Financial Times

Nonsense on wheels

The FT has published my letter demolishing the nonsense argument by Jason Cummins and the Trump administration that EU VAT gives European exporters an unfair trade advantage.

Cummins claims that it is unfair that BMW does not pay EU VAT on its exports to the US, whereas General Motors must pay VAT on its exports to the EU.

But BMW cars sold in Europe face exactly the same VAT rate as GM ones exported from the US.

Similarly, BMWs and Cadillacs sold in the US face identical state and local sales taxes, and neither pay EU VAT on their US sales.

Cummins ignores the true lack of reciprocity: that the EU levies a 10 per cent tariff on car imports whereas the US levies 2.5 per cent on cars and 25 per cent on light trucks. Equalising all of those at 2.5 per cent would make sense.

Regrettably, Trump has instead announced a 25 per cent tariff on all car imports from April 3. That is “unfair” and “discriminatory”, not EU VAT.

Great review of Them and Us in today’s FT

“A full-throated defence of open borders and freedom of movement could easily feel too late at a time when Home Office officials looked at shipping asylum seekers to distant islands. Legrain’s work is anything but: it makes a solid rebuttal against the polemics of anti-immigrant talking heads with an unabashedly positive case for immigration grounded in facts, and ends with practical advice for resistance.”

Thank you, Siddharth Venkataramakrishnan.

Read the review in full.

Read more about Them and Us.

Quoted in the FT on eurozone growth

“The eurozone’s trend rate of growth is very low due to poor productivity and dismal demography, so cyclical downturns easily lead to stagnation,” said Philippe Legrain, visiting senior fellow at the London School of Economics. “In addition, monetary policy can’t do much more, while fiscal stimulus is likely to be too little, too late.”

Read the full piece.

The least-bad Brexit option may be the Jersey model

Britain still hasn’t decided what kind of post-Brexit trading relationship it wants with the EU. If the government insists on controlling EU migration, the Norway model is out. So what about remaining in a customs union with the EU? Contrary to what is often claimed, that would not avert the introduction of customs controls at Dover or in Ireland. That would require staying in a single market in goods too: the Jersey model. The only other alternative is a special status for Northern Ireland. My latest for CapX argues that given these political constraints the Jersey model may be the least-bad Brexit option.

The piece was quoted in the FT’s Brexit Briefing and Brussels Briefing. Thanks.

Quoted in the FT on how refugees contribute to the economy

Philippe Legrain, senior visiting fellow at the London School of Economics’ European Institute, said: “Welcoming refugees is an investment that can pay dividends as soon as they start working. With demand [in the eurozone economy] depressed, additional spending on refugees acts like a small fiscal stimulus. Looking forward, refugees boost the labour supply, and hence growth.”

Read the full article here

Quoted by Wolfgang Münchau in the FT

This brings me to a wider point about political integration, as raised by economist and author Philippe Legrain: that the last thing the EU needs is ever-closer union. What makes this anti-integration argument so intriguing is that its proponent is pro-European.

Mr Legrain’s argument is that the political integration on offer is of the wrong kind, and thus deserves to be rejected. It is not the Keynesian fiscal union, preferred in France in particular, but the German variety. When the Germans talk about fiscal union, they mean rule enforcement, not macro­economic stabilisation, eurobonds, de­posit insurance or fiscal backstops. I would agree with his overall conclusion — that if this is the kind of integration on offer, it is better simply to say no and stick with the present system.

A good example of why the present system may be preferable to a bad fiscal union is Italy’s 2016 budget. It includes a much higher deficit than would have been the case under a rigid enforcement of the various fiscal rules because the European Commission interprets the rules more flexibly than before. This flexibility allows Italy to accompany its relative weak economic recovery with moderate fiscal expansion, which seems more or less appropriate. Under a German-style fiscal union regime, it would not have been able to do so.

The debate about the future of Europe and the eurozone thus forks out in more than two directions. It is not just about pro or anti, leave or stay, but about the kind and degree of integration we want. There is a multitude of options — and for now no minimalist consensus behind any of them.

