quarta-feira, junho 29, 2011

Austerity is not enough

Martin Wolf, of the Financial Times,  is right, austerity is not enough. And the BIS would be one-sided to focus only on the requirements for austerity in deficit countries, while forgeting the need for adjustment in the surplus countries. Because inflation and other economic conditions ARE divergent, we need at least TWO sets of measures, prescriptions for deficit countries AND prescriptions for surplus countries.

Yes, highly leveraged countries are running large structural budget AND external deficits, which have to be reduced through local efforts as soon as possible. In the case of smaller Eurozone countries, domestic adjustments are soon exhausted and  most of the offsetting adjustments must occur in their balance of payments and in their foreign trading partners and foreign creditors. 

Thus, it must be emphasized that it is impossible to eliminate structural domestic deficits without big shifts in the external balances. But the necessary external rebalancing is more or less blocked, in one case by China’s undervalued currency and in other cases by the inability to devalue or restrict imports within the Eurozone, given the Single Currency and the Single Market. 

Deficit countries can and must eliminate their structural domestic deficits, but this is only a necessary, not a suficient condition for the adjustments to occur. 

Clearly, fiscal and external rebalancing must always be two sides of a coin.  And it is impossible, ultimatley,  for this external adjustment to occur without big changes in the surplus economies, meaning that the surplus emerging and advanced economies have to spend more abroad and to reduce their external surpluses.

Finally, external adjustments are much more difficult, if not impossible, within in the Eurozone, which may justify the pessimistic bias of many European analysts. Without FX, trade and monetary policies, Eurozone countries must find new tools to overcome structural and apparently unresponsive private and external sector imbalances.

Though, in fact, the external adjustments are already well underway.  Both Greece and Portugal report reductions of 20-25% of their Current Account deficts thus far in 2011.

With an appropriate mix of policies, larger exports and lower imports of goods and services will help to compensate  and facilitate fiscal adjustment and lower private consumption. 

Of course, even with a much improved Current Account balance, any debtor country would need extra help to work out external Debt/GDP levels of 150-170%. 

Over to you, creditors. 

Mariana Abrantes de Sousa, economista
PPP Lusofonia, Lisboa 29-June-2011