COVID-19 changed European economics

During the Eurozone crisis, Germany imposed its philosophy of strict austerity on addressing the structural economic problems in the Eurozone.

Furthermore, the architecture of the Eurozone was faulty, as was pointed out by Martin Feldstein and others in the 1990s.

Despite such warnings, it was erroneously assumed that the market could effectively address all possible issues which might have come up.

This belief was upheld despite the absence of an effective crisis-mitigating mechanism.

As a result, countries that found themselves in a deep recession were forced to counterproductively pursue a strict fiscal policy, with depression being the inevitable outcome.

Indicative of this is the example of Greece: the country lost 25% of its GDP while more than 600,000 Greeks, mostly young people, had to search for opportunities in other countries.

Likewise, the treatment of Cyprus in 2013 was unnecessarily harsh.

This can be better understood by comparing how Spain’s rather similar banking crisis was resolved.

On the one hand, Spain was offered a loan of €40 bln aiming to save its banking system.

This loan was provided without a Memorandum of Understanding or a rescue package.

On the other hand, Cyprus was treated much differently and perhaps vindictively.

Indeed, Troika exhausted its discretionary power on the scale of austerity enforced using Cyprus as a trial ground of bail-in interventions.

Be that as it may, this approach (which I describe as Neoliberal Model II) reflected what was perceived as economic orthodoxy.

In this Model, the state’s role is limited, and the market system is given excessive importance.

Moreover, the principles of solidarity and equity are considered irrelevant by this Model.

Its value system revolves around individualism and profit maximization. Inevitably collective goals are ignored.

I am noting a distinction with what I describe as Neoliberal Model I, which challenged Keynesianism and influenced policymaking in the 1970s-2000.

More specifically, this Model focused on reducing government spending and deregulation.

In addition, it was also in favour of tax reductions and incentives aiming to increase labour supply and investment.

While the Neoliberal Model I had its philosophy, it also responded to what it considered the excesses of Keynesianism and the welfare state.

Politically, this approach was expressed by President Ronald Reagan in the US and Prime Minister Margaret Thatcher in the UK.

Evidently, this philosophy was strongly supported by the middle classes in several countries.

Subsequently, President Bill Clinton’s Neo Keynesian approach maintained some of the pillars of Neoliberalism I.

One of Clinton’s objectives was to ensure that the benefits of growth and development were enjoyed and shared by a broader set of Americans. He certainly achieved this goal.

However, what I describe as Neoliberal Model II, a model propagated, implemented, and exported by Germany, went too far.

Even before the pandemic, the impact of the pursued philosophy was negative.

More specifically, the pursued rationalization of economic indicators came at a very high socioeconomic cost: reduction of economic activity, higher unemployment, and growing inequality.

When Covid 19 came, and many countries faced extraordinary circumstances, the EU had to revisit this policy approach.

To begin with, it was clear the health sector and infrastructure were adversely affected by the sustained draconian fiscal austerity.

This led to a high social cost, but this approach could not remain unaltered with the pandemic.

The state had a role to play, and there was also relaxation of the rules of fiscal austerity.

Furthermore, the Eurogroup acknowledged on April 9, 2020, that the policy approach to the previous crisis had been inadequate.

The question is, what would replace the Neoliberal Model II.

I think it is important to think and act beyond ideological perspectives.

Pragmatism

Pragmatism is of paramount importance. Private initiative and the market system will always be very important.

But so is the concept of a mixed economy. In this regard, the state will always have a role to play.

This should entail three roles: strategic, social and referee.

It is important to understand that it is wrong to decouple fiscal policy from economic circumstances within this framework.

This does not mean that we should push aside the principle of fiscal prudence.

It means, though, that fiscal discretion should be part of policymaking.

In times of recession, the government should stimulate the economy by pursuing expansionary policies.

In times of economic growth, budgets should be balanced, and in some cases, it will be appropriate even to have surpluses.

Last but not least, a new model should also revisit the broader value system.

The principle of solidarity should be given great attention.

Furthermore, equal opportunities for all should be encouraged.

Lastly, while pursuing personal goals, we must simultaneously respect and work for collective objectives.

By Professor Andreas Theophanous, President of the Cyprus Center for European and International Affairs and Head of the Department of Politics and Governance of the University of Nicosia