The United States economy finally seems to be climbing out of the deep hole it entered during the global financial crisis. Unfortunately, Europe, the other epicentre of crisis, can't say the same. Unemployment in the euro area is stalled at almost twice the US level, while inflation is far below the official target and outright deflation is a looming risk.
Investors have taken notice: European interest rates have plunged, with German long-term bonds yielding just 0.7 per cent. That's the kind of yield we used to associate with Japanese deflation, and markets are indeed signalling that they expect Europe to experience its own lost decade.
Why is Europe in such dire straits? The conventional wisdom among European policymakers is that we're looking at the price of irresponsibility: Some governments have failed to behave with the prudence a shared currency requires, choosing instead to pander to misguided voters and cling to failed economic doctrines. And if you ask me, this analysis is essentially right, except for one thing: They've got the identity of the bad actors wrong.
For the bad behaviour at the core of Europe's slow-motion disaster isn't coming from Greece, or Italy, or France. It's coming from Germany. I'm not denying that the Greek government behaved irresponsibly before the crisis, or that Italy has a problem with stagnating productivity. But Greece is a small country whose fiscal mess is unique while Italy's long-run problems aren't the source of Europe's deflationary downdraft. If you try to identify countries whose policies were out of line before the crisis, have hurt Europe since then and refuse to learn from experience, everything points to Germany as the worst actor.
Consider, in particular, the comparison between Germany and France. France gets a lot of bad press, with much talk in particular about its supposed loss in competitiveness. Such talk greatly exaggerates the reality; you'd never know from most media reports that France runs only a small trade deficit. Still, to the extent that there is an issue here, where does it come from? Has French competitiveness been eroded by excessive growth in costs and prices? No, not at all. Since the euro came into existence in 1999, France's GDP deflator (the average price of French-produced goods and services) has risen 1.7 per cent per year, while its unit labour costs have risen 1.9 per cent annually. Both numbers are right in line with the European Central Bank's target of slightly under 2 per cent inflation, and similar to what has happened in the US. Germany, on the other hand, is way out of line, with price and labour-cost growth of 1 and 0.5 per cent, respectively.
And it's not just France whose costs are just about where they ought to be. Spain saw rising costs and prices during the housing bubble, but all the excess has been eliminated through years of crushing unemployment and wage restraint. Italian cost growth has arguably been a bit too high, but it's not nearly as far out of line as Germany is on the low side.
In other words, to the extent that there's anything like a competitiveness problem in Europe, it's overwhelmingly caused by Germany's beggar-thy-neighbour policies, which are in effect exporting deflation to its neighbours.
But what about debt? Isn't non-German Europe paying the price for past fiscal irresponsibility? Actually, that's a story about Greece and nobody else. And it's especially wrong in the case of France, which isn't facing a fiscal crisis at all; France can currently borrow long term at a record low interest rate of less than 1 per cent, only slightly above the German rate. Yet European policymakers seem determined to blame the wrong countries and the wrong policies for their plight.
True, the European Commission has floated a plan to stimulate the economy with public investment - but the public outlay is so tiny compared with the problem that the plan is almost a joke. And, meanwhile, the commission is warning France, which has the lowest borrowing costs in its history, that it may face fines for not cutting its budget deficit enough.
What about resolving the problem of too little inflation in Germany? Very aggressive monetary policy might do the trick, but German officials are warning against such policies because they might let debtors off the hook.
What we're seeing, then, is the immensely destructive power of bad ideas. It's not entirely Germany's fault - Germany is a big player in Europe, but it's only able to impose deflationary policies because so much of the European elite has bought into the same false narrative. And you have to wonder what will cause reality to break in.
NEW YORK TIMES