Three Decisive Events for Europe in the Week Ahead

On Sunday, parliamentary elections in Ukraine and “stress tests” and reviews conducted by the European Central Bank will “determine the entire continent’s direction for years ahead,” financial economist Anatole Kaletsky writes at Reuters.

Also next week, the European Commission will decide on the budget for 2015 submitted by the French government. That judgment will decide between “the French government’s determination to stimulate its economy by cutting taxes with the German-imposed ‘fiscal compact’ that former President Nicolas Sarkozy rashly accepted” in the euro crisis of 2012. (The compact requires France to raise taxes or drastically cut spending to drop its budget deficit to 3 percent of GDP.) If applied literally, these rules “would make economic recovery in France a mathematical impossibility,” Kaletsky writes. “Yet bending these rules will provoke a German public backlash … that could even force Angela Merkel to renege on her commitment to support the rest of the euro-zone.”

“Depending on how these three events turn out, Europe will either be on the road to a moderate economic recovery next year or it will condemned to permanent stagnation, possibly leading to the break-up the euro or even the European Union as a whole.

“Why are the stakes suddenly so high? With most of Europe sliding back into recession over the summer as a result of the war in Ukraine and the failure to implement the sort of policies of monetary and fiscal stimulus that revived the U.S., Japanese and British economies, Europe now has an obvious choice: stick to the failed policies which are almost certain to perpetuate economic stagnation or to change course,” Kaletsky continues.

“When faced with this choice, the German guardians of the euro’s monetary and fiscal rule-book defend the status quo, no matter how dismal. Germany’s Bundesbank and Constitutional Court are steeped in the tradition of Ordnungsliberalismus which insists that rules must be obeyed at all costs and that following the letter of the law is more important than observing its spirit or achieving a desired outcome. But this legalistic philosophy is now running run up against the even more inexorable laws of mathematics, democracy and geopolitics.”

Europe has reached a point, Kaletsky contends, where politicians will have to change, reinterpret or compromise on some of their rules in order to preserve their continental union and what remains of economic well-being.

Back to the three decisive events, Kaletsky forecasts that a parliamentary victory for President Petro Poroshenko’s moderate party would likely enable EU leaders to begin a “genuine peace process” in the Ukrainian conflict. A positive outcome for the European Central Bank’s review could lead to continental monetary stimulus in early November, and the European Commission’s verdict on the French budget could prompt a reversal of austerity in that country.

The alternative, Kaletsky concludes, is a deepening recession, with its attendant political nationalism and economic disintegration.

Read more here.

— Posted by Alexander Reed Kelly