Ewald Nowotny: The future of European integration - some economic
perspectives
Opening remarks by Prof Dr Ewald Nowotny, Governor of the Central Bank of the Republic
of Austria, at the 39th OeNB (Austrian National Bank) Annual Economic Conference on "The
Future of European Integration: Some Economic Perspectives", Vienna, 23 May 2011.
* * *
Ladies and gentlemen,
I am very pleased to welcome you to the 39th Economics Conference of the
Oesterreichische Nationalbank here in Vienna.
I am proud that we have once again managed to prepare a highly interesting program
featuring distinguished speakers and discussants from different backgrounds in academia,
policy-making and policy-commentating who have in common a vital interest in economic
issues. I should like to thank all of them in advance for coming to Vienna and for contributing
to this year's Economics Conference. I would also like to take the opportunity to thank the
staff members of the OeNB for their great efforts in organizing this event.
My particular welcome goes to Federal Minister Rudolf Hundstorfer, who will address the
participants of this year's conference as our first speaker. I am very honored to welcome Olli
Rehn, Commissioner for Economic and Monetary Affairs of the European Commission, who
will join us today. I am also very grateful that Lorenzo Bini Smaghi, Member of the
Executive Board of the European Central Bank, has found the time to be with us today.
Lorenzo Bini Smaghi is not only a dear colleague of mine on the Governing Council of the
European Central Bank, he has also been one of the most eloquent commentators on the
future of the European project over the last few months. Thank you very much for joining us
today.
Finally, I would like to add that I am very glad to see such a densely packed audience here
today. This confirms that this year's conference topic - "The Future of European
Integration" - strikes a chord with many people from different walks of life. As you all know, a
conference of this size is not arranged within a couple of days. In fact, the
lags of
transmission between a decision and its visibility, which are well known from monetary
policymaking, are also present in organizing a monetary policy conference. Sometimes a
topic that appears to be timely and urgent in the planning phase of a conference has lost
some of its appeal by the time the event actually takes place. This year, however, it was
almost the exact opposite. When we first thought about a possible topic for the 2011
Economics Conference last fall, we did not expect - and could not have expected - how
significant and intensively debated this very topic would be in May. The debt crises and
institutional reforms we have observed over the recent months have moved the topic of the
future path of integration to the top of both the European and the international agenda. I am
therefore looking very much forward to our discussions, which promise to be lively and
- hopefully - also fruitful.
Ladies and gentlemen,
From its beginning, Europe has been characterized by alternating periods of integration
and disintegration. This, however, is not to say that every step toward more integration has
to be followed by a step in the opposite direction. Historical progress does not follow such a
simple pattern. In the sixty-six years since the end of World War II, a model of European
integration has developed which is - for the first time - neither based on strategic alliances
nor on involuntary association. The connections between countries have become closer and
closer over the years, even though this process has not been linear but has had its ups and
downs, its "speed-ups and slow-downs" so to say. Every setback, however, was typically
followed by a further leap forward. If the picture of circular movements is at all accurate, one
should think of European integration not as a wavelike process but rather as a spiral stair
where each cycle is accompanied by an upward movement.
In recognizing this pattern, I do not wish to diminish the challenges we are facing today. Nor
do I wish to suggest that it will be easy to find the right answers to these challenges. We
have heard many different assessments of the causes and underlying mechanisms of the
current situation and equally many proposals, suggestions and solution strategies.
Politicians, economists and commentators are in disagreement on many of the issues
currently at stake. It is rather telling that this disparity of positions is also reflected in the
public opinion and in noneconomic newspaper articles. Two well-known German-speaking
authors, for example, recently expressed their views on the European project - and they
have come to almost diametrically opposed conclusions. While one of them talks about the
"Gentle Monster Brussels," the other praises the qualification and dedication of its
bureaucracy.
