Sunday, 3 May 2009

Resurrecting the Social Pact

3rd May 2009

The Malta Independent on Sunday

Ten years ago I published a book about the then raging debate on Malta’s membership to the EU, which eventually materialized five years later. Let me quote a synopsis of the conclusions from that publication:

“It would be highly irresponsible to avoid the membership option purely on the expectation that we can keep the present status quo and avoid altogether the pain of re-structuring. The choice of enhanced relationship option (as an alternative to membership) demands a measure of leadership, consistency and faith in the ability of the Maltese nation to do what’s best for them, much bigger than that necessary under the membership option. In the enhanced relationship option we have to do what we have to do without the discipline of an external agent to keep us on track.

“Should we come to miss the necessary leadership, vision, consistency and discipline so indispensable to re-structure outside the membership option, then we might be risking the total collapse of our economy and the involvement of discipline from another sort of external agent like the International Monetary Fund.”

Ten years later there is solid proof that the conclusion was well based. EU membership imposed on us the discipline to re-structure, however inadequately, to address our fiscal extravagance and to raise our standards to attract foreign direct investment. Our economy, pressed as it is by the international financial turmoil, has remained stable and hopefully we can get through this rough patch without structural damage. Compare that to Iceland, which went for the enhanced relationship option and did not find the internal discipline to keep its economy on track. When the winds of recession came the Icelandic economy was literally wiped out. It was forced to go cap in hand to the IMF to ask for a financial bailout and accept conditions that imposed great hardship on their society, which is experiencing a brutal re-appointment with reality after years of excesses. Iceland last week elected a new left wing government with a clear mandate to seek EU membership leading to their joining the euro.

Quoting further from my publication of 10 years ago:

“If we cannot find the inner strength to re-structure for ourselves and for our future generations then the choice we have is whether we are forced to do it by the EU within a membership framework or by the IMF outside the membership framework. This would be an unpalatable choice. Doing it for the IMF would be much more painful and sharp.

“In this respect much depends on the attitude of the unions and their readiness to participate in a national plan to re-structure our economy… to promote the concept of life-long employability and life-long training and employees multi-skilling. Unrealistic clinging to the status quo could make EU membership as quickly as possible, whatever the cost, whatever the consequences, a choice of the lesser evil.”

Five years into membership there is broad consensus that it was the right decision, but in no way can we claim that EU membership has solved all our problems or that we do not need more discipline and commitment to continue with the re-structuring process.

We are living in difficult, but at the same time, very instructive times. We are witnessing two countries that had become the symbol of success of EU membership, Ireland and Spain, being severely beaten by the international recession. It would be wrong not to realise that EU membership does not offer protection against economic morass in all circumstances.

Ireland and Spain are in fact paying the price of their own success. Their economy benefited from efficiency gains and foreign investment, giving them economic growth and low unemployment. Their euro membership did not permit such gains to be reflected in their rate of exchange, as would have happened if Spain still had the peseta and Ireland still had the punt. Such exchange revaluation would have calmed down excesses and made growth more sustainable. Instead, operating under a monetary policy decided by the ECB on a euro-wide basis (and certainly unsuitable for Ireland’s and Spain’s particular circumstances, thus keeping interest rates much lower than demanded by the tempo of their national economy), Spain and Ireland inevitably experienced real estate price bubbles of dangerous proportions.

The bubbles have now burst, putting their banking system under strain and their economy in deep recession. Both economies now need painful restructuring to achieve growth in a more balanced way. Their respective monetary authorities have to realise that they must devise supplementary monetary tools to address domestic imbalances, which cannot be addressed by interest rate policy set on a euro-wide basis.

Iceland’s shattering outside the EU, and Ireland and Spain’s crisis inside the euro area, amply show that the judicious and continuing economic re-structuring, seeking efficiency gains and eliminating waste, challenging dogmas and taking a long-term view of economic policy, is now, more than ever, necessary. Such restructuring would be much more effective if it is carried out within the context of a social pact where burden sharing becomes the guiding rule for progress. Yes, it is time to resurrect efforts for a social pact.

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