 Let me welcome you for a joint event that's co-sponsored by the Wiser Center for Emerging Democracies and the Ford School of Public Policy, together with the International Policy Center. It's one of our distinguished university-wide lectures, and it is a pleasure today to introduce a distinguished speaker and a dear friend, Blesiek Balzerowicz, who, as you can see, is currently professor of economics at the Warsaw School of Economics and also visiting fellow at the Hoover Institution. He has a very rich and distinguished career. I would say he's probably the most influential policymaker in central and east Europe in the transition economies over the last 20-plus years. He served as the Deputy Prime Minister and Minister of Finance. He prepared the first plan of transition that was implemented in the transition economies, widely discussed, followed, debated, and he also served as Governor of the Central Bank. Since then, he's been on the boards of various institutions, both advisory boards, executive boards, and is one of the founding members of one of the most successful think tanks, case think tank in Poland, where I have the pleasure to serve on the advisory board. So Blesiek, as you can see, has selected a narrow topic today, very well defined. And so I'm looking forward to his talk. He will speak for 40, 45 minutes forever, then we'll open it up for questions and answers, so please prepare your questions. We have microphones. It would be nice if you step to the microphones afterwards, introduce yourself, and ask the question. So Blesiek, welcome. Thank you very much. Thank you very much. And I realize this is a rather big and moving topic, moving target, and Europe is diverse. Nevertheless, and my agenda is pretty ambitious, but I will take no more than 40 minutes of your time because questions, answers, sessions, the debate is always most interesting. And the first points are just the introduction, to remind you, longer on. When you realize that in the 19th century, the difference in per capita income between the West, including Western Europe and China and India was much smaller than later. And the whole divergence between China, India, and the West has taken place between the beginning of the 19th century and 1950. We have more exact data, but when we move to, this was per capita. When we move to aggregate GDP, you see that until 1950, China was stagnating. So for 150 years, the same goes more or less for India. And then it was a surge, the surge started in 1970. And if you extrapolate, which you should not do, then it is easier to see when China overtakes the United States. Another thing is that if you look at the data, then you see that in 1950, the estimated GDP of China was larger than of the US because of a very simple fact that China has many more people. Relative position of Europe depends on the rate of growth of China, India on the one hand and the other hand on the US. Taking the gap between the US and the largest European countries, Britain, Germany, France, it's interesting that there was a convergence after the Second World War. So Western Europe was catching up until more or less 80s and then there was a divergence. So the United States started to grow faster than Western Europe. So gap has been growing and there's an interesting debate why. One of the reasons is demography. Another one is that on the whole European sewer class than the US. Okay, now, but this was focused on Western Europe, but Europe is not only Western Europe. Many people forget. Europe is Southern Europe, Southeastern, Southern Europe. And it's worth looking what has happened within Europe regarding the rate of growth, relative rate of growth. Now to cut it short, after the Second World War, until the 90s, Southern Europe, meaning Greece, Portugal, Spain to some extent was catching up upon the Western Europe. So Greece was growing pretty reasonably, but East Central Europe, represented here by former Czechoslovakia, Hungary, Poland, was diverging. Meaning simply that socialism was very bad for growth, neither freedom nor development. Okay, now what has happened between 94 and 2007? Before the present crisis and after what people call transformation of recession in Central and former socialist countries. You see, I have divided European countries into two groups. The first one is called developed Europe and the one is emerging Europe. First thing is striking variation within those groups. So you see that, can you see that Italy was growing, but also Germany was growing quite slowly during that period. What country was a tiger? Ireland. And it was a genuine tiger. It is not true that the bust, the boom and bust has invalidated previous achievement. There was previous achievement in Ireland. And I am sure Ireland will overcome the problems. Within Central and Eastern Europe, you see equal striking variation. While Ukraine, unfortunately, has not been diverging, this is the average for the whole period. So if you look at later years, you would see some acceleration. But look at the Baltics, what Slovakia, Poland. These are countries which have been converging on Western Europe within the whole group. If you look at the whole period, starting with 1989 or 1990 until the present day, that you see that the country which has converged more, I am very happy to say it is Poland. Why? This brings me to the second issue, what explains, that is a huge topic. What explains the differences in the long-term economic growth? Some of the pages have been written. And I try to summarize in one page. And this is this. If you look at the experience, you see two kinds of forces. The first one I call systematic in the sense they operate all the time, even with different intensity. And these systematic forces are considered at two levels, the approximate level which prevails in the literature, its productivity growth, employment and capital. And this is the focus of conventional growth theory, which is easy to use mathematics in, but it's not deep enough. Because it's easy to say where productivity has been growing slower under socialism in Europe than under some capitalistic economies elsewhere, but the question is why? Why? It's easy to see there's a huge difference between North and South Korea, even though there's the same culture, but this begs the question why? So you have to go deeper, meaning deeper is this. It's what I call, you have to go to institutional systems and the changes of them. And the institutional variables which are most important from the point of view of economic growth, appropriate rights, both the type and the level of protection, these are variables. Market competition, they have many capitalistic economies without competition and they cannot grow very fast. And flexibility of markets and also the fiscal burden of the state, which of course depends on the level of expenditures. And when we speak about expenditures, we have to focus on the largest item, which is social welfare expenditures. Now, but the gross literature usually disregards the second factor, which is very important. And namely, magnitude at frequency of negative shocks. From the point of view of a given country, the shocks may come from outside and we call them external, but most shocks are produced by wrong policies and they are domestic. Usually economists, especially in the West, tend to blame markets for shocks, but they overlook the simple facts that the huge, the largest, most negative, deepest shocks were produced by