by Katinka Barysch
The EU is getting tough on China. That, at least, is the impression one gets from high-ranking EU officials that arrived for the annual EU-China summit in Beijing this week. Economics is the main reason for Europe’s changing mood. The EU’s trade deficit with China is set to reach €170 billion this year, and European business is losing an estimated €55 million a day because of Chinese red tape, trademark violations and unfair subsidies. The EU’s economic troika – Joaquin Almunia, Jean-Claude Juncker and Jean-Claude Trichet – called on China to let its currency rise against the euro. Commission President Barroso and his trade commissioner, Peter Mandelson, warned that they would no longer be able to withstand rising protectionist pressure in Europe, unless the Chinese made it easier for European companies to sell in their markets.
Will the Chinese be frightened? Maybe they should be. Those industries in the EU that compete directly with Chinese mass manufacturers – think Italian textiles, German light bulbs or Czech consumer electronics – have occasionally lobbied for protection. But European retailers and those industries that rely on cheap Chinese inputs, for example steel, have lobbied against. At the political level, the Chinese could usually rely on Germany, the UK and the Commission to make the case for open markets. However, this may no longer be the case.
The Commission’s patience seems to be wearing thin. Mandelson in October wrote a letter to Barroso that suggested that the EU’s dialogue-based approach to solving economic disputes with China may have run its course.
The British may be instinctive free traders. But British business is unlikely to lobby on China’s behalf. UK companies still sell roughly as much to Denmark and Dubai as they sell to China. On the other hand, China is now Britain’s 5th most important source of imports, with the result that the bilateral trade deficit reached €24 billion in 2006, a third of the UK’s total trade deficit with non-EU countries. Services, where UK companies are world leaders, account for only a tiny fraction of Chinese imports because domestic markets remain heavily protected. A recent survey showed that while globally almost half of company bosses see China as the biggest business opportunity, in the UK the share is only 37 per cent.
Perhaps most worrying for the Chinese is the shifting mood in Berlin, however. Germany alone accounts for around 40 per cent of all EU exports to China, not least because Germany specialises in exactly the kind of machine tools that China needs to build up its industrial sector. Since 2000, Germany’s exports to China have risen threefold. Since the German economy is much more dependent on exports than those of other big EU countries, it has had a strong interest in keeping economic relations with China smooth.
In recent years, however, the rising euro has made German goods expensive outside the eurozone. And German, like other western companies, have suffered from China’s very cavalier attitude towards patents and trade marks. In 2006, German machinery exports to China actually fell. Germany’s trade deficit with China has more than doubled since 2000, to €16 billion in 2006, and it keeps growing. Perhaps unsurprisingly, the share of Germans who see China as an economic threat has jumped by 17 percentage points in just two years, to 55 per cent in 2007 – the biggest public opinion turnaround in any big OECD country.
German awareness of China as a competitor, not only a promising market, will rise further as Chinese industry moves up the value chain. Chinese car output, for example, is growing by 40 per cent a year. Although Chinese cars have a long way to go before they can compete with Volkswagen or BMW, the fact that China now produces more of them than Germany has fuelled some disquiet. As has the fact that China has dethroned Germany as the world’s biggest exporter.
At the same time as economic ties are souring, Germany and China have fallen out politically. The Chinese were very upset when Angela Merkel received the Dalai Lama in her Chancellor’s office in September 2007. Merkel initially said she’d expect Beijing to calm down quickly. It did not. Finance Minister Peer Steinbrueck had to cancel a planned trip to Beijing because his counterpart was no longer available. Chinese state-owned companies pulled out of a China-German trade fare. Scheduled dialogues on human rights, the rule of law and foreign policy co-operation were called off.
At the EU summit, Premier Wen Jiabao said that Germany could still be a partner and a friend – provided that Merkel acknowledged publicly that she had made a mistake by seeing the Dalai Lama. The Chancellor is also under growing pressure from German business groups and her SPD partners in the grand coalition. But she is unlikely to budge. In a speech to parliamentarians at home, she insisted that “human rights and the defence of economic interests are two sides of the same coin”.
While they have put relations with Germany on ice, the Chinese have reached out to France. Nicolas Sarkozy grasped the opportunity at a bilateral summit in Beijing on November 25th. As is customary, he came with a group of French business leaders, who signed deals worth around €20 billion (although such ‘summit deals’ have a habit of falling apart afterwards). However, Sarkozy is unlikely to be as friendly to the Chinese as his famously Sinophile predecessor, Jacques Chirac. While he promised strong ties, Sarkozy also admonished Beijing for its currency policy and warned that Europe may slap ‘carbon tariffs’ on Chinese goods unless the Beijing contributed to a post-Kyoto agreement.
Europe will not make a full turn towards protectionism. But there clearly is growing potential for economic friction with China. Beijing’s usual conciliatory language – promising gradual change and open dialogue – may no longer be enough. It may have to offer concrete action on currency policy and economic opening if it wants to win its European friends back.
Katinka Barysch is deputy director of the Centre for European Reform.
Thursday, November 29, 2007
Friday, November 23, 2007
Bringing Syria into the Middle East peace process
by Clara Marina O'Donnell
The nearer the Annapolis conference comes, the less it looks likely to deliver peace between Israelis and Palestinians. The weakness of the key actors and the current conditions on the ground in the Palestinian territories offer little reason for optimism. But there is one thing that could allow Annapolis to make a big difference – bringing Syria into the peace process. And the EU has a special role to play in encouraging this move.
The key actors are too weak to enforce the costly compromises that peace will demand. The end-of-term Bush administration is widely discredited at home and bogged down by other issues in the region – notably Iraq, Afghanistan, and Iran. Israeli prime minister Ehud Olmert is breaking records for low approval ratings at the head of his fragile coalition, and faces allegations of corruption. The most critical shortcomings are on the Palestinian side. Fatah is so divided that the Palestinian Authority's President Mahmoud Abbas can barely claim to speak for the West Bank, still less for the Palestinian territories as a whole. And violent intra-Palestinian feuding worsens every day, as demonstrated most recently by the deadly shooting at the Arafat anniversary rally in sanction-ridden Gaza.
Without an improvement in the political situation on the Palestinian side, there is no chance of progress towards a final peaceful settlement. Israel will never agree to any concessions that could compromise its security if the other side is manifestly incapable of holding up its part of any deal – or worse, is on the brink of civil war.
Unless Gaza and the West Bank can be brought back together under a single and stable government, it is hard to see how sustainable peace is possible. But that objective looks increasingly unattainable. Hamas’ current violence towards other Palestinians is preventing the possibility of any rapprochement with Fatah. Abbas has started openly calling for the Hamas government in Gaza to be toppled, while the Israeli Defence Force is urging wide-scale military intervention in Gaza. But force may not be able to topple Hamas; Israel’s incursion into Lebanon last year showed just how difficult it is to dislodge a group of fighters who can easily blend into the local population. Worse, force could provoke Hamas to destabilise the West Bank, where the movement also has a strong footing.
Outsiders may need to try a tangential approach. Like pieces in a jigsaw, the region’s conflicts are interconnected, and the next step in solving the Israeli-Palestinian conflict may in fact lie in Syria.
Damascus has close ties with Hamas and hosts its leader-in-exile, Khaled Mashaal. At the same time, Syria is wearying of its international diplomatic isolation, and shows signs of wanting to improve relations with Arab nations, the West, and even Israel. It has hinted that it will be willing to attend Annapolis if the agenda includes the Golan Heights. In what looks like a gesture of good will, Damascus has refused to host a ‘spoilers conference’ that Hamas proposed as a foil to the Annapolis conference.
If Syria's relations with the West and Israel improved, Damascus might pressure Hamas to rein in its use of force, and even oblige it to compromise with Fatah. Such a shift in regional balance could also encourage moderate elements within Hamas: fearful of losing a key foreign supporter, they might ease their opposition to Israel, or distance themselves from the more radical elements in Hamas.
Many in the West will find the prospect of working with Syria uncomfortable. There is the suspicion that Syrian agents are linked to the murder of several anti-Syrian Lebanese politicians, and there is concern about a possible nuclear programme. But the idea of using Syria to influence third parties in the Middle East is not new. France cut ties with Damascus after the Hariri murder, but this week controversially sent two top aides of President Nicolas Sarkozy to Damascus. Their task is to woo the sponsors of Hezbollah towards co-operation in the forthcoming Lebanese presidential election.
Going one step further – winning Syrian support for resolving the Israeli-Palestinian conflict – could prove to be Annapolis’ success. Syria's presence at Annapolis and its engagement in the peace process would clip the wings of the radical elements in Palestinian politics. At present, Syria's attendance is still uncertain. The US and Israel are focusing only on the Palestinian issue, and are unwilling to address the Golan Heights. There is a role here for the EU, which has so far been conspicuous by its absence in the preparations for the conference. The EU should encourage the US and Israel to widen the focus of the current peace effort and include Syria. An invitation could be accompanied by a conditional offer to Syria: its claims to the Golan Heights could be put on the agenda at Annapolis, in exchange for constructive engagement with Hamas in the Palestinian territories, and with Hezbollah in Lebanon.
Clara Marina O'Donnell is research fellow at the Centre for European Reform.