Read his FT piece here

 

Quoted in the FT on the ECB

“Throughout the crisis we’ve seen the ECB change its rules when it wants to. Clearly politics come into it,” said Philippe Legrain, ‎a visiting senior fellow at the European Institute at the London School of Economics. “Trichet’s letter to Ireland goes well beyond what a central bank should be doing. It’s blackmail basically.”

Read the full article by Claire Jones here

Would the ECB really pull the plug on Greece?

I’m quoted by Claire Jones in the FT in her piece on whether the ECB might pull the plug on Greece.

“This is a game of chicken. The ECB is clearly applying pressure on Greece,” said Philippe Legrain, a visiting senior fellow at the London School of Economics’ European Institute.

“I’d be very surprised if Mr Draghi wanted to put himself on the front line,” Mr Legrain said. “I very much doubt that an unelected central banker wants to be the person who risks blowing up their own currency. What’s in it for him in being the fall guy?”

European Spring is among the FT’s Best Books of 2014

European Spring has been selected as among the Financial Times’ Best Books of 2014.

Martin Wolf wrote:

This is a splendid book on the European malaise. Legrain argues compellingly that policy makers’ response to that crisis was and remains a disaster. He warns that the eurozone is still far from healthy and that the German example, which members are supposed to follow, is a delusion. He notes, too, that the UK’s recovery is built on sand.

Thank you!

Quoted twice in FT on eurozone bank whitewash

Philippe Legrain, an economist and former adviser to then European Commission president José Manuel Barroso, described the tests as a “whitewash”.

“The ECB singles out less important banks in less important countries and gives the German banks a clear bill of health,” Mr Legrain said.

Read more here http://m.ft.com/intl/cms/s/0/5bdcfe20-5cfc-11e4-9753-00144feabdc0.html

Others were less convinced by the outcome of the tests, however. Philippe Legrain, an economist and former EC adviser, said: “It’s ludicrous that there is only a capital shortfall of €9.5bn. The ECB singles out less important banks in less important countries and gives the German banks a clear bill of health.”

Read more here http://m.ft.com/intl/cms/s/0/42fe9b80-5d0f-11e4-873e-00144feabdc0.html

” A splendid book on Europe’s malaise” – Martin Wolf on European Spring

In the Financial Times‘ Summer Reading list of best books of 2014 so far, Martin Wolf calls European Spring:

A splendid book on the European malaise. Legrain argues compellingly that policy makers’ response to that crisis was and remains a disaster. He warns that the eurozone is still far from healthy and that the German example, which members are supposed to follow, is a delusion. He notes, too, that the UK’s recovery is built on sand. He goes well beyond this to show that radical reforms are needed to produce an “adaptable, dynamic and decent” Europe.

Thank you.

“Essential reading”: the FT review of European Spring

In his review of European Spring in the Financial Times, Ferdinando Giugliano writes:

His book is a well-informed and blistering critique of errors made by European policy makers since Greece revealed the extent of its fiscal woes in 2009-10. It is essential reading for those who wonder how an economic powerhouse managed to stumble into a sovereign debt crisis that ended up threatening its very existence.

Thank you.

Investors are ignoring eurozone risks

Markets awash with liquidity can both conceal and exacerbate underlying economic problems and long-term solvency issues. Investors and policy makers in the eurozone ought to have learnt that lesson from the pre-crisis bubble years. Instead they have both swung from blind panic to short-sighted complacency within less than two years.

But the crisis in the eurozone is far from over and markets are pinning too much hope on the European Central Bank embarking imminently on quantitative easing.

Sovereign yields in the struggling “periphery” have plunged ever since ECB President Mario Draghi pledged to do “whatever it takes” to save the euro in July 2012.

But while the initial fall in yields from their panicky heights was welcome and justified, the epic rally this year is taking them into bubble territory.

Yes, prospects have improved since a year ago. Southern European economies are no longer reliant on external funding and are finally growing again. But in their hunt for yield, investors are ignoring the risks that remain.

