Austerity, growth, solidarity: the eurozone crisis is a three-term equation

While most European states, under pressure of their backers and rating agencies, resigned themselves to adopt austerity budgets, the imminence of a sink into another recession raises now fears of a lost decade, such as the one which hit Japan in the 1990s and from which the country has never really recovered. Therefore, think tanks (Notre Europe, Austerity, but also growth, 23 November 2011) but also big industrialists (ERT, Sauver le marché unique européen, published in the Figaro on 12 December 2011) called for a rebalance between “budgetary austerity and growth policies”. Both must indeed go hand in hand since solvency of European economies depends as much, if not more, on their ability to generate new riches as on respecting upcoming financial commitments. However, there can be no sustainable solution without social acceptability and that is why it is fundamental to include among the data of the problem a solidarity dimension.

Austerity plans have been countless over the past two years across Europe, from Ireland to Greece and from the United Kingdom to France — although they are not called as such in our country —. Their rapid multiplication, as well as the inventiveness deployed by Treasuries to create here new taxes and save there tens of millions euros, do not incline to think that the governments which have been designing these plans have been able to project themselves in a clear and coherent fashion beyond the nearest present.

Our political leaders’ myopia is worrying for several reasons. First, the sequence of political agendas leaves little doubt on the fact austerity plans no longer follow a logic of rationalization of public policies — a logic that may be arguable but which is at least supported by some ideological arguments —: they are mere signals sent to mysterious “financial markets”. Yet despite their repeated failures to restore investors’ trust, governments, European institutions and international organizations relentlessly continue this way with the hope their efforts will trigger at some point a change in attitudes. Until where is it possible to cut public expenditure — it is worth noticing that in most cases, fiscal pressure is much less affected — before reaching the bone? Is it reasonable to expect from financial markets that they set the limits of state intervention in society through an indirect control over the level of public spending? Suppose that after an umpteenth austerity plan, creditors would eventually feel confident in the solvency of a given state, who will bear the consequences of the loss of competences in the administrative apparatus, the degradation of infrastructures, the weakening of defence capacity? Of course the citizens.

This leads to question the ability of excessive austerity policies to tackle the main problem they are designed for, i.e. reducing the debts of European economies. In other words, even in the situation austerity would succeed in the short run in winning the battle of confidence, the crisis would remain unsolved and the likely relapse would be even more brutal. The deterioration of growth perspectives in Europe, now expected by a majority of international economic organizations, will mechanically lower the volume of fiscal revenues and will partly make ineffective tax increases decided by governments. Doubts around the ability of Treasuries to refinance their debts in such conditions will in reaction push investors to demand for higher and higher interest rates in order to compensate for a higher default risk. This move, albeit possibly rational for an individual, will contribute to increase the debt burden and thus to make more likely the event creditors were trying to avoid at all costs: suspension of payments.

As a medecine against this deadly cocktail of market failures, self-fulfilling prophecies and spiral mechanisms, some experts advocate a purge. According to this theory, the recession which usually follows the adoption of austerity policies is a necessary but only temporary evil. In a scenario of public overindebtedness, the elimination of deadweights tied to the state should help the economy to find new resources and to create growth. If creditors share this view, the rise of interest rates should be limited because they expect the country to be in a better position to serve her debt once the recession period is over. There is a flaw in this reasoning, however, since it relies on a hypothesis of a negative correlation between the level of public spending and economic growth. If it were so, it would be sufficient to cut the state budget for the tree to bloom and develop. Yet many observers, including right-wing economists (Jean-Pierre Robin, L’euro français est surévalué de 12% par rapport à l’euro allemand, published in the Figaro on 12 December 2011), agree on the fact the main difference between market perceptions of Germany and Greece stems first and foremost from gaps not between levels of public expenditure, but between levels of competitiveness. The curve of interest rates shows by the way that investors have better understood this than political leaders.

There is no cost-free policy

This is not to say, like Angela Merkel wrongly did, that Greeks do not work enough. However, due to administrative sluggishness, ill-chosen economic orientations and sometimes inadequate industrial equipment, a part of Greek workers’ efforts disappears through frictions in the machinery or simply gets lost in nature. Solving this problem requires modernization, i.e. in the end investments and expenditure. Even reforms considered as purely regulatory, such as the liberalization of regulated professions under way in Greece or Italy, cannot be achieved for free : only technocrats educated with the idea of the “regulatory state” can believe it is possible to launch policies without money. Compensation for the loss of “rents”, as coined by Jacques Delpla and Charles Wyplosz (La fin des privilèges, Payer pour réformer, 2007), does not only aim at preventing social unrest, it is also a matter of fairness. Indeed these privileges, albeit very costly from a macroeconomic point of view, have often been bought at a high price by people who are far from being all well-off.

At this stage arises then a new question : where to find additional revenue to pay for “unleashing growth” whereas we are precisely in a context of tight budgetary constraints and lenders’ mistrust? In France, François Bayrou (Democratic Movement) and François Hollande (Socialist Party) have been honest enough to acknowledge that a wide-ranging tax increase would be ineluctable, contrary to some other political parties still bound by previous, irrealistic electoral promises. At the same time, overpressuring households would negatively impact consumption — a powerful engine for growth in Europe — while withdrawing more money from businesses may put at risk new investments and jobs.

