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Monday, 19 December 2011

France v England (well actually the UK)..


They’re drawn in the same group G for the 2012 European Football Championships and it looks like the French politicians are trying to use the Manchester United manager Sir Alex Fergueson’s infamous “mind games” to target not our esteemed footballers but the rating agencies for the temerity to daring to even mention a possible downgrade of France (and one presumes affecting some change in their minds and decision) from the stellar triple-A rating. In particular, statements by the French governor of the central bank, Christan Noyer, and by other ministers to attack Britain’s record suggests a co-ordinated effort by the French elite. 

Why one wonders? 

Is it to prepare the domestic public for the probable downgrade, to pressurise the rating agencies to think again – for both France and the UK – or is something else afoot?

The first is probably true, its doubtful that the raters will take much note in the end – particularly if the other Eurozoners are in the pack of would-be-downgradees. 

The UK comparison is fascinating because it highlights the similarities and the differences between two comparable mature Old-Europe economies of about the same economic size. Both countries are in the grips of an economic compression coupled with headwinds which will mean a protracted period of years before a return to a Goldylocks trend-growth i.e. neither too hot nor too cold.

Both the UK and France are in synch with the flavour-of-the moment policy of austerity. With both public and private sectors in the two countries in the doldrums what will drive growth? Ahh we have the Olympics and the Queen’s Jubilee in the UK to bring some oomph in consumption and one can argue that the French private sector is probably a touch more ruddy in complexion right now.

The big difference is monetary independence. The UK is not part of the Eurozone and has an independence monetary policy. This in turn means that the Bank of England (BoE) can engage in monetary easing or Quantitative easing to give its current geeky name. It also means the Fiscal-Monetary mix can be massaged and managed more efficiently than for the eurozone where the ECB’s policy earlier this year of raising interest rates was balmy for the suffering southern part of the eurozone although right for the then robust growth in Germany.

The UK’s policy response has been broadly correct and it’s not clear, despite the political rhetoric, if a Labour government would really have done anything significantly different. The UK Chancellor (Minister of Finance) Osborne will have a Plan B up his sleeve which for credibility he could not have divulged until the current Plan A of austerity alone was shown to be not working. But this austerity has allowed the BoE to run a very loose monetary policy but without scaring the bond markets – the result being yields have remained very low, bringing in some additional fiscal space which could and should be the springboard for future fiscal easing.

Compare this with the situation in the eurozone: 17 fiscal stances and a single monetary policy…”and a partridge in a pear tree” (aka the Christmas carol “The 12 Days of Christmas”).  

France does not have control of monetary policy (no partridge) and if anything its fiscal space is being increasingly determined by the Germans through rules restricting how public finances are run.
It remains to be seen if the German-authored Fiscal Compact becomes a genuine instrument for fiscal co-ordination among the eurozone EU17 or simply another talking shop and a sense “Summit-isis” for the rest of us.

There is a separate issue – addressed by the IMF head last week – about a fear of a return to the dark days of the 1930s style recession. Convergence in business cycles and a related procyclical approach to fiscal stances is amplifying the effect of this aggregation on global output, and this is no more true than in the EU: and this is akin to the wave of competitive protectionism we saw countries adopt in periods in the late 19th century and before the era of the Bretton Woods institutions and some form of global policy co-ordination.
The UK may be an open economy reliant on the rest of the world for trade and prosperity but it has the tools for economic management in its hands. 

One fears for France in an environment where there is no clarity as yet on broader EU-wide fiscal policy: the issue of Eurobonds is undecided, no basis for asymmetric fiscal stances based on different underlying domestic conditions across the eurozone or any real transfer mechanism (aside from structural funds for development which is more aid than genuine equalisation transfers found in federal states). 

Continuing the Cassandra-like gloominess, if the projected downturn in global and European growth is worse than expected –and last week’s downward revisions among economics houses would support this thesis – the downward amplitude in the Eurozone could be worse than forecast given the higher integration of Eurozone economies and in an environment where austerity-in-common is the theme. 

Forget the numbers but consider the bigger picture: France but particularly the likes of Italy will quickly find that the debt-overhang becomes unsustainable if nominal growth of income falls below the levels required to simply sustain the debt levels. 

The notion that the suffering southern European economies will be required to run even higher budget surpluses is simply not credible – economically or politically. More haircuts of sovereign debt? And Italy which is still having to pay close to 6% and has a huge programme of debt issuance due in 2012.

Both the UK and France are facing turbulence ahead and both need to start focussing on growth but the UK’s policy choices gives it more tools to address these challenges.

Bottom line: The Rating Agencies have got it right. 

Lets see how the England team fares against the French at footy…I forecast a draw! (it’s the opening game for both)

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