Vladislav Inozemtsev: How the EU could wake up from its economic coma and restore Europe's influence in the world

The solution is in front of the member countries - they should grasp it, now

The European Union continues to be plagued by financial crisis arising from fiscal problems inside the eurozone. Economic growth remains stalled (US GDP was 5.7 per cent larger in 2013 compared with 2008, Canada's was 6.3 per cent up, even Russia's grew by 5.3 per cent, while the EU's fell by 0.9 per cent).

Public debt is rising too high and produces no visible results (US government debt grew 4.1 times faster than GDP from 2008 to 2013, while in the EU it went up 7.0 times faster). And although the eurozone is expected to grow in 2014, the combined deficit of its nations' budgets may reach €368bn (£302bn), meaning that the crisis drags on.

It should not be like this: the creation of the euro was one of the most audacious undertakings in global financial history. But two problems loomed from the outset: the eurozone authorities were unable to punish those who mismanaged their finances; and, crucially during an emergency, the EU did not possess its own mechanism for borrowing.

The crisis was caused by some of the member countries' determination to cling to the pre-euro economic model. For 30 years before the introduction of the single currency, Spain, Italy and Greece had high inflation and constantly devalued against the German mark. This allowed the southern European economies to stay competitive, while high inflation encouraged consumer spending and low levels of savings.

After the launch of the euro, growth was spurred by low interest rates that enabled investors in those countries to economise on loan-servicing costs, and the governments to spend and to increase their borrowings. But this situation could last only as long as investors' faith held – and as that belief diminished, the problems mounted.

When the bailout came it was made in the form of a loan to whichever country happened to be in dire straits. Assistance to Ireland reached €84bn, and an extra €163bn has been supplied to Greece. The funds were conditional on government spending cuts.

But the knock-on effect was further depression: the reduction in spending drove down consumer demand, and stricter tax collection also had a negative impact on business. Therefore, the challenge facing the EU is how to overcome the public finance crisis without dramatic cuts in current expenditure? It may seem unsolvable at first glance, but it's not quite so.

Most Western economists argue that the eurozone's problems can be solved using traditional methods – specifically by cutting public spending together with restructuring the debt and arranging for its partial relief. But it's obvious that the drop in spending and the overall economic slowdown causes the threat of deflation (inflation decreased from 2.2 per cent in 2006 to 1.4 per cent in 2012, and was a mere 0.7 per cent year on year in October 2013 and once again in January 2014) and a rise in unemployment (from 9.2 to 11.4 per cent).

This is why an alternative approach is needed. Today, the overall face value of government bonds issued by the eurozone countries is €8.8 trillion, with more than 50 per cent of them maturing before 2020. Almost 68 per cent of those bonds are on the books of EU banks and companies. The European Central Bank could buy most of the securities maturing in the next 5 to 7 years at a minor premium to the current price. The bonds would be purchased on condition governments stopped all public borrowing until 2020, and agreed to create a single EU finance ministry and approve new financial stability criteria.

The impact would be immediate. The purchase of €4.2-4.5 trillion of bonds would spark an explosive increase in money supply and a massive influx of free funds into the banks. This may lead: first, to increased lending to manufacturing; second, to a surge in inflation; third, to higher values for fixed assets, real estate and stocks; and fourth, to sustained low interest rates due to the oversupply of loans.

Soaring inflation (which could reach 3-4 per cent in the first year and 4-6 per cent year on year in the later period) would have a number of consequences. First, the bulk of pension and savings funds would shift from fixed income to equities and real estate, which would allow European markets to pick up and eliminate the commercial and residential estate overhang in southern Europe. Second, people would spend more, and an inevitable decline of the euro would switch this demand from imported goods to domestically made ones. Third, having access to cheap loans, and driven by growing demand, entrepreneurs would be more willing to invest in their businesses, which, in turn, would create jobs and reduce unemployment. Fourth, better economic conditions in the eurozone and the expected growth of asset values would bring more direct investment into Europe from abroad.

All this could accelerate European economic growth from the current near-zero level to 2-3 per cent and, further, to 3.5-4 per cent annually by 2016-2017. Unemployment could return to pre-crisis levels over a period of 3-4 years and drop further, to 5-6 per cent in the eurozone as a whole, and to 1.5-2 per cent in the most successful countries by 2020. This programme would give Europe what it has long needed: significant acceleration of economic growth and stabilisation of the labour market.