The nearer the Annapolis conference comes, the less it looks likely to deliver peace between Israelis and Palestinians. The weakness of the key actors and the current conditions on the ground in the Palestinian territories offer little reason for optimism. But there is one thing that could allow Annapolis to make a big difference – bringing Syria into the peace process. And the EU has a special role to play in encouraging this move.
The key actors are too weak to enforce the costly compromises that peace will demand. The end-of-term Bush administration is widely discredited at home and bogged down by other issues in the region – notably Iraq, Afghanistan, and Iran. Israeli prime minister Ehud Olmert is breaking records for low approval ratings at the head of his fragile coalition, and faces allegations of corruption. The most critical shortcomings are on the Palestinian side. Fatah is so divided that the Palestinian Authority's President Mahmoud Abbas can barely claim to speak for the West Bank, still less for the Palestinian territories as a whole. And violent intra-Palestinian feuding worsens every day, as demonstrated most recently by the deadly shooting at the Arafat anniversary rally in sanction-ridden Gaza.
Without an improvement in the political situation on the Palestinian side, there is no chance of progress towards a final peaceful settlement. Israel will never agree to any concessions that could compromise its security if the other side is manifestly incapable of holding up its part of any deal – or worse, is on the brink of civil war.
Unless Gaza and the West Bank can be brought back together under a single and stable government, it is hard to see how sustainable peace is possible. But that objective looks increasingly unattainable. Hamas’ current violence towards other Palestinians is preventing the possibility of any rapprochement with Fatah. Abbas has started openly calling for the Hamas government in Gaza to be toppled, while the Israeli Defence Force is urging wide-scale military intervention in Gaza. But force may not be able to topple Hamas; Israel’s incursion into Lebanon last year showed just how difficult it is to dislodge a group of fighters who can easily blend into the local population. Worse, force could provoke Hamas to destabilise the West Bank, where the movement also has a strong footing.
Outsiders may need to try a tangential approach. Like pieces in a jigsaw, the region’s conflicts are interconnected, and the next step in solving the Israeli-Palestinian conflict may in fact lie in Syria.
Damascus has close ties with Hamas and hosts its leader-in-exile, Khaled Mashaal. At the same time, Syria is wearying of its international diplomatic isolation, and shows signs of wanting to improve relations with Arab nations, the West, and even Israel. It has hinted that it will be willing to attend Annapolis if the agenda includes the Golan Heights. In what looks like a gesture of good will, Damascus has refused to host a ‘spoilers conference’ that Hamas proposed as a foil to the Annapolis conference.
If Syria's relations with the West and Israel improved, Damascus might pressure Hamas to rein in its use of force, and even oblige it to compromise with Fatah. Such a shift in regional balance could also encourage moderate elements within Hamas: fearful of losing a key foreign supporter, they might ease their opposition to Israel, or distance themselves from the more radical elements in Hamas.
Many in the West will find the prospect of working with Syria uncomfortable. There is the suspicion that Syrian agents are linked to the murder of several anti-Syrian Lebanese politicians, and there is concern about a possible nuclear programme. But the idea of using Syria to influence third parties in the Middle East is not new. France cut ties with Damascus after the Hariri murder, but this week controversially sent two top aides of President Nicolas Sarkozy to Damascus. Their task is to woo the sponsors of Hezbollah towards co-operation in the forthcoming Lebanese presidential election.
Going one step further – winning Syrian support for resolving the Israeli-Palestinian conflict – could prove to be Annapolis’ success. Syria's presence at Annapolis and its engagement in the peace process would clip the wings of the radical elements in Palestinian politics. At present, Syria's attendance is still uncertain. The US and Israel are focusing only on the Palestinian issue, and are unwilling to address the Golan Heights. There is a role here for the EU, which has so far been conspicuous by its absence in the preparations for the conference. The EU should encourage the US and Israel to widen the focus of the current peace effort and include Syria. An invitation could be accompanied by a conditional offer to Syria: its claims to the Golan Heights could be put on the agenda at Annapolis, in exchange for constructive engagement with Hamas in the Palestinian territories, and with Hezbollah in Lebanon.
Clara Marina O'Donnell is research fellow at the Centre for European Reform.
Thursday, November 15, 2007
The euro as the world’s reserve currency?
by Simon Tilford
Back in the 1970s President Nixon’s treasury secretary, John Connally, famously quipped that “the dollar may be our currency, but it’s your problem”. One of the arguments in favour of establishing the euro was that it would quickly come to rival the dollar’s status as the world’s principle reserve currency and make it hard for the US to abuse its “exorbitant privilege” – devaluing the dollar imposes few costs on the US because its foreign debt is denominated in dollars. Is the wish of those Europeans that want to see the dollar dethroned about to come true? If so, would this be a win-win scenario for the eurozone?
There is no doubt that the threat to the dollar’s status is bigger than at any time since the end of the Second World War. The most likely outcome is that a rapid narrowing of the US current-account deficit and renewed fiscal discipline will combine to restore confidence in the dollar, and that it will retain its status as the world’s leading reserve currency. Confidence in the long-term prospects of the US economy remains strong, and the country’s huge and liquid financial markets make the dollar highly attractive as a reserve currency. However, a rout is a possibility, and could be triggered by a number of events, such as a debt crisis in the US or a steep rise in inflation, which would undercut the willingness of foreigners, crucially East Asian central banks, to hold so many of their reserves in the American currency. Let’s assume for a moment that the damage to the credibility of dollar is such that its role as the world’s favourite currency is lost.
The euro would be the only plausible replacement. It is the world’s second most important reserve currency, though a distant second to the US. The eurozone economy is huge (though not quite as big as the US), its economy is open, its financial markets increasingly deep and liquid, and the ECB now enjoys considerable credibility in the financial markets. But what would it mean for the eurozone, aside from schadenfreude? It would be easier for European companies to operate internationally as there would be less exchange rate risk. With import and export prices denominated in euros the economy, and the inflation rate, would be less vulnerable to shifts in exchange rates. Much more important than this, however, would be the gains from seignorage. As is the case at present in the US, the eurozone would benefit from what are effectively very low interest loans in the form of large central bank holdings of euros. Also, the growth of international trade would boost demand for euros, with the result that the euro-zone could very cheaply finance an external deficit, much as the US has been doing for decades.
But there are downsides to these potential advantages. As the issuer of a major international reserve currency, the eurozone would have to cope with different external risks, such as structural imbalances in the global economy, that are to a large extent responsible for the weakness of the dollar. The huge US current account deficit is the flipside of mercantilist economic policies being pursued by East Asian governments. Internationalisation of the euro could also make it harder to control the stock of euros in circulation and hence growth in the money supply and potentially inflation. An increase in the demand for euros would either cause the currency to appreciate, making exports less competitive, or require that the eurozone run a substantial external deficit in order to satisfy the external demand for euros. For this to happen, the ECB would need to run a looser monetary policy.
The potential for conflict within the eurozone is obvious. A stronger euro would be anathema to many eurozone countries, not least France and Italy, which are already very worried about euro strength. But a looser monetary policy would be anathema to countries such as Germany and the Netherlands that worry about the inflation implications of cheaper money. Indeed, it is far from obvious how the eurozone could run a sizeable current account deficit without exacerbating existing tensions between members of the single currency area with large current-account surpluses, such as Germany and Netherlands, and those with large or rising external deficits – most notably Spain, but also France and Italy. It would be possible for Germany and the Netherlands to continue to run big surpluses at the same time as the eurozone as a whole ran a bigger deficit, but only if other eurozone countries ran even bigger deficits. This is politically implausible.
Becoming the world’s principle reserve currency might not be worth the bragging rights.
Simon Tilford is chief economist at the Centre for European Reform.
Back in the 1970s President Nixon’s treasury secretary, John Connally, famously quipped that “the dollar may be our currency, but it’s your problem”. One of the arguments in favour of establishing the euro was that it would quickly come to rival the dollar’s status as the world’s principle reserve currency and make it hard for the US to abuse its “exorbitant privilege” – devaluing the dollar imposes few costs on the US because its foreign debt is denominated in dollars. Is the wish of those Europeans that want to see the dollar dethroned about to come true? If so, would this be a win-win scenario for the eurozone?
There is no doubt that the threat to the dollar’s status is bigger than at any time since the end of the Second World War. The most likely outcome is that a rapid narrowing of the US current-account deficit and renewed fiscal discipline will combine to restore confidence in the dollar, and that it will retain its status as the world’s leading reserve currency. Confidence in the long-term prospects of the US economy remains strong, and the country’s huge and liquid financial markets make the dollar highly attractive as a reserve currency. However, a rout is a possibility, and could be triggered by a number of events, such as a debt crisis in the US or a steep rise in inflation, which would undercut the willingness of foreigners, crucially East Asian central banks, to hold so many of their reserves in the American currency. Let’s assume for a moment that the damage to the credibility of dollar is such that its role as the world’s favourite currency is lost.
The euro would be the only plausible replacement. It is the world’s second most important reserve currency, though a distant second to the US. The eurozone economy is huge (though not quite as big as the US), its economy is open, its financial markets increasingly deep and liquid, and the ECB now enjoys considerable credibility in the financial markets. But what would it mean for the eurozone, aside from schadenfreude? It would be easier for European companies to operate internationally as there would be less exchange rate risk. With import and export prices denominated in euros the economy, and the inflation rate, would be less vulnerable to shifts in exchange rates. Much more important than this, however, would be the gains from seignorage. As is the case at present in the US, the eurozone would benefit from what are effectively very low interest loans in the form of large central bank holdings of euros. Also, the growth of international trade would boost demand for euros, with the result that the euro-zone could very cheaply finance an external deficit, much as the US has been doing for decades.