non-controlled, unlimited governments. Look at Stalin, look at Mao. So it is a concentration of political power which leads to catastrophic policies which produce huge shocks. And this is completely disregarded in literature on growth. And what is called external shocks to small countries is a domestic shock produced by a large government. A government, a large country, which is the US. Why we have you call the recent crisis global? Because it was produced by wrong policies in the only globally important countries, which is the US. Small countries cannot produce large externalities. Only large countries produce large externalities, including negative. So what is going on in the US, doubly important for the US and for the outside world, of course. Now, to sum up the experience of empirically oriented literature on growth. Who has, what countries have been growing very slowly, was stagnated. Those who suffered frequent and powerful shocks. And this is experience of most of Africa until recently. And all countries which have maintained anti-productive, anti-innovative systems. Which are various combination of statism and the lack of competition. And this has been shown empirically. Who has been able to grow fast over a long run? Countries which have avoided huge frequent shocks. And countries which have maintained a regime which was friendly enough for private investment and innovation. Or make a successful transition, like some of Central Eastern Europe. Most countries have to make a transition because there are powerful forces operating in every country which aim at distorting the system. So then you need reforms. Like in Britain, why Mrs. Thatcher was necessary? Because before her, there were lots of anti-growth measures. Increasing and unproductive role of the public sector. Now, I'll give you one illustration. This is from the book I just finished. This is a comparison of some 15 pairs of countries. Which have one feature. At some point in time, they had the same per capita income, but then they diverged. And we investigated the group of my younger colleagues, what were the reasons. There are various reasons, but in many comparisons, a very important reason were shocks. So countries which slowed down, have suffered more shocks, which are domestically produced. And this is one example, is Spain in Mexico. As you can see, 1960, these two countries were at the same per capita income. But now Mexico is much poorer. Why? The most important reason was we found out that Mexico has suffered three powerful negative shocks. Produced by bad policies of Mexican governments. And until recently, Spain has avoided that. So if I come to Poland, then I would say the fact that Poland managed to catch up the most among the former socialist countries, due to two facts. First, that we have reformed, but we are not the leader in reforms. The politics are the leader. But second, that we have avoided so far, powerful negative shocks. This is the decisive fact, including avoiding recession during the recent slowdown. So this brings me to a very brief description, what has been happening in Europe. I am coming closer to a topic everybody waits for. It is whether euros are going to survive till tomorrow. According to a CNN, it is not very sure. Every day, they put a big question mark, depending on what German is going to do, et cetera, et cetera. Okay, now very briefly, the main point which emerges is a great variety of policies in Europe. So there is no one Europe in the policy sense. So to generalize about Europe is a bit risky. And I will try to show you. Sorry for these many figures. I skip that, but fiscal. Now, on fiscal, you saw a great diversity. In a sense that there have been countries which have reduced, you should have to compare. If you look at what has happened during the boom, you would have to look at the compare 2007 with, say, 2000. And you see that some countries have reduced the budget deficit during that period, while other countries have extended it and look at Greece. Where is Greece? Can you see Greece? Well, I will read it to you. In Greece, the budget deficit in 2007 was 105. So very, very high. And it increased by several percentage points. Italy has maintained a budget deficit over 100%. And in Portugal, there was a surge in budget deficit. That's a ratio of GDP from 68 to 48. But not in Spain. Spain has suffered from another problem, credit boom. Private credit boom. But at the same time, Sweden has reduced the budget deficit to GDP from 54 to 40. The same goes even more for Denmark. And there's a mixed story in emerging Europe. So diversity. Diversity. The problem was, as you can see, that large countries like France, Italy, even Germany have increased the budget deficit. So they were not showing fiscal diversity. Now, this is another story. Because you may have two problems on the demand side. Usually, economists complain about not sufficient demand. But the main problem is excessive demand. Domestic demand. Domestic demand. Because if you have not sufficient demand, it's mostly due to excessive demand before. Which means if you have bust, because you have booms before. And booms are two kinds. First fiscal. So governments are borrowing to finance spending. And they incur growing public debt. This is the story in Europe of Greece, Portugal, Britain. And the second problem on the demand side, in the form of excessive demand, is a private credit boom. Usually housing. And in Europe, this was a question of the US. But in Europe, Ireland, Spain, Ukraine, the Baltics, Bulgaria. And then the question is why? And we have to come to policies. There's something to do with interest rates. The interest rates are too low, then credit grows too fast. And the first people are very happy, and then turn out to be unhappy. Boom goes into the bust. So countries which have suffered the most problems have experienced a combination of two booms, or one of them. Either fiscal boom and or credit boom. And this is shown by this table. It shows that, let me point. If you look, but you do not need to grow, you do not need to have a credit boom to grow. You can grow without a credit boom. That's the story of Germany. In Germany, the ratio of credit, private credit, to GDP was lower in 2008 than in the year 2000. That's the story of Czech Republic. But if you look at Spain, the ratio has doubled from 98 to almost 200. So very rapid growth of private credit. If you look at Ireland, the same story. And the same goes for in the emerging Europe and Bulgaria, Lithuania. They have experienced extreme credit boom while Czech Republic has maintained a discipline to Poland too. So the differences in the intensity of credit boom had a very important impact upon what happened next and what happened next. But let me finish the story. When much of the credit boom, either fiscal or private credit was financed from abroad and this has been shown in the widening current account deficits. But you have again that diversity. You have an explosion of budget deficit in Greece between 2007 and 2000, but from minus almost eight to almost minus 15 to some extent in Ireland. In Portugal, it has maintained a very high level of 10%. In Spain, it's more than doubled. But such countries like Austria, Finland, Germany, Germany has tremendously improved the current account balance. So diverse, very diverse. In emerging Europe, countries which have credit booms have also widened tremendously widened their current account deficits. The Baltics