The banking crisis is unresolved. Public debt is still rising. And the recovery remains feeble.

Indeed, with inflation sharply down and prices falling in some parts, nominal GDP growth has scarcely improved. It was minus 1.4 per cent in Ireland and 0.1 per cent in Italy in the year to the fourth quarter of 2013, and 0.3 per cent in Spain in the year to the first quarter of 2014. In effect, the eurozone is relying entirely on achieving and maintaining large primary surpluses for decades to stabilise and bring down debts – a tall order.

At the very least, then, debt dynamics in the “periphery” are precarious. And precisely because the fear of imminent doom has abated, politics in countries with scarily high unemployment and crushing debts could easily become more turbulent.

Yet even with a stagnant, unreformed economy, unstable politics and public debt of 133 per cent of GDP, Italy can now borrow for 10 years at a little over 3 per cent, a euro-era low. So can Spain, for the first time since the bubble era in 2005.

In Ireland, 10-year yields have plunged to a mere 2.89 per cent, only 20 basis points above US Treasuries. Yet the economy tanked in the fourth quarter of last year, it has debts of more than 150 per cent of GNP (adjusted for profits booked there for tax purposes), and it emerged from its EU-International Monetary Fund programme only last December.

Junk-rated Portuguese 10-year bonds yield less than the 4 per cent offered by triple-A rated Australian ones.

Even an insolvent Greece, which restructured its privately held debt only two years ago, owes a mountain more to the EU and the IMF and is still reliant on their funding, recently tapped markets for five years at a mere 4.95 per cent. Since Greece’s public debt – 172 per cent of GDP and rising – remains unsustainably large, investors are in effect gambling that the government will prioritise repaying them and eurozone authorities will be willing to grant Greece some form of debt relief.

Or you could lend to triple-A rated New Zealand for five years and get 4.2 per cent.

Sentiment can turn quickly. Witness the whiplash emerging markets suffered when the US Federal Reserve announced its quantitative easing taper last year, and again when the taper began. While the prospect of tighter US monetary policy may eventually weaken the euro against the dollar, it also presages higher global interest rates, a big negative for the debt-laden eurozone.

So what? The ECB is about to launch its own QE programme and inflate bond prices. Not so fast. So far, all the ECB has done is try to talk the euro down. Any further loosening is more likely to take the form of a negative deposit rate than QE. Remember that Germans are happy with their inflation at 0.9 per cent. They, and many others at the ECB, tend to see falling prices in southern Europe not as a problem but part of the necessary adjustment process.

Frankfurt will also be reluctant to embark on another experimental policy so soon after the German Constitutional Court ruled its Outright Monetary Transactions illegal. With the ECB still engaged in its asset-quality review of eurozone banks, QE also seems premature and of dubious benefit. And the more markets rally in anticipation of QE, the more likely the ECB is to delay, in the hope that the bond-market bubble will spill over into stronger economic growth.

While the sun shines, governments should rush to pre-fund their borrowing needs. But investors ought to be warier of the looming storm clouds – as should eurozone policy makers, who have yet again prematurely declared victory.

Don’t blame the euro for Ireland’s mess

Sceptics of the euro see the Irish crisis as proof of the single currency’s folly. But while the eurozone needs reform, the notion that the euro is to blame for Ireland’s travails is simplistic.

Even many euro supporters now regret that in the boom years the currency permitted huge capital flows from Germany and other surplus countries to Spain, Portugal, Greece, and Ireland. These imbalances, conventional wisdom has it, are unhealthy – and the European Union is now drafting rules to limit them.

Yet enabling capital to flow from one member country to another without exchange-rate risk is a key advantage of the euro. If this were possible globally, emerging economies would not feel compelled to amass huge reserves to protect against crises and could be net recipients of investment instead. When integrated financial markets work well, they offer investors higher returns, businesses cheaper finance and a better allocation of capital all around.

The problem is not that savings flowed from Germany to Europe’s periphery. It is that they funded property bubbles rather than productive investment. But the blame for that lies with herd-like investors, flawed banks and foolish governments, not the euro. After all, America, Britain, Iceland and other non-euro countries all had huge property bubbles too.