But there are downsides to these potential advantages. As the issuer of a major international reserve currency, the eurozone would have to cope with different external risks, such as structural imbalances in the global economy, that are to a large extent responsible for the weakness of the dollar. The huge US current account deficit is the flipside of mercantilist economic policies being pursued by East Asian governments. Internationalisation of the euro could also make it harder to control the stock of euros in circulation and hence growth in the money supply and potentially inflation. An increase in the demand for euros would either cause the currency to appreciate, making exports less competitive, or require that the eurozone run a substantial external deficit in order to satisfy the external demand for euros. For this to happen, the ECB would need to run a looser monetary policy.
The potential for conflict within the eurozone is obvious. A stronger euro would be anathema to many eurozone countries, not least France and Italy, which are already very worried about euro strength. But a looser monetary policy would be anathema to countries such as Germany and the Netherlands that worry about the inflation implications of cheaper money. Indeed, it is far from obvious how the eurozone could run a sizeable current account deficit without exacerbating existing tensions between members of the single currency area with large current-account surpluses, such as Germany and Netherlands, and those with large or rising external deficits – most notably Spain, but also France and Italy. It would be possible for Germany and the Netherlands to continue to run big surpluses at the same time as the eurozone as a whole ran a bigger deficit, but only if other eurozone countries ran even bigger deficits. This is politically implausible.
Becoming the world’s principle reserve currency might not be worth the bragging rights.
Simon Tilford is chief economist at the Centre for European Reform.
Thursday, November 08, 2007
Sarkonomics – a user’s guide
by Philip Whyte
President Sarkozy is frequently portrayed in France and elsewhere as an “economic liberal”. This is a mistake. He is undoubtedly an economic reformer prepared to take on the privileges of labour market “insiders”; but he retains a French dirigiste’s belief in an active role for the state in economic development. This manifests itself in several areas, including his support for “national champions”, his mercantilist vision of international trade, and his belief that governments should have greater influence over the European Central Bank (ECB).
In a French context at least, Mr Sarkozy’s greatest claim to originality probably rests on his policy towards the labour market. From the mid-1970s until comparatively recently, successive French governments sought to stem the rise in recorded unemployment by strengthening employment protection legislation and pursuing a policy of labour market withdrawals—notably by shortening the working week, discouraging young people from joining the labour force too early, and coaxing older workers out of it by lowering the age of retirement.
In other words, for almost three decades French labour market policy was guided by the lump of labour fallacy—the idea that there is only a fixed amount of work to go around. These ill-conceived supply-side policies gave France one of the lowest employment rates in the EU. Mr Sarkozy’s economic priority is to raise France’s rate of employment by reversing, or at least mitigating, the flawed policies of the past. An early measure has been to relax the 35-hour working hour week by exempting overtime work from income tax (“making work pay”).
Inevitably, Mr Sarkozy’s reforms are facing opposition from “insiders” whose privileges they threaten. Public-sector workers such as train-drivers, who enjoy special pension rights which allow them to retire aged 50, have already been on strike to protest at the government’s proposals to raise the retirement age. In the past, such action could often count on the support of the wider population because reforms were often seen as the “thin end of the wedge”—the first salvo in a broader assault on “acquired social rights” (acquis sociaux).
Successive French governments have had a tendency to back down in the face of popular support for industrial action. This time should be different, for at least two reasons. First, Mr Sarkozy has staked his political reputation on pushing such reforms through: should he back down, his authority would be destroyed and the rest of his presidency shorn of purpose. Second, opinion polls indicate that strikes by privileged public-sector workers no longer enjoy the support of the wider population which realises that it bears the burden of supporting them.
Mr Sarkozy’s labour-market reforms are generally wining plaudits abroad, but other aspects of his economic programme are sparking conflict with France’s neighbours. Mr Sarkozy believes that macroeconomic policy needs to be relaxed while his structural reforms are pushed through. This explains why he has criticised the ECB for neglecting the strength of the euro’s exchange rate and for subordinating economic growth to low inflation. The French president’s broadsides against the ECB have been poorly received elsewhere in the EU—notably in Germany, where they have been seen as attacks on the ECB’s independence.
A similar conflict has emerged in the area of fiscal policy. France has not run a balanced budget since the 1970s and its budget deficit has consistently exceeded the Maastricht limit of 3% of GDP since 2002. Earlier in 2007, the French government (of which Mr Sarkozy was a member) committed itself to balancing its budget by 2010. But the budget for 2008 makes no effort to meet this target because it provides for tax cuts that are not offset by reduction in public expenditure. Commitments to the EU are being subordinated to domestic objectives.
As for Mr Sarkozy’s views on competition and international trade, they are anything but liberal. They spring from a mercantilist mind-set which sees a coincidence of interest between domestic firms and the French state and which believes that a country’s aim in international trade is to export more than it imports. This explains Mr Sarkozy’s support for “national champions”, his opposition to foreign takeovers of leading French firms, and his propensity for intervening to “shape” corporate mergers—witness his role in the tie-ups between Sanofi and Aventis (when he was finance minister) and between GDF and Suez (as president).
Philip Whyte is a senior research fellow at the Centre for European Reform.
President Sarkozy is frequently portrayed in France and elsewhere as an “economic liberal”. This is a mistake. He is undoubtedly an economic reformer prepared to take on the privileges of labour market “insiders”; but he retains a French dirigiste’s belief in an active role for the state in economic development. This manifests itself in several areas, including his support for “national champions”, his mercantilist vision of international trade, and his belief that governments should have greater influence over the European Central Bank (ECB).
In a French context at least, Mr Sarkozy’s greatest claim to originality probably rests on his policy towards the labour market. From the mid-1970s until comparatively recently, successive French governments sought to stem the rise in recorded unemployment by strengthening employment protection legislation and pursuing a policy of labour market withdrawals—notably by shortening the working week, discouraging young people from joining the labour force too early, and coaxing older workers out of it by lowering the age of retirement.
In other words, for almost three decades French labour market policy was guided by the lump of labour fallacy—the idea that there is only a fixed amount of work to go around. These ill-conceived supply-side policies gave France one of the lowest employment rates in the EU. Mr Sarkozy’s economic priority is to raise France’s rate of employment by reversing, or at least mitigating, the flawed policies of the past. An early measure has been to relax the 35-hour working hour week by exempting overtime work from income tax (“making work pay”).
Inevitably, Mr Sarkozy’s reforms are facing opposition from “insiders” whose privileges they threaten. Public-sector workers such as train-drivers, who enjoy special pension rights which allow them to retire aged 50, have already been on strike to protest at the government’s proposals to raise the retirement age. In the past, such action could often count on the support of the wider population because reforms were often seen as the “thin end of the wedge”—the first salvo in a broader assault on “acquired social rights” (acquis sociaux).
Successive French governments have had a tendency to back down in the face of popular support for industrial action. This time should be different, for at least two reasons. First, Mr Sarkozy has staked his political reputation on pushing such reforms through: should he back down, his authority would be destroyed and the rest of his presidency shorn of purpose. Second, opinion polls indicate that strikes by privileged public-sector workers no longer enjoy the support of the wider population which realises that it bears the burden of supporting them.
Mr Sarkozy’s labour-market reforms are generally wining plaudits abroad, but other aspects of his economic programme are sparking conflict with France’s neighbours. Mr Sarkozy believes that macroeconomic policy needs to be relaxed while his structural reforms are pushed through. This explains why he has criticised the ECB for neglecting the strength of the euro’s exchange rate and for subordinating economic growth to low inflation. The French president’s broadsides against the ECB have been poorly received elsewhere in the EU—notably in Germany, where they have been seen as attacks on the ECB’s independence.
A similar conflict has emerged in the area of fiscal policy. France has not run a balanced budget since the 1970s and its budget deficit has consistently exceeded the Maastricht limit of 3% of GDP since 2002. Earlier in 2007, the French government (of which Mr Sarkozy was a member) committed itself to balancing its budget by 2010. But the budget for 2008 makes no effort to meet this target because it provides for tax cuts that are not offset by reduction in public expenditure. Commitments to the EU are being subordinated to domestic objectives.
As for Mr Sarkozy’s views on competition and international trade, they are anything but liberal. They spring from a mercantilist mind-set which sees a coincidence of interest between domestic firms and the French state and which believes that a country’s aim in international trade is to export more than it imports. This explains Mr Sarkozy’s support for “national champions”, his opposition to foreign takeovers of leading French firms, and his propensity for intervening to “shape” corporate mergers—witness his role in the tie-ups between Sanofi and Aventis (when he was finance minister) and between GDF and Suez (as president).
Philip Whyte is a senior research fellow at the Centre for European Reform.
Thursday, November 01, 2007
EU-Russia: no more ambitions
by Katinka Barysch
The CER organised a conference on EU-Russia relations in Brussels on October 30th, together with ‘Russia Profile’ magazine. I have been to dozens of these EU-Russia meetings in the last couple of years. More often than not, they turn nasty, with the Russians making angry accusations and the Europeans going into a sulk. At our seminar, the atmosphere was strangely subdued.