Public finances, too, would improve just as much. In 2012, the Italian government spent €78.2bn on servicing the state debt, which made up 13 per cent of its entire budget. France, Spain and Greece spent €50.6bn, €22.3bn, and €17.4bn respectively. This spending would be cut 6 to 8 times.

Since Italy, France, Greece and Spain ran budget deficits of 3.0, 4.8, 9.0 and 10.6 per cent of GDP respectively in 2012, all these countries could achieve a zero-deficit budget in one to two years at most. Moreover, up to 4.7 per cent of budget funds in 2012 were used to support the employment programme and/or unemployment benefits. Halving unemployment alone would help to save at least 2.5 per cent of budget funds, or up to 1.2-1.4 per cent of GDP in the majority of European countries.

Public coffers would grow much more substantially due to the economic upturn, so eurozone countries would achieve a sustainable budget surplus of 2-5 per cent of GDP within two to four years after the start of the proposed measures. And this would allow them to save enough funds in six to eight years to repay their debts to the ECB after the programme expires by 2022-2025.

The impact the bond buy-back would have on external markets and EU exports would be huge. A dramatic increase in supply on the eurozone's money market would improve the terms of borrowing for foreign investors in Europe. The euro may be used more widely as an international borrowing tool, which would guarantee high demand for the EU currency in the future as a loan repayment instrument. In the short term, the euro would fall against leading world currencies, of course, but this is actually a positive development as it would make EU goods more competitive abroad and raise the cost of imports.

Seven to eight years after the start of the programme, the euro would be down 35-40 per cent from today's level. EU countries would run a budget surplus from its second or third year. By 2020-2022, the governments would start paying off bonds on the ECB books, thus indicating that tighter fiscal policies were in store. Investments would go back, from the stock market to fixed-income instruments, the euro would stabilize on the global market, and economic growth would decelerate to 2.5-3 per cent. This journey would not turn the EU into a new economic centre of the world, but it would enable it to overcome structural problems caused by the introduction of a single currency – the right step but taken a bit hastily.

The EU's reputation would be damaged by publicly admitting the mistakes made in the course of the euro's introduction – but that does not matter. The EU made great headway in the past 50 years in closing the productivity gap with the US. It has never devalued its major currency, even while its trading partners did this many times: Mexico in 1994; South Korea, Thailand, Taiwan and Indonesia in 1997; Russia in 1998-1999; Argentina in 2002; and Brazil in 2004. These days, the EU should be more concerned with its own problems than with international reaction, following the US move of 1971 when John Connally, the then Secretary of the Treasury, announcing the dollar was no longer exchanged into gold, famously said: "It's our currency, but it's your problem."

The EU must overcome its financial troubles and restore Europe's influence in the world, to rise up to its historic mission, to wake up from economic coma and to announce a new political agenda. The solution is in front of the member countries – they should grasp it, now.

Vladislav Inozemtsev is an ex-adviser to former Russian President Dmitry Medvedev. He is Director at the Moscow-based Centre for Post-Industrial Research and a Visiting Fellow at the Center for Strategic and International Studies in Washington

Arts & Entertainment
Madonna in her music video for 'Like A Virgin'
music... and other misheard song lyrics
Steven Gerrard had to be talked into adopting a deeper role by his manager, Brendan Rodgers
sportThe city’s fight for justice after Hillsborough is embodied in Steven Gerrard, who's poised to lead his club to a remarkable triumph
Much of the colleges’ land is off-limits to locals in Cambridge, with tight security
educationAnd has the Cambridge I knew turned its back on me?
Waitrose will be bringing in more manned tills
newsOverheard in Waitrose: documenting the chatter in 'Britain's poshest supermarket'
The energy drink MosKa was banned for containing a heavy dose of the popular erectile dysfunction Levitra
People are buying increasing numbers of plants such as lavender to aid the insects
environmentGardeners rally round the endangered bumblebee
Australia's Dylan Tombides competes for the ball with Adal Matar of Kuwait during the AFC U-22 Championship Group C match in January
sportDylan Tombides was diagnosed with testicular cancer in 2011
Arts & Entertainment
Customers browse through Vinyl Junkies record shop in Berwick Street, Soho, London
musicBest exclusives coming to an independent record shop near you this Record Store Day
Ida Beate Loken has been living at the foot of a mountain since May
newsNorwegian gives up home comforts for a cave
indybest10 best gardening gloves
Arts & Entertainment
tvIt might all be getting a bit much, but this is still the some of the finest TV ever made, says Grace Dent
Arts & Entertainment
Comedian Lenny Henry is calling for more regulation to support ethnic actors on TV
tvActor and comedian leads campaign against 'lack of diversity' in British television
Posted at the end of March, this tweeted photo was a week off the end of their Broadway shows
peopleStar to remain in hospital for up to 27 days to get over allergic reaction
Arts & Entertainment
The Honesty Policy is a group of anonymous Muslims who believe that the community needs a space to express itself without shame or judgement
Who makes you happy?
happy listSend your nominations now for the Independent on Sunday Happy List
Have you tried new the Independent Digital Edition iPad app?
Independent Dating

