What’s Next? Reviewed by Jeffrey M. Cunningham, Directorship Magazine

PREVIEW TO: SUMMER READING

Interview by Jeffrey M. Cunningham

Euroreality

As the global economy continues to spin in unpredictable ways, economist David Hale, and his wife and writing partner, Lyric Hughes Hale, provide an update on their book, What’s Next: Unconventional Wisdom on the Future of the World Economy (Yale University Press, 2011), a compendium of more than 20 leading economists and experts who weigh in with perspectives on the world’s leading economies.

Why does a small country like Greece have such a powerful effect over the EU?

It does because the  European economy has now plunged quite sharply – the overall growth rate was sterile in the first quarter, Germany had a growth of 0.5 percent, Italy, Spain, Portugal and Greece are all in a recession, which gives us a very low number for the region as a whole. Compounding the problem, European growth will stay weak for the time being because throughout the region there is emphasis on fiscal restraint to reduce budget deficits. If Greece is forced out of the EU it may very well have a contagion effect. It could lead to a sell-off in the bond market, and then possibly Portugal, Italy, Spain, would be considered vulnerable to leave the monetary union.

Do you see a situation where this might work to the advantage of either the United States or Asia, or not?

I think this will be a negative for European growth for the year ahead, and both America and Asia will suffer.

So it’s a leg of the global growth stool?

Well the European economy, in dollar terms, is actually larger than the American economy, so when Europe has a recession the global consequences are negative.

Closer to home, do we face anything similar in our own budget in states like California and Illinois?

Governor Brown admitted that California’s deficit could be twice as high as he had been hoping back in January—maybe $16 billion, not $7 or $8 billion. So California is at the same point as Greece. Illinois also had tax increases a year ago and is still running a fiscal deficit and the state’s pension fund is very underfunded.

If the Eurozone is held together are you making any kind of a forecast for global growth or European growth?

There is the potential for moderate recovery in Europe, probably again led by the conservative countries in the north—Germany, Finland, Austria, Sweden, Holland—and they’ll still reach a kind of bottom late this year or early next year.

The Germans are always fearful of inflation, how does that ratchet up the problem?

Well, the fact is that one of the ways we will solve this European fiscal crisis will be to have a higher inflation rate in Germany than we have in the rest of Europe. Over the last 10 years, the last 15 years really, Germany took quite a step towards restraining wages, keeping inflation low, whereas wages have increased by more in countries like Greece, Italy, Spain and Portugal, making them less competitive. Germany now has very low unemployment compared to those countries. But we have recently seen wage increases in Germany that were much larger than we’ve had in recent years. At the beginning of the year, the head of the IG Metal Union raised wages possibly above four percent, so for the first time in many years Germany may have some wage increases, which will be positive for consumption but it could also mean a somewhat higher German inflation rate.

Final question, what are the odds that this happens?

Basically the core of this problem is that we created 12or 13 years ago the European monetary union, but we did not create at the same time a fiscal union. We did not create what I’d call a truly strong economic union. The European nations today all have their own fiscal policies and quite different wage policies, so there’s no convergence. And these divergences helped create these problems in countries like Spain, Italy and Greece, so they became less competitive. Now they have to make an adjustment. Greece is having large pay cuts. Spain is having moderate pay cuts. Italy hasn’t done that yet, but Italy is being forced to renew policies making the markets more flexible. So there’s a variety of things going on to try and reduce the competitive gaps that have developed over the last 10 years since Germany was so successful with restrained wages.