No doubt, this was partly due to the professionalism of the panellists. People like Vladimir Chizhov, Konstantin Kosachev, Helga Schmid and Christian Cleutinx make a living addressing big problems without sounding alarming (details of the event can be found here http://www.cer.org.uk/russia_new/events_russia_new.html).
But diplomatic protocol was not the only reason for the lull. A sense of resignation has descended over EU-Russia relations. We have quietly discarded our lofty ambition to build a “strategic partnership based on common values”. Today we just want to get along, somehow.
The same lack of expectations turned last week’s EU-Russia summit in Mafra into a success of sorts. The Portuguese presidency of the EU did not even try to unblock talks on a new EU-Russia treaty. The change of government in Poland has increased the chances that the dispute over meat exports will be resolved and that Warsaw will lift its veto. But neither Russia nor the EU has much enthusiasm for a new treaty. What for? Instead of a shared vision, there is uncertainty: in Russia over its future leadership and direction, and in the EU over whether it can forge a common position among 27 member-states.
Both sides are groping for a path through this period of uncertainty. “Realism” is the term most widely used to describe today’s bilateral relationship. One participant at our seminar called for a “partnership of patience”, another referred to a “carefully crafted holding pattern”.
This total collapse of ambition was probably inevitable. Once Russia started to turn away from pluralist democracy, the EU’s constant talk about ‘common values’ simply antagonised Moscow. The EU ended up frustrated and disappointed. Bitterness grew on both sides. The political rhetoric became so shrill that it started to endanger practical co-operation in energy, investment or security.
Now both sides are trying to reassure each other that things are not that bad after all. Look, trade is growing by 30 per cent a year. EU companies are doing good business in Russia. Russians are coming to the EU in record numbers. The Union is allowed to observe mediation attempts in Transdniestria. Micro-successes are still possible: we now have an ‘early warning mechanism’ in case of disruptions to energy supplies, and a new cultural dialogue. Process matters.
But can the EU and Russia really afford to put their relationship on ice and wait for better days? World politics intrudes in the current lull. Russia has blocked EU-backed plans for Kosovo independence. It is against tougher sanctions aimed at preventing Iran from building a nuclear bomb. Russia behaves as if it didn’t need friends. But when it looks around the world – at a rising China, a disillusioned US, an unstable Middle East – it must conclude that the European countries are still its easiest and most reliable partners.
Vis-à-vis Russia, the EU looks divided, confused and often weaker than it is. That is partly because Russia forces the EU to clarify its own objectives. Can the EU become a more powerful international player while at the same time upholding its founding principles of democracy and human rights? Since different member countries have different answers, the EU tries to avoid the question.
Russia also puts the EU’s energy plans to the test. While paying lip service to a common energy policy, EU member-states are rushing to strike bilateral deals with Gazprom. Energy was supposed to be an area where the EU and Russia have clear common interests. But now the Russians complain about a ‘Gazprom clause’ in the Commission’s latest liberalisation package: state-owned foreign companies would not be allowed to buy gas pipelines in the EU, unless their governments agreed to also give European companies better access to their home markets.
Russia is not well placed to lecture the Europeans on energy market liberalisation. But Moscow has a point when asking the EU what it means by reciprocity. If the concept degenerates from a means for mutual openness to a new protectionist tool, it will do nothing to alleviate EU concerns about Russian underinvestment in its gas fields.
The energy debate shows that the shift from ‘values’ to ‘interests’ in EU-Russia relations can only go so far. Values – or more plainly, the way we see things – determine everything we do. When people and politicians in the EU and Russia talk about energy security, they mean different things. The same holds true for democracy, and other terms that allegedly describe the core objectives of our relationship.
I was an early advocate of the EU focusing less on ‘common values’ and more on mutual interests, on areas where practical co-operation is feasible and desirable (see http://www.cer.org.uk/pdf/p564_russia_strat_squabb.pdf).
But I am also the first one to admit that we have come full circle. Ultimately, the EU and Russia need to agree what they want to get out of their interaction.
Katinka Barysch is deputy director of the Centre for European Reform.
The CER organised a conference on EU-Russia relations in Brussels on October 30th, together with ‘Russia Profile’ magazine. I have been to dozens of these EU-Russia meetings in the last couple of years. More often than not, they turn nasty, with the Russians making angry accusations and the Europeans going into a sulk. At our seminar, the atmosphere was strangely subdued.
No doubt, this was partly due to the professionalism of the panellists. People like Vladimir Chizhov, Konstantin Kosachev, Helga Schmid and Christian Cleutinx make a living addressing big problems without sounding alarming (details of the event can be found here http://www.cer.org.uk/russia_new/events_russia_new.html).
But diplomatic protocol was not the only reason for the lull. A sense of resignation has descended over EU-Russia relations. We have quietly discarded our lofty ambition to build a “strategic partnership based on common values”. Today we just want to get along, somehow.
The same lack of expectations turned last week’s EU-Russia summit in Mafra into a success of sorts. The Portuguese presidency of the EU did not even try to unblock talks on a new EU-Russia treaty. The change of government in Poland has increased the chances that the dispute over meat exports will be resolved and that Warsaw will lift its veto. But neither Russia nor the EU has much enthusiasm for a new treaty. What for? Instead of a shared vision, there is uncertainty: in Russia over its future leadership and direction, and in the EU over whether it can forge a common position among 27 member-states.
Both sides are groping for a path through this period of uncertainty. “Realism” is the term most widely used to describe today’s bilateral relationship. One participant at our seminar called for a “partnership of patience”, another referred to a “carefully crafted holding pattern”.
This total collapse of ambition was probably inevitable. Once Russia started to turn away from pluralist democracy, the EU’s constant talk about ‘common values’ simply antagonised Moscow. The EU ended up frustrated and disappointed. Bitterness grew on both sides. The political rhetoric became so shrill that it started to endanger practical co-operation in energy, investment or security.
Now both sides are trying to reassure each other that things are not that bad after all. Look, trade is growing by 30 per cent a year. EU companies are doing good business in Russia. Russians are coming to the EU in record numbers. The Union is allowed to observe mediation attempts in Transdniestria. Micro-successes are still possible: we now have an ‘early warning mechanism’ in case of disruptions to energy supplies, and a new cultural dialogue. Process matters.
But can the EU and Russia really afford to put their relationship on ice and wait for better days? World politics intrudes in the current lull. Russia has blocked EU-backed plans for Kosovo independence. It is against tougher sanctions aimed at preventing Iran from building a nuclear bomb. Russia behaves as if it didn’t need friends. But when it looks around the world – at a rising China, a disillusioned US, an unstable Middle East – it must conclude that the European countries are still its easiest and most reliable partners.
Vis-à-vis Russia, the EU looks divided, confused and often weaker than it is. That is partly because Russia forces the EU to clarify its own objectives. Can the EU become a more powerful international player while at the same time upholding its founding principles of democracy and human rights? Since different member countries have different answers, the EU tries to avoid the question.
Russia also puts the EU’s energy plans to the test. While paying lip service to a common energy policy, EU member-states are rushing to strike bilateral deals with Gazprom. Energy was supposed to be an area where the EU and Russia have clear common interests. But now the Russians complain about a ‘Gazprom clause’ in the Commission’s latest liberalisation package: state-owned foreign companies would not be allowed to buy gas pipelines in the EU, unless their governments agreed to also give European companies better access to their home markets.
Russia is not well placed to lecture the Europeans on energy market liberalisation. But Moscow has a point when asking the EU what it means by reciprocity. If the concept degenerates from a means for mutual openness to a new protectionist tool, it will do nothing to alleviate EU concerns about Russian underinvestment in its gas fields.
The energy debate shows that the shift from ‘values’ to ‘interests’ in EU-Russia relations can only go so far. Values – or more plainly, the way we see things – determine everything we do. When people and politicians in the EU and Russia talk about energy security, they mean different things. The same holds true for democracy, and other terms that allegedly describe the core objectives of our relationship.
I was an early advocate of the EU focusing less on ‘common values’ and more on mutual interests, on areas where practical co-operation is feasible and desirable (see http://www.cer.org.uk/pdf/p564_russia_strat_squabb.pdf).
But I am also the first one to admit that we have come full circle. Ultimately, the EU and Russia need to agree what they want to get out of their interaction.
Katinka Barysch is deputy director of the Centre for European Reform.
Monday, October 29, 2007
Can the EU learn to live with Chinese mercantilism?
by Philip Whyte
Not long after its launch, the euro was famously dismissed by a disgruntled currency trader as a “toilet currency”. How things have changed. Since 2003, the euro’s external value has soared despite comparatively sluggish rates of economic growth in many of Europe’s largest economies. The strength of the euro has been a boon to European consumers who have been able to buy DVD players from China for less than the price of a meal at a run-of-the-mill restaurant. But not everyone has been celebrating—least of all France’s hyperactive president, Nicolas Sarkozy, who has been fretting about the economic downsides of a strong euro. Mr Sarkozy believes that the euro is now over-valued and that French companies’ trade competitiveness is being damaged as a result. Ever since he entered office in May, therefore, he has thrashed around looking for a culprit.