and Bulgaria, because this was financed by inflows of capital from abroad. Or again the Czech Republic and Poland have maintained discipline. So the growth of current account deficit was much slower because the credit boom was much slower. And finally, an important indicator to finish is unit labor cost. If your spending is growing very fast, that means that wages are growing very fast and they overtake productivity growth. And this is the story of countries which have credit booms. Fiscal and all credit. Look at Greece. Here we have, I take 2003 as the base, 100. So look at Greece. Increase unit labor cost by more than 20%. I disregard Luxembourg. That's a very strange animal. But UK, again. And in emerging Europe, you have again the Baltics, Bulgaria, but in Czech Republic and Poland, unit labor costs have declined, meaning that productivity is growing faster than wages. So competitiveness. Price competitiveness was increasing. So diverse story. Okay. Now, when the global crisis has started, it was not purely imported. Europeans with certain Schadenfreunde, you know this nice German expression, Schadenfreunde, where at the beginning they were saying, look, it is the US, but not us. The US is hurting us. But it turned out that this external shock was magnifying some domestic shocks in some European countries. Those who suffered credit booms, fiscal. It has come with certain delay in Greece, but earlier it was revealed in Britain, Ireland. It was revealed in Spain, Portugal. And it was revealed in the GDP. Because when you have a credit boom, so first credit is growing too fast, spending is growing too fast, and then you have a decline, unavoidably. You cannot do very little to avoid it. And if you do it, you pay the price in the longer run. So you see what it's striking if you compare central and eastern Europe, developed economies that, again, that diversity. I'm not going into details, but let me summarize their diversity. So in developed Europe, I have taken 2008, 2009 together. You see the Greece, Ireland, Italy have suffered the most. And these are countries which have credit booms, spending booms. But in central and eastern Europe, you have the Baltics, extreme declines. Latvia, in one year, almost 20% GDP decline. In two years, more than 10, Lithuania, Estonia, Bulgaria, Ukraine also. Ukraine developed extreme credit boom before 2008. But Poland has, South Africa has slowed down, but not a recession, and I am very happy to get a question why. We're happy to respond, but we leave it aside for the moment, and we go... Now, when you look at some other indicators, you see that countries which have suffered the credit booms have widened their budget deficit very much during the slowdown. And what is striking is that three countries which have now problems, Greece, Portugal, Spain, have engaged in extremely aggressive fiscal stimulus in 2008 and 2009, and I'm afraid they were encouraged by the IMF, because fiscal stimulus was in the mode. It was very fashionable without consequences, extremely. And another striking observation is that the degree of fiscal stimulus was not related to the death of the recession. Meaning that some countries which have very little stimulus and other countries have an extremely large stimulus with the same recession. It's very interesting to compare say Britain and Germany. The same slowdown, Britain has engaged in an aggressive fiscal stimulus. I remember Gordon Brown was praised as a working leader in this stimulating economy. Then I was strangled with fiscal problems. While Germany was much less modisciplined. So I engaged much less in fiscal stimulus. Okay. Now, let me skip this what has happened. I only summarized this part of my short introduction saying that, and repeating that countries which have engaged in aggressive booms, which have experienced booms, suffer more problems than countries which have less spending booms under fiscal or private credit booms. And one, two observations are unemployment. There is no unemployment has such everywhere. But the increase in unemployment is not related to the recession. So you have the same recession in 2000 and 2009 in Britain and Spain. But the increase in unemployment in Spain is twice as high as in Britain. So other factors matter and these other factors include flexibility of labor markets. You have rigid market market. You cannot reduce wages and the reaction of the economy to the negative short demand shock is dismissing people. And on inflation, what is striking at least to me a former and old fashioned central banker is that even despite a pretty strong slowdown, there was no deflation. No deflation in the US. There's a lot of talk of deflation in the US. I think it's deflation square in the US. But no deflation. That's the first point. The second point is that it appears that the search in inflation is more than the search in GDP. When there is a recovery, in other words, the recovery in inflation is stronger than the recovery in GDP. And this is very visible in the world reader in the quantitative easing which is not the US, but Britain. In Britain you have very low interest rates, huge quantitative easing which simply means central bank is printing money. And inflation in Britain has exceeded 5%. This is not a very interesting story what would be the consequences of a great monetary experiment stimulated by fat and some other central banks. But I leave it to debate. Okay. Now, one interesting indicator is the reaction of financial markets to the fiscal crisis. And you see a divergence in developed Europe. Countries which have maintained reasonable fiscal discipline enjoy low interest rates. Countries which have engaged in fiscal or credit booms and all have displayed lack of fiscal discipline like Greece or Portugal, Ottosamics and Italy have their interest rates going up. Which means that financial markets may be short-sighted, but they are not completely stupid. And they distinguish between countries and corporations. Very imperfectly, but probably better than the government. And here what is striking, I'm going to come to that, in Central and Eastern Europe the tendency is for interest rates to go down. Now, let me come to the last point. So you see the divergence in Europe including developed Europe. And here are some problems which I think are important in discussing. Question of the Eurozone. Macroeconomic developments I've mentioned before. So the divergence in the reason of discipline, let me repeat, in Finland, Austria, Netherlands, Germany, on the one hand lack of discipline in Greece, Portugal, in spending discipline. Spain, in the intermediate region or perhaps Italy would be the second and the first group. But let me discuss, this is a mention of institutional developments. It's a long story which is cut short. So, first you might remember that the final decision to start the Eurozone was started late 90s and there was an original sin which was committed. Countries which did not qualify were admitted for political reasons. Meaning that countries which have widely surpassed that ceiling of 60% were admitted. Italy, Greece and Belgium. By the way, Belgium is doing better than Italy. And this was the first problem. The second problem, a very important part of the Euro package was stability and growth pack which was international treaty signed by every country. And this international treaty prohibited budgets which would bring the budget deficit about 3%. Budget were expected to be in