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Hard Times in Europe: An economic policy of shared sobriety

Fernando de la Iglesia Viguiristi SJ- La Civiltà Cattolica - Tue, Dec 27th 2022

Hard Times in Europe: An economic policy of shared sobriety
The war started by Vladimir Putin in Ukraine has brought an end to a complacent energy market that accepted Russia as its main supplier of fossil fuels. His decision to invade a European country has caused the EU to ban the purchase of Russian energy. When Brussels imposed severe sanctions on the aggressor, the Kremlin in turn responded with an embargo on the gas it supplied to EU member states.

This situation has caused a rupture, a disconnection with the energy aspect only the tip of the iceberg. It is a geo-economic change that has repercussions on international relations, markets, supply chains, prices and lifestyles. Quite a few countries are rethinking almost all aspects of their foreign policy, trade, defense spending and military alliances. As a result, energy security has joined climate change at the top of the list of national governments’ main concerns. It has become imperative to reconcile these two objectives.

This war, which broke out on the 75th anniversary of the Marshall Plan, has led to a strengthening of transatlantic ties and caused the EU to close ranks, showing a capacity for international action that was unthinkable before Russian aggression, in a world that seems to have reached a turning point. In fact, “deglobalization” is marching ahead at an ever faster pace and a new period of stagnation and inflation seems inevitable.

The relentless waves of Covid-19, the recent effects of climate change – tremendous droughts, floods and devastating fires – and war which first blocked and then hindered the export of grain and raw materials – have made it necessary to find economic solutions that guarantee health, the purchase of food, and the ability to heat and warm ourselves at reasonably affordable cost. Will the economic policy responses be effective?

 

Our increasingly fragmented world faces global challenges. It will be necessary to choose which policies are to be adopted at the national or regional level and hence identify the most pertinent ones. From our perspective this means asking ourselves to what extent they are in harmony with the principles of the Social Doctrine of the Church (SDC). The following pages are intended to offer some reflections on this issue.

The new economic order

Our recent history has been marked by three Marxist leaders. First, there was Mikhail Gorbachev and the failure of his perestroika which ended the confrontation between the West and the Soviet Union. Then Deng Xiaoping, who had strongly criticized him, laid the foundation for Chinese development and globalization with his market-oriented reforms. Thus emerged a rivalry between the U.S. and China that today, with Putin’s war, has been redefined. At the same time, tension between Washington and Beijing is increasing. The Taiwan crisis represents a further slap in the face to globalization.[1] The economic consequences, in a world that seems headed for a new Cold War,[2] can only accentuate the process of commercial, technological and  financial disengagement. Then there is Putin who has given priority to “friend-shoring” (doing business only with friends, leaving potential enemies out). The energy sector is one in which this rule is easily applied, but it is by no means the only one.

U.S. Treasury Secretary Janet Yellen stated: “Our objective should be to achieve free but secure trade. We cannot allow countries to use their market position in key raw materials, technologies, or products to have the power to disrupt our economy or exercise unwanted geopolitical leverage. So let’s build on and deepen economic integration […] with the countries we know we can count on.”[3]

The Russian invasion of Ukraine appears to us as the great catalyst for a revolution in geo-economic relations, starting with its effects on the energy and raw materials sector.[4] Putin’s aggression has been an abrupt jolt toward a different world.

The Old World is the center of the shake-up

The speed and intensity of the global repercussions will depend largely on how the stand-off between the EU and the Kremlin develops. Russia is the EU’s main energy supplier – 40 percent of its gas and a quarter of its oil – and this dependence is particularly high in several countries in the Center, East and North. This objective fact transforms any decision to abruptly renounce Russian energy into a gesture with important economic consequences. In the medium and long term, the real solution lies in a decisive shift toward renewable energies. The European Commission intends to get the entire sector off the ground, starting with wind and solar energy. This acceleration will also concern hydrogen. On nuclear energy, there is an  ongoing debate, since in its taxonomic proposal the Commission considers it a green investment.

The United States, unlike Europe, possesses vast reserves of crude oil and gas that can be easily exploited with a technology – hydraulic fracturing – which is as objectionable from an environmental point of view as it is wise from an industrial one. If they had already been world leaders in crude oil production for almost five years, with the change of script dictated by Moscow, they have also become global leaders in the export of liquefied natural gas (LNG). For months the Atlantic has been crossed by LNG carriers heading toward Europe.[5] The current crisis promotes the hegemony of the USA as an energy power.

