The impact of globalisation on European jobs

26 February 2008

Hans-Werner Sinn, President of the Ifo Institute, outlined the findings of the European Economic Advisory Group (EEAG) Report, which showed that world GDP is heading for a sharp fall in 2008. He said these findings were supported by the Ifo’s own world economic climate survey, which paints a similar picture.

The signs of the downward trend in the US and EU economies over the next six months are “truly alarming”, said Mr Sinn. The sub prime mortgage market has had a disastrous effect on the US, while the GDP forecast in the EU-27 is for 2.1% growth, and just 1.8% for the euro area.

Subprime mortgages had been offered like “lottery tickets”, he said, often at a higher value than the property itself. This contrasted to countries like Germany where mortgages can only legally be offered for 60% of a property’s value.

The rise in interest rates and the subsequent defaults and repossessions (up from 2% in 1999 to 14% today) has rapidly increased the number of US domestic bankruptcies, and this has resulted in a $300 billion write-off of debts, a 50% drop in the sale of single-family houses and a sharp fall in the US consumer confidence index.

Given that US GDP accounts for 28% of world GDP, it is inevitable that the effects will be “contagious”, cutting global consumption and producing a world credit crunch, he said, particularly as American mortgage-based securities had been offloaded to banks around the world.

To contain the US crisis, the American government cut taxes to the tune of $150 billion - 1% of US GDP - and the US Central Bank reduced interest rates to 3%. The US growth forecast for 2008 is only 1.7% and while this is not a recession, the current account deficit is the largest in US history.

All this has weakened the US dollar/euro exchange rate to around 1.50, and has also affected the euro zone. While there is not a recession in Europe either, growth is gradually slowing down. However, Mr Sinn noted that the European Central Bank is not following the US example of reducing interest rates, and is instead “keeping its powder dry” until absolutely necessary.

Global warming: the missing supply side

Mr Sinn then gave a critique of the current approach towards global warming, which he believed was counter-productive. Despite current measures to slow down the effects of global warming, worldwide CO2 production has actually increased since the 1997 Kyoto Protocol.

This is the result of concentrating on reducing energy demand, whereas a more effective way would be to control energy supply. From an economic viewpoint, if the developed world uses measures to reduce energy consumption, fossil fuel prices drop. This puts them within the grasp of developing countries, which thus purchase more fossil fuels, with the result that the global quantity of fuel produced and consumed remains constant.

In addition, as oil and gas producers become concerned about measures to cut energy consumption or to replace oil and gas with renewables, they will pump more oil and gas out of the ground now to offload onto the market at the highest possible prices, for as long as the market holds. Again this increases greenhouse gas emissions.

To overcome this economic “paradox”, all countries must sign up to a “Super Kyoto Protocol” to cut greenhouse gas emissions simultaneously, said Mr Sinn. More attention must be paid to controlling the supply side of energy, by introducing worldwide taxation at source on interest income or closing tax havens so that resource owners are either forced to postpone extraction, or are convinced that it is not financially viable. Other measures to be considered include reforestation and carbon capture and sequestration (CCS).

Globalisation and jobs: a curse or a blessing?

The main message from Lars Calmfors, the Chairman ofEuropean Economic Advisory Group, was that globalisation could have a positive impact on European jobs if it reduces labour market rigidities. The main policy challenge is to allocate the gains from globalisation in a fair way without adopting measures that in themselves create unemployment, shifting the focus from the impact on jobs to the effect on income.

Low-wage economies are quickly becoming integrated into the global economy, increasing their share of gross global capital formation. This brings competition to European workers from low-skilled workers and outsourcing outside Europe.

This competition forces trade unions to practice wage restraint, reduces union power and leads to labour market deregulation, with an increase in employers’ bargaining power. In this way, globalisation will force the workforce to become more efficient, which will boost production, thus stimulating growth and creating new jobs.

In the long term, this will benefit the workforce more, said Mr Calmfors. Overall, he believed that while globalisation will either effect Europe’s employment situation positively or have no impact at all, it will certainly not have any negative effects.

If western economies wish to gain from globalisation, they must not protect the workforce or retain inefficient working patterns by increasing long-term unemployment benefits or imposing a high minimum wage, said Mr Calmfors. Governments should accept that jobs will be lost, so should introduce retraining and re-education programmes and a small level of state severance pay systems, wage insurance and employment income tax credits for low-paid workers, provided these do not distort the employment market.

Uncertain future for the global monetary system

Wolfgang Munchau, Associate Editor of the Financial Times, believed that the US sub prime mortgage crisis was just the first part of a general global credit crisis. While the global monetary system was unlikely to “melt down”, he said it was unclear how this crisis would evolve. While the US had reduced interest rates, consumer spending would not revive with 10 million families still in negative equity.

Philippe Herzog, President of Confrontations Europe, agreed that it was important to identify the next potential financial engine to drive the new economic growth cycle. He contrasted the US and the EU approaches to the crisis - the US had reacted fast, while the EU remained passive.

Fabian Zuleeg, EPC Senior Analyst, stressed that economic trends can be changed when economic needs interact with political systems. For example, if globalisation is seen as a “Trojan Horse” to reduce labour-market rigidities, it will generate a political reaction. He said the focus for future policy should be on readying Europe’s economies for globalisation to realise the benefits, not just focusing on transition costs.

Mr Herzog said that intensive globalisation has been good for jobs so far, disagreeing that wage rigidities posed future risks, as the greatest hurdles to Europe’s economic growth were low productivity and lack of innovation. Europe’s “disastrous” education systems and the failure to sustain particular specialisations in the world economy are making Europe vulnerable, as emergent countries are beginning to produce a range of higher- quality goods. The policy challenge is to increase the level of European qualifications and boost innovation.