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Hollande will get his way – and lose

Hollande will get his way – and lose

Talking about growth is not the same as producing it

by David Marsh

Fri 11 May 2012

Following the French and Greek elections and general signs of austerity fatigue in the euro area, there is much talk of the need for growth and how to achieve it. Rumours abound about an imminent ‘growth compact’ – either a separate document or an annex to the ‘fiscal compact.’

Almost certainly, something will transpire, either following President François Hollande’s post-inauguration meeting with Chancellor Angela Merkel on 16 May, or at the European Union summit on 23 May.

But, equally certainly, that is all that will happen. Do not expect any significant boost to growth. There are many reasons for such pessimism. Here are just two of them.

First, if governments could wave a magic wand and conjure growth, they would already have done so, without the need for a compact of any kind. (Incidentally, this would mean that the Soviet Union would have been a great economic success and the US an equally great economic failure.) Angela Merkel acknowledged as much in a speech in the Bundestag on Thursday, when she said, “Overcoming the sovereign debt crisis cannot and will not happen overnight – and certainly not with the big bang that we’d all wish for.’

Second, and more importantly, growth means completely different things to different people and different countries. In an article on 9 May (La croissance, des conceptions diffèrentes à Berlin et Paris), Le Monde articulated this well. For the French, Le Monde writes, growth essentially consists of using European finances to launch or accelerate large structural projects, the object of which is to strengthen popular support for a grand European idea. Significantly, Le Monde points out, François Hollande has not costed anything.

By contrast, for Chancellor Merkel and the Germans, growth must be durable, which implies structural reform to improve competitiveness. Her support for grand projects that, at best, provide a one-off stimulus, will be limited indeed.

Crucially, Hollande’s successful election campaign was mainly based on promises which, if implemented, would lower French competitiveness. His support for (painful) structural labour market reform is likely to be highly limited.

The tragedy is that Angela Merkel is right – but also that she is wrong. She is quite right that growth has to be based on solid foundations and that measures to improve competitiveness are far more solid than wasting money on a ‘grand projét’. But she is wrong in her refusal to accept that structural reform and austerity in southern Europe has to be accompanied by structural reform aimed at increasing domestic demand in Germany.

In fact, her policy is counterproductive. By pushing the case for further austerity, she is hastening the day when Greece – and probably others – is forced to leave the euro. Since markets understand this and believe that a Club Med-less euro area will be more viable, they react by underpinning relative euro strength. This further undermines euro area competitiveness. (Competiveness is of course more than just the exchange rate; but the current relative strength of the euro is not helping countries whose only hope for growth is exports outside monetary union.)

So what will be the outcome? There’ll be a statement from the EU summit later this month pledging measures to support growth. Possibly even a grand growth compact.

Whoopee! Hollande will win.

But he will also lose. Because the effect will be little or no stimulus to growth. The ultimate losers? The euro area - and (because Europe is still an international force)… the world economy.

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