A € for your thoughts (1): Stiglitz and Wyplosz ponder about 2011

In this post on Project Syndicate, Economics Nobel Laureat Joseph Stiglitz repeatedly mentions the fact that Europe suffers from excess capacity and too little demand. I’m assuming he means a deficient aggregate supply caused by too much labour supply bus-à-vis labour demand, when he says excess capacity. He basically means that there is wasteful unemployment. He probably also refers to real estate capacity, which makes a lot of sense in Spain and Ireland, I guess.
The deficient demand comes from the financial and now the fiscal crisis that have caused a decrease in consumption, investment and now in government spending.
The other highlight from this article is the authors criticism of European leaders lack of leadership, as they all pull in different directions.

Charles Wyplosz, in a post at VoxEU.org, performs an overview of the Euro, to conclude that a number of problems will continue to plague it.

Who should enforce fiscal discipline in the Eurozone?
The commission lacks power, the ECB lacks a mandate and the member states lack the will. Nonetheless forcing through a balanced budget rule similar to Germany’s seems to be his best advice. Although I agree with it this is an insufficient answer as a constitutionally enshrined balanced rule demands a supra-national, unconstrained budget if only to guarantee tax smoothing for recessions.

How should a sovereign debt restructuring be handled?
Here the author argues in favour of collective European arrangements for 2 reasons. Externality concerns arising most likely by cross lending in the banking a public sector imply that all countries and partners should be involved in the decision making. Conditionality also implies a need to involve private partners in the restructuring as a means to limit moral hazard problems. Wyplosz surreptitiously implies that this was not allowed in Ireland due to banking interdependencies. Moreover the same “conditionality because of moral hazard” argument also applies to the rescued countries.

Is this a competitiveness issue?
Here the author argues that there is data to prove that competitiveness is not the issue. He proposes to capture competitiveness through unit labour costs, which he shows are very similar across the Eurozone. However I believe that this measure fail to capture the level and type of skills of the labour force, the ability of the national institutional setting to accommodate businesses, etc. So I’m a bit reluctant to accept this argument as anything but incomplete.

Should the Commission be in the driving seat?
He argues that the European Commission lacks the leadership to guide the policy framing through agenda setting necessary to give this European problem a European solution of the kind it deserves.

He concludes by warning that if Spain or Italy need a bail out it could spell the end of the Euro. Here what’s interesting is the logic: Spain is too big to be bailed out by the EFSF, therefore the EFSF would have to be increased, which would lead to political difficulties in Germany. If the member states could not agree to do so, then the ECB would have to step in. If it bailed out Spain, it would cause markets to dump the Euro, which could put the currencies and “in sight”.

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