Real problem of eurozone
The downgrade of the ratings of several eurozone countries, especially of France, Spain and Italy, is the subject of very divergent comments and analyses. It is sometimes argued that eurozone countries’ fiscal policies should be made less restrictive, and that their fiscal deficits should be corrected more slowly. In absolute terms, this view is not wrong. All eurozone countries ― including those where the fiscal deficit is not particularly high or dangerous, such as Germany ― have decided to simultaneously conduct restrictive fiscal policies, the objective being to practically eliminate all fiscal deficits from 2014 to 2015.
The fact that the corrective fiscal policies are conducted simultaneously in all eurozone countries obviously increases their negative effect on growth. The fiscal multiplier is commonly used, for instance, the negative effect on gross domestic product of a 1 percentage point of GDP reduction in the fiscal deficit; if a eurozone country conducts this policy in isolation, the fiscal multiplier is roughly 0.6; if all countries conduct such a policy, it is far higher, at around 1.2
From a normative point of view, it is therefore regrettable that the choice has been made to reduce these deficits simultaneously and rapidly ― a point that by the way is made by the rating agencies.
However, if we want to be positive and pragmatic, there is no longer any point in complaining about this situation: there will not be any change in the euro zone’s fiscal policy guidelines, especially after the rating downgrades by Standard & Poor's, and given the pressure that Germany is putting on the other countries.
If the debate in the eurozone is to be constructive, it should therefore not focus on the ability to stimulate demand in the short term through less restrictive economic policies, but on these countries’ ability to restore a sufficient level of growth later on, for instance, on potential growth in the eurozone from 2013 to 2014.
Indeed, there would not be any fiscal solvency problem for the eurozone countries if their potential growth was sufficiently high, even with zero or negative real growth in 2012. Besides, the rating agencies have also criticized the weakness of growth in the medium term ― in other words, the shortfall in supply in eurozone countries.
Potential growth is actually very low in eurozone countries, around 1 percent per year in France and 0.5 percent per year in Spain and Italy, due to weak productivity gains and population aging. As future growth in the eurozone can no longer be pushed above potential growth through an increase in borrowing or fiscal deficits, it is justified to expect very serious problems in terms of reducing these deficits.
So what economic policies are useful in this environment? In a long-term perspective, obviously they include policies of innovation, higher education and improvement in the sophistication of products. But it will take a very long time before these policies produce any effects. In the shorter term, eurozone countries must conduct policies aimed at stimulating supply: opening up of protected markets, reduction in mandatory contributions in order to lower labour costs, and hence tax reforms and increased competition.
It is these economic policies that are being hotly debated in the eurozone countries.