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U.S./EU: America And Euro-Zone Pursuing Widely Different Economic-Growth Strategies

  • Mark Baker

The United States and Europe are pursuing dramatically different policies as they try to revive their flagging economies. In Washington, officials are counting on big tax cuts and low interest rates to stimulate growth. In Brussels, the emphasis is on sound budgets and fiscal discipline. The difference is all the more striking since the problems both face, stagnating growth and rising unemployment, are largely the same. The outcome is of interest to more than just professors of economics. The United States and the European Union are world's two largest economic entities and set the pace for the rest of the world.

Prague, 14 January 2003 (RFE/RL) -- A clash of economic philosophies is taking place between the United States and the European Union as both grapple with how best to restore economic growth and reduce unemployment.

In the United States, traditionally viewed as a haven of free-market capitalism, officials are counting on a massive injection of public funds -- in the form of tax cuts -- to stimulate spending and investment.

The European Union, by contrast, is relying on tight government budgets and sound fiscal policies to revive the flagging euro-zone.

The difference was underscored last week when U.S. President George W. Bush outlined an economic-recovery package built almost entirely on tax cuts. Bush's plan, if approved by Congress, would reduce taxes over 10 years by some $670 billion, despite a sharp increase in the size of the federal budget deficit.

Bush, announcing his plan in Chicago, said it would help revive the economy by giving people more money to spend on goods and services. "Our first challenge is to allow Americans to keep more of their money so they can spend and save and invest -- the millions of individual decisions that support the [stock] market, that support business, and help create jobs," Bush said.

In Europe, the next day, European Economic Commissioner Pedro Solbes set out a very different vision for the euro-zone. Instead of urging member states to increase spending or cut taxes to promote growth, Solbes criticized Germany, France, and Italy for allowing their budget deficits to grow too large.

Germany, which teeters on the verge of recession and has an unemployment rate of more than 10 percent, has had to raise taxes, not lower them, and reduce spending to meet the EU's deficit guidelines.

Analysts say the two approaches reflect deep differences of how best to stimulate growth. Paul Ashworth, an economist at Capital Economics in London, said that in Europe the emphasis is on stability. He said the model is post-World War II Germany, which boomed in an atmosphere of stable prices and interest rates. "They [in Europe] believe that you provide a stable environment and growth takes care of itself, and that's the best way to nurture growth in the long run," Ashworth said.

In the United States, the attitude is more aggressive, with government taking a more active role in boosting demand. Jose-Luis Alzola, an analyst at Salomon Smith-Barney, said: "With a fiscal stimulus that consists of both spending increases and tax cuts, particularly tax cuts, they are trying to put money back into the private sector so that the economy picks up. The economy is expanding at a relatively sub-par pace, so they want to prop up the economy to a higher gear."

The Bush plan is seen by some as a reversal of the successful economic policies of his predecessor in office, Bill Clinton. Clinton placed emphasis on paying down the budget deficits run up under President Ronald Reagan in the 1980s. The United States actually ran budget surpluses in the last years Clinton was in office.

Clinton's policies, at least in part, fueled the enormous economic expansion of the 1990s. With the government no longer borrowing money to finance its operations, interest rates fell and private investment boomed.

Alzola said that while the United States perhaps needs a fiscal stimulus now, the Bush plan is not without risk. "These tax cuts and spending increases, if they become permanent, they [will] have worsened the fiscal outlook for years to come. If you remember a couple of years ago, or even only 18 months ago, everyone in the U.S., the administration, the Congressional Budget Office, a lot of people were talking about fiscal surpluses growing bigger and bigger and eliminating the stock of public debt in a few years' time," Alzola said.

Now, he said, no one thinks that.

The United States and Europe are also pursuing different monetary strategies, although here the gap is not so wide.

The U.S. central bank, the Federal Reserve, has cut dollar interest rates to 40-year lows. The lower rates are part of a conscious policy to stimulate borrowing and spending. Economists say interest rates can remain low as long as inflation stays under control.

The European Central Bank (ECB) so far has resisted cutting euro interest rates to such low levels. The ECB is more focused than the Federal Reserve on inflation, and ECB officials argue that cutting rates too low risks overheating the economy.

The jury is out as to which philosophy will prevail. To the victor will come the spoils, in this case, bragging rights and economic recovery.

The U.S. economy is currently growing faster, but the rising deficit -- now about 3 percent of gross domestic product -- could yet derail that expansion. The consensus in Europe is that recovery may not be as robust as in the United States, but the risk of failure is lower.