What’s Wrong with Europe?

During 1990 I travelled all over Germany, and was impressed by its urban areas.  For some reason I expected cities in the industrial heartland such as Dusseldorf and Cologne to have a grimy appearance.  Instead they were very attractive and convenient.  So I see why people are impressed with Germany.  Even so, I was perplexed by this Tyler Cowen post, which suggested the German economy was doing well.

The [German] economy is continuing to grow, unemployment has been falling for twelve months, and the long-term fiscal picture is improving.  Plenty of vacations are being postponed.  You don’t have to think that real shocks caused the downturn to believe that real factors provide the way out.  The full story is here.

Beggar thy neighbor?  Don’t blame the productive.  Besides, a lot of what the Germans are producing and selling is inputs for other people’s production:

“Ulrich Reifenhäuser, managing director and owner of plastics machinery maker Reifenhäuser, said his company was struggling to cope with an order increase of more than 100 per cent in some months this year.”

You may recall that Alex — a prophet of the MarginalRevolution — has long predicted Germany as an economically undervalued country.  Now that events have caught up with him, he needs a new pick…

I agree that people shouldn’t be bashing German fiscal policy (although they should be bashing German (aka ECB) monetary policy.)  But in what sense is Germany doing well?  I looked for the most recent RGDP figures I could find, including estimates for 2010 and 2011, and found this useful IMF link.  As you can see from Table 1, Germany had a far more severe recession that the US, and is having a far slower recovery.  Indeed the same is true of the entire eurozone.  Between 2008 and 2011, the IMF expects 3.8% growth in the US, and negative 1.8% growth in the eurozone.  Even accounting for the difference in population growth rates, that’s roughly 4% higher RGDP growth in the US between 2008 and 2011.

When the crisis hit in 2007-08 we were told that it was all caused by deregulation implemented by the evil Republicans, and that this was why Europe was doing better.  Indeed RGDP growth in 2008 was a tiny bit higher in the eurozone than in the US.  But wasn’t the implication of that explanation that Europe should do better than the US over the next few years?  Even if they got hit by spillover from the US subprime/banking crisis, you’d still have expected them to have a milder recession than we had, wouldn’t you?  Of course there is one area where they have done better; unemployment has risen much less sharply than in the US, as their governments use various techniques to discourage layoffs.  And that’s a good thing.  But it still doesn’t explain why output has done so poorly in the eurozone.

Don’t think I am saying “I told you so;” I did not predict this, nor do I have any explanation.  A few weeks back I did a post arguing that the European countries had stopped gaining on the US after 1980.  My default model is that once countries are fully developed, they should all grow at about the same rate.  Those with less efficient (i.e. less neoliberal) models should plateau at a level slightly below the most efficient countries (US, Switzerland, Singapore, etc.)  But at that point they should grow at about the same rate, as long as their model doesn’t get even less efficient relative to the US economic model.  And it doesn’t look like Europe’s model has regressed relative to the US.  Indeed, if anything it has been the US that has been regressing in recent years (even before the Obama election.)  It is the US that has slipping in the Heritage Foundation Economic Freedom rankings.  So I am just as puzzled as anyone else by the fact that the eurozone, which was already about 20% to 30% behind the US using the 2008 data in my earlier post, now seems set to slip another 4% further behind the US in per capita GDP.  And even a relatively efficient eurozone country such as Germany, which avoided the real estate bubble and benefits hugely from a complementary relationship vis-a-vis China, seems set to slip even further behind the US.

Does anyone know what I am missing?  I suppose it might have been monetary policy, but the euro has been considerably weaker than the $1.60 levels it hit prior to the crisis.  So I am genuinely perplexed by the European situation.  I’m not a huge fan of their high tax model, but I don’t see how it explains this sort of dismal economic performance.

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About Scott Sumner 492 Articles

Affiliation: Bentley University

Scott Sumner has taught economics at Bentley University for the past 27 years.

He earned a BA in economics at Wisconsin and a PhD at University of Chicago.

Professor Sumner's current research topics include monetary policy targets and the Great Depression. His areas of interest are macroeconomics, monetary theory and policy, and history of economic thought.

Professor Sumner has published articles in the Journal of Political Economy, the Journal of Money, Credit and Banking, and the Bulletin of Economic Research.

Visit: TheMoneyIllusion

1 Comment on What’s Wrong with Europe?

  1. I have read some of your posts which is interesting in a way because it reflects of course quite the opposite way of seeing things compared to the European perspective.
    Actually, nothing is wrong with Germany. It is more the IMF, World Bank etc models that are wrong. They constantly tend to underestimate the German economy and its growth.
    That was very obvious in 2006 already when nobody saw the upswing coming. Predictions then just continued what was seen in the crisis years 2001-2005. I do agree with you that German grwoth obviusly slowed in the 80s and then Germany was put back for years by reunification. Taking in and building up a “country” with one fifth of your own population which has a wealth of roughly 30-40% your own does take its toll. 2001-2005 saw the peak of the German crisis, but also saw the reforms in the economy and inpolitics that changed the trend. The year 2006 marked the reversal of the trend of years of German underperformance. 2009 saw a sharp recession in Germany of course which was simply logic due to the fact that Germany still has a very strong industrial base and took a lot of its growth out of export. That sharp downturn is now being reversed, and even IMF etc reflect it by now in their corrected forecasts. Germany had the strongest quarterly growth in 20 years in the second quarter 2010, and it’s growth estimates for this year are now around 3,5%, outperforming the US (or using IMF figures, 3.3. for Germany to 2.6 for the US). The years to come look very positive as well because the German industry produces what Asian boom nations need and wealthy customers all over the world want. The unemployment has reached 20year-low levels and the big disadvantage of the German economy in recent years, flat wages, will start to fade as wages start to go up again. The fiscal situation of the state is very good compared to other developed nations.
    For the US however, I always wondered where IMF etc get their optimism from. Now that the credit driven consumer boom is over and US citizens actually have to start serving their debts, where should the growth come from once the stimulus packages run out?Especially since there is muhc less of a stabilizing social security sytsem that lowers the direct impact of unemployment on consumption.

    One general remark, you can never say “Europe” in economic terms. Levels of economic wealth and the trends differ enormously. There is the poorer South- Italy as once not so poor, but lagging since years, Spain that had a US-style real estate -consumer boom which will be falling back for years now, with unemployment at 20%. Ireland with it’s liberalization-driven and EU-subsidy fuelled boom that has crashed severely, seeing its debt explode as they need to rescue their banks and unemployment back up at 13%. Britain with the blow it took from the financial crisis, but I do have to say it really surprised me they do so well. I was living there for a year and seriously, there is not much outside the city of London.
    Then of course the extremely successful high-tax countries in Scandinavia that have developed really well since the mid 90s, enjoying generally lower unemployment than alsost any other nations, extremely wealthy, fiscal surplusses, very equal, leading in R&D expenses. They haven been set back by the crisis, but Sweden’s growth is predicted to be above 4% this year.

    Sweden is an interesting case in general that makes me very sceptical about statistics. Depending on what GDP / income per capita statistics you use, they perform either really well or sometimes quite badly, even behind the UK or the US. But then travel to Stockholm, travel to San Francisco, travel to the UK. You will think there is a wealth gap, but defnitely not in favour of any anglo-saxon countries.

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