balance over the longer run and public debt was expected not to exceed 60%. This was an international obligation. What has happened? Well, divergence. Some countries have stuck to it like Austria, Finland etc. Some have violated it but the real problem was that France and Germany have violated it. And then what they did they changed the rules of the club. They modified it which meant that the rules remained on paper. It is overlooked and this is number 3 that ECB European Central Bank was sort of subsidizing weaker countries. Because it was charging them the same interest rates for liquidated operations. It did not distinguish between credit risk of various countries. And of course it continues now on the massive scale. Okay. Now problems but the first 10 years of Euro were very successful. It was regarded as successful because these were good times. And let me praise Martin Feldstein who warned before Euro was launched that the real test for Euro would be difficult times. And we have now difficult times. So these difficult times were starting in the public revelation what is the true Greece budget deficit. It was supposed to not exceed I think 4%, it was more than 10%. 2009 and some people inside say everybody knew it was the fact. And then it started the debate in the Eurozone what to do and this debate lasted for 4 months. And I remember that the debate was whether the IMF should be admitted to assist which even at that time seemed to be absurd. Because it was no problem when IMF was assisting Hungary or Latvia. But to assist if IMF was assisting Greece, some people said it would be un-European. Very strange explanation, not European. This is the European problem it should be European solution so they are waiting for a month. And finally under pressure of circumstances in May last year there was a package that IMF was admitted allowed to assist then there was a creation of extra provisional sort of European IMF financial which now has 440 billion dollars to extend to offer conditional crisis lending and now the special is to expand this. Then in turn out this assistance was turned out offered to these countries were introduced to accept Ireland and Portugal and then in this year we have discussions about modifications on the bailouts including today's discussions and the focus is on the bailout on the bailing out potential which brings me to more fundamental problems I think. Now if you have a crisis so fiscal crisis economic crisis there are two kinds of operations the first crack type is usually called crisis management by definition it includes measures aiming and reducing the magnitude of the crisis. They do not always reach their goal you should not confuse declarations with true effects for example not every fiscal stimulus improves the situation even though fiscal stimulus is regarded as a most important manifestation of crisis management so crisis and crisis management I would divide it into two kinds of operations now is crisis lending so we extend crisis markets do not offer loans or credits add sufficient low interest rates so you have official lenders one is IMF another one would be the European Union or you create special lenders it is usually called bailed out it is not transfers because these are not grants expectation is that these crisis loans would be repaid and the true problem would begin in Europe if the crisis loans would not be repaid until now there are loans or guarantees and it is easily to notice that focus is on that how big will be the bailout fund it is like firefighting do we have enough firefighting potential but there is a second question what about cutting off the gasoline why financial markets are so worried there is a credibility problem so we are worried that what they lent would not be repaid so the second kind of crisis management is to introduce measures which would restore the confidence in the markets but words are not enough actions and this is why Berlusconi is so pressed by other sinners including Sharcozy and also Germany to do something have you noticed this in the media Berlusconi must do reforms why to restore the confidence of the markets so two types of crisis management and then you have crisis prevention meaning measures which will reduce the risk of a very serious crisis and this includes various reforms which I am coming to discuss a bit later very briefly and to some extent this adjustment under 1.2 and crisis prevention overlap for example if you want to reduce the perception of risks in the financial markets you should introduce reforms which would strengthen the supply side without halting the demand side so demand is not falling supply is strengthening what is the crucial measure here rising retirement age because you increase labor supply without halting spending so all countries under pressure all European countries under pressure are doing what is long overdue rising retirement in the US you have the same but it goes without government decrees people who have funded systems pension systems find out that they have much less money than they expected so what they are doing they are keeping on working so it is an automatic adjustment of retirement age ok now let me I think that there is too much focus on crisis lending which is understandable because you see this pressure and not enough focus on adjustment which would restore confidence of the markets and would strengthen longer economic growth etc etc but while the ultimate solution is not in crisis lending it might be indispensable on the same situation if you have a delay so you have to do something but the ultimate solution is on restoring confidence of markets and economic growth via appropriate measures have to include retirement age and by the way no amount of crisis lending can save Italy because Italy is the third largest the Italy's public that is the third largest in the world after after of course the United States and Japan but let me while discussing Italy's debt the stress is on the banks have you noticed the banks what is going to happen to banks who own Italian bonds as though banks were only the only creditors but it's not the case banks are not the most important creditors of Italian debt or the Greek debt other institutions are more important pension funds or individual citizens but somehow it's not much worry about them the worry is about the banks to some extent because it is it is believed that banks are special banks are special to some extent they are special but perhaps they are not so special ok now now in discussing problems of the eurozone and going beyond the current firefighting a big deeper I should distinguish between two kinds problems which exist in the eurozone but are not caused by the eurozone are not due to the eurozone in other way they would be present without eurozone for example the fact that the largest European banks especially the French ones have little capital in relation to assets it's a complication it's a problem of the in the eurozone but it is not caused by the eurozone you see the differences and second there may be certain problems which exist in the eurozone and are caused by the eurozone related to the essence of the eurozone and what are these problems if there are any problems and I am coming to the conventional interpretations I consider to be conventional interpretations which does not mean they are not true maybe it may not be true but certainly I have noticed that those who maintain that there are certain fundamental