European Reform? Get Around Vested Interests First

Euro zone finance ministers are calling talk of a Greek exit from the euro zone simply “propaganda,” even as the market awaits news on whether Greek politicians can agree to form a new government and meet its commitments to the European Union and International Monetary Fund.

European Bank Note
Sabine Scheckel | Image Bank | Getty Images
European Bank Note

Investors think otherwise, as witnessed by losses for the euro, stocks, and peripheral bonds, and gains for De La Rue, the U.K.-listed firm that would probably win the deal to print new Drachmas in the event of Greece leaving the single currency.

With voters across the euro zone beginning to rebel against the EU’s austerity message, some are hoping that economic reform can help revive growth. The problem, according to analysts at Goldman Sachs, is that reform is not easy, and policy makers should not count on quick results.

“Structural reform should not be seen as a panacea. Implementation remains a key challenge,” Huw Pill, chief European economist at Goldman Sachs, said in a research note.

“Vested interests defend their inherited privileges. And it takes time before reforms have their desired effects—time the periphery sadly lacks,” said Pill, who believes some euro zone nations will find it easier than others to reform. “Ireland is in a strong position; Italy looks better placed than Spain; and Portugal faces substantial headwinds.”

Pill believes it would be naïve to assume fiscal consolidation across the euro zone can be replaced by fiscal-led reflation.

“Just as effective fiscal adjustment needs more economic growth, so economic growth needs a coherent plan to re-establish the sustainability of public finances,” he said.

Building such a plan will involve overcoming huge vested interests that benefit from the status quo on employment protection, government jobs and rules making it very difficult to enter certain professions.

“Structural reform does offer a ray of hope for the periphery,” said Pill. “But structural reforms are far from a panacea. Experience demonstrates that structural reform is not an easy way out. On the contrary, structural reforms are typically met with visceral political opposition. While in a country’s self-interest from a collective perspective, sectional politics can intervene and delay.”