Speech

Unity in Diversity: The Case for Europe, by Christine Lagarde, Finance in Dialogue, Vienna

June 17, 2016

Webcast of the speech

As Prepared for Delivery

Ladies and gentlemen, good morning—Einen schönen guten Morgen!

Thank you, Minister Schelling, for your kind introduction and the invitation to participate in today’s dialogue. And to Governor Nowotny and the Austrian National Bank, which recently celebrated its 200^th anniversary: Joyeux anniversaire!

It is a pleasure to be back in Vienna, the city of music! I do love the opera, and I am always reminded that the first performances of one of my favorites, the Magic Flute by Wolfgang Amadeus Mozart, took place here in this city more than two centuries ago.

On the face of it, the Magic Flute is a story of a handsome prince rescuing a damsel in distress. At a deeper level, it shows how mankind is progressing from nature to culture, from superstition to enlightenment, from the darkness of chaos to the dawn of a new peaceful era.

In many ways, this is the story of Europe. Europeans confronted their legacy of war and hatred; they embraced the ideal of Unity in Diversity; and they managed to secure peace and foster economic and cultural prosperity.

But progress is never linear. Right now, too many Europeans are worried about their cultural identity, their security, their jobs, incomes, and living standards. And too many of them are led to believe that things would be better if only Europe returned to closed borders and economic nationalism.

This is a serious challenge for the European project. It is high time to confront this negative vision with a new perspective for those citizens who feel left behind. Those who believe that only a united Europe can be prosperous and dynamic need to step forward and speak up. Certainly that is the case I intend to make today.

The Europe we see today was not born that way. In the 1950s, there was no libretto from which a sublime work of art was created. Instead, Europe has evolved over the years, encompassing more countries, cultures, and languages along the way.

The European project has always been a factory for new ideas—a place for people to reconcile different national interests toward a common future with shared objectives, driven by goodwill and perseverance.

This process has often been complicated and cumbersome. Minister Schelling knows what I am talking about – we both have attended many marathon sessions of the Eurogroup. But the results have been impressive:

• The European Union represents the biggest innovation since the birth of the nation state in the Treaty of Westphalia in 1648. Institutions such as the European Parliament, the European Commission, or the European Court of Justice all show that Immanuel Kant was right in thinking that nations should be able to settle their differences through international law.¹
• The Single Market has become an economic powerhouse of more than 500 million people who generate about a quarter of global GDP. Trade within the single market doubled to about 22 percent of combined GDP over the past two decades, bringing greater choices for consumers and companies and creating millions of new jobs.²
• The Single Currency has added a new dimension to the old mindset of “my flag, my anthem, my money”—and that is “one market, one money.” The euro has become a major reserve currency, and new institutions and mechanisms have evolved to underpin it.
• And think of the transformative effect of EU expansion. New members from Central and Eastern Europe have been catching up rapidly to European income levels.³ Austria and other countries have benefited economically from their neighbors’ advancement as well.

1. Rising to Today’s Challenges

These gains are jeopardized today by the legacy of the Euro Area crisis, the record influx of refugees, and the referendum in the United Kingdom. Let me say a few words on each of those.

The legacy of the Euro Area crisis

It is often said that a united Europe only acts when it faces a crisis—and there is some truth in that. But the Euro Area crisis was certainly different—it was more complex than anything seen before, and it exposed the limits of European policymaking and institutions.

There is a playbook for responding to an economic and financial crisis, aimed at the root causes of the crisis. The first step is to provide liquidity and restore the health of the banking system. Fiscal imbalances have to be addressed in a determined and credible way; urgent structural reforms liberate productive resources; and macro policies are used to support households and companies as best as possible.

Individual countries have demonstrated how this can be done—think of Sweden in the 1990s, or the United States in 2009. Nation states have the advantage of centralized decision making. They also have the ability to support those who are most affected, funded by taxes on everybody else—an implicit mechanism of solidarity.

In the Euro Area, the crisis response was much slower and more difficult—because of an incomplete institutional structure and the lack of a political union. Instead of taking swift action, much time was spent reaching consensus. Most importantly, the crisis shattered the illusion that the nation state had already been overcome—reflected in disputes about burden sharing and leading to huge differences in country risk spreads.

However, even as the crisis response was wanting in many aspects, Euro Area members have shown solidarity through the creation of the European Stability Mechanism as a firewall against future crises. The European Central Bank provided substantial support and applied unconventional policies. And the new Single Supervisory Mechanism was a big step toward banking union.

All told, therefore, the crisis has been contained—but its legacy is still with us. We expect only a modest pickup in growth from 1.5 percent this year to 1.6 percent in 2017. Unemployment remains too high; many public and private balance sheets are weak; incomes are mostly stagnant; and there is a growing sense of inequality and fears that the next generation may be worse off.

The refugee crisis

This surge in economic insecurity—both actual and perceived—has prompted a growing number of people to question traditional elites and institutions.⁴ This trend has been reinforced by the unprecedented inflow of refugees.

Last year, the number of asylum seekers in the European Union more than doubled to about 1.3 million. I would like to salute all those who have opened their hearts and homes to refugees, especially in Austria, Germany, and Sweden. Theirs is a deeply humanistic mindset that has inspired others on this continent and beyond.

I have no doubt that Europe has the capacity and resources to deal with this humanitarian crisis if it puts its mind to it. But my two points are economic—first, our research suggests that refugees can provide a net gain to the economy without taking away income from native labor.⁵ And second, the rapid integration of refugees into labor markets and schools has to be the top priority, enabling them to start contributing to the economy and society as fast as possible.

The U.K. referendum

As I speak, my thoughts, and I am sure our thoughts, are with the family members, the friends and those whose life was touched by Jo Cox.