In light of the already existing multitude of opinions, let me offer just some brief observations
on our current situation and on a possible way forward. Let me start by saying that I see a
"double heterogeneity" as one of the main causes of our present constellation: a
heterogeneity of national economic developments and a heterogeneity of supranational
institutions. Let me begin with the latter - the heterogeneity of institutions. On the one
hand, a majority of EU countries have handed over the responsibility for monetary policy to
an independent supranational institution: the European Central Bank. On the other hand,
there is economic policy, which still is - in large part - the responsibility of the individual
Member States. This set-up follows from the subsidiarity principle, which aims to respect and
support local policy decisions wherever they are reasonable. We have had to realize,
however, that it is often not easy to specify the optimal level of policymaking. The lack of
more centralized economic governance is especially noticeable when the second
heterogeneity - the one between countries - becomes visible, as has been the case in the
recent past.
is, in the first place, a structural phenomenon. Individual
Cross-country heterogeneity
countries have reached different stages in their economic development; they are specialized
in different areas of economic production; they are characterized by different sets of
institutions and they have different preferences regarding the reach of the market and role of
the welfare state. While these structural differences reflect national histories, national
institutions and national preferences, they are nonetheless not a strictly national affair. They
are not, because the idiosyncratic situation in one Member State can easily spill over to other
countries and to the EU as a whole. A fiscal crisis typically only breaks out at the end of a
longer process of unhealthy and unsustainable development, although budgetary distress is
sometimes - but not always - visible earlier on.
Cross-country differences are nowadays clearly reflected in almost any macroeconomic and
financial time series, starting from interest rate spreads to economic forecasts. In fact, the
signals coming from the most recent forecasts for the European Union are quite positive
and the first quarter of 2011 has shown improvements that were larger than expected. The
outlook for the global economy has also improved, and this synchronicity might lead to
further positive reinforcement effects for the European economy. One cannot exclude the
possibility of a slowdown in recovery, but I think that the risks of an L-shaped or a W-shaped
development have decreased. The picture is particularly encouraging for Germany and for a
number of smaller, export-oriented countries, while some peripheral countries are lagging
behind, both in terms of GDP growth rates and of unemployment rates. Although this
divergence is of course worrisome, we should not immobilize ourselves by focusing on the
problematic cases alone. If we do, we might forget that on average the performance of the
EU economy was good - both during and after the crisis. The flexible way in which many
countries reacted to the unexpected events was certainly facilitated by the past progress of
European integration, which was accompanied by structural progress and an intensification
of trade. The remaining divergence in economic development, however, is in my view a clear
mandate to further reduce the institutional heterogeneity of economic governance.
In order to shape the new institutional landscape in the best possible way, it is useful to look
back for a moment and analyze the trends and conditions that made a crisis of this size
possible. A correct account of the crisis period is not only important for economic historians.
It is even more important for today's policymakers as it enables them to identify the main
weaknesses and to tackle them in an adequate way. In many respects the chronology of the
recent contraction has followed the prototypical sequence of events characteristic for
severe financial crises. The main preconditions were a number of slowly emerging
disequilibriums on the real side of the economy, accompanied by suboptimal behavior and
regulation in the financial sector. These real factors include, for example, the global
imbalances that led to the "paradox" financial flows from emerging to advanced economies.
This caused a relative abundance of available funds in the advanced economies, which was
further amplified by a rapidly growing financial industry and a period of rather low global
interest rates. These elements, among others, contributed to an increase in household
indebtedness and to low private savings rates. The financial sector, on the other hand, was
eager to satisfy the demand for apparently safe assets by designing and selling exotic
products. At the same time, one could observe a deterioration of lending standards,
excessive leverage ratios and the extension of management contracts that favored
shortterm behavior and excessive risk-taking. In the financial crisis, all of these factors worked
together to cause a massive fall in asset prices, a wave of fire sales and an almost complete
breakdown of the interbank market. These turmoils in the financial market then led to a loss
of confidence in the real sector and a plunge in production and trade. The shockwaves finally
reached the fiscal sector and have led to a - sometimes huge - increase in deficits and in
public debt. This was particularly true for countries which had recorded large imbalances
before the crisis and which, in addition, had structural problems to struggle with. Often, these
were problems that had been present for some time but had remained hidden in the periods
of easy money, credit booms and increasing indebtedness.
