Europe’s economic and political future will be determined in the next few days

October 24, 2014

A candidate dressed as Darth Vader and representing the Internet Party of Ukraine which runs for parliament, stands on the top a vehicle as he leaves after a meeting with his supporters and voters in Kiev

Europe is at a make or break moment. Two very different events on Sunday, occurring at opposite ends of Europe, will largely determine the entire continent’s direction for years ahead: the parliamentary election in Ukraine and the bank “stress tests” and Asset Quality Review conducted by the European Central Bank. Before explaining the significance of these two events, and their unexpected linkage, I need to mention a third announcement, due next Wednesday: the European Commission’s verdict on the budget for 2015 submitted last week by the French government.

The Commission will next week have to come up with a Solomonic judgment that somehow reconciles the French government’s determination to stimulate its economy by cutting taxes with the German-imposed “fiscal compact” that former-President Nicolas Sarkozy rashly accepted in a moment of desperation in the 2012 euro crisis and which requires France to raise taxes or drastically cut spending in order to reduce its budget deficit to 3 percent of GDP. The fiscal compact rules, if applied literally, would make economic recovery in France a mathematical impossibility. Yet bending these rules will provoke a German public backlash, and perhaps even a constitutional court challenge, that could even force Angela Merkel to renege on her commitment to support the rest of the euro-zone.

Depending on how these three events turn out, Europe will either be on the road to a moderate economic recovery next year or it will condemned to permanent stagnation, possibly leading to the break-up the euro or even the European Union as a whole.

Why are the stakes suddenly so high? With most of Europe sliding back into recession over the summer as a result of the war in Ukraine and the failure to implement the sort of policies of monetary and fiscal stimulus that revived the U.S., Japanese and British economies, Europe now has an obvious choice: stick to the failed policies which are almost certain to perpetuate economic stagnation or to change course.

When faced with this choice, the German guardians of the euro’s monetary and fiscal rule-book defend the status quo, no matter how dismal. Germany’s Bundesbank and Constitutional Court are steeped in the tradition of Ordnungsliberalismus which insists that rules must be obeyed at all costs and that following the letter of the law is more important than observing its spirit or achieving a desired outcome. But this legalistic philosophy is now running run up against the even more inexorable laws of mathematics, democracy and geopolitics.

What if it is mathematically impossible for governments in France and Italy to abide by EU budget rules, because raising taxes and cutting public spending would crush economic activity and thus widen budget deficits instead of reducing them? What if electorates refuse to accept a decade of austerity and stagnation simply for the sake of preserving the EU monetary and fiscal rules? And what if Ukraine’s absolute sovereignty and territorial integrity just cannot be re-established without risking an all-out war with Russia that Western democracies will not tolerate?

While politicians prefer to dodge these dilemmas, the fact is that Europe has now reached a point where some of its rules will have to be changed or reinterpreted and some of its principles compromised. The only real question is whether Europe arrives at the necessary compromises through conscious political decisions or waits for them to be imposed chaotically by economic and electoral upheavals.

Which brings us back to the three big events next week and some reasons for optimism. Starting with the Ukrainian election, a victory for President Poroshenko’s moderate party should allow EU leaders to launch a genuine peace process that recognises the loss of Crimea as irreversible and acknowledges Russia’s vital interests in maintaining the military neutrality of its immediate neighbours. Once these basic conditions are satisfied, a rapprochement with Russia should become possible, allowing sanctions to be gradually dismantled or at least confirming that sanctions will expire by mid-2015, as currently legislated. Removing the threat of war or further sanctions in eastern Europe will have a major beneficial effect on businesses in Germany and Italy, which been hurt much more by the confrontation with Russia than European leaders expected.

Sunday’s completion of the AQR has always looked like a necessary, though not sufficient, condition for a substantial improvement in monetary policy. This is because the ECB wants to stimulate private borrowing, as Britain did with the sub-prime mortgage subsidies it announced in March 2013, rather than supporting public debt, as in U.S. and Japanese quantitative easing. For this plan to work, European banks must be recapitalized and cleaned up, which the AQR is designed to achieve. If Sunday’s AQR plan proves convincing (admittedly still a big “if”) the stage will be set for the ECB to announced some serious monetary stimulus at its next meeting on Nov. 6.

