Europe needs to catch up

The main reasons the European economy lags behind that of the USA are its the problematic monetary policy, lack of sufficient competition among companies and the inflexibility of the labor market, says Laura Tyson, dean of the London Business School and a former adviser to former US president Bill Clinton. Tyson spoke to Kathimerini after arriving in Athens to address the «Greek Entrepreneurship» event held by the Greek alumni association of the London Business School. She explains the phenomenon of New Economy and how it still affects global economy. Why has Europe lagged behind the US economy over the last two decades? It’s harder to talk about Europe because there is not a single Europe. If you look at this most recent period, you have the phenomenon of an emerging Ireland and the phenomenon of a much improved Scandinavia and the UK. At the same time, you have slow growth in the heart of Europe – Germany, France, Italy – and people have different theories. Firms in Europe have not invested to the same extent in information and communications technology as their US counterparts have. People say that is because the product markets in which the firms operate are less competitive so they have not had competitive pressure to make that investment. Labor markets are also more rigid. American firms have restructured the way they do everything, and restructuring can lead to a significant amount of layoffs, transfers or change in work responsibilities. That flexibility exists in the US, it does not exist to the same extent in Europe. A third point that I think is very important for Germany, in particular, is the adoption of the euro. I think that the European Central Bank has caused some problems with an inflation target of less than 2 percent. It has followed a monetary policy that has been quite restrictive for a low-inflation country like Germany. It went into the euro at a high exchange rate and it doesn’t have room to maneuver on the side of fiscal policy. The ECB monetary policy concerns average inflation, which has hurt Germany and to a lesser extent France. You were an adviser to President Clinton during the years of the so-called New Economy. What happened to the New Economy? Why does nobody seem to speak of it anymore? Does it still influence the US and the global economy? It is a phrase that encapsulates the idea that the economy was functioning differently due to faster-than-expected productivity growth because of the very rapid diffusion of technological advances in information communication technology and communications. In 1994-1995, economists were predicting long-term growth for the US economy at about 2.5 percent at most. By the time we started to use the term New Economy, productivity growth had picked up so much that the new predicted growth rate was more like 3.5 percent. Another aspect of this strong productivity growth is that it could keep cost pressures down, so the inflationary pressure coming from rising costs was reduced. A lot of silly things were said about the New Economy, such as that earnings would not matter as much for stock prices as would how many hits an Internet page received in a given month, in a given week. Those kind of predictions were plainly incorrect and indeed were part of what I would call the bubble phenomenon around the New Economy. That part of the hype of the New Economy is gone but the reality of greater productivity growth and reduced inflation is still with us today. Therefore the assessment for long-term growth remains at 3.5 percent. How important was the US administration’s contribution toward facilitating that? You could say that the primary driver here was technological change so I do not want to say that the primary driver was government policy. However, we know that the technology was available not just in the USA; it was available in other places as well, but wasn’t taken advantage of to the same extent. First of all, the US had a government that at that time embraced more openness in trade and one of the things that President Bill Clinton worked on was leadership on trade liberalization. That created for the business community more optimism about growing global markets and the growing access to global markets. The government was also very generous in supporting research and development, university higher education and innovation, as well as creating support for what was at the heart of the technological revolution. The government further created a belief in financial markets, a responsible trajectory for government borrowing, it helped to create the expectation that interest rates would come down and stay down. Another thing I would say was the telecommunications deregulation, because the administration did work hard toward getting a bill passed toward the deregulation of telecoms. Energy price rise Energy is becoming again a major issue on the international economic agenda. Do you believe energy prices will normalize or jump further and what will their impact on the economy be? Today the advanced industrial countries are much more energy-efficient than they used to be. Therefore, any given increase in energy prices would have a lesser effect on production because more efficient production methods are in place. What drove oil prices up this time was strong demand, not any reduction in supply caused by some decision by the cartel to fall back on oil or some Middle East disruption in geopolitical stability. If China and India continue to develop as rapidly as they now are, if the USA continues as strongly and Japan maintains its rebound, then energy prices will at least stay as high as they are now, while the rising trend will continue for at least five years, as energy experts believe. In 2000 there was a slowdown of the economy but not a crisis. Is there still a danger of a major crisis in the global economy? Are such crises a natural element of capitalism? Basically what happened is that output did not reduce the depth of volatility in speculative movements. Essentially these downturns are less steep; they do not last as long and therefore the economy is becoming more stable in terms of output. No one knows why that is true. One explanation would be because we know how to use economic policy better. Another is that the economy is just more flexible and therefore there are fewer big errors in building up excess inventories. So maybe it is a combination of better understanding of policy and a more flexible underlying economic structure. Having said all that, crises tend to come from pretty big unexpected things: supply shocks in energy, a major shift in the political climate in China, or the fear that holders of dollars in China or the Middle East might start to sell. If there is going to be any serious downturn it will probably not be caused by one of the natural elements of capitalism but by these other types of things.