At first, he blamed the European Central Bank (ECB) for neglecting the euro’s external value and for pursuing its inflation target at the expense of economic growth. This struck many observers as odd, for at least two reasons. First, a central bank cannot target the inflation rate and the exchange rate simultaneously: was Mr Sarkozy suggesting that the ECB jettison its inflation target? Second, it seemed perverse to accuse the ECB of pursuing an excessively restrictive monetary policy. Real interest rates remain low by historical standards, and were even negative for much of the period between 2003 and 2004. More recent indicators—notably buoyant rates of broad money growth and lending to the private sector—hardly point to a central bank that has sacrificed economic growth on the altar of low inflation. Mr Sarkozy’s broadsides were in any case widely seen as an attack on the ECB’s institutional independence—so no-one was surprised when they were given short shrift.
Mr Sarkozy then shifted his attention across the Atlantic. Authorities in the US, he argued, needed to act to stem the US dollar’s decline against the euro. Again, however, it was not clear what Mr Sarkozy was proposing the US authorities should do. Raise short-term interest rates? You must be joking! The US Federal Reserve is trying to contain the fall-out from the crisis in sub-prime lending which is threatening to push the world’s largest economy into recession. This is why it cut short-term interest rates in September. In any case, it is hard to see what the US Federal Reserve could possibly do to support the US dollar. The dollar is weakening because the US is struggling to attract the capital inflows needed to fund its current-account deficit. As the world’s largest debtor, the US has to attract three-quarters of the world’s capital flows to service its external deficit. This is unsustainable—and not just because US assets have offered investors absolutely terrible returns in recent years. A weak US dollar is imperative if the US’s external deficit is to narrow.
Slowly, it dawned on Mr Sarkozy that the problem might lie to the east rather than the west. In the run-up to the G7 meeting in late October, the French government spoke rather less about the US dollar and rather more about the Chinese yuan. It had taken its time, but at last it had stumbled on the heart of the problem: namely, that parts of the world—mainly China, Japan and oil exporters in the Middle East and elsewhere—are saving vastly more than they are investing. This excess of savings over investment has resulted in colossal outflows of capital which have supported the spending habits of governments and households in the US and, to a lesser extent, Europe. That’s right, you read correctly. Developing economies such as China are now large net creditors to the developed world. This is totally at odds with what one might normally expect. Capital usually flows in the other direction, from the developed to the developing world. So what happened?
The short answer is that China and a number of other Asian economies have spent the best part of the last decade pursuing unashamedly mercantilist policies. There are two reasons for this. One is the abiding attraction of an egregious fallacy: that a country’s primary objective in trade is to export more than it imports. The other is the experience of the Asian crisis in the late 1990s, when countries with large external deficits were unable to defend their currencies in the face of huge capital outflows. Stung by this experience, many Asian countries did not choose to abandon fixed exchange rates. Instead, they decided that they should continue to maintain a peg of sorts against the US dollar—but by actively intervening to keep their currencies artificially weak. Since that date, many Asian countries have turned trade deficits into vast surpluses by accumulating foreign exchange reserves. And the world has been stuck with an asymmetric monetary system in which the euro and the US dollar have floated freely against each other, but not against Asian currencies.
The apparently insatiable appetite of China and other Asian countries for piles of depreciating US dollars has had undoubted benefits for the EU. The most important is the boost to domestic demand that the resulting strength of the euro has provided. This has worked in at least two ways. First, by bearing down on import prices, the strength of the euro has contained inflation—allowing the ECB to keep official interest rates lower than they would otherwise have been. Second, it has boosted consumers’ purchasing power. The Chinese government, in other words, has indirectly given European consumers and mortgage holders something looking like a free ride. The downside is that the yuan’s exchange rate is generating protectionist demands from beleaguered European firms labouring under the weight of a currency that has borne the brunt of global adjustments since 2002. The EU trade commissioner, Peter Mandelson, has been muttering darkly about the speed at which the EU’s trade deficit with China is growing; and hinted that the EU cannot maintain an open market for Chinese goods if the Chinese government does not change policy direction.
In the mid-nineteenth century, the UK famously used gunboats to open Chinese markets to opium. Times have changed and few would now advocate similar methods to persuade the Chinese government to let the yuan appreciate. In fact, there is not much the EU can do, other than to raise the rhetorical volume and wait for the domestic tensions generated by China’s policy to play themselves out. No-one knows how long this process will last. The Chinese people’s capacity for pain is legendary. But the point will surely come when the Chinese government succumbs to internal pressure and refocuses economic policy on raising the living standards of the wretched Chinese people rather than relentlessly acquiring assets in a depreciating foreign currency. When this happens, Mr Sarkozy should pay particularly close attention. For the mercantilism that China has practised looks suspiciously like that which he would be tempted to pursue if ever he were let loose on the ECB!
Philip Whyte is a senior research fellow at the Centre for European Reform.
Not long after its launch, the euro was famously dismissed by a disgruntled currency trader as a “toilet currency”. How things have changed. Since 2003, the euro’s external value has soared despite comparatively sluggish rates of economic growth in many of Europe’s largest economies. The strength of the euro has been a boon to European consumers who have been able to buy DVD players from China for less than the price of a meal at a run-of-the-mill restaurant. But not everyone has been celebrating—least of all France’s hyperactive president, Nicolas Sarkozy, who has been fretting about the economic downsides of a strong euro. Mr Sarkozy believes that the euro is now over-valued and that French companies’ trade competitiveness is being damaged as a result. Ever since he entered office in May, therefore, he has thrashed around looking for a culprit.
At first, he blamed the European Central Bank (ECB) for neglecting the euro’s external value and for pursuing its inflation target at the expense of economic growth. This struck many observers as odd, for at least two reasons. First, a central bank cannot target the inflation rate and the exchange rate simultaneously: was Mr Sarkozy suggesting that the ECB jettison its inflation target? Second, it seemed perverse to accuse the ECB of pursuing an excessively restrictive monetary policy. Real interest rates remain low by historical standards, and were even negative for much of the period between 2003 and 2004. More recent indicators—notably buoyant rates of broad money growth and lending to the private sector—hardly point to a central bank that has sacrificed economic growth on the altar of low inflation. Mr Sarkozy’s broadsides were in any case widely seen as an attack on the ECB’s institutional independence—so no-one was surprised when they were given short shrift.
Mr Sarkozy then shifted his attention across the Atlantic. Authorities in the US, he argued, needed to act to stem the US dollar’s decline against the euro. Again, however, it was not clear what Mr Sarkozy was proposing the US authorities should do. Raise short-term interest rates? You must be joking! The US Federal Reserve is trying to contain the fall-out from the crisis in sub-prime lending which is threatening to push the world’s largest economy into recession. This is why it cut short-term interest rates in September. In any case, it is hard to see what the US Federal Reserve could possibly do to support the US dollar. The dollar is weakening because the US is struggling to attract the capital inflows needed to fund its current-account deficit. As the world’s largest debtor, the US has to attract three-quarters of the world’s capital flows to service its external deficit. This is unsustainable—and not just because US assets have offered investors absolutely terrible returns in recent years. A weak US dollar is imperative if the US’s external deficit is to narrow.
Slowly, it dawned on Mr Sarkozy that the problem might lie to the east rather than the west. In the run-up to the G7 meeting in late October, the French government spoke rather less about the US dollar and rather more about the Chinese yuan. It had taken its time, but at last it had stumbled on the heart of the problem: namely, that parts of the world—mainly China, Japan and oil exporters in the Middle East and elsewhere—are saving vastly more than they are investing. This excess of savings over investment has resulted in colossal outflows of capital which have supported the spending habits of governments and households in the US and, to a lesser extent, Europe. That’s right, you read correctly. Developing economies such as China are now large net creditors to the developed world. This is totally at odds with what one might normally expect. Capital usually flows in the other direction, from the developed to the developing world. So what happened?
The short answer is that China and a number of other Asian economies have spent the best part of the last decade pursuing unashamedly mercantilist policies. There are two reasons for this. One is the abiding attraction of an egregious fallacy: that a country’s primary objective in trade is to export more than it imports. The other is the experience of the Asian crisis in the late 1990s, when countries with large external deficits were unable to defend their currencies in the face of huge capital outflows. Stung by this experience, many Asian countries did not choose to abandon fixed exchange rates. Instead, they decided that they should continue to maintain a peg of sorts against the US dollar—but by actively intervening to keep their currencies artificially weak. Since that date, many Asian countries have turned trade deficits into vast surpluses by accumulating foreign exchange reserves. And the world has been stuck with an asymmetric monetary system in which the euro and the US dollar have floated freely against each other, but not against Asian currencies.
The apparently insatiable appetite of China and other Asian countries for piles of depreciating US dollars has had undoubted benefits for the EU. The most important is the boost to domestic demand that the resulting strength of the euro has provided. This has worked in at least two ways. First, by bearing down on import prices, the strength of the euro has contained inflation—allowing the ECB to keep official interest rates lower than they would otherwise have been. Second, it has boosted consumers’ purchasing power. The Chinese government, in other words, has indirectly given European consumers and mortgage holders something looking like a free ride. The downside is that the yuan’s exchange rate is generating protectionist demands from beleaguered European firms labouring under the weight of a currency that has borne the brunt of global adjustments since 2002. The EU trade commissioner, Peter Mandelson, has been muttering darkly about the speed at which the EU’s trade deficit with China is growing; and hinted that the EU cannot maintain an open market for Chinese goods if the Chinese government does not change policy direction.
