PARIS — The day after Francois Hollande rode to power in France on a slogan of “change now” the conversation in Europe is already different: Austerity has become a dirty word.
In Greece, political parties who reject the extreme belt-tightening required by international bailouts were the big winners in parliamentary elections. German voters in a northern state ousted the coalition led by Chancellor Angela Merkel’s conservative party, which has pressed the case for austerity.
And France, of course, elected Hollande, its first Socialist president in more than a decade and one who has promised more government spending to stimulate the economy.
“Austerity can no longer be inevitable!” he shouted in his first speech after Nicolas Sarkozy conceded Sunday night. The question remains whether Germany — which is Europe’s economic powerhouse driving the austerity agenda — will allow at least some countries in the eurozone to spend more freely in the face of a recession that is spreading.
Rising uncertainty over how Europe’s handling of the debt crisis may change in the weeks and months ahead has made investors nervous. Stock markets were volatile on Monday, falling sharply in the morning and recovering in some countries by the close.
The sharpest selloff was in Greece, where the main stock index plunged almost 7 per cent. The euro briefly spiraled to a three-month low against the dollar, hitting $1.2972.
More turmoil in the eurozone would affect the global market, particularly countries like the U.S. whose financial system is intertwined with that of Europe. As investors become nervous about the future they pull back on their investments, hurting economic activity, while drops in stock markets drain wealth from savers.
American exporters would suffer if sagging confidence in Europe shrinks the value of the euro against the dollar. Exports have been one of the U.S. economy’s few strengths since the recession ended three years ago.
The most nerve-wracking development occurred in Greece, where political parties that backed two bailouts lost their majority in Parliament. That opens up the possibility that Greece’s new leaders could renege on commitments made to secure the country’s massive rescue loans — or even decide to leave the euro.
But Greece isn’t the only problem. The 17 countries that use the euro — and 9 other European countries — agreed in March to a fiscal compact that seeks to make countries balance their budgets. But as Europe’s economy gets weaker, the public and politicians are growing weary of the budget-cutting that is required to make this fiscal compact work.
Eight of the 17 eurozone nations are already in recession and unemployment across the bloc rose to 10.9 per cent in March — its highest ever.
If investors pull back from Europe amid uncertainty, its growth policies will have trouble making headway — and that could also drag on the global economy.
The U.S. and European Union are important trading partners and each consumes a large portion of the other’s exports. With unemployment skyrocketing in Europe, consumption is flagging and that will have a knock-on effect on the U.S.
The American and European financial systems are also heavily intertwined, and U.S. money market funds still have significant exposure to Europe.
Over the past two years, France and Germany have steered Europe through the debt crisis — though not always well — and declared an end to the flouting of deficit limits that led Europe into the debt crisis.
But the crackdown could not have come at a worse time — with the world economy slowing — and propelled Europe into a vicious austerity spiral. Cutting spending — which meant laying off state employees and ending stimulus programs — further slowed nations’ economies and produced less tax revenue, which meant more cuts were needed to meet deficit targets.
Now a backlash has begun and for many, Hollande is its leader.
The new French leader has promised to end the negative loop, demanding that the fiscal compact that targeted spending be re-negotiated to include measures to promote growth. Many economists have long advocated for a greater emphasis on growth, but that idea seemed to gather steam among European policymakers only as Hollande promoted it.
“At the moment that the (French vote) result was proclaimed, I am sure that in many European countries, there was relief, hope,” he told supporters in his central hometown of Tulle.
European Central Bank President Mario Draghi called for a “growth compact” even though that institution has long demanded fiscal discipline. The Dutch government, long a supporter of such discipline, fell over the issue of too much austerity and too little growth. And even Germany, the primary architect of austerity, has said a growth pact should be drawn up.
Still, concrete proposals for stimulating short-term growth have been few. European officials have talked about boosting funding for the European Investment Bank, and economists have urged making more targeted and aggressive use of EU structural funds for infrastructure projects such as roads.
Yet with a budget only around 1 per cent of EU gross domestic product, the EU’s prospects for large-scale spending are limited.
Jeffrey Bergstrand, a professor of finance at the University of Notre Dame, said Germany is going to have to shift on the subject of stimulus. Even though its economy is the largest — and among the strongest — in Europe, it can’t thrive if no one else is.
“Merkel has to be paying attention to (unemployment) because Germany, unlike the United States, is very, very reliant on exports, and exports tend to go to your neighbours,” he said. “She will have to listen. She will have to give.”
Germany has long maintained that it made painful cuts and reforms after the reunification of its East and West while other nations kept spent beyond their means.
But economists argue that Germany reaped the benefits of all that spending, too, since it sells goods to eurozone countries. And at any rate, Germany is one of the few eurozone members that can spend a little more because its economy is strong and its deficit is in check.
