Neglecting Demand and Cycle in the Euro Area

The stagnation of the economy in the Euro area since 2000 is closely connected to the dominance of purely long-run supply-side oriented policies in the Euro area. While exports and profits soared, domestic demand has been weak. The neglect of cyclical and demand factors appears to be the major deficiency of the EU policy guidelines, the Lisbon strategy and the Brussels/Paris (European Commission–OECD) consensus on growth policy. Monetary policy in the Euro area is only slightly expansionary, fiscal policy is at the best on a neutral stance and social reforms are deterring consumers. Cyclical and demand considerations are not only denied in the short term, but also in the medium term. In fact, growth differentials in the period 1995 and 2005 can largely be explained by rising house prices as well as by the adoption of anti-cyclical policies in Anglo-Saxon and Scandinavian countries rather than by "structural reforms". In the long run, there prevails an interaction between supply and demand factors as well. Higher expenditure on R&D and education (input factors) are important to improve potential economic growth, this will however only materialise if effective demand is sufficiently high.