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What next for Europe?

by Charles Wyplosz

Charles WyploszIn many ways, 2005 has been Europe’s annus horibilis. It began well, when Spanish voters approved the draft European Union constitution, but  it turned sour when French and Dutch voters spurned it soon after. Those votes partly reflected displeasure with domestic policies, and partly disappointment with the way governments conduct European affairs.

Governments promptly obliged with more of the same. Within days of the votes, they failed to agree on the EU budget for 2007-13. French and British leaders engaged in a heated quarrel that derailed the subsequent summit, before Britain assumed the rotating six-month EU presidency in July.

Normally, countries use their EU presidencies to display their ability to solve problems and move the Union forward. But, as of early December, Britain has remained dormant. Besides burying the draft constitution, it has largely sidestepped the budget issue. Chances that it gets the budget approved this year are slim, and, unless the dispute is resolved soon, the Union will not have an operational budget by 2007.

Even if a budget is adopted, there is no lack of depressing business for the Austrian presidency, which starts on January 1. The deepest problem is Europe’s inability to grow at more than a snail’s pace and to provide jobs to its citizens.

This is mostly due to the Big Three – France, Germany, and Italy – which produce 70% of Europe’s GDP. The collective response, adopted in 2000, has been the “Lisbon Strategy,” which aims at making the EU “the most dynamic and competitive knowledge-based economy in the world” by 2010. More realistically, it is designed to provide governments with the incentive to undertake the reforms that stimulate economic growth and productivity.

That means facing down the myriad interest groups – from industry lobbies to trade unions and entrenched bureaucracies – that have (so far) successfully protected their turfs. The strategy rests on peer pressure, naming and shaming governments that fail to make progress. In practice, however, peer pressure has become peer collusion.

When EU leaders met last spring to assess progress, they pitifully recognized that the Lisbon Strategy’s goal was unlikely to be met. The best that they could do now would be to dump the pretense of a strategy and carry on with the other business. Unfortunately, the host of the 2000 summit was José Manuel Barroso, then Prime Minister of Portugal and current President of the European Commission, who has staked his presidency on the Lisbon Strategy. Expect him to push on hopelessly.

One of the few good ideas contained in the Lisbon Strategy was to remove barriers to trade in services. Intra-European competition in services is restricted by innumerable national regulations that, for instance, strictly determine the requirements for becoming a hairdresser or a plumber. One of the defining features of the past decades is the sharp increase in services productivity in the US; none of that happened in Europe. Guess why.

Because services account for 70% of European GDP, the potential impact from enhanced competition is substantial. But removing protection is always politically difficult. The European Commission submitted a proposal in 2005 – just as the constitution was being put up for a vote. Not surprisingly, the proposal was quickly shelved. Now, with countless private interest groups trying to water it down into irrelevance, the battle will be firmly on the EU’s agenda in 2006.

At the same time, Europe is again blocking progress in the Doha round of world trade talks, with the farmers’ lobby fighting to preserve its subsidies. Many governments are so fearful of their farmers that they see no other option than to hold their ground, no matter what. Europe has agreed to a single trade policy. When disagreements run as deep as they do on agriculture, there can be no give-and-take of the kind that allows for successful negotiations. There is little reason for optimism.

And what next for the ECB, which has just nudged up interest rates by 0.25%, after 30 months on hold. Experts can disagree about whether the move was premature, but no one agrees with the many political leaders who have argued that the tiny hike will derail the timid resumption of economic growth.

The sharpness of political attacks on the ECB might trigger dangerous talk about restricting its independence. While such a move is out of the question – it would require a change in the European Treaty – the noise is unhealthy. It distracts the ECB, adds to the impression that Europe is bad, and, more importantly, will be used by ineffective governments as a scapegoat for their failings. Expect more ECB-bashing.

Is Europe stuck? The current team of leaders has been an enormous disappointment. But as they fade away, there could be some light at the end of the tunnel.

In Germany, Chancellor Angela Merkel is obviously more positive on Europe and more pro-reform than her predecessor, but she is tied up in a grand coalition. In France, President Jacques Chirac, the epitome of a leader captured by his lobbies, is staggering impotently toward the end of his term in 2007. The two frontrunners to succeed him, Dominique de Villepin and Nicolas Sarkozy, both in government, compete on a reformist agenda, but pre-election years do not encourage bold moves.

Meanwhile, Italy must decide whether it replaces Prime Minister Silvio Berlusconi, who displayed no interest in reform and European affairs, with the cautious Romano Prodi, the former European Commission President. Tony Blair, once an ardent pro-European (at least by Britain’s undemanding standards), might finally have to cede power to Gordon Brown, who is famously cold to European integration. Fortunately, Britain has always been an outsider. In the end, whatever light there is, it may not shine until 2007, after the French elections.

Charles Wyplosz is Professor of International Economics and Director of the International Centre for Money and Banking Studies at the Graduate Institute of International Studies, Geneva.

Copyright: Project Syndicate, 2005.

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The EU is the worst example

The EU is the worst example of bureaucracy expanding to fill the needs of the growing bureaucracy. They can't account for 85% of their budget. Nor can they set a common economic standard without everyone breaking it (think deficit GDP). This is the worst example of the European ideal, but not an unexpected one.

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