China, which already obtains substantial supplies from Russia, with the new world-wide  connections, will triple its purchases and will become, in the eyes of the Kremlin, the real alternative to Europe. It could buy a quantity of gas similar to that which Germany buys today, and almost half of the volume imported by the EU.

OPEC, which in the fall of 1973 put the West on the ropes with an embargo that triggered the first oil crisis in history, now refuses to increase production. The denunciation of human rights violations in Saudi Arabia has cooled relations with the United States. The result has been a delicate situation for Europe, caught in the dilemma between facing up to energy needs and sticking to a foreign policy consistent with its values.

An economic storm is approaching in Europe

The West is not exactly at war with Russia, but not exactly at peace either.[6] Western weapons have helped Ukraine stop Russia’s invasion, and even facilitated a counterattack, while Western economic sanctions have demonstrably created serious problems for Russian industry. The Kremlin’s retaliation has resulted in a de facto embargo on natural gas exports to Europe, and its recent effort to destroy much of Ukraine’s energy infrastructure is clearly intended to create unbearable conditions for Ukraine’s population and economy in the run-up to and during winter.

No one should regard Russia as a reliable trading partner from here on in. Six months ago we were discussing whether Europe could or should stop importing energy from Russia. That is now off the table: Moscow has cut off supplies. European countries seem inclined to respond as democracies always do when they have to deal with inflation in times of war; they impose taxes on extra profits, cap prices and probably establish rationing.

Europe currently has higher than usual gas stocks, and with conservative measures and alternative energy sources it should be able to get through the winter without its people  freezing. The key problem, rather, is financial and, ultimately, social. Gas prices in Europe have taken off and, to the extent that buyers are resorting to alternatives, the prices of other energy sources, such as nuclear, renewables and coal, have also skyrocketed.

Those aiming for a purely market solution are counting on the fact that consumers will have an incentive to lower thermostats, improve insulation and wear warmer clothing. Producers will have an incentive to maximize production and increase capacity. According to those who think so, the only effective policy, and the only sustainable solution, would be to leave it to the markets. But should we not consider how long this solution will take, and at what cost? Can we cross our arms and express blind faith that the markets will absorb the disruption? No!

To do so would be profoundly unfair. Energy producers whose costs have not risen will make huge profits, while many households will be affected and some businesses will be ruined. The losers will not be placated by sermons about the importance of efficiency incentives. There are still powerful trade unions in Europe, and some of them will be in a position to demand wage increases to compensate for the rise in the cost of living. The result could be a wage and price spiral from which it will be difficult to escape. Letting energy prices rise is not a real option.

Wouldn’t an income transfer to households program be better, if this is in sufficient quantity to compensate them for higher energy costs? People would have an incentive to limit their energy consumption. However, it can happen in practice that different households with similar incomes receive very different energy bills. In particular, people living in houses with poor insulation will not be able to solve the problem in the very short time available.

Europe seems bent on protecting its citizens from significant price increases, while at the same time intervening against those who make huge profits at a time of public distress. On September 7, Ursula von der Leyen, President of the European Commission, released a statement on energy in which she called for “a reduction in electricity use as a mandatory goal” (in other words, rationing), a “revenue cap” for low-cost energy producers (i.e., price controls), and a “solidarity contribution” for fossil fuel producers (i.e., taxes on extra-profits).[7] In the European Council meeting of October 20, 2022,[8] the Twenty-Seven also agreed to move in this direction on the issue of joint gas purchase, and commissioned a study on the impact, costs and benefits of the so-called “Iberian exception,”[9] which limits the price of gas used to generate electricity, in order to compare it with the different energy realities of the 27 Member States.

Energy Ministers will now have to clarify and flesh out the details of what President von der Leyen called a “solid roadmap.” On November 24, they set an extraordinary Council of Ministers meeting for December 13 to reach a final agreement on the European Commission’s proposal to intervene on the gas price cap. The details, of course, will be crucial. Scholars and politicians are divided on the issue.[10] These wartime controls will come into force at the same time as the European Central Bank is drastically tightening monetary policy, and so there will be a considerable risk of recession setting in.

We are getting a real-time lesson on the power of economic policy. The markets cannot and should not be sidelined. On the other hand, the emergency controls that Europe is going to impose should not be of a permanent nature. But should not the protection of families and the protection of a measure of justice take priority over market efficiency at this time? Moreover, it is a mistake to think that you can win a war with peacetime economics. No country has ever emerged nonchalantly from a major war thanks to the market, which operates too slowly compared to the kind of major structural changes that are needed.[11]

Will the invasion of Ukraine speed up or slow down the ‘green’ transition?