problems of the eurozone say first that one monetary policy cannot fit all so if you have many countries you should have many different monetary policies and second conventional interpretation is that eurozone is an experiment which means it's very risky because it is a currency union without a political union and I found this interpretation one thing first I am not saying they are complete there is no grain of truth but they are exaggerated on the first the main argument for those who say if you have every country should have a separate currency the main argument is that in case of problems you have to be able to devalue your currency to appreciate so basically I say you have to have flexible rate of exchange but there is a huge debate about the virtue of fixed versus flexible rate of exchange including very hard packs and you cannot say on the basis of empirical literature that hard packs are always worse and there are some success stories which countries are success stories in the eurozone beyond Germany those countries which have had hard pack to Deutsche Mark Austria, Netherlands, etc there are an experience of hard packs in the past which are called currency boats and I am going to show you the adjustment without devaluation comparing what I could be it is intriguing language Bulgaria, Lithuania Latvia and Estonia and Pix, Pix is much better known which is Portugal Ireland, Italy, Greece and what else as is Spain but the second cliche is that you need a currency union without a political union this risk or unsustainable and here the basic problem is that those crucial terms are not clear what is currency union and what is political union in the strictest interpretation currency union is taken to mean a nominally different currency by name, you distinguish by name so a dollar, a fund a franc, etc and in a conventional interpretation political union means a state a single state and then people say Eurozone is not like the United States so Eurozone cannot survive but is it true is it convincing you may first let me notice that you may have states which cannot maintain a good money Argentina so to having a single state having a currency having a single state is not a sufficient conditions for having a good money yes but is it necessary condition well this depends in turn how you interpret a word currency currency union as I said the conventional interpretation is you have different names but there is an economic interpretation which includes other situations and economic interpretation is a group of currency which are linked by hard packs you cannot devalue they maintain the same value with respect to each other this is one currency in fact and what is the experience well not completely catastrophic you have an experience of currency balls I am coming to but you have experience of gold standard which lasted this was hard these were hard packs and this lasted for over 50 years it was abolished not because of economic collapse but because of political catastrophe it was the first world war so there are certain counterfactuals and I would maintain that it is a mistake to say that the only model for the eurozone is the United States and it is more reasonable to say a feasible model for the eurozone is sort of hard pack area and then to inquire what is necessary what are the conditions for success and whether these conditions for success are likely to be met in the eurozone if not then you can say no it cannot be and finally let me mention that if you think about the meaning of the expression political union from the point of view of currency union what is relevant then you see two things first that members of the political union meaning regions should have a limited fiscal sovereignty they should not have freedom to expand their fiscal budget deficits otherwise you have Argentina for the provinces and to limit the fiscal sovereignty of the members of the eurozone was one of the purposes of growth and stability pack but it was violated but it was foreseen as a condition second point is that nowadays we think that a federal would have a large budget yes so if you don't have a large federal budget that you cannot be recognized as a one state on that issue I would say Europe is not going to have a large federal budget common budget in the foreseeable future the common budget of Europe Europeans 1% and it's unlikely that it would grow in the foreseeable future for the simple fact that in order to have a large common budget you have to have enough common identity and there is no European identity and you cannot decree European identity it is a longer term process and if you try to impose excessive transfers across regions or countries you risk political backlash even within a single country look what has happened between north and south Italy so there are constant transfers from the north to the south and you have to have a part in the north which requires demand separation what has happened but in west and east Germany there is a dosage so one has to be very careful but a more important point is that I don't think a large common budget is necessary to maintain the eurozone because the lack of such a budget was not a reason for the present crisis the reason for the present crisis is the lack of discipline so I would maintain that one should rather look at the conditions of proper functioning of currency union with separate states and see what are these conditions whether they can be fulfilled and I will end by this is taken from one of my recent publications what would be these conditions but first let me show a crucial difference between adjustment in B and PICS first of all let me this is much better as you can see Ireland should be added they didn't have data Ireland has performed quite well unique labor costs have been reduced in Ireland so Ireland is adjusting much better than Portugal agrees but if you look at central and eastern Europe they are almost in the eurozone because they have euro-based currency bolts so they cannot devalue so they are adjusting much better than on average second there have been much lower public debt and they are not expanding public debt so much as Greece third they are taming budget deficits in central and eastern Europe and this is not the case in PICS the same goes for the public spending current account deficit that's amazing you have very high budget deficit in Greece all the time despite all the talk about adjustment at the same time you have unbelievable adjustment of current current account deficit in the B in the order of 20% of GDP so why why I am showing this to point out that there is a group of countries which adjusted successfully without nominal devaluation they have been able to reduce spending very much but they are going out they are making a foul shape to recover it they were not assisted by ECB they did not get liquidity assistance countries which get liquidity assistance like Greece have adjusted much less and I think the very important evidence of that is the fact that they maintain very high current account deficits so they are not adjusting very much there is a lot of talk about adjustment Ireland is a different story and now I come if you agree that accept that a proper model for the Eurozone is a group of countries which cannot devalue with respect to each other countries gold standard not with every detail to be sure in that crucial dimension then you have to define what would be the most important reforms necessary to maintain