Spotlight G20: Avoiding a European Nightmare: Combining Structural Adjustment with an Effective Social Protection Floor

Louka T. Katseli, guest blogger, part of our 2011 Spotlight G20 Series

While markets expect eurozone leaders to exercise effective leadership and take action to resolve the eurozone’s sovereign debt crisis, citizens in peripheral European countries are trying to make ends meet under drastic cuts in wages and pensions, rising taxes and massive layoffs.

While the public debate and the media focus their attention either on European banks and their recapitalization needs or on the planned rescheduling of private bond holdings and the future capital needs and powers of the European Financial Stability Facility– the euro zone’s rescue fund– the anxious voices of impoverished families in Greece, Ireland, Portugal , Italy or Spain are not even recorded.

While the future of the euro hinges on the collective capacity of member countries to safeguard financial stability and avoid further contagion, the future of decent jobs for young Europeans is under threat, fueling massive protests by angry youth in most European countries.

While talks in academic circles focus on the exigency of further deepening European integration via a fiscal union, European solidarity and the legitimacy of the European social model are questioned in the streets and squares of several European capitals.

The dissonance between the public debate in policy and media circles and the everyday reality of average families in Athens, Dublin, Madrid or Lisbon is widening.

Unless these voices are heard and early action is taken to mitigate the jobs crisis and the dramatic fall in living standards of millions of Europeans, social and political unrest will become hard to manage and the prospects for sustainable growth and social cohesion will be stalled.

The effects of the 2007 financial crisis have indeed been dramatic in Europe. The banking crisis rapidly evolved into a liquidity and sovereign-debt crisis for peripheral countries, most notably for Greece, exacerbating in the process the solvency risks for European banks. According to the IMF’s latest global financial stability report “nearly half of the 6,500bn euro stock of government debt issued by euro area governments is showing signs of heightened credit risks”. While guarantees have been quickly extended to banks and credit institutions, wage earners, pensioners, public sector employees, the self-employed and the young have experienced dramatic reductions in their standards of living. In the absence of effective automatic stabilizers, liquidity shortages coupled with tough austerity measures have shifted the costs of adjustment on the shoulders of the most vulnerable.

Growth rates turned negative and unemployment rates have risen sharply, reaching 20% in Spain, 16% in Greece, 14% in Ireland and almost 12% in Portugal. Youth unemployment is high in all countries, exceeding 40% in Greece. Average gross earnings are declining for most middle-income working families, as wages and pensions in the public sector are being cut and minimum wages and contracts are renegotiated in the private sector.

Prospects are bleak. Unemployment, income disparities and vulnerability are expected to deteriorate even further in these countries, especially if growth prospects stall in Europe. Both the IMF and the OECD have already adjusted downwards their growth estimates for 2011 and 2012.

The prospects are not much better in many other parts of the world. The 2007 financial crisis has left large segments of societies highly vulnerable to over-indebtedness, housing market collapses, asset market volatility, deep recession and job losses.

According to OECD and ILO estimates, four years after the eruption of the financial crisis, “200 million people are out of work worldwide, close to the peak recorded at the depth of the Great Recession…twenty-million jobs are still missing in the G20 countries to regain the pre-crisis employment rate , and the job shortfall may increase to even 40 million by the end of 2012.”

Political leadership is needed more than ever to regain confidence and trust in our collective capacity to restore growth, ensure financial stability and improve the prospects for millions of people by creating decent jobs, and fighting poverty and social exclusion.

In a globalizing world, traditional policy prescriptions are not likely to work. Capital is footloose and seeks not only profitable but also secure opportunities across the globe. As long as financial markets are not subject to effective regulation, speculative attacks on hard currencies, sovereign bonds or in commodity markets continue to threaten financial stability and to disrupt trade and investment flows.

Austerity policies, even if effective to curtail national budget deficits, cannot by themselves make home markets attractive to new productive investment which is lured by expanding sales and profitability. Drastic cuts in public sector wages and government spending often bring about a sharp deterioration in government services and end up crippling essential security, tax collection, education and health services. Similarly, in the absence of effective social protection systems, deregulation and privatizations coupled with massive layoffs have made, in many cases, a few super-rich and others desperately poor and marginalized.