A possible exit from this apparently inextricable knot points at debt servicing, which should represent for France in 2012 the first source of public expenditure with circa 50 billion euro. In Italy, this figure is close to 70 billion euros — in fact, the Italian public budget would be slightly positive if debt servicing was excluded from the calculation. Greece should be in the same situation next year, at least if her economic forecasts are correct. These hundreds of billions could be partly redirected to “spendings for the future”, e.g. the construction of housings, transport and communication infrastructures, support to research and innovation or negotiated modernization of social security systems.

For a European sinking fund financed by a special-purpose property tax

How? It is not envisaged here to ruin creditors or to trigger a banking catastrophe by deciding on a unilateral basis to stop servicing the debt. On the opposite, the objective is to provide creditworthy collaterals which will dispel uncertainty floating for over two years above financial markets. The first step would consist in transferring public debts of all the eurozone countries, up to 60% of their respective GDPs, to a European structure similar to the French CADES, a body responsible for amortizing the national social security debt. In order to build up investors’ confidence and to base the structure’s solvency on something more solid than state guarantees as it is the case of the European Financial Stability Facility (EFSF), one or several special-purpose taxes would be created with their products driven to the fund, like the Contribution to the Repayment of Social Security Debt (CRDS) for the CADES.

What could be the tax base of these new levies, taking into account forementioned constraints? A reminder of the origins of the crisis may here be useful to attempt to solve it in a fair way and to avoid its repetition. In his second Toulon speech delivered on 1 December 2011, President Nicolas Sarkozy accused “unregulated globalization” of having created “financial globalization” and “a huge debt-issuing machine” from the beginning of the 70s. Although he carefully omitted the role of politicians in setting this complicated installation, he nevertheless laid down the right diagnosis by connecting the end of the Trente Glorieuses — the period of prosperity in the West spanning from the mid-1940s to the mid-1970s — and the growth of public or private indebtedness.

Social groups have been diversely affected by these transformations however. A first cleavage appeared between educated, mobile workers, whose incomes have skyrocketed over the past thirty years, and less educated workers condemned to precarious forms of employment, stagnation or decrease of real incomes, even unemployment. Even if France has been relatively less hit than other countries by rising inequalities between workers, she has not escaped the phenomenon altogether. The second cleavage separates generations. The rise of assets’ value has been indeed beneficial to senior managers, who get stock options, but first and foremost to real estate owners, who are more frequently old than young.

A mechanism based on European, but also national and generational solidarity

The reason behind it is quite simple. Dynamism of the Trente Glorieuses, construction boom after the war and inflation allowed socially ascending households to buy their first real estate assets in the 1960s while their real indebtedness dropped until the 1980s. On the contrary, today’s young generations experience more and more difficulties to access loans — because they are employed under precarious conditions — and can no longer expect inflation to eat up their debts. Finally, modest construction efforts over the past thirty years, despite a recent push given in France under the ministry of Jean-Louis Borloo, have contributed to drive prices upwards.

In this context, it is not surprising that assets in France are being increasing concentrated in the hands of ever fewer people — an observation confirmed by a new INSEE study, the National Office for Statistics. This is even more harmful for younger generations that the share of mandatory spending in households’ budgets has dramatically risen, in particular the one dedicated to housing (18% on average in comparison with 7% in 1959). Despite the fact some retired people are also hit by poverty, it would be difficult to deny that in front of the crisis, aged people are in a relatively better position than younger ones who have less regular, non-guaranteed income and are sometimes homeless.

Exiting from the crisis in a positive direction and in an orderly fashion requires therefore not only European solidarity, but also solidarity between the rich and the poor and between generations. This response is a matter of efficiency as much as a matter of fairness since, at the end of the day, a sustainable way of dealing with the debt will ensure lenders that they will be paid back and youngsters a brighter horizon, while growth will generate for them the jobs which will at the same time finance increasing health care expenditure for the elderly. In more concrete terms, the additional taxes should affect assets and the revenues they produce. They would in particular concern inheritances, capital incomes in the cases when they are currently more favourably taxed than labour incomes, and “hidden” incomes. For instance, the OCDE recalled that people who live in a housing they own perceive a de facto income which is tantamount to the rent they would otherwise have to pay to a landlord. Yet for the moment, this income appears nowhere in tax declarations.

A first step on the way to a broader tax system rebalance

Taxes on assets, especially in countries like France where they are mostly composed of real estate, also have the advantage of being easier to calculate and collect thanks to tools such as cadastres or hedonic values. In the battle for confidence, the efficiency of the tax collection system is obviously an essential criterion, a point demonstrated everyday with the difficulties of the Greek state to collect revenues. Even if the man in the street will probably be always reluctant to pay taxes, a simpler and fairer tax system should help strenghthening its acceptability.

Finally, if the crisis we are living is very often associated with the word of “debt”, one should not forget the role played by real estate in its beginning. Before 2007, Ireland, Spain, the United States but also France were pursuing policies aiming at encouraging homeownership, more for ideological than for economic reasons. The sad situation we are having today is to a large extent the result of these policies. This is why it is now crucial to rebalance the tax system between capital and labour, ownership and rental, in order to diminish in the future the risk of formation of speculative bubbles and to stop widening the inequality gap.

Margaret Thatcher was wrong when she claimed there was no alternative. Default of payment is one which may punish bankers but also their consumers, we included, in particular when the debt is mainly owned by residents such as in Italy. Inflation is another one which will indeed clean up public accounts, but at the expense of small savers, civil servants and retired people. Giving up on the euro is nothing else but a useless and costly detour towards one or the other scenario. In the end, there is not so much reason to worry about the eurozone crisis. In any case, it will find its solution. The whole question is whether it will be in order or in chaos.