Europe is leading the way in the fight against climate change, and now, if it wants to help win the climate war, it must stand up to Russia. Putin, with his war initiative, has clearly given new impetus to renewable electricity generation, as set out by the REPowerEU program.[12] There is also a renewed focus on energy security and acquiring supplies. The  amnesia on this critical issue is over. Just look at Germany.  In addition to buying Norwegian gas, it has committed to placing new regasification terminals in its ports, without which it is unable to import and use LNG.[13] A basic principle of energy security is diversification, and this will be important for Europe, much more so than it was before Russia invaded Ukraine.

Everything seems to indicate that the new electricity generation capacity in Europe will be mostly renewable and more efficient. If we keep the energy system we have become accustomed to since the Industrial Revolution, that is the one based on fossil fuels, we will continue to exacerbate the climate crisis, and that would be suicide.[14] For Europe, in the transition period, U.S. LNG will be a mainstay of supply. The effectiveness of this solution will not depend on the amount of resources provided by the Americans, but on Europe’s ability to provide pipelines and properly connected facilities. One way or another, progress will have been made in carbon capture technologies and techniques and, by 2030, we will know whether hydrogen proves to  be the key element in energy supply.

The shale revolution was not even imaginable until a couple of decades ago, let alone the substantial fall in solar energy costs. Technology and innovation do not stop. No doubt some new surprise is emerging somewhere that will change the landscape. We must realize that the green transition will represent a new wave of technological change, the sixth: the sustainable technology cycle.[15] It almost goes without saying that long-term economic growth relies on productive improvements. The European Commission is aware of this and is aiming in that direction.

Toward a reconfiguration of the EU?

Jean Monnet said that Europe would be forged in crises and would be the sum of the solutions adopted for those crises. At the end of a decade that has already hit it with the eurozone financial crisis, the migration disaster and the Covid-19 storm, the EU must now measure itself against the consequences of the war in Ukraine. The disruption of the energy supply from Russia is stimulating inflation, causing recession, requiring energy rationing and forcing many businesses to close their doors, in the context of an obvious climate crisis.

Will Europe emerge from these last two crises stronger, more robust and more cohesive? If not, it will become less relevant and will have an uncertain future. Covid-19 and the Russian embargo are forcing  the EU to consider that the borders between the state and the market have changed.

The overwhelming impact of the pandemic on European societies has led to a new understanding both of the importance of well-functioning health systems and of the indispensable role of national and collective EU governments in protecting European citizens. These new understandings require a rethinking of the balance between what is provided by states and what should remain primarily determined by market forces, and between what is a matter for the national policy domain of member states and what is a collective EU matter. This highlights the relevance of the debate on the principle of subsidiarity, as we have already seen in the decisions on the EU Recovery Plan and the proposals for  a European Health Union. The pandemic has shown the need to coordinate at EU level and has forced cooperation in a number of areas ranging from travel rules to the purchase of vaccines. Now that the crisis is over, it will be time to see what has and has not worked. On some issues, coordination of national policies will be sufficient; on others, direct EU-level intervention  will be needed. Given that health is a global public good, a number of issues relating to the prevention and management of future pandemics will need to be “elevated” to EU level. Greater public intervention in the health sector is therefore envisaged.[16] The same applies to the crucial issues of safe water supply, essential public works and the energy market.[17]

By highlighting market failures, the current energy crisis reveals the need for governments to take a more significant role in the effort to achieve greater energy security and appropriate decarbonization. First, the private sector does not have sufficient incentives to build the infrastructure and other resources that most countries need to ensure their energy security. Second, market forces alone cannot take on the burden of building the infrastructure needed for a more orderly energy transition. Such infrastructure, by definition, can become obsolete before private companies have a reasonable return on their investment. And third, companies and individuals do not have sufficient incentive to curb the very emissions for which society must bear the costs.

There is more. The soaring cost of electricity in the European Union in recent months has led to calls for reform of the mechanism by which energy prices are set. Currently, the EU wholesale market follows the marginal price system. This means that all energy operators get the same price for the energy they sell at any given time, yet the cost of electricity varies widely, depending on the type of energy used to generate it; renewable energy is the cheapest, while fossil fuels are much more expensive. According to the current rules, in the auction in which national electricity producers bid on the market, companies offer the various energies one after the other, always starting with the cheapest. If these do not meet total demand, the more expensive ones enter the market. But the final price, the price at which all types of energy are sold, will always be that of the most expensive energy, i.e. the price of the last producer from whom the electricity was bought.

