In Europe, Trumpism Leads Down a Different Economic Path
Posted by hkarner - 15. November 2016
Source: The Wall Street Journal by Simon Nixon
Electoral success for populist parties is likely to heap further pressure on the European Central Bank—perhaps more than it can bear, Simon Nixon writes
Europe’s antiestablishment politicians have barely been able to contain their excitement at Donald Trump’s election victory. From France’s Marine Le Pen to Hungary’s Viktor Orban to the U.K.’s Nigel Farage, they have greeted the U.S. president-elect’s triumph as a validation of their own longstanding opposition to immigration and free trade. With a series of political tests looming in Europe over the next year—starting with next month’s Austrian presidential election and Italian constitutional referendum and followed by elections in the Netherlands, France and Germany in 2017—European populist parties now sense an opportunity to ride to electoral success on Mr. Trump’s coat tails.
But there is a crucial difference between the U.S. and European situations. The market senses that Mr. Trump’s win is likely to pave the way for a change in U.S. economic strategy. Last week stocks rose and bonds fell as investors bet that his pledges of lower corporate taxes, fewer regulations and more large-scale infrastructure spending would boost company profits and inflation, easing some of the pressure on the Fed, which may be able to raise rates sooner and faster than previously expected.
In contrast, it is currently hard to see electoral success for populist parties in the eurozone leading to significant change in national economic policies. Instead, it is likely to heap further pressure on the European Central Bank—perhaps more than it can bear.
That is partly because eurozone fiscal rules leave little scope for significant changes in fiscal policy. Most eurozone governments are still obliged to continue to bring down deficits and debt levels. Those countries that have the fiscal capacity to provide more stimulus are those that need it least: In Germany, unemployment is below 6% and there are signs that rising wages are starting to feed into domestic inflation.
Meanwhile, those countries with the greatest slack and therefore most at risk of deflation, such as Italy and Portugal, are those with the least fiscal space. Efforts to boost investment via common EU programs such as the so-called Juncker plan have so far had little appreciable impact on growth.
Success for populist parties is also likely to make it even harder for governments to deliver either growth-enhancing domestic overhauls or build a consensus around the overhauls to the governance of the euro area that most economists say are vital to secure its long-term financial stability.
Indeed, the prospects for deeper eurozone integration appear to be receding as governments have responded to growing euroskeptic pressure by putting new obstacles in the way. For example, the Netherlands now has a law requiring the government to hold a referendum on any EU-related legislation if 300,000 voters demand it. This device has already been used to block an EU trade deal with Ukraine. Similarly, the Belgian region of Wallonia last month nearly torpedoed the EU’s free-trade deal with Canada.
So far, ECB action has enabled eurozone governments to duck difficult decisions. But even before Mr. Trump’s election, it was facing unpalatable choices over how to keep its quantitative-easing program going in the face of a looming scarcity of eligible bonds under its strict self-imposed rules. Despite a recent rise in bond yields that has eased immediate scarcity concerns, policy makers know they need to convince markets at a time of global uncertainty that they have the tools to respond to future shocks. They also know that all the possible options involve breaking political, legal and technical taboos, raising the prospect of a political backlash in Germany.
At the same time, the eurozone faces a series of imminent challenges that could test its cohesion. There is no sign of any resolution to the three-way standoff among Berlin, Athens and the International Monetary Fund over debt relief for Greece, without which officials fear a new Greek crisis is inevitable next year. Similarly, Rome and Brussels are at loggerheads over next year’s Italian budget as well as the application of EU rules that may require bondholders in some Italian banks to take losses as part of recapitalization exercises. Policy makers fear that governments may simply decide to act unilaterally in breach of EU rules rather than pay a domestic price, thereby calling into question the legal premise upon which the ECB has based its actions.
Even if the eurozone dodges these shocks, policy makers fear trouble ahead if the recovery continues and inflation picks up. The prospect of higher inflation may ease pressure on the Fed. But it threatens to make the ECB’s life harder as it will have to choose between stopping quantitative easing—running the risk that borrowing costs for the most indebted governments could rise sharply—or tolerating above-target inflation, which could undermine competitiveness and living standards in Germany. That could blow political tensions into the open.
The reality is that there are some decisions that the eurozone can’t duck for much longer—and which may yet have to be confronted just when politicians are least able to respond.