In the mid-nineteenth century, the UK famously used gunboats to open Chinese markets to opium. Times have changed and few would now advocate similar methods to persuade the Chinese government to let the yuan appreciate. In fact, there is not much the EU can do, other than to raise the rhetorical volume and wait for the domestic tensions generated by China’s policy to play themselves out. No-one knows how long this process will last. The Chinese people’s capacity for pain is legendary. But the point will surely come when the Chinese government succumbs to internal pressure and refocuses economic policy on raising the living standards of the wretched Chinese people rather than relentlessly acquiring assets in a depreciating foreign currency. When this happens, Mr Sarkozy should pay particularly close attention. For the mercantilism that China has practised looks suspiciously like that which he would be tempted to pursue if ever he were let loose on the ECB!
Philip Whyte is a senior research fellow at the Centre for European Reform.
Friday, October 19, 2007
A grand bargain with Russia?
by Charles Grant
Relations between the Russia and the West have not been so prickly since the break-up of the Soviet Union. Viewed from the US and the EU, Russia is being obstructive across a whole swathe of issues, such as its blockade of trade with Georgia, its refusal to accept independence for Kosovo, and its opposition to further UN sanctions on Iran.
But although Russian foreign policy seems increasingly driven by a strident nationalism, there may be a method behind it. In Washington and Brussels, influential figures (including Henry Kissinger) think Russia may be seeking a ‘grand bargain’. President Vladimir Putin dropped hints that he might be open to such a bargain when he met think-tankers (myself included) at Sochi in September. “If our partners want something from Russia, they must be specific, and not ask for everything at once,” he said. “If you want to talk about Kosovo, OK, if you want to talk about the Iran nuclear problem, OK, but then don’t talk about Russian democracy at the same time.” He has a point: the US has tended to make wide-ranging demands of Russia without prioritising them.
The EU has a central role to play in any set of bargains between the West and Russia, given its extensive trade and investment links. The EU should seek to work with the Russians on three areas where they have mutual interests, and where a bit of horse-trading could be beneficial.
• Russia and the EU share many long-term interests in energy. Europeans want assurances that Russia will develop new gas fields, since a gap between demand and what Russia can supply is likely to emerge within a few years. The Russians worry that the EU’s moves to liberalise the European energy market may prevent Gazprom from buying pipelines there. Russia will have to abide by the EU’s rules on energy markets, just as the EU will have to accept that Russia does not allow foreign firms to buy key energy assets. Mutual dependency should encourage both sides to compromise.
• Both would benefit from Russia’s full integration into the global financial system. Thanks to the high oil price, Russia’s government and leading companies are sitting on funds worth several hundreds of billions of dollars. They want to put some of the cash into foreign firms. But the EU is becoming concerned about ‘sovereign wealth funds’. It should allow these funds to invest in European firms, so long as they are transparent and operate independently of politicians. And the EU should welcome Russian acquisitions of its companies, so long its rules are respected and European firms gain reciprocal rights.
• Both the EU and Russia have an interest in the countries of their common neighbourhood becoming stable, prosperous and well-governed. The EU should offer to work with Russia to promote peaceful change in Belarus, stability and unity in Ukraine, and a resolution of the ‘frozen conflicts’ in Transdnestria, South Ossetia, Abkhazia and Nagorno-Karabakh. The Russians may baulk at this: they fear encirclement by an expanding NATO and more ‘colour revolutions’, like those that loosened their control over Georgia and Ukraine. EU governments should allay Russian concerns by saying they will not support NATO membership for Ukraine or Georgia in the medium term. But the EU should offer such countries closer ties – and make clear to Moscow that they must be free to determine their own destiny.
The EU has a huge stake in the future of Kosovo; it cannot integrate the Western Balkans until that territory’s status is resolved. It will provide most of the money, soldiers, policeman and administrators to make any peace plan work. Russia has almost no interest in Kosovo, other than as a card to play against the West. The EU and the US believe that the least bad option for Kosovo is supervised independence, which Russia rejects.
But what if Russia was offered something in return? The US decision to deploy missile defence systems in Europe, against an Iranian threat that does not yet exist, was unwise. Russia’s anger over the deployment is genuine. Some former US officials claim that the deployment would break the spirit of promises made to Russia in the 1990s: the US said it would have no significant military presence in the Central European countries that joined NATO.
Russia’s heavy-handed over-reaction to US plans for missile defence – threatening to target missiles on Central Europe – makes it hard for Europeans to oppose those plans. Nevertheless, the Europeans should urge Washington to postpone the deployment indefinitely – so long as Russia accepts independence for Kosovo in return. Russia may shun this sort of bargain. But if its rulers are serious about maximising Russian power, they should negotiate with western leaders over their differences, rather than turn their back on them. (A longer version of this article appears in the November edition of www.prospect-magazine.co.uk).
Charles Grant is director of the Centre for European Reform.
Relations between the Russia and the West have not been so prickly since the break-up of the Soviet Union. Viewed from the US and the EU, Russia is being obstructive across a whole swathe of issues, such as its blockade of trade with Georgia, its refusal to accept independence for Kosovo, and its opposition to further UN sanctions on Iran.
But although Russian foreign policy seems increasingly driven by a strident nationalism, there may be a method behind it. In Washington and Brussels, influential figures (including Henry Kissinger) think Russia may be seeking a ‘grand bargain’. President Vladimir Putin dropped hints that he might be open to such a bargain when he met think-tankers (myself included) at Sochi in September. “If our partners want something from Russia, they must be specific, and not ask for everything at once,” he said. “If you want to talk about Kosovo, OK, if you want to talk about the Iran nuclear problem, OK, but then don’t talk about Russian democracy at the same time.” He has a point: the US has tended to make wide-ranging demands of Russia without prioritising them.
The EU has a central role to play in any set of bargains between the West and Russia, given its extensive trade and investment links. The EU should seek to work with the Russians on three areas where they have mutual interests, and where a bit of horse-trading could be beneficial.
• Russia and the EU share many long-term interests in energy. Europeans want assurances that Russia will develop new gas fields, since a gap between demand and what Russia can supply is likely to emerge within a few years. The Russians worry that the EU’s moves to liberalise the European energy market may prevent Gazprom from buying pipelines there. Russia will have to abide by the EU’s rules on energy markets, just as the EU will have to accept that Russia does not allow foreign firms to buy key energy assets. Mutual dependency should encourage both sides to compromise.
• Both would benefit from Russia’s full integration into the global financial system. Thanks to the high oil price, Russia’s government and leading companies are sitting on funds worth several hundreds of billions of dollars. They want to put some of the cash into foreign firms. But the EU is becoming concerned about ‘sovereign wealth funds’. It should allow these funds to invest in European firms, so long as they are transparent and operate independently of politicians. And the EU should welcome Russian acquisitions of its companies, so long its rules are respected and European firms gain reciprocal rights.
• Both the EU and Russia have an interest in the countries of their common neighbourhood becoming stable, prosperous and well-governed. The EU should offer to work with Russia to promote peaceful change in Belarus, stability and unity in Ukraine, and a resolution of the ‘frozen conflicts’ in Transdnestria, South Ossetia, Abkhazia and Nagorno-Karabakh. The Russians may baulk at this: they fear encirclement by an expanding NATO and more ‘colour revolutions’, like those that loosened their control over Georgia and Ukraine. EU governments should allay Russian concerns by saying they will not support NATO membership for Ukraine or Georgia in the medium term. But the EU should offer such countries closer ties – and make clear to Moscow that they must be free to determine their own destiny.
The EU has a huge stake in the future of Kosovo; it cannot integrate the Western Balkans until that territory’s status is resolved. It will provide most of the money, soldiers, policeman and administrators to make any peace plan work. Russia has almost no interest in Kosovo, other than as a card to play against the West. The EU and the US believe that the least bad option for Kosovo is supervised independence, which Russia rejects.
But what if Russia was offered something in return? The US decision to deploy missile defence systems in Europe, against an Iranian threat that does not yet exist, was unwise. Russia’s anger over the deployment is genuine. Some former US officials claim that the deployment would break the spirit of promises made to Russia in the 1990s: the US said it would have no significant military presence in the Central European countries that joined NATO.
Russia’s heavy-handed over-reaction to US plans for missile defence – threatening to target missiles on Central Europe – makes it hard for Europeans to oppose those plans. Nevertheless, the Europeans should urge Washington to postpone the deployment indefinitely – so long as Russia accepts independence for Kosovo in return. Russia may shun this sort of bargain. But if its rulers are serious about maximising Russian power, they should negotiate with western leaders over their differences, rather than turn their back on them. (A longer version of this article appears in the November edition of www.prospect-magazine.co.uk).
Charles Grant is director of the Centre for European Reform.
Friday, October 05, 2007
What now, Ukraine?
by Tomas Valasek
Ukrainians voters have spoken, sort of. On September 30th, they elected a new parliament. They made some heartening choices, backing forces of reform and sidelining smaller, less relevant parties. Less happily, they also produced a deadlock by giving virtually the same proportion of votes to the main two competing blocs. As a result, we are no wiser four days after the elections about who will lead Ukraine for the next four years.
