Europe – happy but perhaps not such a prosperous new year

Published: Jan 2014

To start off with the leader in Europe, Angela Merkel will head a Grand Coalition in the coming years which consists of her conservative CDU/CSU (a ‘double act’) and the social-democratic SPD.

A broadly supported agreement is a good thing but it comes at a price. The parties have not so much picked over the bones of the accord as thrown a bone to the putative coalition partners. To placate the CDU, there will be no tax hikes while older mothers gain higher pension benefits for every child. The Bavarian CSU has pushed through a motorway toll for foreign cars and lorries. And the spoils for the SPD are a national minimum wage of €8.50 per hour.

The Frankfurter Allgemeine Zeitung, like many other media, was very critical of the agreement, which it described as “overcooked mush” that will be “easy for everyone to digest”.

There is a risk that, to please the electorate, the new government will backtrack on many of the reforms that the previous (SPD) Chancellor Schroeder implemented. For instance, the retirement age will be lowered to 63 (if people have paid pension contributions for 45 years). In addition, the job market threatens to become less flexible because temporary work will be subject to stricter regulations. This could damage Germany’s competitiveness and slow down economic growth.

In regard to the Eurozone, not much has changed: tough reforms and a prudent budget policy continue to be on the cards. Left-wing media were hoping that the SPD could force Ms Merkel to loosen the reins to some degree. At first glance, this does not appear to have happened.

It was slightly surprising that investors welcomed the ‘GroKo agreement’ with open arms. There is little new under the sun and the few changes that have been made do not bode well for the financial markets, it would seem. Among others, the service sector has not opened up and the pro-European stance is not convincing. Perhaps the markets were enthusiastic because they envisage that a broadly supported (and stable) coalition can be expected to rule Germany for four years. (Because the minimum wage will only become unconditional in 2017, there is a low chance that the SPD will leave the coalition early).

Of course it is positive that the most powerful Eurozone member state has announced four years of political stability and remains committed to Europe. But there is a danger that Germany will be too passive when it comes to streamlining its own economy or creatively addressing the still rampant euro crisis.

In Italy, Berlusconi has been thrown out of the Senate because of his fraud conviction. Various other cases are still before the court and the media mogul could end up in prison.

Nevertheless, Italians, the papers, and experts are careful not to write off the 77 year old once and for all. Berlusconi’s party has split in half. One part continues to support the Letta government and supports the ministers that are in the cabinet. The other half consists of faithful Berlusconi followers and has relaunched under Berlusconi’s old party name Forza Italia. It can currently expect to gain 20% of the votes, almost the percentage that voted Berlusconi into office in 1994 when he became Prime Minister.

Berlusconi may be barred from public office but that does not mean he will step down as political leader. Beppe Grillo of the Movimento 5 Stelle (M5S), the party that came second in the most recent elections does not have a seat in parliament either. In any case, the former three-time Prime Minister will not hesitate to trip up the government to serve his personal interests.

On the other hand, Prime Minister Letta will sleep a little easier than before. That Berlusconi’s PDL is in disarray means his cabinet has become less vulnerable. Yet, even without a government crisis Italy is struggling economically. Berlusconi is symptomatic of a rotten political climate. As Barbara Spinelli wrote: “Berlusconism is still here. And it will be not easy to wean ourselves off this drug that has fascinated not only politicians and parties, but the entire society….More fundamentally, though, it is his (Berlusconi’s) cultural and political heritage – his ways of thinking, acting, the ‘disease of the century’ – that will persist. Without a profound look deep into our conscience, this legacy will continue to intoxicate Italy.”

Chart 1: Italy’s economy
Chart 1: Italy’s economy

Source: Thomson Reuters Datastream/ECR

Spinelli’s analysis is tough, razor-sharp and scathing. At the time of the Costa Concordia disaster in January 2012, Italy experienced a bout of self-castigation. The coastguard who tried to order Commander Schettino back on board was seen as a hero whereas the Costa captain stood for everything that was wrong with Italy. In politics, not enough has changed in the two years since then; even if expelling Berlusconi is a big step. Perhaps it would not be realistic to expect Italy to make a clean sweep in the space of a couple of years. The recent economic data is a case in point. The jobless rate is 12.5%. Youth unemployment is at the record level of 42% and rising. The misery will continue as Italian politicians dominate the news for all the wrong reasons.

The pedestrian German coalition agreement and the struggling Italian republic are but two factors that could whip up tensions in the Eurozone. Other (larger) trends are cause for grave concern. Across Europe many politicians are making populist, isolationist, and protectionist statements or presenting proposals to pander to these sentiments. Some seem to display racist tendencies; for example in France, Italy, and the Netherlands.

The economic foundations under the European integration project – freedom of movement for goods and services, capital and individuals – seem to be crumbling. Some areas were never that “free” in the first place (Germany, which is supposedly exemplary, jealously guards some segments of its services sector). Now there will be even more pressure on the common market.

Europe’s shortcomings when dealing with the outside world are increasingly evident. The EU is losing clout because it appears divided, inactive and weak. More than ever before, the economic/political crisis causes the Eurozone states to look inward and become suspicious of each other. This has been a contributing factor in the case of the Ukraine that seemed to be slipping out of Europe’s grasp. Through economic blackmail and political pressure, Russian president Putin persuaded the Ukrainian president Yanukovich to strengthen ties with Moscow and turn his back on Europe just when the Ukraine was about to sign an Association Agreement with the EU. In its divided state, Europe was not strong enough to take forceful action.

Chart 2: Unemployment
Chart 2: Unemployment

Source: Thomson Reuters Datastream/ECR

The chain of events shows that Germany is not all-powerful. Ironically, it was the first time that Germany went out on a limb to champion an EU policy in eastern Europe that was guaranteed to irritate Russia. Whereas Merkel usually gets her way, this time she – and with her the entire EU – came off worst.

A fragmented Europe also means that environmental concerns are being overruled. For instance, the EU limits on CO2 emissions were weakened considerably after intensive lobbying by large manufacturers in Germany. Likewise, one-sided and narrowly defined national interests are hampering progress towards a banking union – a difficult process in any case.

In short, the EU faces major problems at national and European level. This makes it harder to tackle the political and economic crisis. Without a doubt, more of these issues will come to light with further attempts to form a banking union, stress tests on the Eurozone’s largest banks and the looming European elections.

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