22/11/2012 18:03 GMT | Updated 22/01/2013 10:12 GMT

Austerity Alone Is Not the Answer


We have reached a defining moment in Europe's response to the economic crisis. The immediate threat of eurozone disintegration has passed, but the prospect of slipping back into recession is a very real danger for much of the continent. Progress on a banking union and other institutional reforms are only part of the answer. Without a more active approach to stimulating new economic activity, stagnation could lead to a renewed crisis posing a serious threat to the stability and unity of Europe.

There is a rising popular frustration at the failure of austerity to deliver the promised recovery. With no end to high unemployment and falling living standards in sight, voters across Europe are throwing out incumbent governments and looking for alternatives.

So far the main beneficiaries have been moderate pro-EU parties of the centre-left who have returned to power in Denmark, France, the Netherlands, Lithuania and Romania. But there has also been a sharp rise in support for populist parties of the far right and far left offering solutions based on xenophobia, protectionism or hostility to European integration. This provides an ominous warning of what could happen if mainstream politics fails to respond to growing public anger.

The economic assumptions around which the economic consensus was formed two years ago are now widely regarded as flawed. The IMF has just acknowledged that previous forecasts had significantly underestimated the likely impact of public spending cuts in lowering growth. The negative effect - the so-called fiscal multiplier - has turned out to be two or three times greater than expected. There is therefore a growing recognition that over-zealous budgetary consolidation can add to the sovereign debt crisis by choking off government revenue.

It is important for governments to reassess and adjust their economic plans in light of this new evidence. The answer is not to abandon the medium-term goal of fiscal consolidation, but to give more emphasis to the growth-supporting policies needed to make that goal credible. As Christine Lagarde recently argued, we are treading a "narrow path" between the risks of debt and recession, but that "without growth, the future of the global economy is in jeopardy".

In another significant departure from recent orthodoxy, there is an emerging consensus in the IMF and elsewhere that widening social inequalities not only contribute to the crisis, but are now holding back recovery. Research suggests that large divisions of income and wealth weaken demand and generate economic imbalances that create instability and undermine growth.

Romania was badly hit by the financial crash, a situation made worse by an ill-judged austerity programme that led teachers and doctors to have a lower salary than unskilled workers, resulting in massive migration. As a coalition of socialists and liberals, our priority is to build a sustainable recovery based on inclusive growth, with the right balance between strict budgetary discipline and economic recovery, as well as between economic and social development. The initial results are promising.

We remain firmly committed to achieving budgetary consolidation. Romanian public debt is coming down and we reduced the public deficit from 4.1% of GDP in 2011 to 2.2% of GDP in 2012, two reasons for the recent positive assessments of my government's economic policies by the IMF.

We combine fiscal adjustment with pro-enterprise measures to support growth and boost employment. We have reformed our VAT reimbursement policies to help SMEs. Longstanding debts of international companies by Romanian public companies are being reimbursed. We are cutting red-tape and have already cancelled the arrangements murky energy intermediaries had in place which led to a cumulative loss of one billion Euros for Romania in the last six years. We maintain low tax rates and have even introduced new corporate tax breaks to favour investment and job creation.

At the same time, we have begun to restore public sector wages, slashed in 2010 by the former government. We are also returning the health insurance payments that the former government had had been unlawfully demanding from retirees. We have also engaged a reform of our educational system.

We are confident that we are developing the right policy mix based on fiscal responsibility, structural reforms, economic dynamism and social inclusion. But we cannot succeed in isolation from the rest of Europe. EU leaders need to pull together innovative solutions. We should be thinking about how we use the European level instruments at our disposal, such as the European Investment Bank, to create new public-private partnerships and get infrastructure investment moving. Austerity alone is not the answer. We need to show that we are responding the demands of Europe's citizens to find a better way out of our common crisis.