Those with lower production costs, thanks to wind and solar power, but also coal, benefit from higher margins. These therefore involve exorbitant prices, set by a mechanism already described as “frankly ridiculous” by Boris Johnson[18] and “absurd” by Emmanuel Macron.[19] Ursula von der Leyen declared that “this market no longer works.”[20]

The current crisis must shake us up. The EU must support progress toward a true energy union where demand is met at prices that do not harm the European economy, and where Europe is enabled to move progressively away from fossil fuels. Each EU member state will continue to seek the energy mix that best suits its interests. But there is nothing that would serve our national energy interests better than unity.[21]

Some considerations on the basis of the SDC

Recently, all economies have reconsidered the boundaries between the market and the state, seeking a balance between sufficient provision of public services and an increased desire to lower taxes. John Maynard Keynes wrote that the state does not distinguish itself by doing things that individuals have already done, by doing them a little better or a little worse, but rather by doing things that no one is currently doing. Therefore, we need to start by acknowledging the failures of the market. A vision that idolizes its efficiency and does not admit its failures – for example, even crediting it with solving climate change – prevents the right proportions from being re-established. On this point, the SDC is clear.

There is a need to recognize a necessary complementarity and demand that a moral purpose be present in the market, in other words, that it be oriented toward the attainment of the common good. The Compendium of the Social Doctrine of the Church summarizes: “The market and the state must act in concert with one another and complement each other mutually. In fact, the free market can have a beneficial influence on the general public only when the state is organized in such a manner that it defines and gives direction to economic development, promoting the observation of fair and transparent rules, and making direct interventions – only for the length of time strictly necessary – when the market is not able to obtain the desired efficiency and when it is a matter of putting the principle of redistribution into effect” (No. 353).

More so, “as creators of wealth and prosperity, businesses and their leaders must find ways to make a just distribution of this wealth to employees (following the principle of the right to a just wage), customers (just prices), owners (just returns), suppliers (just prices) and the community (just tax payments).”[22]

The concept of a just price, or a fair price, which has its origins in Aristotle and Thomas Aquinas, survives in our everyday comments, in the considerations we make about what is decent, reasonable and acceptable in our daily negotiations. It also surfaces when we rebel against the imposition of exorbitant prices by sellers whom we perceive as greedy exploiters. We hold to a higher notion of justice than that of the marketplace. It is a notion that survives in the legally set minimum wage, which is understood as a necessary manifestation of justice. The same applies to agricultural prices or rents in big cities. All these phenomena are at odds with market efficiency. They remain in us as the legacy of  remote reflections of scholastic philosophers.[23] In this regard it is worth mentioning the great tradition of the School of Salamanca. Among its members we find Francisco de Vitoria, who wrote: “There are two kinds of goods that can be sold. Some are necessary for the smooth running of things and for living, and for these one cannot demand more than what they are worth, and it is obvious that to prevent one from doing so does not cause injustice; in fact, in this case one does not give a wholly voluntary decision, but there is a compulsion, because one is obliged by necessity […]; this one sins mortally and is obliged to return, because, even if whoever bought it from him had consented, his decision would  not have been clear  and freely voluntary.”[24]

What about the benefits? UN Secretary General António Guterres recently described the record profits of oil and gas companies as immoral and urged governments to introduce a tax on extra profits, and to use  the money to help those most in need: “It is immoral for oil and gas companies to make record profits from this energy crisis, which is weighing on the poorest people and communities and has an enormous cost for the climate.”[25] On the other hand, civic movements protesting the price of electricity are already being noticed. On October 1, protests in 50 cities across the UK, coordinated by newly formed organizations such as Don’t Pay UK, culminated in a symbolic burning of electricity bills. The chief executive of a large multinational company like Shell, Ben van Beurden, himself acknowledged that governments should probably impose taxes on energy companies to fund efforts to protect “poorer” people from exorbitant bills.[26]

Conclusion

Tough times lie ahead. The annual meetings of the IMF and the World Bank, held in Washington, predicted that the global economic slowdown will intensify in 2023. Covid-19 has filled us with uncertainty; the economic crisis has plunged us into pessimism. Under the weight of these two negative factors, Europe is being called upon, once again, to gamble with its future. It must emerge strengthened. The EU must be more interventionist and promote policies with a marked social dimension.

Covid-19 rages on, and it is 75 years since Keynes’ death. He had come to economics from ethics. His prescriptions generated social cohesion, growth and wealth in post-war Europe. It is clear that in the present circumstances we need to institute social measures that will enable us to survive. Of course, as Keynes ironically put it, we will all be dead in the long run. But in the meantime we must weather the raging storm and forge a more socially conscious Europe of shared sobriety and solidarity. Perhaps the era of the dream of generalized abundance is over.

