16 January 2009
The recession has turned the world upside down, as free marketeers embrace state intervention and socialists dance to a different tune. David Walker analyses Europe's response to the financial and fiscal crises
Next week, when Barack Obama is inaugurated as the forty-fourth president of the US, the crowds will be cheering as lustily by the Brandenburg Gate as they will on the steps of the Capitol in Washington DC. Berliners might well claim that Obama's tumultuous welcome in the German capital early in his campaign presaged his election triumph. Yet in the six months since last summer, it has once again looked like Americans are from Mars and Europeans - especially the Germans - are from Venus.
While Washington responded to the recession by tearing up the rulebook of economic liberalism, Germany refused for a long time to define the downturn as a crisis of any kind. The ruling Christian Democrat-Social Democrat coalition blocked the efforts of both UK Prime Minister Gordon Brown and French President Nicolas Sarkozy to push for strong, co-ordinated government intervention, not just in credit and finance markets but to buoy the economy at large.
It's been a time of curious reversals of policy and belief. Within barely 18 months, a Republican president (or at least his Treasury secretary Hank Paulson) came to practise socialism while the German Social Democrats moved from denouncing finance capitalism as predatory to criticising their European neighbours, notably Brown, for Keynesian deviation from the paths of free market rectitude.
Last year, Chancellor Angela Merkel found herself doing comparatively well in the opinion polls by resisting intervention. She smiled benignly when the Social Democrat finance minister Peer Steinbrueck told Brown off for subjecting the UK to debt levels that 'would take a generation to work off' - Conservative leader David Cameron could hardly believe his political luck.
But now, as Obama prepares an even more stupendous federal spending package, the Germans are putting Schadenfreude behind them and are on the move again in policy terms, inching towards both the American and the European mainstream position with a $50bn fiscal boost. Merkel has presented a revised package of investment, spending increases and cuts in social security contributions and income tax. The Social Democrats had resisted the latter until recently on the grounds that only richer Germans pay income tax and the less well-off would benefit more from cuts in social security contributions.
Germans talk about 'verkehrte Welt', meaning the world turned upside down. That captures what has been happening in Europe these past months. Suddenly ideology and party have become useless as guides to how governments actually behave. Left and Right have been swapping clothes. In Sweden, the centre-Right government coalition led by Fredrik Reinfeldt has abandoned one of the few policies that distinguished it from the Social Democrat opposition, the sale of state businesses. It is now vying with the Left (which looks likely to win the next general election) in its enthusiasm to intervene in the private economy.
In Spain, the Left-of-centre government headed by José-Luis Rodriguez Zapatero first presided over a great boom in house prices rather like the UK's but is now desperately trying to burnish its credentials as the custodian of probity and secure banking. But this was not before it announced a big stimulus package at the end of November, targeted on infrastructure and the car industry and including grants and loans to councils worth $8bn for building and refurbishing schools and sports centres.
There you have a notable feature of the crisis: across the Continent, credit crunch and recession have so far left governments and public sector employment relatively unscathed. There have, however, been some hairy moments. Not just in Greece, where rising unemployment and widespread discontent have fuelled recent rioting. Last autumn, the French government moved smartly to bail out Dexia, the Franco-Belgian bank specialising in loans to local authorities; it now owns 25% of the bank's equity. Without swift action, councils could have been hit harder than they have been by the Icelandic bank collapse. And not only in France - Dexia's loan book includes a number of British local authorities.
There is no question about the black holes that have opened up all over Europe's public finances. The crisis has consigned to the dustbin of history the European Union's 'Maastricht criterion' of a 3% of gross domestic product limit on spending that has to be met by borrowing because taxes fall short. Credit Suisse estimates the Republic of Ireland's deficit in 2009/10 will be at least 7%, Spain's 4.5% and France's about the same - with the UK around 6%.
Yet, if anything, incumbent administrations have been buttressed. Brown isn't the only beneficiary of a recessionary bounce. Sarkozy - who has taken to calling himself 'a kind of socialist' - has offered energetic leadership since last summer, coinciding with the French presidency of the EU, and it seems to have pulled him out of the political doldrums.
Conventional wisdom, in Brussels as in London, says that some day the public accounts will have to be sanitised, on the back of cuts in spending and/or tax rises. But it isn't going to happen for a while. Only in Belgium has a government fallen as a direct result of market perturbations: last month the already unstable Flemish-dominated, centre-Right coalition led by Yve Leterme gave up after allegations of political interference in a court case involving the rescue of Fortis, the Dutch-Belgian finance group.
Within Europe's public sectors, it's business as usual. Or, maybe, back to the future. The principal public employee union in Germany, ver.di, wants an across-the-board pay rise of 8% - in the run-up to Christmas firefighters were on the streets of Kiel holding a torchlight demonstration. This was, the union says, because 'more money in staff pockets strengthens domestic demand and jumpstarts the economy'.
Last month, the EU summit in Brussels agreed a $200bn stimulus package, after argy bargy between the Germans on one side and the French and the UK on the other. The German position of fiscal rectitude was supported by the Netherlands, Italy and others. Observers thought the Italian position curious. A country that has become a by-word for fiscal laxity is now not only preaching rectitude but practising it through a 'stimulus' package that turns out to bring in $390m more than it looks like costing. The Berlusconi government, surprisingly buoyant in the polls, saw off a desultory general strike last month. Italy's projected budget deficit for 2009/10 is only a little above where it's been for some years.