I have always admired the United Kingdom for it openness to other nationalities and foreign cultures, and I find it hard to believe that attitudes have changed in such a short time.

But this is for British voters to decide, and their decision clearly depends on many factors. We have already been on record that the economic risks of leaving are firmly to the downside.

There is, in my view, a clear case as to how the U.K. has benefited—and will continue to benefit—from its membership in the European Union.

First, there are the jobs and income gains that have come from increased trade within the EU. This is not trade that would have happened anyway, or trade that has simply been diverted away from other parts of the world. The formation of the EU and the single market has been instrumental in generating more trade than would otherwise have been the case.⁶

And with more trade has come more investment, as the U.K. has become integrated into European supply chains—such as in the aerospace industry, and in factories producing cars for the whole European market. Increased trade has also raised productivity and incomes by increasing the scope for economies of scale in production and efficient specialization.

Second, and more profoundly, being part of the EU has greatly aided the transformation of the U.K. into a dynamic and vibrant economy. The U.K. has benefited from the many contributions of talented and hard-working migrants from all over the world, including the EU, while providing record-high levels of employment for all its residents.

Membership in the EU has made the U.K. a richer economy, but it has also made it a more diverse, more exciting, and more creative country. As in all countries, there are people who are struggling in this new environment, but for the majority of citizens, this has been a great success story.

It has been said that “it takes great courage to see the world in all its tainted glory, and still to love it.” So I wish bon courage to our fellow Europeans from the United Kingdom!

2. Policies for a Prosperous and Dynamic Europe

But let us step back and focus on what needs to be done in the European Union itself. We should not assume that all is well, even if we could deal with each of the three challenges I just described.

The reality is that an aging Europe needs to compete in a world of more than 7 billion people—most of whom are young, eager to work, and increasingly productive thanks to modern technology and communication. In football terms, Europe needs to raise its game if it wants to stay in the premier league.

So what can be done? In addition to maintaining supportive macroeconomic policies, I see three areas where policy changes should be considered.

Lift potential growth

The first is to lift potential growth—which means opening up economic structures to spur competition and encourage investment in new productive ideas. This includes lowering barriers to entry in retail and professional services, shrinking the tax wedge on labor income, and improving the efficiency of public administration to reduce business start-up costs.

Europe also needs a vibrant market for digital services. I am always amazed by the creative spirits that are at work in Silicon Valley—a large share contributed by immigrants, by the way! Europe will not miss the ongoing technological revolution if it competes more strongly in this area. For example, a capital markets union would make it easier for startups to raise sufficient funds.

And since more than 30 million jobs in the EU—that is, one of every seven jobs—depend on exports to the rest of the world, it is critical that policymakers clearly articulate how the TTIP and other trade agreements benefit the majority of the population.

Boost economic resilience

Second, Europe needs to do more on crisis prevention. This means simplifying the Stability and Growth Pact to promote stronger and more enforcement of fiscal rules. This would strengthen their credibility and help build support for greater risk sharing.

It also means moving on a common deposit insurance scheme and a “fiscal backstop” for bank resolution. These are vital, missing elements of the banking union. Putting them in place would make the European financial system more resilient and more supportive of the economy.

At the same time, policymakers need to address legitimate concerns about moral hazard. Clearly, if you increase insurance in the banking system, you want to make sure that risks are indentifed and reduced. This is why greater efforts are needed to accelerate the cleanup of bad bank loans, which have held back growth in a number of Euro Area countries.

Make the monetary union more inclusive

The third area of policies has to do with inclusion and risk-sharing. Consider how Germany was widely seen as the “Sick Man of Europe” only about a decade ago, where it is now, and how incomes in the South of Europe have declined. But fortunes can change again, and those who do well today may need help tomorrow.

In many ways, a successful united Europe is an “ensemble performance”. Think of how Mozart combined voices of different ability levels—from Papageno to the Queen of the Night—into one harmonious performance.

This suggests that there should be a mechanism for greater risk-sharing and mitigating sharp swings in living standards. There is a role for a stronger center that has the means to support sectors and regions that are hit by cyclical downswings.

A starting point would be a centralized investment scheme to address some of the big common challenges such as refugee settlement, adaptation to climate change, and investment in transport and communication infrastructure.

I understand that public support for economic reforms and fiscal risk sharing is weak in many countries. And yet, these reforms are essential to lay the foundations for more inclusive growth in the future. I strongly believe that a large majority still supports the concept of a united Europe, but it has to be explained and underpinned by policy actions that work for all citizens.

Conclusion

Tomorrow most of you will be focusing on the game. But if you look at the players—and the clubs they play for—you will see a reflection of Europe, a manifestation of Unity in Diversity.

Europe is always stronger when it stands together. Think of the Hungarians and Austrians who cut through borders of barbed wire in 1989—in a move that led to the fall of the Berlin Wall. This was a moment of openness and tolerance—a source of pride and strength for all Europeans.

I believe these qualities are still part of who we are. We need to take steps now to build a better and more prosperous union for the next generation of Europeans.

Thank you.

¹ See Kant’s essay on Perpetual Peace.

² The Single Market helped create almost 3 million new jobs between 1992 and 2008 (European Commission: 20 Years of the European Single Market, 2012).

³ Income per capita in “transition economies” has risen from around 30 percent of EU15 levels in the mid-1990s to about 50 percent today (IMF Regional Economic Issues Report: 25 Years of Transition, 2014).

⁴ In Austria, for example, middle-class incomes and living standards have risen steadily, with comparatively low unemployment. But there is a perceived economic insecurity because people are uncertain about the future.

⁵ IMF Staff Discussion Note: for the EU as a whole, GDP could be between 0.2-0.25 percent higher by 2020, provided integration is quick and successful.

⁶ UK Article IV report, 2016, Selected Issues Paper, Box 1