Davos wrap-up

[Eubulides <paraconsistent@xxxxxxxxxxx>]

Farewell to the axis of weasel
Larry Elliott in Davos
Monday January 26, 2004
The Guardian

The protests were sparser, order books a bit healthier, the smiles a
little wider. Davos, all agreed, was a happier place than a year ago.
Cautious optimism was the phrase of the week, a contrast to early last
year when Europe was dubbed the axis of weasel and there was widespread
concern that the global economy was on the skids.

This year even Dick Cheney was being nice to the Europeans, praising their
combination of economic success and democratic security over the past six
decades. The fight against terrorism, the US vice-president noted, was
work "for many hands". To be sure, Cheney's keynote address on Saturday
marked a distinct change in tone from the Bush administration, although
the subtext of his remarks was that the US was looking for back-up support
and diplomatic cover for its foreign policy. The same theme underpinned
the debates in Davos on the global economy, where the focus was on whether
the US recovery was strong and sustainable enough to drag the rest of the
west out of trouble.

The implication of this was clear: the American model is best. A subtext
was that while there may be side effects from the US model, you only have
to look across the Atlantic to realise that it is the only game in town.
Washington's view is that Europe needs to rethink its defence and economic
strategies along American lines, and the sooner the better.

In a sense, that was all perfectly understandable. The US economy has
grown much faster than Europe's, not just in the past couple of years but
for a full decade, displaying far greater dynamism and technological
innovation. Hank McKinnell, chief executive of Pfizer, said that Europe
used to be the world's medicine chest but had seen its share of new drug
discoveries plummet as a result of government price controls.

Europeans in Davos ruefully admitted that there was an entrepreneurial
deficit with the US. They could hardly do anything else given last week's
admission by the European commission that the goal set in Lisbon four
years ago - that the EU would become the most competitive knowledge-based
economy in the world by 2010 - had no chance of being achieved.

At one extreme, there is now the suggestion that the philosophy
underpinning the European approach to capitalism - of a social market
economy - is now doomed. On this reckoning, you can have US-style
efficiency or you can have European-style equity but the two are opposites
in a zero sum game. The view from corporate America is that expanding the
scope of the market is the solution to everything from wealth creation to
drug discovery. Europe will never get anywhere while it is heavily
unionised and burdened with excessive regulation and taxation.

So all-pervasive was this view in Davos, it is worth putting the
alternative one. The first point is that the evidence really does not
suggest that the American model is more efficient. It is true that GDP per
head in the US is about 30% higher than it is in the EU, but the gap in
terms of GDP per hour is much smaller at around 4%, and has narrowed over
the past 10 years. Europe's inferior growth record is due to the fact that
its labour force has grown more slowly and its workers enjoy a shorter
working week and longer holidays. Given the choice between income and
leisure, Americans vote one way and Europeans another.

A second argument is that the US has benefited from superior
macro-economic management, with a pro-growth approach to monetary and
fiscal policy in stark contrast to the deflationary bias of the European
Central Bank and the stability and growth pact (SGP). As far as the EU is
concerned, it was hard not to agree with Joe Stiglitz when he said that
the ECB had been too slow in cutting interest rates and that it had been a
mistake to tighten fiscal policy in a downturn.

Ed Balls, Gordon Brown's chief economic adviser, would certainly agree
with this analysis. His lecture in York on Friday made it abundantly clear
that the chancellor wants to see deep-seated reform of the SGP to make it
more symmetrical (governments should cut deficits in upturns and raise
them in downturns) and more flexible. Balls said he believed the required
changes were possible; the real message, however, was that until they
happen there is not much chance of the Treasury finding that Britain is
ready for membership of the single currency.

Interestingly, Stiglitz was no kinder about US macro-economic management
than he was about that in the eurozone, claiming that too much fiscal
stringency in Europe had been matched by excessive fiscal laxity by the
Bush administration. It took some doing, he added, to turn a surplus of 2%
of GDP into a 5% deficit in three years while at the same time providing
only a modest stimulus to jobs and investment, but somehow Bush and his
team had managed it. So while Stiglitz said the chief executives of IT
companies were right to be bullish about the impact of technological
change on the global economy, this was being blunted by serious
macro-economic policy mistakes.

A third problem with the attempt to set Europe and America up as two
mutually incompatible systems is that there is more than one European
model and more than one American model. The Scandinavian model of
capitalism differs from that in Germany, just as that in Britain differs
from that in Italy. What is more, not everybody in the US believes that
the way ahead in the US is to give the rich the lion's share of tax cuts
while making jobs more insecure for workers. "We didn't fight against
fascism and communism", said John Sweeney of the AFL-CIO union block,
"just so that we could work in 19th-century sweat shops".

Finally, while it is certainly the case that there are important
differences between the way Europe and the US organise their economies,
there are also important similarities. Both Europe and the US are more
equitable than they were 100 years ago, and far more equitable than
countries in the developing world. Both have progressive taxation,
pensions for the elderly, public education. The Harvard economist, Dani
Rodrik, says that history shows that this has been the right approach.
"Countries that are less equal tend to have worse growth rates over the
long term. The US and Europe have both been successful in developing high
productivity economies and the real difference is between them and the
rest of humanity."

Rodrik is right. Over the past 10 years, the US has grown more rapidly
than Europe, and the superior performance has been particularly pronounced
over the past three years as the two economic superpowers have embarked on
vastly different macro-economic strategies. But they have far more in
common than either does with China, the economic success of which was the
talking point of Davos.

Over the long term, economic theory would suggest that far from the
growing enrichment of one country leading to the impoverishment of
another, the result is more wealth for everyone. This may be true, but the
theory has yet to be tested in circumstances where the low-cost labour
markets the size of China (1.3 billion people) and India (1.1 billion
people) are rapidly added to the global economy.

The textbooks say that outsourcing brings down the cost of production,
which means lower prices for consumers and higher profits for companies,
the combination of which leads to stronger demand and more investment.
Even if the theory is right, however, nothing on the current scale has
ever been contemplated before, and there will inevitably be severe
adjustment costs for those who lose their jobs. The political question of
how the benefits of this (assuming there are any) will be distributed has
yet to be tackled. It is not just the sustainability of the European model
that will be tested by the rise of China; America faces the same
challenge.

larry.elliott@xxxxxxxxxxxxxx