the Eurozone and I think there are three kind of measures first of all to avoid prosyclicality that's the economic jargon boom and bust reduce that strength and long-term economic growth that matters for countries which have large debt to GDP and third flexibility of the economy especially of the labour markets and each of these points can be developed I can come to that later if you like me to and some of these points have been long mentioned that's nothing new that's not revolutionary as far as pointing out one has to be implement this so I would say Europe has a future Europe that's my final conclusion Europe will survive first second I think that the poorer Europe will continue to catch up which means doing more reforms in western Europe and you can prove that reforms means more growth in the long run that's a very strong empirical evidence third I do not I don't think there's enough evidence to say that Eurozone is doomed to collapse I think it can survive if proper reforms are implemented and one good thing after this, after a bad thing which is the crisis reforms which were unheard of in Greece or in Portugal or in Spain have been implemented because of the pressure of the markets the pressure of the markets is much stronger than the peer pressure of other politicians thank you very much so we'll have now time for questions if you would come to the microphones and identify yourself briefly and pose the question so others have a chance my name is Peter I'm originally from Poland I was born in 1986 so I remember the time of the reforms 1989 I was 13 so I don't remember exactly everything but it was amazing how just after coming to the US it was amazing how quickly Poland or how much of an example to other countries Poland was after the reforms that were initiated by so thank you for that my question was and also thank you for inviting my question was what role do the market structure play in that because this is focusing a lot on fiscal arithmetic but one of the things we heard from Greece they said we're never going to be Germany we are agricultural slash tourism country and so what's going to be the engine that's going to drive our economy and how do we if you could quickly address the distribution of market sectors in all the countries and how does that play in reviving the economies of countries that are currently in crisis the structure depends on the economic conditions and there has been a tremendous change in structure under market reforms you would never have achieved this beneficial change in structure under the central planning so top down structural policies are usually wrong so if you ask me about what happens to the structure I would have to it depends on what happens to the system and policies you mentioned Greece let me say in Poland in the Polish export we have such a variety no central planner would ever devise it's beyond capacities of saying we are exporting buses and exporting components and the same goes of course for other reform to center European countries so it is the private investment in innovation under competition which creates structural change and if you want to have a structural change so remove private investment innovation and competition and competition is necessary for innovations now what is striking in Greece when you look at the data there is a small country which is closed this you measure is by the ratio of export and import to GDP it's very low much lower than in Czech Republic much lower than in Central and Eastern Europe even lower than Poland and Poland is much larger so which means that they have been maintaining abstracts to competition but normally imports would be growing so somehow so when they remove this they are going to grow because Greeks are very successful entrepreneurs it is not the Greek mentality which has caused these problems if you look at the evolution of the Greek economy you see that 30 years ago they were very successful there was much less public sector and state intervention but something has happened to the political system there was an expansion of the public sector an expansion of trade unions within both political parties and they of course pushed further expansion of the public sector and in Greece under this change things which are completely normal in Central and Eastern Europe for example you can have private universities were banned and a couple of years ago there was a proposal to allow private schools to be set up there were riots in Greece they have very aggressive militant organizations and if you read what Greeks themselves are saying you can understand so it is not mentality it is certain political change which have accentuated the political role actually economic role of militant anti-capitalistic organizations but they can be successful and one more point there is a certain paradox if a country accumulates many distortions then there is more room for reforms which would strengthen growth if a country is already perfect to reform you don't have a room for reforms so of course it was a price which was paid in the past because of these distortions you are much poorer but you can grow faster if you introduce reforms which abolish distortions and this is a chance for Greece Hi, Daniel Halverstam from the law school since the line isn't long maybe I could ask two questions the first is about the government policies that you suggested lay at the heart of all of these problems I wondered whether there seemed to be sort of a deregulatory sense in your accusation government policies of spending of regulation, we need flexible labor markets and so I was wondering when you talked about US government policies that had triggered this of course some of them were Fannie Mae and Freddie Mac giving out free credit but there were also deregulatory policies in the United States that at least some people in the US think are responsible for not making the market and they are very immune to the impending problem similarly if you compare say Germany to the UK in terms of the response after the crisis Germany in some ways Germany's response was in part more heavily governmentally involved in a certain sense through the back door through welfare legislation through social security provisions and through slowing down labor and forcing that as opposed to allowing layoffs of the heavy involvement of the German government plus Germany benefited from the low euro as an export country so I sort of wonder about the UK Germany comparison there so I guess the first question is are there also deregulatory policies that are bad and at the root of this the second question is about whether we need a political union I'm quite happy to hear that we don't need a political union at all to work because I'm quite happy for it all to work but I do have a question about the studies and also something that you said yourself you said at international law or a treaty obligation will never work as strong as the markets work and similarly if you look at studies comparing Argentina and Germany as you I'm sure you well know the argument is that you need an integrated political system so that local politicians are integrated with politicians and so that local politicians will be disciplined because they aspire to central office and that this is sort of a political economy story about integration creating some sort of a market for politics that is union wide and that without that you will never get the local politicians to have the discipline to actually