Brexit Economics

The Economics Of Brexit And Why We Mustn’t Give In To Fear

Despite the undying persistence of EU technocrats (and their unyielding supporters), it has been obvious for many years that the proposition of a united Europe (without fiscal unity) is fundamentally unworkable. The Werner Report in 1970, as well as the following MacDougall Report in 1977, concluded that a functional European Union could not exist without a federal fiscal policy. A policy which- clearly unsupported by both the French and the Germans- has not taken shape and will not take shape, at least for some time to come. Member states that have ceded their currency sovereignty to the European Central Bank, do not have the means to properly manage their economic affairs. They are the rough equivalent of American states, unable to run up significant deficits, but unlike states or provinces, without a federal government which can use its fiscal power to bail them out. Member states of the Euro Zone have been forced from the beginning to accept harsh limitations on their government spending, preventing them from pursuing the policies necessary for real economic growth. Austerity and decline are irrevocably bound up with the Treaty of Maastricht, the founding of the Union itself, which makes claims that the EU can be reformed at all, dubious at best.

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The monetary constraint of the Euro is essentially a choke hold, even on its most ardent supporters: the Germans. Consistently in the American media, we hear calls to emulate German ingenuity, the German economic model, German fiscal prudence, etc… But, in reality, we have to look at what the country most responsible for the crisis in the Euro Zone has done to counter-productively harm and constrain itself.

Without a flexible exchange rate, the German government (under the leadership of “Third Way” social democrat Gerhard Schrodinger) implemented a series of welfare and labour market reforms known as the Hartz IV which slashed government spending (and wages) in order to reduce inflation pressures (and thereby reduce domestic production costs). Even though this restored the profitability of German firms, it created a dilemma: with stagnant incomes, German workers could not buy back the goods they produced in sufficient quantities.

Unlike in the United States and the United Kingdom where stagnant wages have led to increasing private sector indebtedness, the Germans have pursued a policy of maintaining a trade surplus with the rest of the world- in essence, trading real goods that could be used to raise the living standards of the population, for financial benefits. The surpluses that Germany has run with its European neighbours are their trade deficits, deficits which those neighbours are unable to maintain without pursuing a policy of internal devaluation themselves (slashing social benefits, depressing wages, etc.), which in turn leads to depressed economic outcomes for their populations. This dysfunctional cascade is unsustainable. Hence, the roots of the Euro Zone crisis.

If the Germans (as well as other European nations) maintained their own currencies with a flexible exchange rate, these kinds of problems would not exist. The governments within the current Euro Zone would be able to pursue fiscal and monetary objectives with full autonomy because they would not be forced to maintain the value of a single currency. It’s a similar situation to countries that have pegged their exchange rate to that of another country. Nations with fixed exchange rates can’t run constant trade deficits, as well as large fiscal deficits because this would threaten to destabilize the target exchange rate. And so, nations under this kind of arrangement have to use deflationary measures to maintain their peg, causing unemployment, depressed wages, similar to the effects we see with a single European currency.

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Despite Britain’s wise avoidance of the Euro, they are still constrained by the arrangements of the Maastricht Treaty. The Stability and Growth Pact necessitates that Britain avoid “excessive deficit spending” (maintaining 60% debt to GDP ratio and a deficit under 3% of GDP) and allows the unelected European Council to issue fines and membership penalties (like the refusal of loans from the ECB) if it determines its spending to be excessive. As of right now, the British government has until the fiscal year of 2016/2017 to make the adjustments deemed appropriate by the European Council or face consequences. These asinine and undemocratic restrictions severely impair the British government from meeting what ought to be its legitimate fiscal obligation: ensuring that the public sector runs a deficit appropriate for the private sector’s demand to save. And they will severely impair any kind of attempt to pursue a social-democratic or socialist economic strategy in the coming years (say, if Labour comes to power).

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Those who fear-monger over leaving the European Union simply don’t have economics on their side. The geographic proximity of Britain, as well as its economic stature, would prevent significant changes in relationships with its trading partners and neighbours if a Brexit did occur. Especially considering the high level of imports that it now maintains against other European nations, the United Kingdom would end up as Europe’s largest exporter after leaving, placing significant pressure on surrounding states to maintain good economic relations. The Norwegians, the Swiss, and the Icelanders all have shown that it is possible to exist outside of the European Union while maintaining relatively strong economies. The British could certainly do the same.