratic Union party “must have the courage to swim against the tide” in tackling the economic slowdown. The Chancellor has said she won't engage in “senseless” competition with other countries to deliver stimulus packages.
Germany's neighbours and German industry, particularly the hard-hit auto makers, wish she would change her mind. Germany is Europe's largest economy and exporter and its success, or lack thereof, is felt everywhere. Why is Ms. Merkel so reluctant to imitate the British stimulus package?
First, the Germans have a historic and cultural aversion to debt – their own and their government's. They don't think borrowing money to goose the economy works. Indeed, two stimulus packages, one in the late 1970s, the other a decade later, ended up doing more damage than good, and fuelled inflation.
Then there's the Ricardian effect theory, which appears to have found true believers among the Germans. The theory is named after the early 19th-century British economist David Ricardo, who said excessive government spending today can only lead to higher tax bills tomorrow, so consumers pull back in defence. Germans already have high savings rates. If taxes were reduced they, perversely, might spend even less to prepare for the day when taxes go back up.
How long Ms. Merkel will be able to hold out is an open question. If the German economy goes into freefall in the new year, internal and external political pressure could force her to join the spending herd.
In Italy, Mr. Berlusconi might secretly want to join the herd but can't afford to do so. The country's finances are in terrible shape. Its public debt is equivalent to 104 per cent of GDP and rising, making it the world's third-largest (the equivalent figures in France and Germany are just over 60 per cent). Things are so bad at the national level that talk of an Argentina-style collapse is making the rounds. On Dec. 3, Maurizio Sacconi, Italy's Welfare Minister, said: “I too am constrained by the public debt. And I too am worried by the risk of default.”
Prime Minister Berlusconi's strategy is to put on a brave, cheerful face. Italians are savers, not spenders, he says. Consumer debt is low. The people are resilient and take care of themselves. There is some truth to his arguments. Italian families protect their own because the inefficient, ineffectual and sometimes corrupt state institutions don't do it for them.
Indeed, Italy has already muddled through three recessions in the past decade, so what's unusual about a fourth? Italians may be in for a shock in a few months if the grim economic data keep rolling in. But, so far, life as they know it continues. They have seen worse than the recession of 2008.
The danger, of course, is that countries dashing madly off in all directions could make a mockery of the European Union. The European Commission (the EU's executive arm) can't force sovereign countries to spend or not spend. It can only encourage certain types of economic and fiscal behaviour, while letting the European Central Bank set a monetary policy that does the most good for the most countries that share the euro.
In a year or two, depending on the severity of the recession, the EU could look like a vastly different place. Only a few months into the recession, it is already looking like a family with a few too many headstrong, unruly children.