The biggest winner is electoral democracy itself. Although Kyiv was abuzz with rumours of vote-rigging before the election, Western observers say that the actual poll appears to have been relatively untainted. Turnout – at 65 per cent – was low by Ukrainian standards but this is partly due to fatigue (this was the third national election in as many years). Importantly, the share of votes cast for smaller parties which fail to make the threshold required for entry into the parliament has nearly halved since last elections, from 20 per cent to 12. Far fewer votes are wasted. Four years on since the blatantly rigged 2004 presidential election which triggered the Orange Revolution, Ukraine has conducted three fair national polls. The country’s voters remain committed and take their rights ever more seriously.
Their choices this time around seem encouraging, too. The party of former Prime Minister Yulia Tymoshenko has doubled its share of votes since the 2006 elections, and fell just short of becoming the dominant force in the country. Tymoshenko is an unusual figure – she is suspected, not without reason, of building a cult of personality. Her populist rhetoric can often border on the irresponsible. But she has built a genuine base of support by attacking the cosy business-government relationships that corrode Ukrainian politics. Independently wealthy, she promises to defend the interests of her voters rather than corporate sponsors. And that would be an improvement on the way the two other main parties, President Viktor Yushchenko’s Our Ukraine and Prime Minister Viktor Yanukovich’s Party of Regions, go about their business.
But the poll was not all good news. It has failed to accomplish its main intended goal: to break the standoff between Yanukovich and Yushchenko and to produce a clear leader for Ukraine. The prime minister and the president have been in conflict since spring when Yushchenko accused Yanukovich of bribing parliamentarians to switch sides. The early vote was called to break the impasse.
This has not happened. The ‘blue camp’, the Party of regions and the Communists, and the ‘orange camp’, Yushchenko’s and Tymoshenko’s parties, scored virtually identical per centage results. A smallish independent party, the Lytvyn bloc, which barely made it into the parliament, can in theory break the deadlock.
The trouble is that the key political figures in Ukraine have little faith in the veracity of the results, no matter what Western observers say. None of the leaders seems ready concede an election decided by just a per centage point or two. Voters will suspect the Lytvyn bloc, irrespective of who it sides with, of having sold its votes. To complicate matters further, another small party, the Socialists, are insisting they gained over 3 per cent and are demanding a recount and a share of seats in the parliament. Yanukovich may yet decide to support their claim in the hope of forming a government without Yushchenko or Tymoshenko.
This mess would normally be considered worrying but not dangerous. Elections elsewhere have been decided by lesser margins; in 2000 George W Bush came to the presidency of the United States, a country of 300 million, thanks to 500-odd votes in Florida.
But unlike most democracies, Ukraine lacks a credible and independent judiciary. And in mature democracies the courts have the last say. The US election was eventually settled through a Supreme court ruling. The way the court reached its decision – by a 5-4 vote along ideological lines – was controversial and arguably dented the court’s credibility. But once made, the ruling stood without question. Few believe Ukraine’s own Constitutional court could act with such finality. During the crisis leading up to the elections its rulings have repeatedly been ignored by both the president and the prime minister.
Absent a credible judiciary, it is unlikely that either the ‘blue’ or ‘orange’ bloc will gain all-out power. Their margins are too small, neither side will want to concede such close elections, and no independent body can authoritatively rule in favour of one camp or the other. The odds are that Yushchenko and Yanukovich will settle the elections through an agreement to rule jointly, with or without smaller coalition parties. Their alliance is the only available combination of forces with a majority strong enough to overcome any challenge to election results.
If so, Ukraine would be right back where it started six or so months ago. Yanukovich and Yushchenko, two leaders who utterly failed to co-operate the first time they shared power, would be expected to do so again.
Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.
Ukrainians voters have spoken, sort of. On September 30th, they elected a new parliament. They made some heartening choices, backing forces of reform and sidelining smaller, less relevant parties. Less happily, they also produced a deadlock by giving virtually the same proportion of votes to the main two competing blocs. As a result, we are no wiser four days after the elections about who will lead Ukraine for the next four years.
The biggest winner is electoral democracy itself. Although Kyiv was abuzz with rumours of vote-rigging before the election, Western observers say that the actual poll appears to have been relatively untainted. Turnout – at 65 per cent – was low by Ukrainian standards but this is partly due to fatigue (this was the third national election in as many years). Importantly, the share of votes cast for smaller parties which fail to make the threshold required for entry into the parliament has nearly halved since last elections, from 20 per cent to 12. Far fewer votes are wasted. Four years on since the blatantly rigged 2004 presidential election which triggered the Orange Revolution, Ukraine has conducted three fair national polls. The country’s voters remain committed and take their rights ever more seriously.
Their choices this time around seem encouraging, too. The party of former Prime Minister Yulia Tymoshenko has doubled its share of votes since the 2006 elections, and fell just short of becoming the dominant force in the country. Tymoshenko is an unusual figure – she is suspected, not without reason, of building a cult of personality. Her populist rhetoric can often border on the irresponsible. But she has built a genuine base of support by attacking the cosy business-government relationships that corrode Ukrainian politics. Independently wealthy, she promises to defend the interests of her voters rather than corporate sponsors. And that would be an improvement on the way the two other main parties, President Viktor Yushchenko’s Our Ukraine and Prime Minister Viktor Yanukovich’s Party of Regions, go about their business.
But the poll was not all good news. It has failed to accomplish its main intended goal: to break the standoff between Yanukovich and Yushchenko and to produce a clear leader for Ukraine. The prime minister and the president have been in conflict since spring when Yushchenko accused Yanukovich of bribing parliamentarians to switch sides. The early vote was called to break the impasse.
This has not happened. The ‘blue camp’, the Party of regions and the Communists, and the ‘orange camp’, Yushchenko’s and Tymoshenko’s parties, scored virtually identical per centage results. A smallish independent party, the Lytvyn bloc, which barely made it into the parliament, can in theory break the deadlock.
The trouble is that the key political figures in Ukraine have little faith in the veracity of the results, no matter what Western observers say. None of the leaders seems ready concede an election decided by just a per centage point or two. Voters will suspect the Lytvyn bloc, irrespective of who it sides with, of having sold its votes. To complicate matters further, another small party, the Socialists, are insisting they gained over 3 per cent and are demanding a recount and a share of seats in the parliament. Yanukovich may yet decide to support their claim in the hope of forming a government without Yushchenko or Tymoshenko.
This mess would normally be considered worrying but not dangerous. Elections elsewhere have been decided by lesser margins; in 2000 George W Bush came to the presidency of the United States, a country of 300 million, thanks to 500-odd votes in Florida.
But unlike most democracies, Ukraine lacks a credible and independent judiciary. And in mature democracies the courts have the last say. The US election was eventually settled through a Supreme court ruling. The way the court reached its decision – by a 5-4 vote along ideological lines – was controversial and arguably dented the court’s credibility. But once made, the ruling stood without question. Few believe Ukraine’s own Constitutional court could act with such finality. During the crisis leading up to the elections its rulings have repeatedly been ignored by both the president and the prime minister.
Absent a credible judiciary, it is unlikely that either the ‘blue’ or ‘orange’ bloc will gain all-out power. Their margins are too small, neither side will want to concede such close elections, and no independent body can authoritatively rule in favour of one camp or the other. The odds are that Yushchenko and Yanukovich will settle the elections through an agreement to rule jointly, with or without smaller coalition parties. Their alliance is the only available combination of forces with a majority strong enough to overcome any challenge to election results.
If so, Ukraine would be right back where it started six or so months ago. Yanukovich and Yushchenko, two leaders who utterly failed to co-operate the first time they shared power, would be expected to do so again.
Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.
Friday, September 21, 2007
Middle ground missing in Middle East?
by Clara Marina O'Donnell
Over the last few weeks,Tony Blair, Javier Solana and Bernard Kouchner have been there; this week Condoleezza Rice has done so – as, for that matter, has Madonna. If you like motorcades, Israel is the place to go. Ever since the US said it would sponsor a peace conference in November, the Middle East has been a hive of activity.
But is all the high-level diplomacy having any impact on the ground? Certainly the comings and goings of the great and the good keep the up-market hotels in business. But the reality at grass-roots level, as judged by this writer’s recent visit, seems far removed from the glitzy political meetings.
Settlements in the West Bank continue to grow (and new ones are created) at a rapid rate - so much so that the growth rate of the Israeli population in the West Bank is higher than in the rest of Israel. Construction work continues on the ‘wall’, eating into territory beyond the Green Line, the internationally recognised border, sometimes going far into the West Bank and separating Arab farmers from their lands. Roadblocks remain firmly in place, despite a promise by Ehud Olmert, the Israeli Prime Minister, to Mahmoud Abbas, the Palestinian president, to reduce them. The official explanation for the delay is implementation difficulties. Yet an Israeli government plan has existed for a year on how to safely reduce internal checkpoints, so far to no effect.
Gaza remains completely isolated. The private sector has collapsed, the public sector is barely ticking over, and unemployment is soaring, as this week's UK government report (The Economic Aspects of peace in the Middle East) confirms. Hamas is still firmly in control and Quassam rockets are being fired into Israel virtually every day. The plight of Gaza’s 1.4 million inhabitants is widely ignored – including by the Palestinian Authority in Ramallah. During this author’s stay, the only real attention paid to Gaza was an Israeli cabinet debate on stopping Israeli supplies of water and electricity to Gaza as collective punishment for the firing of Quassam rockets. The likelihood of such a move has increased since then, with Israel having declared Gaza an “enemy entity”.