Despite this new divergence between France and Germany, that relationship will remain central to a solution to the crisis. Merkel and Sarkozy were so close they were known as “Merkozy” — and the big question now is if there will be a “Merkollande” in Europe’s future.
“There can be some short-term friction when they have to adjust to each other,” said Laurence Boone, chief European economist at Bank of America Merrill Lynch. “But it doesn’t seem to me that there is an alternative, because Spain and Italy are not strong enough.”
Merkel called Hollande immediately after his victory and Hollande campaign manager Pierre Moscovici said his boss would head to Berlin shortly after his inauguration on May 15.
Hollande’s decision to follow through on campaign promises of jump-starting the French economy by investing in infrastructure and buoying small businesses will determine how bumpy the road ahead is.
He has promised to keep the deficit in check by also raising taxes on the wealthy and closing some corporate loopholes — but some investors say that will kill the very growth he hopes to foster.
“Hollande’s platform of anti-austerity is not really anti-austerity; it’s really anti-growth,” said Jeffrey Sica, president of U.S.-based Sica Wealth Management, which has over $1 billion in assets under management. “Whether it’s taxation or regulation or however they’re going to raise revenue ... they’re going to shift the blame to business and to other higher income levels.”
If he does start wildly increasing spending, France will no doubt see its borrowing costs rise — which could make his policies untenable and prompt a shift back to austerity. It was those rising borrowing costs that eventually forced fellow eurozone nations Greece, Ireland and Portugal to seek bailouts.
Some are hoping that Hollande will turn out to be more pragmatic.
“Adieu, election campaign. Bonjour, reality,” read an editorial in Germany’s daily Sueddeutsche Zeitung.
Higher taxes, fewer jobs part of Europe’s austerity pain
Austerity has been the main prescription across Europe for dealing with the continent’s nearly three-year-old debt crisis, brought on by too much government spending. But what does it mean for the average European? Imagine paying sales tax of 23 per cent or more. Or having your wages cut by 15 per cent. Or, if you’re in Ireland, both. Austerity comes in many forms: higher taxes, fewer state benefits, more job cuts, working longer until retirement, you name it. Here’s a look at some of Europe’s austerity pain:
GREECE
Greece, one of three eurozone nations to need an international bailout, has cut spending on just about everything it can — public sector salaries, pensions, education, health care and defence. As a result, unemployment has soared to over 21 per cent, fueling social unrest that has sometimes turned deadly. In the last two years, riots have erupted frequently and the country’s near-daily strikes and demonstrations have shut down schools, airports, train stations, ferries and harmed medical services.
PORTUGAL
Portugal is paying its bills only because of an international rescue loan. But the effect of lower government spending has been brutal: The economy is expected to contract 3.4 per cent this year after a double-dip recession last year. Unemployment has climbed to a record 15 per cent. New labour laws have made it easier for employers to hire and fire workers and change their working hours. Rent controls have been scrapped and state energy companies have been sold off.
IRELAND
Ireland, the third European nation on rescue loans, has already seen five austerity budgets since 2008. It has been forced to raise taxes and slash spending for years — and that won’t stop until at least 2015. The sales tax is now up to a whopping 23 per cent and middle-class wages have been cut around 15 per cent. Residents face higher taxes on incomes, cars, homes and fuel, while the nearly 15 per cent who are unemployed have seen lower welfare and other benefit payments. Ireland has also cut the number of civil servants.
SPAIN
The government has raised income and property taxes, cut spending on health care and education and made it easier for companies to fire workers. Coming on the heels of a real estate market implosion, the austerity measures have hit Spaniards hard. Unemployment is now around 25 per cent, a record in the 17-nation eurozone, while about half of its young people have no jobs. The country’s sales tax has already been increased to 18 per cent and experts don’t rule out another rise.
FRANCE
Over fierce protests, the government has increased the retirement age from 60 to 62, raised the sales tax from 5.5 to 7 per cent on non-essential products, cut tax breaks to the wealthy and corporations, and cut regional and local government budgets. For the next two years, two state workers have to retire before one is replaced.
ITALY
Austerity measures have sent Italian unemployment up to 9.8 per cent and put the country in a recession that is expected to shrink its economy 1.2 per cent this year. In addition, Premier Mario Monti is trying to change laws to make it easier to fire workers. Amid the budget cuts, Rome dropped its bid for the 2020 Olympics after the government said it could not back its estimated $12.5 billion cost and an art museum near Naples burned paintings to protest the lack of culture funding.
BRITAIN
Britain’s coalition government is making spending cuts worth about 103 billion pounds ($166.8 billion) through 2017, cuts that have sent the country into a double-dip recession. University tuition costs have soared, provoking violent protests. Harsh spending cuts have slashed government jobs by the thousands and cut funding to police. Unions have threatened to strike and disrupt the upcoming London Olympics to oppose the sharp austerity cuts.