Europe Must Play off Its Strengths in the Face of Signs of Global Decline

On 21 November 2018, the financial market expert from the University of Bonn presented the recently published annual report of the German Council of Economic Experts at the Centre for European Economic Research (ZEW), Mannheim, within the framework of the lecture series “First-Hand Information on Economic Policy” in front of around 140 guests. In her speech, she emphasised that both Germany and Europe are on the verge of a major turning point in the face of slowing economic growth, a worldwide slowdown in the pace of expansion as well as increasing international risks.

“We are currently witnessing two major trends: a global shift away from multilateralism, and, in Germany, the consequences of demographic change,” explained Schnabel. While the intensifying international trade dispute is deteriorating the global economic environment, with increasing tariffs being likely to further exacerbate existing tensions, Germany will require a society that is open towards innovation and unafraid of digitalisation. “We need a Europe that embraces liberalism, not protectionism,” urged the economist.

In order to meet global challenges – fuelled by the United States’ withdrawal from loose monetary policy and China’s massive debt problem – Europe should conclude new free trade agreements with other regions, and strengthen the multilateral regulatory framework of the World Trade Organization (WTO). According to Schnabel, this could be accomplished, for example, through stricter rules to curb market-distorting subsidies and a better protection of intellectual property rights – of course, under the auspices of the WTO, which in turn requires new reforms.

Meanwhile, Europe should refrain from taking protectionist measures such as the right of objection in the case of foreign company takeovers from outside the European Union, or a special tax on the turnover of digital companies. According to Isabel Schnabel, new digital and increasingly mobile business models will pose new challenges, especially for Germany.

The ongoing trade dispute could bring about short-term benefits for Germany thanks to the trade flows, which are likely to shift in favour of Germany’s export-driven economy. “In the long term, however, there will only be losers,” stated Schnabel. The multilateral economic order, which has created prosperity worldwide, could fall apart as a result of the trade dispute. It would therefore be crucial to intensify international cooperation, especially since individual actions are highly inefficient, as the international negotiations on climate protection have recently shown.

“We need a globally coordinated approach; the US withdrawal from the Paris Agreement has set us back several years,” explained Schnabel. The long-term goal should therefore be to establish a common, cross-sectoral and global CO2 price. Environmental pollution caused by particulate matter and nitrogen oxide emissions is, on the other hand, a local problem which can only be partly attributed to diesel cars. In order to tackle these issues, urban road pricing schemes, as have also been proposed by ZEW, have a clear advantage over diesel car bans.

In order to maintain its strong place in the international arena, Europe will first have to cope with Brexit. As a result of the UK leaving the EU, European net revenues are expected to shrink by eight per cent. “The EU should take this as an opportunity to question the basic structure of its budget,” said Schnabel. Europe’s macroeconomic development, which has so far been very positive, presents opportunities to bring the monetary policy back to normal in order to put the Eurozone in a better position to weather future crises. Times of economic prosperity also provide good conditions for reducing public debt.

“In my view, the situation in Italy poses the greatest risk, and demonstrates that the monetary union is still far from stable,” warned Professor Schnabel. There is also evidence of contagion effects, which could affect other EU Member States and, in particular, banks. The EU should thus approach the further development of both the European Stability Mechanism and the Banking Union with great determination.

While the council does not yet see any signs of a looming recession, one thing becomes clear in light of the slowdown of economic growth and the unforeseeable economic consequences of Brexit, which will hit export-oriented economies like Germany particularly hard: “We will not be able to overcome these challenges without migration,” emphasised Schnabel. Around 50 per cent of Germany’s “job miracle” of the past few years was made possible by foreign workers. Moving forward with the implementation of a “Skilled Workers Immigration Act” is therefore essential. In order to remain competitive, Germany will also need to increase investments in digital infrastructure and in information and communication technologies. “So far, policymakers have been enjoying the benefits of the favourable economic development without taking further steps, but sitting tight is currently not an option,” concludes Schnabel.