This short and necessarily sketchy and incomplete account suggests that there have been
weaknesses and failures in at least four areas of economic governance: the
governance of the financial sector, of national economic structures, cross-country balances
and fiscal policies. We need reforms in all four of these areas. This is important to stress
since the events of the recent months have put fiscal problems and the role of the
government to the fore. It goes without saying that national and supranational bodies did not
work in the most efficient way before and during the crisis and that it is necessary to improve
their functioning. On the other hand, however, this is only one field that calls for reform
efforts.
Ladies and gentlemen,
We have already seen some reform progress over recent months. I do not need to give you a
detailed account of all the institutional adaptations and innovations which have been put
into place recently or which are scheduled to be implemented in the near future. First,
because most of you will have followed these events closely and second, because I am sure
that we will hear much more about them in the course of this conference. I just want to
mention some of the innovations that are related to all four areas that I identified before as
the crucial targets of reform: the modification of the Stability and Growth Pact (to allow for a
higher degree of automatism of - and a stricter adherence to - the rules); the Euro Plus
Pact, which will improve the coordination of national economic policies and help identify
macroeconomic imbalances; the set-up of new supervisory authorities for securities, banking
and insurance; and the establishment of the European Systemic Risk Board and the
European Stability Mechanism to monitor macrofinancial stability and manage future
sovereign debt crises. At the same time we have also seen that some countries have tackled
their own specific structural deficiencies to be better able to cope with the current crisis and
with future economic shocks.
The biggest challenge for this new institutional architecture is to implement improvements in
monitoring and coordination with respect to fiscal policy and macroeconomic imbalances.
In both fields we will have to find rules and regulations to help us decide when a country's
budgetary or macroeconomic development looks sustainable and when it seems to be on the
wrong track. But this task of identifying fiscal or macroeconomic imbalances is inherently
difficult. In most cases it is not possible to draw a clear line between the states of insolvency
and illiquidity or between a macroeconomic divergence that is just the consequence of a
catching-up process and one that is the sign of an alarming disequilibrium process.
In this context, I see a number of guiding principles that could be useful in defining a new
structure of European economic governance.
First, we tend to be particularly alerted if we see balances in the red, if we see minus signs,
negative numbers and apparent deficits. As a consequence, most reform activities normally
concentrate on the bad times and on deficit countries. But we should not forget that the fiscal
crisis has become so severe because most countries did not manage to restructure and
improve their budgets during the good times of rather high growth. As it is much easier to
implement far-reaching reforms when the general economic outlook is positive, we should
put much more emphasis on appropriate anticyclical policies during periods of
upswing.
Second, given the uncharted territory that we are currently exploring and the many
uncertainties concerning the functioning and the effects of each institutional reform, it is
probably wise to take a gradualist approach and to gradually add new elements to the
already existing and functioning structures.
Third, apart from establishing a new institutional architecture, we also have to accomplish the
more immediate task of reducing debt levels and securing the sustainability of public
finances. Given the exceptional nature of the current crisis, it is necessary to think carefully
about a reasonable and balanced reform package to be able to distribute the costs of the
crisis in an equitable manner.
Ladies and gentlemen,
Coming to the end of my remarks, I would like to emphasize that we also need to improve
- and maybe regain acceptance for - our unique and precious European project. I am
confident that European integration will proceed despite the difficulties that we have faced
over the past years. I look forward to having a day and a half with you to discuss the future of
Europe from a multitude of perspectives. I hope you will find our Economics Conference a
useful and an insightful event.