take the interests of the entire system into account so the short line would be you can write growth and stability packs all you like if local politicians will never feel that they have national or central aspirations and that they are integrated with a central political structure those growth and stability packs will never work I would be happy for them to work but so I just wanted to ask that as a question let me start with the third I agree with you I am not saying that growth and stability packet top down approach is sufficient it may be desirable to increase pressure upon the local governments but ultimately whether you preserve fiscal discipline or not it's up to the local population and there is a tendency in every society the modern society it was not the feature of 19th century to expand fiscal for various reasons and when you say expand fiscal it's not a military spending it is a social spending military spending in the US accounts for 5% social spending accounts we call it welfare spending for 25% or so more per percent in every country you have it is the welfare social spending the expansion of which creates if there is an expansion creates fiscal crisis so if you want to limit the state fiscal expansion you need constraints there are two kinds of constraints at the approximate level you need fiscal constitutions what is the most important part of the constitution including the American ones to limit the government not to promise too much so you need fiscal constraints in Poland which are all the best the best part of Polish constitution is that the public debt cannot exceed 60% of GDP and you have some other countries Germany has recently introduced a fiscal constraint on their current fiscal policy that is not enough because you may have introduced you may introduce constitutional constraints but you may then eliminate it so you need a constant vigilance of people who believe in limited government who limit individual responsibility and freedom and this requires a constant effort you have to organize it it is easy to organize groups which demand more it's very easy and it's very emotional because you can always justify it by helping the poor and the weak it's much more difficult to organize groups which will limit the state expansion and the ultimate success of economic growth depends on that the same goes for regulation there is always a talk of excessive regulation because we have a legislative process which produces constant regulation why? because it's not enough monitoring but the state cannot monitor itself so it needs an external monitor which is called civil society an appropriate side part of civil society needs to be strengthened in every country I'm trying to do it in Poland so in Greece and now there is a recognition in European Union that fiscal constraints of constitutional nature are necessary and I think it's correct on your first point I tried to follow empirical literature so financial crisis not only the recent crisis and I found a lot of empirical support for the statement it was accessible low interest rates established by Fed that there were political pressure your housing policies but I haven't found empirical support for the popular statement that it was a deregulation for example, if you let us imagine that you have maintained the separation of investment banking etc. you would have the same very similar effects so it's popular but not convincing empirical this is in response to your and you may find countries which have completed the regulated including Europe but have not suffered financial crisis you have completed the regulated in Poland inter-Czech Republic they have completed the regulated the financial in a sense it's open competition, you have no control of interest rate, no entry and there is no financial crisis so not the regulation if you want to be empirical based so on the third if I understand you probably you focus on my comparison between Germany and Britain yes what I said is that Britain has introduced much more massive fiscal stimulus in 2008 2009 in Germany and that appears that this has contributed to problems of Britain but not United States, not Germany so this is the empirical statement and you can give arguments for that on the fiscal front I just have the data and I was looking at the data so if you compare spending to GDP, now this is the public debt but domestic credit just let me see public spending what you see you see that in UK you have a visible expansion as measured by public debt to GDP in Germany you have a certain reduction but certainly this is not the only factor which shapes economic performance you have in Germany what was very important according to empirical research was that they have dismantled they bargain a wage bargaining system they have very bad wage bargaining system which was sector based so it produces excessive wage pressures which was then spread and they have reformed that under shredder by the way not on the centre right what is called centre left and they went through a period of slow growth of spending including wages which strengthened their competitiveness why countries like Greece have engaged in excessive spending so I don't understand people who blame Germany there are some people who if German bought more then Greece would not be in problems it's a very strange logic and should not blame countries which adjusted they adjusted they avoided the greatest problems they still have a substantial public debt to GDP but as distinct from some other countries they pay attention to that they do not disregard this as a problem my name is Bartek Voda I'm a graduate senior in the EECA department and my question is about you said that using Greece as an example you said that it's not enough to just borrow a bunch of money to deal with a crisis important to have reforms that will restore market confidence in Greece but Greece has done some of that truly draconian measures including cutting minimum wage by a third introducing massive costs to the public sector and it just doesn't seem to be really making a change at least not yet so my question is what more can they do to deal with the crisis right now should they just have the German finance minister come in and take over their finances because it doesn't really seem to be whatever they're doing they're not going to seem to be successful so far so what more can they do that's my question if it was draconian or not it's not enough to read what the newspapers say and listen to the media and see these demonstrators that they say it's draconian and I think one of the best indicators what is draconian or not it's what is happening to current account deficit other finance for a broad or not and there's a very little adjustment let me see Greece 2000 they had well there is adjustment but there's not draconian they had in 2007 a they had minus 14.7 now they have 10 minus 10.5 compared this with really draconian adjustment in central and eastern Europe then you see the difference I have shown in Bulgaria and the Baltics the adjustment here it's an adjustment of less than 5 percentage points of GDP in in the BLE adjustment is in the range of 20 percent of GDP so you should not confuse talk with the facts and remember when you base your judgment on those who protest you are who use across in the streets you don't see those who do not protest so you are falling to acoustic bias victim to acoustic bias so it's very dangerous to generalize it's a bias selection