Finally, a U-turn on fiscal austerity is highly probable when the Commission delivers its verdict on the French budget on Oct. 29, or failing that, in mid-November after a symbolic “re-negotiation” leading to some cosmetic strengthening of French structural reforms.

Putting these three events together, Europe has a decent chance of breaking out in the next few weeks from its vicious circle of policy failure and economic stagnation. Whether policymakers seize this chance is, of course, open to question given Europe’s long record of doing too little, too late. If Europe again disappoints expectations, the recession will deepen, with no serious hope of economic recovery next year. In that case, public opinion will veer onto a course of political nationalism and economic disintegration, not just in Greece and Italy but also in France and Germany. By next year it may be too late to reverse this. That’s what is meant by a make-or-break moment.

PHOTO: A candidate presenting himself as “Star Wars” villain Darth Vader and representing the Internet Party of Ukraine leaves a meeting of his supporters in Kiev, Oct. 22, 2014. REUTERS/Valentyn Ogirenko

12 comments

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“genuine peace process that recognises the loss of Crimea as irreversible and acknowledges Russia’s vital interests in maintaining the military neutrality of its immediate neighbours. Once these basic conditions are satisfied, a rapprochement with Russia should become possible.”
–by all means, anything Russia wants. As for the countries Russia considers its vassals, those vital interests, at the very least, the Baltic States and Finland, then later Poland and the rest of those no-name countries. Who cares what they want. It’s only important that Russia feels safe in its tiny enclave. Never offering anything else than a gun in your face, Russia requires subservience.

Kaletsky holds himself to be a high thinker, but even in diaspora he is the typical Russian holding to ancient notions of Russia’s superiority and how the neighbors have to bow to Moscow no matter how disgusting its history has been with its neighbors. Those Asian hordes never stop hoarding. Or as a Finnish immigrant to the US from the early 1900s described the Russian: “you can fry a Russian in butter, he’s still a Russian.”

During Lenin’s time, it is said, a mechanism was started for gaining public support through outright lies, the concept of the “useful idiot.” Kaletsky has easy access to the new elites of Moscow so payment is always due. Being a useful idiot is one of those payments, and the other is just sounding like Czar Putin himself.

Posted by RiVi | Report as abusive

The EU will sacrifice anything it can claim jurisdiction over to survive. This is one of the reasons why it is both a terrible thing. Due to this disregard for the wellbeing of its component nations and general contempt for democracy, it will ultimately fail – hopefully sooner rather than later.

Posted by Andy_Redman | Report as abusive

The defense of ancient wealth never proceeds to overall improvement. Freedom catalyzes humongous growth, but not necessarily for those who are protecting past advantages. This uncertainty and the fact that infinite growth is not physically possible means that those that proport to support growth really only support a limited growth and for a limited number of people. The outcomes for most will remain dismal and lead to the inevitable life of strain and loneliness and finally death. One long trudge to the final solution that neither wealth nor poverty can avert.

There, I tried to german it up a bit at the end;>)

Look, it doesn’t matter what happens to europe. They have no intention of freeing their people. The same goes for the US. The existence we have as slaves makes it unimportant how the economies go. We still get cheated and abused and there is no justice. It just doesn’t matter and never will as long as wealth and corruption rule. Every person that stands before you and says they have a solution and this is what we should do is just another faker with a scam that you haven’t seen before. There is too much insanity in the actions of our leaders and their industrial masters for there to be any doubt about this.

Posted by brotherkenny4 | Report as abusive

I think Anatole is a little bit too optimistic or even, with a small slight to him, ostrich-like when it comes to Russia. Russia has taken a faithful turn from which there is no return other than through a violent social convulsion. Russia has again turned towards samodierzhavije (with apologies to Russian speakers for butchery of their language in transcription). This is not the first time an attempt to drift towards Magna Carta ends in tears and reversion to form. Hoping for Rapprochement with Russia under these circumstances is completely unrealistic. Reports from Ukraine say that Ukrainian security services just apprehended a GRU general whose job it was to coordinate subversion in Kiev. They also folded several well armed terrorist groups. Rapprochement? really? Recognize Russian right to Crimea which was anschlussed in violation of all European norms thus threatening post WWII order, really? Ignore the plight of Crimean Tatars to give Russia some time to regroup and strike elsewhere. Really?