Granted, joining the euro did slash Irish interest rates, creating cheap borrowing that fuelled the boom. But at a macro level the Irish government could have tightened fiscal policy – in effect, run large budget surpluses. At a micro level, it could also have limited banks’ property lending – through higher, counter-cyclical capital requirements for instance – rather than encouraging it with tax breaks.

Ireland’s property bubble was particularly big. The value of its housing stock quadrupled in the decade to 2006, with construction swelling to an eighth of the economy. The price of a typical Dublin house shot up more than fivefold – and has since nearly halved. Such a property crash is inevitably painful. But it need not have led to a sovereign debt crisis. Ireland’s public debt was only 25 per cent of gross domestic product on the eve of the crisis, the lowest in the eurozone.

The government’s fatal mistake was stepping in to guarantee not just all the depositors of Irish banks but also all their bondholders. Now the bust banks’ huge losses are dragging down the Irish state with them. Had Britain’s recession worsened, the UK government might have ended up in a similar situation.

Only cheap finance from the European Central Bank has kept those bust Irish banks on life-support, until now. Outside the euro, Ireland would doubtless have suffered Iceland’s fate: its currency would have crashed and its central bank would have run short of foreign funds to keep its banks afloat. Far from precipitating the crisis, the euro has given Ireland vital breathing space. More’s the pity that the government has failed to make good use of it.

It is true that, outside the euro, Ireland would now enjoy a weaker currency. That could boost exports, and hence growth. But in very small open economies, devaluations tend to feed through rapidly into inflation, so the competitive boost might not have been that great. In any case, Ireland has already slashed wages and prices to restore competitiveness – in effect, an internal devaluation. And if it wished to cut unit labour costs further, it could reduce its high payroll taxes and replace the revenues with higher value added tax or a tax on land values.

Leaving the euro and reintroducing the punt is certainly not a solution, since Ireland would be incapable of repaying its euro-denominated debts in devalued punts. Nor, on its own, is an EU or International Monetary Fund “bail-out” – in practice, a loan at punitively high interest rates. That would merely postpone the crisis.

Irish taxpayers should not be bled dry to pay off investors – among them, European banks and American hedge funds – who gambled on lending to Irish banks. Instead those creditors should take a haircut, via a debt restructuring with the EU or IMF providing a bridging loan until Ireland has fixed its budget deficit. Ironically, it is Germany’s proposal that bondholders should lose out in future that brought this crisis to a head. It is such a good idea that it should be implemented now.

Tax land or carbon emissions, but not hard work

With Britain’s £167bn ($257bn) budget deficit looming, tax is becoming a key election battleground. Businesspeople are rallying to the Conservativesafter they pledged to cancel most of the government’s planned rise in national insurance contributions (NICs). Labour blasts that the Tories’ unfunded “tax cut” will have to be paid for through an “unfair” rise in VAT. Liberal Democrats concede that raising NICs would be damaging, but argue that a “credible” prospective government could not afford to reverse it. Are any of them right – or might there be better ways of raising revenue?

None of the parties have spelled out how they would cut the deficit. Since their various proposals will scarcely dent it, whoever wins the election will have to implement further tax rises and spending cuts.

Is raising NICs a good first step, though? Hardly. With unemployment high and incomes squeezed, it is staggering that Labour wants to raise taxes on labour. Hitting ordinary voters’ main source of income is hardly progressive. Worse, it will harm the recovery by raising the cost of labour and penalising effort. That will crimp pay, cost jobs and discourage working – limiting the tax take and raising benefit spending.

NICs and income tax inflate the cost of employing the average worker by half, according to the OECD, while a single person on two-thirds of average wages faces a marginal tax rate of more than 40 per cent. Hiking taxes on hard work is perverse.

While the Conservatives are right to oppose a “tax on jobs”, Labour and the Lib Dems are right to question George Osborne’s scarcely credible claim that nebulous “efficiency savings” will cover the revenue shortfall. But that does not make rescinding the NIC rise “unaffordable”. It just means the parties need to find better ways to raise extra revenue. Here are three.