The Italian case seems to be typical. Governments of the centre-Right elected on programmes promising public service reform are, it's true, demanding cuts in pensions and civil servants' terms. That looks to some like the financial crisis is steeling the arm of the reformers, accelerating the pace of change in public management. Yet at the same time these countries are offering loans to car-makers, subsidising firms, bailing out banks and promising increases in infrastructure spending. In other words, they are doing a grand job of expanding traditional government.
Take France. Sarkozy and his model missus have settled down and he has reverted to Gaullist type as an utterly pragmatic wielder of state power. He has produced extra money for housing, energy, transport and university research and set up a support fund of dubious legality in European terms to 'protect French companies from foreign predators'. The general would be proud.
Yet at the same time, on the back of bipartisan support in the senate, he is legislating to restructure the French civil service and, echoes of the Gershon report in the UK, expand 'productive time' in public bureaucracies. He is also instituting performance-related pay for middle-ranking civil servants. In November it was claimed that 60,000 civil servants had come off sick leave since, in the summer, the government promised to dock pay for unjustified absence. Local authorities are being named and shamed by having to list consultants and their fees.
In British or US terms, these measures may seem small beer - no compulsory redundancies, only non-replacement of staff who leave - but in France they are thought radical. Renato Brunetta, the minister for public administrative efficiency, said the government's intention was not to cut jobs but to double productivity. The public sector job count needs watching since the French tend to exclude local, regional and health jobs from their definition of 'L'Etat'.
Under the former president, Jacques Chirac, some 5,000 civil service jobs were cut but over the past three years an additional 40,000 jobs have been created inside local government. In addition, publicly supported jobs in health are expanding by around 20,000 a year. The state, taken as a whole, has not ceased growing in terms of employment.
A similar pattern is on show in Spain. Just before the autumn stimulus package the Zapatero government confirmed it would cut the pension entitlement of 800,000 public sector workers if they retired early on grounds of ill health. Employees who take ill-health retirement with fewer than 20 years of contributions will have their pensions cut by 25%.
You can't generalise too widely, of course, or forget about Europe's eastern marches. In the Baltic countries, government responses to the financial crisis have taken classical lines. Estonia, Latvia and Lithuania have assumed that to get an international bail-out loan, you have to cut your public spending - the same remedy that James Callaghan had to swallow in the UK in 1976. Lithuania and Estonia are cutting public spending and resuscitating privatisation programmes.
Andrius Kubilius, prime minister of Lithuania, said: 'It's very difficult to get people to agree to deep reforms when the economy is growing by 10% a year. It's really an opportunity to make these reforms that are really needed.'
But that's a minority opinion. It might now be based on a misperception of the current views of the International Monetary Fund and other former upholders of the classical orthodoxy. In a staff position paper released in the new year, IMF economists urged the suspension of rules enforcing balanced budgets for public bodies, and increased grant flows from central to local government. The paper, by Antonio Spilimbergo and colleagues, even went on to say that while 'public sector wage increases should be avoided as they are not well targeted and difficult to reverse, a temporary increase in public sector employment associated with some new programs and policies might be needed'.
In France, opposition to the mooted privatisation of the state postal service La Poste has been growing. One of Sarkozy's close advisers, Henri Guaino, recently avowed that 'given the current market turmoil', there was no question of proceeding. That's pretty much the line taken by Gerry Grimstone, the chair of Standard Life who is advising Alistair Darling on potential UK asset disposal: it's going to be a long time until market conditions make it profitable for the state to make money out of sales.
Last month, the Franco-British Council convened a seminar in Edinburgh on whether financial exigency will make public service reform in the UK or France more likely. On the evidence presented by, among others, Bob Black, Scotland's auditor general, the answer is no. Reform is certainly on the agenda in Paris, as Sarkozy's 'general revision of public policies' proceeds, adapting the state 'to the exercise of renewed responsibilities', in the words of Jean-Yves Audouin, a former senior official of the Cour des Comptes (equivalent to the National Audit Office).
John Tizard, director of the Centre for Public Service Partnerships at the University of Birmingham, translated that into British terms. 'The state isn't so much disengaging as changing its role,' he said - leaving entirely open the question of government's size or the taxes that will be needed to sustain it.
The recession won't have much effect on the underlying financial and service pressures on governments, as societies age and public expectations grow. Public service reform has not become 'any more urgent' because of the recession, 'it's better to talk in terms of permanent and continuing reform'. The seminar even heard how attractive the Swedish model - a permanently higher ratio of public spending to GDP - might now be across Europe.
But in this topsy-turvy, post-crunch world, features of that Swedish model are better exemplified in Washington DC than in Stockholm. Curiously, the dependence of Europe on thinking and action in the US might continue, only this time the Americans might be leading Europe towards a more positive and pragmatic view of what governments can and should do, fiscal orthodoxy be hanged.
David Walker is the managing director of communications and public reporting at the Audit Commission and the former editor of the Guardian's Public magazine. A full report of the Edinburgh seminar will shortly be published by the Franco British Council www.francobritishcouncil.org.uk
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