Europe And Austerity Don't Mix

Europe has bought itself time with its E 750 billion bail-out for the euro. But the long-term problem remains.

Most of the European Union is living beyond its means. Government deficits are out of control and public-sector debt is rising. If European governments do not use their new breathing space to control spending, financial markets will get dangerously restless again. Unfortunately, European voters and politicians are simply unprepared for the age of austerity that lies ahead.

I used to think Europe had got it right. Let the US be a military superpower; let China be an economic superpower -- Europe would be the lifestyle superpower. The days when European empires dominated the globe had gone. But that was just fine. Europe could still be the place with the most beautiful cities, the best food and wine, the richest cultural history, the longest holidays, the best football and cricket teams. Life for most ordinary Europeans has never been more comfortable.

It was a great strategy. But there was one big flaw in it. Europe cannot afford its comfortable retirement.

Greece's financial crisis is, unfortunately, an extreme example of a broader European problem. Investors have been looking nervously at debt-levels and budget deficits in Spain, Portugal and Ireland for months. But even Europe's big four -- Britain, France, Italy and Germany -- are hardly immune from concern. Italy's public debt is about 115 per cent of gross domestic product. some 20 per cent of this needs to be rolled over during the course of 2010. Britain is currently running a budget-deficit of nearly 12 per cent of GDP, one of the largest in Europe. George Osborne, who is likely to end up as chancellor of the exchequer in the new government, has described Britain's official economic forecasts as a "work of fiction". The French government has not produced a balanced budget for more than 30 years. And one of the reasons for the deep bitterness in Germany at bailing out Greece, is the knowledge that Germany is already struggling to balance its own books.

It is true that the citizens of Latvia and Ireland have already swallowed actual cuts in wages and pensions. But these are both countries that have experienced real poverty in living memory, followed by massive and unsustainable booms. They know that the last few years have been a bit unreal.

As the riots on the streets of Athens illustrate, however, not all Europeans will react so stoically to deep cuts in spending. Many have come to regard early retirement, free public healthcare and generous unemployment benefits, as fundamental rights. They stopped asking, a long time ago, how these things were paid for. it is this sense of entitlement that makes reform so very difficult. As the British election has just amply illustrated, politicians are extremely reluctant to confront voters with the harsh choices that need to be made.

Yet if Europeans do not accept austerity now, they will eventually be faced with something far more shocking -- soverign debt-defaults and collapsing banks. For many Europeans that is the kind of thing that only happens in Latin America. The discovery that Latin Europe -- and maybe northern Europe, too -- can also hit the financial wall will come as a horrible shock.

The growth in the size and power of the EU has fed a dangerous sense of complacency. for the countries of southern and central Europe -- who joinced later than the inner core -- "Brussels" was sold as the ultimate insurance policy. Once they were inside the EU, it was felt that war, dictatorship and poverty were safely consigned to the past. Everybody could aspire to the relatively comfortable, stable lives of the French and the Germans. For many years, it worked beautifully -- as living standards shot up in countries such as Spain, Greece and Poland.

In recent years, European unity has also been marketed as an insurance policy for the founder members of the Union. Both President Sarkozy of France and Angela Merkel, the German chancellor, speak of a Europe that "protects". The idea was that a Union that spanned 27 nations was large enough to protect a unique European social model from the uncertainties of globalisation.

At the most fundamental level, the EU does indeed protect. But while Europeans no longer fear foreign armies, they are starting to fear foreign bondholders. Europe's existence as a "lifestyle superpower" has depended on an ample supply of credit.

This weekend's bail-out essentially extends one last, massive credit-line to those European governments that might need it. But, for all the talk of pan-European solidarity, once cost of this credit-line will be a sharp increase in political tensions with the EU. There is already much bitter talk in Greece about the loss of national sovereignty; matched only by bitter talk in Germany about the costs of bailing out feckless southern Europeans. This crisis has set two peoples against each other as close as it comes to war in modern Europe.

Let us hope so.

But Europeans are discovering that the "European project" provides no protection against the harshness of the outside world. Things can still go badly wrong -- even within the walled garden of the European Union.