and I recently listened to a talk given by the greek foreign minister I asked what about the greek population etc I hope he was not diplomatic saying that there is a silent majority for adjustment that people realize that their system was rotten that they borrowed the future and now the day of reckoning has come the problem of a political nature would be that perhaps there is not enough ownership of the program they may think it is being imposed by these awful guys from IMF European commission in germany that's maybe and what complicates things is election campaign or 2009 there were two parties campaigning the governing party who was also not very good at policies but was saying we cannot afford more spending social spending passoc who governs was saying so there were promising greeks more of the same and they were election and then they revealed their budget deficit is not 4% by 10% and they have to make a complete U-turn so I guess this may a bit undermine their credibility but perhaps it is a mix on effect take socialist undermine to eliminate socialist policies perhaps I live in Bulgaria and I have for the past 17 years and you praised it for getting its deficits under control but I can say from personal experience that has come at a very high price and in my wife's hometown the municipal government has its fund lines cut that can't pay the bill on my street there are no fewer than four potholes that I can fit my minivan into old people are getting by on a pension of less than $100 a month and the child care system where I was working as a member of the GEO is woefully inadequate do you believe that there is a space for transition into a freer market and austerity that doesn't involve that level of pain on people who are essentially helpless what they are basically saying is how awful is their therapy but you are not comparing this with the effects on not treating the patient I remember the same from Poland in the earlier episode where there are tremendous social costs of reforms you are basically saying the same but they did not compare these costs with the cost of non-reforms it's like you have a patient which suffers from tuberculosis and you are saying well the treatment is awful it's bad etc can you cure him with that penicillin I would say no so I think it's a bias not to compare the costs and here it's quite clear who would give you money where would you get the money from well that's a good question well I think that's a fundamental question whenever you hear there are such costs there are costs I am not denying it but you have to compare consequences and I know I was in Bulgaria you have by the way a very good minister of finance who was one of the top economists in the World Bank really? congratulations he was very good I think he is doing a very good job but of course if you have suffered a boom and then a bust then you have to adjust if you don't have a rich uncle you have rich uncles for a longer time I agree I think my question was is there a way to do this that doesn't involve paying being disproportionately borne by let's say retirees and orphans and more on well I don't know enough to just to engage in one concrete judgment about Bulgaria but at general level you've made a very successful adjustment second, Bulgaria should be congratulated because Bulgaria is distinct from Greece has reduced the public debt in 2000 the year 2000 the public debt to GDP was 70% in 2007 it was 16% a great achievement of successive governments and you should compare yourself with Greece we are neighboring this would strengthen the mood improve the mood in Bulgaria to some extent Dr. Balzerovich I'd like to ask I'm sure you have read about our US Tea Party and the latest on the left the Wall Street group could you comment on whether no let me just finish that question and then you can say no I wanted to say whether you feel that these groups are effective at all in terms of government spending or if you have some other suggestions well I can't know because I haven't done research I only know judging from what I have read that one of the goals of what is called Tea Party movement was to limit government spending at the same time I understand they are not so enthusiastic about doing something about social security but at least they stress this and I can only say I repeat that my reading on political literature is there are many countries which have suffered because of the lack of fiscal discipline I have yet found no single country which would suffer because of excessive fiscal discipline can you find out one country which suffered in the longer time because fiscal discipline was excessive you see there is a clear asymmetry fiscal discipline tends to be the right of lacking discipline because of political factors then you need counter measures that's it if you ask me about what is occupied world street I can only say as a witness I was in San Francisco in the center I was watching the very there is a great variety of finance including the one which I found very interesting down with the Fed which is like Ron Paul abolish the Fed Fed reserve work thank you sir what non-state civic institutions do you consider to be good for stability and how do you expect they would vary between states and between polities within those states first let me make sure that I understood your question first what institution would you consider to be crucial for non-state civic institutions that would be essential for stability I know you mentioned and in fact I share a skepticism for dependence on a central authority but I am curious what you think would necessarily supplant that in civic life other than Rotary Club civil society cannot be created by the state so it has to come from the people if you ask me about how to create civil society it basically takes people who believe in certain ideals and that's very important moral motivation you have to believe in individual responsibility and freedom and that go together and then you have to be good at organization and communication and to gather people I think the best example is the United States even though it still remains something to be done and in countries which suffered socialist you start almost from zero not from zero because certain organizations remain like trade unions and they are not pushing for limited state so you have to be even on another side and then others of course you have to convey certain messages to the public opinion they have to condition they have to be empirically based beyond any proof so they have to be true and second you have to communicate them and this is the key challenge to communicate to broader public which means you can't be boring you have to be interesting so it was mentioned I created a thing that was important 4 years ago to try to influence the public opinion what we are doing we are using comics yes comics is in the schools we are having each year a competition for the best comics why inflation is bad for example etc etc we are getting hundreds of projects and then the best ones are publicized so all kinds of devices to catch attention because you compete for attention speaking of attention the good thing is that we actually have a reception right now to which we are all invited so that we can continue the discussion in a more informal setting let me conclude this formal part by thanking the staff the Weiser center, the Ford school the international policy center for setting all this up and to our speaker thank you