Party’s over for Euro welfare state

Pourquoi l'Europe est-elle dans un tel marasme économique?

Some weeks ago, the highest court in Europe ruled that European workers who become ill while on their guaranteed annual four to six weeks of vacation time are legally entitled to take additional vacation time to make up for the sick days.

If one wants to understand why Europe today is in such an economic mess, this ruling is a good example of the sorts of policies that are the cause.

The EU countries have lavish welfare state expenditures and protections for workers, with some countries, such as Greece, being particularly generous with their taxpayers' money. Past politicians recognized that such programs would get them votes and, because the costs of borrowing to pay for them would fall upon future generations, it seemed like a free lunch.

We are living with the result: overspending governments whose accumulated debt looks like it will be increasingly difficult to pay off, leading to investors refusing to buy those governments' bonds, threatening default.

In 2011, the European Union as a whole had a government debt-to-GDP ratio of around 90%, and Greece's ratio was over 165%. These numbers have increased by 25-30% across the EU since 2008. If every euro of value the Greek economy produced was devoted to paying off its debt, it would take 20 months to do so.

The Greek government has struggled to be able to pay back bonds that have come due. It is also trying to get its debtholders to accept partial payment, the way a bankrupt company would. Distrust of their debt has led to skyrocketing interest rates, with Greece paying 13.5% on new debt, which is three times what it paid in 2003. Portugal, Ireland, and Spain face similar scenarios.

Historically, European countries that found themselves with debt the market rejected could try to manage it by getting their own central bank to buy up their bonds. Printing money to cover debt is never a solution. It simply postpones the moment of reckoning and shifts the burden onto those who save and who hold money, by debasing its value. But at least, the existence of national central banks helped contain the crisis within national boundaries instead of inflicting it upon the whole union.

With the advent of the Euro, this option no longer exists. Countries like Greece and Spain can only turn to the European Central Bank or better-off countries like Germany to bail them out. The first round of the Greek bailout involved $145 billion and the European Central Bank has bought $66 billion in Greek bonds. There is more to come. At one point, these bailouts could become more costly than kicking those countries out of the monetary union.

Government programs are not free lunches; they must be paid for. Individual countries within the European Union have expanded their spending on social programs to a point where the costs have outstripped their ability to raise taxes to support them.

Democracies where the public believes it is government's job to ensure their economic well-being, and where governments and courts are ignoring basic economic logic, will always be tempted to spend themselves into unmanageable levels of debt. Debt levels in the U.S. are comparable to those of the EU, and Canada is better but not far behind. What has happened in Europe could easily happen elsewhere.

Michel Kelly-Gagnon est président et directeur général de l'Institut économique de Montréal. Il signe ce texte à titre personnel.
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