The devastating experience of structural adjustment programs for large segments of the population in Latin America, Eastern Europe or Asia in the 1980s and 1990s should be studied carefully and the same mistakes should not be repeated in Europe or elsewhere. Trickle-down theories have proven to be unfounded if not dangerous. Where full-time jobs with pensions have been suddenly eliminated and replaced with precarious or undeclared employment that offer no protection whatsoever, human insecurity, vulnerability and inequality have increased rapidly, with detrimental effects on long-term productivity and growth.

This collective experience should guide policy-makers in Europe as they seek to address the crisis and its multiple manifestations in Europe’s member states.

Restoring competitiveness and growth, while ensuring social cohesion should be the key policy challenges for all EU countries. The resumption of growth is a necessary condition for any sustainable rescue of European sovereigns. For this to happen, creditor countries, in close coordination with their G20 counterparts, need to reverse policy gears and pursue a coordinated fiscal and monetary expansion to spur investment and economic activity. Debtor countries could then sustain demand through export growth while they continue to implement fiscal consolidation policies and major structural reforms to enhance their competitiveness, spur investment and expand their tax base.

Apart from positive growth, a sustainable rescue also requires investments in productive and human capital to produce quality jobs in the near future. It requires R&D, industrial, and environmental policies to create incentives for the needed restructuring of European enterprises and economies and for promoting product and process innovation. It requires active employment policies to boost jobs growth and prevent young people and vulnerable groups from falling into long-term unemployment. It also requires effective social policies to tackle social exclusion and fighting poverty.

Thus, a sustainable rescue from the European sovereign debt crisis requires a policy-coherent approach across fiscal, structural and social policies. Deficits cannot be cut and debts cannot be managed over the long run if the redistributional effects of policies on work incentives and work conditions, on tax compliance , on productivity and growth are not seriously taken into consideration in the design and implementation of policies. Fiscal consolidation programs can be successful only if they do not stifle productive investment and do not generate large adverse distributional consequences which, by breaching social rights and weakening existing social consensual processes, end up undermining the implementation of needed reforms. So far, European leaders have been myopic on these important interlinkages between the economics and the politics of managing reforms.

For these reasons, ongoing fiscal adjustment programs need to be complemented not only with structural measures to enhance price and structural competitiveness but more importantly with an integrated set of employment and social policies designed to guarantee income security and access to basic social services for all, paying particular attention to vulnerable groups. It is noteworthy that the heads of the OECD and the ILO made an urgent appeal to Labor and Employment Ministers at the recent G20 meeting “to put employment and social protection at the centre stage of global policy discussions.”

The Social Protection Floor initiative, as foreseen by the World Commission on the Social Dimension of Globalization in 2004, and launched by the heads of the UN agencies as one of the nine UN joint actions to cope with the effects of the economic crisis, fills this conceptual vacuum and provides a comprehensive, coherent, and nationally-driven framework to deliver a minimum level of social protection for individuals and families.

The recent published Bachelet Report (2011) provides an important roadmap to effective policy design and implementation based on best practices and country-wide experiences. Active employment policies to improve job retention and creation, minimum income policies, extension of social service coverage especially with regard to education , health and social security, and improvements in social protection delivery systems can go a long way to enhance human security and welfare and facilitate the acceptance and effective implementation of reforms. Alternatively, badly designed or ineffective social protection systems can exacerbate social tensions, increase informality and undeclared work, and undermine fiscal objectives and adjustment policies including tax compliance, tax returns or the payments of social security contributions.

It is about time that European leaders, the G20 and the international community abandon shock-therapy recipes that have proven to have devastating effects on employment, growth, social cohesion and democratic institutions and promote instead, coherent and fair structural adjustment programmes that protect basic human and social rights and are sustainable and effective over the long run. It is encouraging that recently the G20 Leaders in Cannes recommended that labour and employment issues should be examined alongside economic, monetary and financial issues in order to strengthen policy coherence and enhance coordination of economic and social policies. Clearly, when implementing fiscal consolidation measures social protection policies are not the problem, but part of the solution, since they can support aggregate demand and generate income and tax revenues.

Prof. Louka T. Katseli is a Member of Hellenic Parliament and was formerly Greece’s Minister of Labor and Social Security.

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