First, tax harmful things, such as carbon emissions. A levy of little more than £10 a tonne could fill the £5.6bn gap left by the Tories’ rescinding of Labour’s 1 per cent NIC rise. Raising the rate as emissions fell would ensure a steady stream of revenue. It would also stimulate clean-tech industries and the green jobs of the future, without picking winners.

Second, bring forward reforms to encourage people to retire later. As the first baby boomers reach 65 this year, they should bear some of the burden of adjustment, while working longer would also replenish savings crushed by the crisis. Raising the retirement age by three months a year for the next 20 years and removing incentives for early retirement and obstacles to working longer would reduce pension outlays, raise tax revenues and boost growth.

Third, introduce a tax on land values. Whereas taxing work is wasteful – less is produced and no tax is raised on the lost output – land is in fixed supply so a tax on it is less harmful (and impossible to avoid). Shifting the tax burden from labour to land would therefore boost economic growth, according to an OECD study.

Taxing land values could also limit property bubbles, which divert funds from productive investment in booms and then cause terrible busts – without discouraging development (unlike property taxes), mobility (unlike stamp duty) or investment (unlike interest rate rises).

It would also be fair. Whatever the merits of capitalism, there is nothing intrinsically desirable about the initial distribution of property rights. Britain’s history is such that land is distributed more unequally than in Brazil. There, 1 per cent of the population owns 49 per cent of the land; here, 0.3 per cent owns 69 per cent.

Land appreciates not through landowners’ striving, but that of others. As talented and industrious people have flocked to London, the value of the 300 acres of fields – now Mayfair and Belgravia – passed down to successive Dukes of Westminster over three centuries, has sky-rocketed to an estimated £6.5bn. Better, surely, to tax that windfall rather than the work of those who generated it? A land tax would also pay for much-needed infrastructure investments that raise surrounding land values.

Replenishing Britain’s public finances will involve painful choices. But it is also a chance to make tax fairer and less harmful to growth. Wise politicians should seize it.

Migrant tax would slash illegal entry into Europe

It is time that Europe’s politicians admitted to voters that governments cannot stop people moving across borders. Despite efforts to build a Fortress Europe, more than a million foreigners bypass its defences each year: some enter covertly; most overstay their visas and work illicitly. While draconian policies do curb migration somewhat, they mostly drive it underground.

Read more

The socialist who can breathe life into free trade

From September 1st, the shaky prospects for freer world trade will rest
on the shoulders of a French socialist. With the World Trade
Organisation’s Doha round deadlocked and little time left to reach
agreement, the new man in charge of the WTO, Pascal Lamy, faces a
daunting challenge. Unless the former European Union trade commissioner
can help break the deadlock and hammer out the outlines of a deal
before trade ministers meet in Hong Kong in December, hopes for a
successful outcome to the Doha round will fade. That would be a
disaster for the world economy and for export-reliant developing
countries in particular.

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No-voters score own goal against Europe

Tony Blair must be thanking his lucky stars. The British prime minister never wanted to fight a referendum campaign on the European Union constitutional treaty that he stood a good chance of losing. Now, thanks to the No votes in France and the Netherlands, it looks like he will be spared the ordeal. When, in April 2004, he caved in to demands for a referendum, it looked like a gamble that would take Europe off the agenda in this year’s election but potentially destroy his premiership shortly thereafter. Now it looks like a stroke of genius. But even so, Mr Blair, and more importantly Britain, will not escape unscathed from the aftermath of the No votes.

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The high cost of resisting the Euro

The government must soon decide. It has pledged to deliver its verdict within six months. As judgment day nears, a consensus is forming. Not yet, the Treasury will opine. Naysayers marshal a battery of arguments. The euro economy is floundering. It can only aspire to Britain’s superior monetary and fiscal arrangements. Why jeopardise the UK’s hard-won economic success by hitching ourselves to such a dodgy venture?

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