Indeed, Dombrovskis insisted on taking us on a short journey from the establishment of economic and monetary union in 1992 to the sovereign debt crisis – without so much as a pause – insisting that the rules had worked. However, before the banking crisis, government debt was on the retreat in most countries, indeed Ireland and Spain were the poster children for fiscal rectitude. When a financial crisis turned into a sovereign debt crisis, it was determined that the general public should be collectively punished. Apart from being punitive, it is now agreed that the scale and timing of cuts were counterproductive – and very far from “growth-enhancing”.
Dombrovskis concludes that the problem was not the rules themselves, but that they were “perceived as too complex and difficult to communicate”. Gentiloni echoed this, saying: “The complexity of our rules makes it harder to explain to our citizens what ‘Brussels’ is saying, and that is something none of us should accept.”
Another shibboleth that the EU clung to – long after it had been debunked – was the idea propounded by Reinhardt and Rogoff in Growth in a Time of Debt that when government debt exceeded 90% of GDP, growth was “roughly cut in half.” This turned out to be a calculation error.
As former chief economist for the IMF, Olivier Blanchard recently said, “while debt is still bad, it is not catastrophic.” Blanchard has argued that as long as the rate of economic growth is greater than the rate of interest, the capacity to grow the economy outstrips the growth of public debt. As Gentiloni pointed out, in comparison with the US and Japanese counterparts, who have much higher debt-to-GDP ratios of 108% and 236% respectively, the EU has a much lower debt-to-GDP ratio of around 86%. As the American economy is faring better than the EU, it would suggest that the Commission should maybe revise its own concerns.
There was one small glimmer of light, the Commission is contemplating a ‘golden rule’ that would allow deficit-financed green investment to support the European Green Deal, funding measures that mitigate or help countries to adapt to climate change. This public investment would somehow be allowed and be considered separate to other public debt. Whether it will receive the support of finance ministers remains to be seen. In theory, it could fund everything from wind farms to helping coal miners retrain.
Many economists think that monetary policy has carried a very heavy load, and with the real and imminent prospect of recession fiscal action will be needed. At the moment, the only economies that are considered to have a significant ability to spend within the current rules are Germany and the Netherlands. Changing the rules themselves would require legislative, if not Treaty, change, and this would be difficult; rather than simplifying rules, adding an additional ‘golden’ rule that was flexibly applied could provide the intelligent and flexible approach Prodi called for.
