After four decades, the pandemic and especially the climate crisis have silenced the exponents of fiscal orthodoxy. Keynes is back.
Despite the disappointments of COP26, it’s important to acknowledge the momentum the climate movement has gained. Denialists are in retreat, while all governments are under pressure to strengthen their climate targets and actions. The climate crisis, the pandemic and the outcome of the German elections are all profoundly changing the prospects for European politics. The neoliberal right doesn’t like it but, after four decades in absentia, Keynesian economics is back.
The first big sign came in the summer of last year, when after several months of sharp debate the European Union agreed a €1.8 trillion budgetary and stimulus package, designed to give member states the means to reflate their crisis-struck economies. The seven-year EU budget (€1.1 trillion) and the one-off Next Generation EU programme (€750 billion), inter alia financing the European Green Deal, were strong on ecological and digital transformation.
Next Generation EU will be resourced over the next few years via common debt issuance on the financial markets. This has shattered the fiscal orthodoxy ordoliberal and neoclassical economists had insisted must be sacrosanct. The EU has unequivocally acquired a fiscal capacity.
What is the political significance of this shift? As the economist Jeffrey Sachs crisply expressed it in the Financial Times, ‘I would say the European Commission is carrying out a social democratic programme, not in name … but in spirit.’ To assuage the concerns of the powerful fiscal conservatives, this new capacity was presented as temporary—it was left to the future whether it could become a permanent feature.
Yet it didn’t take long for that debate to begin. This summer, politicians across the political spectrum—the Greek and Spanish prime ministers, Kyriakos Mitsotakis and Pedro Sánchez respectively, and their Italian counterpart, Mario Draghi— promoted the case for a permanent shift. The unsuccessful conservative candidate for the German chancellorship, Armin Laschet, sought meanwhile to cleave to the orthodoxy.
But growing recognition of the climate crisis, reinforced at COP26, has combined with the outcome of the German elections in late September. Leaders of the putative ‘traffic-light’ coalition parties—the social-democratic SPD, the Greens and the liberal Free Democrats—have engaged in protracted negotiations since. They have agreed to make major investments in Germany’s creaking infrastructure and to boost public spending for the green and digital transition.
They are coming under increasing pressure from German business. In a major report published late last month, BDI, the German industry association, said the next government had to act quickly—triggering large-scale, low-carbon investments and setting the right framework to ensure the country would transform its economy to reach climate neutrality by 2045.
The report laid out a comprehensive programme, with a detailed emphasis on the need to make crucial changes within this decade. To reduce greenhouse gas emissions by 65 per cent by 2030, compared with 1990, BDI said additional investments of €100 billion were needed annually.
How can the coalition partners finance such ambitious plans, when they have already promised not to raise taxes or change Germany’s constitutionally-embedded ‘debt brake’ (Schuldenbremse), which severely limits new public debt? One proposal is to use the state bank, KfW, to finance investments, claiming this is off the public balance sheet. But more interesting and novel is a proposal for joint EU borrowing—for example via a European Commission bond programme, similar to that which the EU has launched for the recovery fund.
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The advantages of an EU facility are twofold. First, the EU pays very low interest on common debt, whereas project-specific financing would only come at higher rates. Secondly, this would be a solution also addressing the need for investment in the rest of the EU, as other member states wrestle with the conundrum of reining in rising national debts while investing in climate.
The politicians recognise that it would be of little help for the climate if Germany alone switched to green production technologies. And it would be devastating for Germany’s economy if it were surrounded by countries which couldn’t afford to buy its electric cars and didn’t have the infrastructure to charge its hydrogen trucks.
Such a new borrowing programme would build on the success of the EU’s Recovery and Resilience Facility. It would do what Mitsotakis, Sánchez and Draghi are demanding.
The BDI director general, Joachim Lang, indicated the association was open to the idea of EU borrowing, to help fund the massive public and private investment necessary to meet German and European climate goals. ‘To meet its climate targets, Germany needs additional investment of €860 billion until 2030,’ Lang said. ‘But other EU countries will also need to make similarly large efforts. SPD, Greens and FDP should therefore not discard discussing borrowing and financing at the EU level.’
This shift matters, because the strongest opponent of EU borrowing to date has been the liberal FDP. It has long prided itself on being close to business interests.
The precise outcome of the negotiations on the German coalition programme remains uncertain. Recognition of the depth of the climate emergency is however driving industrialists and centrist politicians down a Keynesian road. The new government is likely to sidestep the debt brake by giving additional leeway to the KfW. But the more dramatic and innovative step would be to call for a new, EU-wide bond programme.
The size and shape of such a programme would of course be crucial issues for EU institutions to determine in the months ahead. But agreement on such a move would confirm that the European Green Deal was no one-off transaction—rather a first step towards Europe adopting Keynesian macroeconomic policies.
The return of social democracy
The tectonic plates are moving. The four decades of hegemony of neoliberalism and the ‘Washington consensus’ are drawing to a close. The peculiarly restrictive German ordoliberal version—pursued by EU institutions at great economic and social cost to southern Europe and immense political cost to the credibility of the European project—could be crumbling too. As Sachs says, these moves herald a return to social democracy.
Three huge questions arise. First, will this shift be driven by social-democratic parties or, more likely, broader coalitions as in Germany? For social democracy to revive, it will have to shed the frugal, austerity outlook which continues to define many northern-European parties.
Secondly, will the orthodox European right embrace the climate-change agenda and accept this green version of the social-market economy? Or will it lapse into the climate denialism of the nationalist right, as in the United States?
Thirdly, can the citizens’ and youth movements which have been so effective in foregrounding the environmental crisis find ways to intervene effectively in this battle? They will have to shed reflex, anti-politics populism and recognise the importance of maximising the potential of the European Green Deal and a follow-up bond programme.
COP26, for all its shortcomings, highlighted that politics is on the move. For progressives, there is all to play for.