Europe’s leaders say no to austerity, don’t say yes to stimulus

Austerity is out after the euro-area recession extended to a sixth quarter. Stimulus isn’t yet in.

That was the something-for-everyone message from European leaders at a summit in Brussels Wednesday. All touted a previously announced 6 billion-euro ($7.7 billion), seven-year initiative to fight youth unemployment, now at 24 percent. National governments won’t put up more cash, German Chancellor Angela Merkel said.

“It’s not a matter of money,” Merkel told reporters after the summit. “It’s a matter of looking at how to spend this money most productively.”

The 17-nation euro area’s nonstop contraction since the third quarter of 2011 has left the European Central Bank to try to mitigate the damage by cutting interest rates and exploring unconventional ways of channeling money to needy companies, especially in the south.

The euro economy will shrink 0.4 percent in 2013, the European Commission said this month, shaving a prior forecast for a 0.3 percent drop. It was the commission’s fifth consecutive downgrade since November 2011, as unemployment soared in the south and the effects of the debt crisis crept north, to Germany and the Netherlands.

Several months of calm in financial markets allowed EU leaders to deal with energy policy and a clampdown on tax evasion Wednesday. The next steps in handling the financial crisis were put off to June when jobs, growth and the slowing push for a centrally regulated banking system will top the agenda.

Budget targets

The tax-and-spending mix will be in focus on May 29, when the Brussels-based commission recommends whether countries including France, Italy, Spain, Slovenia and even the traditionally low-deficit Netherlands deserve extra time to reduce their budget shortfalls.

Spain last year obtained a one-year extension. Prime Minister Mariano Rajoy acted as if another concession is a done deal, counting on a “fair and balanced” decision to grant Spain until 2016 to bring the deficit below the EU limit of 3 percent of gross domestic product. The shortfall was 10.6 percent last year.

“Austerity on top of austerity is dead,” said London-based Morgan Stanley analysts including Daniele Antonucci in a pre-summit report. “The pace of austerity has certainly eased, if not the path. One hindrance to envisaging some degree of economic stabilization has been removed.”

Tax evasion

Germany backed last year’s slew of deficit-cut extensions and has signaled that it will go easy on France as well, as long as President Francois Hollande’s government takes growth-boosting steps to improve the business climate.

Hollande, a leader of the anti-austerity faction, passed up the opportunity to make a growth-boosting plea at the summit. Instead, he stuck to the tax-evasion theme, saying that budget constraints make it “better to ask those who don’t pay taxes to pay than to ask those who are already paying.”

With Merkel running for a third term in September, German tolerance of looser fiscal policy is colored by campaign tactics. Norbert Barthle, budget expert for Merkel’s party in parliament, warned against a reversal of the deficit reduction pursued since the crisis erupted in late 2009.

Easing off the brakes “is playing with fire,” Barthle wrote in Handelsblatt Wednesday. “The disciplining function of financial markets is implacable and unrelenting.”

‘Unlimited’ bond-buying

For months, however, investors haven’t obsessed about budget balances. Even as Italy’s new government tilted away from austerity, Italian bonds have notched gains. The market now charges Italy 247 basis points more than Germany to borrow for 10 years, compared to 518 basis points in July 2012.

Two reasons stand out: last July 26, ECB President Mario Draghi unveiled what became the bank’s “unlimited” bond-buying offer, defusing the risk of a euro breakup. And as the euro area’s longest-ever recession deepened, investors decided that too much belt-tightening was self-defeating.

In Italy, the backlash carried Enrico Letta into power. Making his summit debut Wednesday, Letta aims to cut property, consumption and payroll taxes, saying Italy is entitled to do so because last year’s savings drove the deficit below the EU ceiling.

In a sign of the European balance of power, Letta traveled to Berlin a day after taking office on April 29, reassuring Merkel that the tax relief won’t swell Italy’s debt burden. At 127 percent of GDP last year, Italy’s debt was the second-highest in Europe after Greece, the ground zero of the crisis.

Youth unemployment

Increasingly, a jobs emergency has supplanted the fiscal one, with euro-zone unemployment at 12.1 percent in March, the highest since the currency’s 1999 debut. Jobless rates in the under-25 age bracket were 59.1 percent in Greece, 55.7 percent in Spain and 38.6 percent in Italy in January.

“We absolutely need to fight an Italian and European battle against unemployment, in particular against youth unemployment,” Letta said. “This is the nightmare of these times. If there isn’t a response to this issue there’s no credibility for politics or European institutions.”

Germany and France will put out a jobs plan on May 28, dubbed a “New Deal for Europe.” Discussions are centering on using the European Investment Bank, the EU’s project-finance arm, to promote training programs and step up financing for small companies. Berlin will also host a July 3 meeting of EU labor ministers to swap job-creation ideas.

Low-debt countries are in the best position to cut taxes or offer incentives for hiring, said Prime Minister Fredrik Reinfeldt of Sweden, one of the 10 EU countries outside the euro.

“It’s a very few number of European Union countries that are this position,” Reinfeldt said in a Bloomberg Television interview. “But Sweden is one of them.” [Bloomberg]