The measured, almost friendly banter between Israeli and Ramallah-based Palestinian leaders (Olmert and Abbas were shown smoking cigarettes together during one of their latest rounds of talks) says nothing about the mood in the streets. In private, there are people on both sides who take a blunt and uncompromising view of the conflict, shrouded in religious, ethnic and existential terms. The memory of the terror of the second intifada is still vivid in many Israelis’ minds. Palestinian schoolbooks incite hatred towards Israel. And some Israelis step over the line between legitimate security concerns and xenophobia: during a conference in Tel Aviv the Israeli ambassador to the UN argued that all of Islam had its hands covered in blood.
The complexity of the Middle East can never be over-estimated. But the all-too-evident disconnects between political rhetoric and practical action, between public discourse and private sentiment, and between leaders and led, suggests that some of the challenges may currently be under-estimated. And it might explain why nearly no one this writer spoke to had any hopes in the November conference.
Clara Marina O'Donnell is a research fellow at the Centre for European Reform.
Over the last few weeks,Tony Blair, Javier Solana and Bernard Kouchner have been there; this week Condoleezza Rice has done so – as, for that matter, has Madonna. If you like motorcades, Israel is the place to go. Ever since the US said it would sponsor a peace conference in November, the Middle East has been a hive of activity.
But is all the high-level diplomacy having any impact on the ground? Certainly the comings and goings of the great and the good keep the up-market hotels in business. But the reality at grass-roots level, as judged by this writer’s recent visit, seems far removed from the glitzy political meetings.
Settlements in the West Bank continue to grow (and new ones are created) at a rapid rate - so much so that the growth rate of the Israeli population in the West Bank is higher than in the rest of Israel. Construction work continues on the ‘wall’, eating into territory beyond the Green Line, the internationally recognised border, sometimes going far into the West Bank and separating Arab farmers from their lands. Roadblocks remain firmly in place, despite a promise by Ehud Olmert, the Israeli Prime Minister, to Mahmoud Abbas, the Palestinian president, to reduce them. The official explanation for the delay is implementation difficulties. Yet an Israeli government plan has existed for a year on how to safely reduce internal checkpoints, so far to no effect.
Gaza remains completely isolated. The private sector has collapsed, the public sector is barely ticking over, and unemployment is soaring, as this week's UK government report (The Economic Aspects of peace in the Middle East) confirms. Hamas is still firmly in control and Quassam rockets are being fired into Israel virtually every day. The plight of Gaza’s 1.4 million inhabitants is widely ignored – including by the Palestinian Authority in Ramallah. During this author’s stay, the only real attention paid to Gaza was an Israeli cabinet debate on stopping Israeli supplies of water and electricity to Gaza as collective punishment for the firing of Quassam rockets. The likelihood of such a move has increased since then, with Israel having declared Gaza an “enemy entity”.
The measured, almost friendly banter between Israeli and Ramallah-based Palestinian leaders (Olmert and Abbas were shown smoking cigarettes together during one of their latest rounds of talks) says nothing about the mood in the streets. In private, there are people on both sides who take a blunt and uncompromising view of the conflict, shrouded in religious, ethnic and existential terms. The memory of the terror of the second intifada is still vivid in many Israelis’ minds. Palestinian schoolbooks incite hatred towards Israel. And some Israelis step over the line between legitimate security concerns and xenophobia: during a conference in Tel Aviv the Israeli ambassador to the UN argued that all of Islam had its hands covered in blood.
The complexity of the Middle East can never be over-estimated. But the all-too-evident disconnects between political rhetoric and practical action, between public discourse and private sentiment, and between leaders and led, suggests that some of the challenges may currently be under-estimated. And it might explain why nearly no one this writer spoke to had any hopes in the November conference.
Clara Marina O'Donnell is a research fellow at the Centre for European Reform.
Thursday, September 13, 2007
The Microsoft appeal: The Commission was right
by Simon Tilford
On September 17th the European Union’s Court of First Appeal will rule on Microsoft’s long-awaited appeal against the record fine imposed on the company by the Commission in 2004 for abusing its dominant position in computer operating systems. The decision to fine Microsoft has prompted unprecedented criticism of EU competition policy and even accusations of anti-US bias. If the court upholds the Commission’s decision, demands for it to be stripped of its competence over competition law will no doubt intensify. The criticism of the Commission is without merit.
Indeed, the Microsoft case is a poor choice for critics of the Commission to champion. Attempts to portray its ruling as anti-competitive and as a threat to innovation do not really stack up. This case is not, as Microsoft and its supporters contend, about punishing a company for being successful by compromising its intellectual property. The market for IT is not so different from other markets that the suspension of antitrust law is justified. Rather, the case is about making it possible to compete with Microsoft in its core areas of business.
Supporters of Microsoft tend to conflate various issues. First, they accuse the Commission of undermining competition and hence innovation by placing constraints on dominant firms in the IT sector. According to this argument, dominant companies will only make big investments if they are confident they will face no significant competitors. Second, they argue that the Commission should focus on the impact on the consumer and not on the level of market dominance; that is, it doesn’t matter how much of a market a company (in this sense, Microsoft) controls, if its dominance benefits the consumer.
There are obvious weaknesses to these arguments. If it were the case that companies only innovate when they are confident that they will be allowed a monopoly, no company operating in a competitive market would invest in product development. But of course they do. They have to do so in order to ensure that their product or service is better than that of the competition. Only then can they hope to win a profitable share of the market. It is this need to be better than the opposition that drives innovation and productivity growth.
Similarly, it is not clear how Microsoft’s dominance benefits consumers. Is it because the company’s size (and hence ability to leverage huge economies of scale) allow it to offer products at low prices? If so, this would be an argument for abolishing competition policy. Or is it because consumers benefit from the ubiquity of Microsoft products? This ubiquity almost certainly does provide short-term benefits to consumers. But it is hard to see how allowing such dominance could serve consumers in the long-term if it precludes innovative companies challenging Microsoft.
Just because Microsoft won the race does not mean it should be permitted to dominate huge markets indefinitely. This would not be tolerated in any other market, including other high-tech markets. The IT market is a fast-moving one, but this is hardly a unique characteristic.
EU competition policy is already under attack from member-states that would like to provide their companies with more support and who want to promote national champions to positions of market dominance. A ruling by the Court of First Appeal in favour of Microsoft could not come at a worse time. It would play into the hands of those like France’s President Sarkozy that want to dilute EU competition policy, and who question what competition has done for the EU.
Simon Tilford is chief economist at the Centre for European Reform.
On September 17th the European Union’s Court of First Appeal will rule on Microsoft’s long-awaited appeal against the record fine imposed on the company by the Commission in 2004 for abusing its dominant position in computer operating systems. The decision to fine Microsoft has prompted unprecedented criticism of EU competition policy and even accusations of anti-US bias. If the court upholds the Commission’s decision, demands for it to be stripped of its competence over competition law will no doubt intensify. The criticism of the Commission is without merit.
Indeed, the Microsoft case is a poor choice for critics of the Commission to champion. Attempts to portray its ruling as anti-competitive and as a threat to innovation do not really stack up. This case is not, as Microsoft and its supporters contend, about punishing a company for being successful by compromising its intellectual property. The market for IT is not so different from other markets that the suspension of antitrust law is justified. Rather, the case is about making it possible to compete with Microsoft in its core areas of business.
Supporters of Microsoft tend to conflate various issues. First, they accuse the Commission of undermining competition and hence innovation by placing constraints on dominant firms in the IT sector. According to this argument, dominant companies will only make big investments if they are confident they will face no significant competitors. Second, they argue that the Commission should focus on the impact on the consumer and not on the level of market dominance; that is, it doesn’t matter how much of a market a company (in this sense, Microsoft) controls, if its dominance benefits the consumer.
There are obvious weaknesses to these arguments. If it were the case that companies only innovate when they are confident that they will be allowed a monopoly, no company operating in a competitive market would invest in product development. But of course they do. They have to do so in order to ensure that their product or service is better than that of the competition. Only then can they hope to win a profitable share of the market. It is this need to be better than the opposition that drives innovation and productivity growth.
Similarly, it is not clear how Microsoft’s dominance benefits consumers. Is it because the company’s size (and hence ability to leverage huge economies of scale) allow it to offer products at low prices? If so, this would be an argument for abolishing competition policy. Or is it because consumers benefit from the ubiquity of Microsoft products? This ubiquity almost certainly does provide short-term benefits to consumers. But it is hard to see how allowing such dominance could serve consumers in the long-term if it precludes innovative companies challenging Microsoft.
Just because Microsoft won the race does not mean it should be permitted to dominate huge markets indefinitely. This would not be tolerated in any other market, including other high-tech markets. The IT market is a fast-moving one, but this is hardly a unique characteristic.
EU competition policy is already under attack from member-states that would like to provide their companies with more support and who want to promote national champions to positions of market dominance. A ruling by the Court of First Appeal in favour of Microsoft could not come at a worse time. It would play into the hands of those like France’s President Sarkozy that want to dilute EU competition policy, and who question what competition has done for the EU.
Simon Tilford is chief economist at the Centre for European Reform.
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