In a longer view, rapprochement with Moscow is not in the interest of Europe. It is a harsh statement but I believe true in a long and strategic view. Russia is a historic anachronism. A country that has less than 5% of Eurasian population, declining, that holds 25% of Eurasian landmass. Effectively pillaging natural resources from that landmass, converting proceeds into weapons with which she threatens her neighbors. This is an entirely untenable situation. Russia is destined to get into conflict with overpopulated Asia over all of her land east of Ural mountains. Europe does not need to be part of this conflict. Since Russia has effectively declined to join Europe on conditions other than Russian imperial domination, let it be. Let Russia defend herself on her own.

I agree with Anatole on one thing though. Europe is in a bad place. European political elites appear to be completely divorced from reality, like royalty of old. Some places in Europe have youth unemployment of 45%. And yet European politicians just concluded a climate summit with grandiose plans of 40% cuts in carbon emissions within 15 years. Is this the most important thing that troubles Europe today? Really? Have these elites noticed that, scientifically speaking, global warming is now as dead as scientific theories can get? No other trouble on the horizon, we must focus on damaging our energy industries and sowing stupid disunion? Confirming what populists have been saying all along about political elites in Brussels?

Posted by fatman51 | Report as abusive

The US/Washington/Obama is quarreling with their bread and butter once again. Their EU allies are in disarray suffering both from US sanctions and Russian countersanctions. Guess who wins?

Posted by SNKuz | Report as abusive

The EU has yet to decide whether it is a confederacy run by the heads of state, along with a bureaucracy which is accountable to no one, or a federation along the lines of the USA.

Not many votes for the latter, because the former has been such a comprehensive disaster.

But it’s the only rational way forward.

Posted by tomfromrossall | Report as abusive

The EU has yet to decide whether it is a confederacy run by the heads of state, along with a bureaucracy which is accountable to no one, or a federation along the lines of the USA.

Not many votes for the latter, because the former has been such a comprehensive disaster.

But it’s the only rational way forward.

Posted by tomfromrossall | Report as abusive

For Poroshenko and EU leaders to launch a genuine peace process that recognises the loss of Crimea as irreversible and acknowledges Russia’s vital interests in maintaining the military neutrality of its immediate neighbours is, of course, the only way to resolve the situation. The question is whether Poroshenko can fulfill the first pre-condition and the EU recognize the second.

Posted by Zaichik | Report as abusive

I submitted a comment at about the same time as two comments below, give and take an hour. My comment respectfully disagreed with the author. Does this blog censor comments?

Posted by fatman51 | Report as abusive

EU’s fall is quite probable, economically or otherwise, US will not be able to stand alone. What next? Your guess is as good as anybody’s else.

Posted by boontee | Report as abusive

[…] via Europe’s economic and political future will be determined in the next few days. […]

Posted by Europe’s economic and political future will be determined in the next few days – Rational Thought JournalRational Thought Journal | Report as abusive

I have to disagree with the argument that Russia is entitled to the “military neutrality” of its neighbors. The author is essentially asking them to void their sovereignty at the behest of Russian imperialism. It is also an implicit call to disarm NATO through Eastern and Central Europe. As Putin continues to probe for weakness along Russia’s perimeter (Ukraine, Baltic States, Sweden) and continues to increase defense spending dramatically, capitulation is not an option for the West. Moreover, much of the region has already disarmed dramatically since the fall of the Berlin Wall, leaving behind juicy opportunities for Putin in its wake. Germany (with its commerce oriented foreign policy), Sweden, and the Baltic States have a deplorable lack of weapons platforms and combat readiness, and are deficient in practically every other capability as well – rapid air transport, communications, control, and intelligence – and the list goes on. Deterring Putin from another big adventure is impossible in light of these developments.

Posted by Cassiopian | Report as abusive

The fate of Europe lies in the hands of its innovative and productive citizens – not its slow-moving government agencies.

Posted by DonD1977 | Report as abusive