Driving headlong into an agequake zone

The EU economy is beginning to look almost normal, or at least large parts of it are. According to the European Commission’s spring economic forecasts, by 2008 the Union will have enjoyed five years of sustained growth, with only 2005 slipping below trend. Unemployment is dropping and employment surging.

In 2007-08, if the forecasts are right, another 5.5 million new jobs will be created and unemployment at the end of the period will be down to 6.5%. This is a far cry from the mid-1990s when unemployment across the EU was at double digit levels and Spain was suffering a jobless rate of almost 20%. Even Finland, the nation which today tops many polls in terms of its entrepreneurial culture and capacity to adjust to globalisation, then endured a peak jobless total of 17%.

But, if you thumb through another recent publication from DG Ecfin, the Commission’s economic and financial affairs department, ‘The long term sustainability of public finances’, the glass looks half empty not half full.

The issue of ‘agequake’, the demographic ageing of the European continent, is not a new one. But its impact is now beginning to be taken much more seriously. This is clear from the DG Ecfin analysis and a new World Bank report ‘From Red to Gray,’ on eastern Europe and the countries of the former Soviet Union, including Russia.

One thing emerges quite clearly from both reports. Malta and Cyprus will, at the EU summit this week get the go-ahead to join the single currency in 2008 and Estonia and Lithuania can expect to join them before too long, so demonstrating that the euroclub is not as exclusive as its critics charge, at least not for smaller eastern European states.

But for some of the larger countries, notably Hungary and the Czech Republic, alongside a myriad of other potential stumbling blocks to early entry, their demographic prospects and the threat these pose to their public finances are yet another big hurdle.

The severity of the ageing problem emerges from the overall analysis. So, for example, without reform, not only will the ratio of EU debt to gross domestic product (GDP) remain above the Maastricht 60% criteria, it could actually soar to 200% by 2050. This unsustainable debt explosion will be driven in part by the costs of public pensions and healthcare, but also by the adverse impact which sharply declining workforces will have on long-term growth rates.

It is not just eastern Europe which will be hit. Portugal, for example, about to take over the EU presidency, could see its debt to GDP ratio hit 528%, Italy and Germany 261% and France and the UK, whose state pension system is threatening to fill the streets with millions of means-tested old beggars unless it is reformed, could have debt to GDP ratios of 239% by 2050. According to the Commission, in this latter group all but Portugal are only classed as "medium risk" in terms of the long-term threat to the sustainability of their public finances. Is this judgement fair, or a political indulgence for the big guys?

Another fascinating disclosure in the report is that, if these western European countries get their act together and hit their medium-term budget objectives of getting debt and deficits down comfortably below the Maastricht targets by 2010, then this speedy action will pay off big time over the next forty years and debt levels will not explode. This is the rationale behind the decision of the Eurogroup in April to strengthen the preventative arm of the Stability and Growth Pact.

But achieving public finance sustainability is, of course, about a lot more than budgetary reform, which is why it will be so challenging for some new member states. Long-term growth more rapid than forecast (which is too easily assumed for central Europe given the scale of economic and institutional restructuring facing some of the region’s countries, notably Poland) would help boost sustainability too.

Net immigration would help, as well, since it would increase the working age populations. But given the reluctance to take in foreigners in some of the new member states it is hard to be optimistic on this score. The emigration of more and more of their better qualified workers to the richer west could become a bigger source of tension as ageing sets in.

The ageing issue can be expected to loom larger in EU debates now that the grey generation is beginning to expand. It may be another factor which, rightly, will make Eurogroup finance ministers and the European Central Bank wary of opening the door too wide to some of the bigger new member states.

It would certainly be wise to let the Polands and Hungarys of this world demonstrate that they can cope both economically and politically with the next global economic downturn and keep up the pressure for reform, before handing them a euro driving licence.

• Stewart Fleming is a freelance journalist based in Brussels.

The EU economy is beginning to look almost normal, or at least large parts of it are. According to the European Commission’s spring economic forecasts, by 2008 the Union will have enjoyed five years of sustained growth, with only 2005 slipping below trend. Unemployment is dropping and employment surging.

• Primary Source