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

1st Line Helpdesk Engineer Apprentice

£150.00 per week: QA Apprenticeships: This company has been providing on site ...

Telesales & Sales Support Apprentice

£221.25 per week: QA Apprenticeships: This company is a well established Inter...

Client Relationship Manager - SQL, Python

£40000 - £50000 per annum: Harrington Starr: Client Relationship Manager - SQL...

**Financial Services Tax**

£35000 - £50000 per annum: Pro-Recruitment Group: Take your chance to join the...

Day In a Page

How I brokered a peace deal with Robert Mugabe: Roy Agyemang reveals the delicate diplomacy needed to get Zimbabwe’s President to sit down with the BBC

How I brokered a peace deal with Robert Mugabe

Roy Agyemang reveals the delicate diplomacy needed to get Zimbabwe’s President to sit down with the BBC
Video of British Muslims dancing to Pharrell Williams's hit Happy attacked as 'sinful'

British Muslims's Happy video attacked as 'sinful'

The four-minute clip by Honesty Policy has had more than 300,000 hits on YouTube
Church of England-raised Michael Williams describes the unexpected joys in learning about his family's Jewish faith

Michael Williams: Do as I do, not as I pray

Church of England-raised Williams describes the unexpected joys in learning about his family's Jewish faith
A History of the First World War in 100 moments: A visit to the Front Line by the Prime Minister's wife

A History of the First World War in 100 moments

A visit to the Front Line by the Prime Minister's wife
Comedian Jenny Collier: 'Sexism I experienced on stand-up circuit should be extinct'

Jenny Collier: 'Sexism on stand-up circuit should be extinct'

The comedian's appearance at a show on the eve of International Women's Day was cancelled because they had "too many women" on the bill
Cannes Film Festival: Ken Loach and Mike Leigh to fight it out for the Palme d'Or

Cannes Film Festival

Ken Loach and Mike Leigh to fight it out for the Palme d'Or
The concept album makes surprise top ten return with neolithic opus from Jethro Tull's Ian Anderson

The concept album makes surprise top ten return

Neolithic opus from Jethro Tull's Ian Anderson is unexpected success
Lichen is the surprise new ingredient on fine-dining menus, thanks to our love of Scandinavian and Indian cuisines

Lichen is surprise new ingredient on fine-dining menus

Emily Jupp discovers how it can give a unique, smoky flavour to our cooking
10 best baking books

10 best baking books

Planning a spot of baking this bank holiday weekend? From old favourites to new releases, here’s ten cookbooks for you
Jury still out on Manchester City boss Manuel Pellegrini

Jury still out on Pellegrini

Draw with Sunderland raises questions over Manchester City manager's ability to motivate and unify his players
Ben Stokes: 'Punching lockers isn't way forward'

Ben Stokes: 'Punching lockers isn't way forward'

The all-rounder has been hailed as future star after Ashes debut but incident in Caribbean added to doubts about discipline. Jon Culley meets a man looking to control his emotions
Mark Johnston: First £1 million jackpot spurs him on

Mark Johnston: First £1 million jackpot spurs him on

The most prize money ever at an All-Weather race day is up for grabs at Lingfield on Friday, and the record-breaking trainer tells Jon Freeman how times have changed
Ricky Gervais: 'People are waiting for me to fail. If you think it's awful, then just don't watch it'

Ricky Gervais: 'People are waiting for me to fail'

As the second series of his divisive sitcom 'Derek' hits screens, the comedian tells James Rampton why he'll never bow to the critics who habitually circle his work
Mad Men series 7, TV review: The suits are still sharp, but Don Draper has lost his edge

Mad Men returns for a final fling

The suits are still sharp, but Don Draper has lost his edge
Google finds a lift into space will never get off the ground as there is no material strong enough for a cable from Earth into orbit

Google finds a lift into space will never get off the ground

Technology giant’s scientists say there is no material strong enough for a cable from Earth into orbit