First of all, the war must be brought to an end, because peace is the greatest wealth that we can desire in this life and, without it, there can be no good.[27] Then it is necessary to trust in the future, in spite of the clouds on the horizon: “Know, Sancho, that […] all these storms are signs that soon the weather will have to turn serene, and things will have to go well for us; because it is not possible for evil and good to be long-lasting.”[28] Let us have faith, for better times will come.


DOI: La Civiltà Cattolica, En. Ed. Vol. 7, no.1 art. 2, 0123: 10.32009/22072446.0123.2

[1].      Cf. A. García Herrero, “La crisis en el Estrecho de Taiwán: otra bofetada a la globalización”, in Revista de prensa (https://tinyurl.com/ynan5487), August 22, 2022.

[2].      See “Henry Kissinger at 99: How to Avoid Another World War”, interview by N. Ferguson, in The Times (https://tinyurl.com/5amef93d), June 11, 2022.

[3].      “Transcript: U.S. Treasury Secretary Janet Yellen on the next steps for Russia sanctions and ‘friend-shoring’ supply chains”, in Atlantic Council (https://tinyurl.com/mttsbcf6), April 13, 2022.

[4].      Cf. A. Rizzi – I. Fariza – M. Zafra, “Cómo la guerra de Putin está precipitando una revolución energética global”, in El País (https://tinyurl.com/2p888e5b), May 1, 2022.

[5].      See D. Yergin, “America Takes Pole Position on Oil and Gas”, in The Wall Street Journal (https://tinyurl.com/2vh428a3), February 14, 2022.

[6].      See P. Krugman, “Wartime Economics Comes to Europe”, in The New York Times (https://tinyurl.com/mursbcce), September 8, 2022.

[7]  .    See European Commission, “Statement by President von der Leyen on energy” (https://tinyurl.com/mbc6ut4p), September 7, 2022.

[8]  .    See European Commission, Statement, October 21, 2022 (https://tinyurl.com/2p9w7fr3).

[9]  .    See A. Eicke et Al., “The Iberian electricity market intervention does not work for Europe”, in VoxEU (https://tinyurl.com/njcvavxh), August 29, 2022.

[10].    See R. Vaitilingam, “Energy costs: Views of leading economists on windfall taxes and consumer price caps”, in VoxEU (https://tinyurl.com/3sywpu9c), September 19, 2022; C. Heussaff et Al., “An assessment of Europe’s options to reduce energy prices”, in Policy Contribution, September 29, 2022.

[11].     Cf. J. E. Stiglitz, “Wars Aren’t Won with Peacetime Economies”, in Project Syndicate (https://tinyurl.com/4c2n3trf), October 17, 2022. See also G. Giraud, “Towards The Next Global Financial Crisis”, in Civ. Catt. En., September 2022.

[12].   See European Commission, “REPowerEU: secure, sustainable and affordable energy for Europe”, Priorities 2019-2024 (https://tinyurl.com/5n6ud5mb).

[13].   See D. Yergin, “The New-Style Energy Crisis”, in Project Syndicate (https://tinyurl.com/y7dm3m7e), July 22, 2022; Id., The New Map: Energy, Climate, and the Clash of Nations, London, Penguin, 2021; Id., The Epic Quest for Oil, Money, and Power, New York, Simon & Schuster, 2009.

[14].   See J. Frankel, “The West’s Energy Policy Can Be Geopolitical and Green”, in Project Syndicate (https://tinyurl.com/3wtds6m5), April 26, 2022.

[15].   Cf. J. Sachs, L’era dello sviluppo sostenibile, Milan, Bocconi University Press, 2015, 89.

[16].   See M. Buti – G. Papaconstantinou, “Reshaping European economic integration in the post-Covid world”, in VoxEU (https://tinyurl.com/5b9nz8ab), April 23, 2021.

[17].   See J. Bordoff – M. L. O’Sullivan, “The New Energy Order. How Governments Will Transform Energy Markets”, in Foreign Affairs (https://tinyurl.com/2frb467t), July/August 2022.

[18].   See D. Griffin, “Boris Johnson Hints at UK Energy Market Reform Amid Inflation Surge”, in Bloomberg (https://tinyurl.com/3s4rwz49), June 25, 2022.

[19].   See James, “Emmanuel Macron castigates the ‘absurd’ fixing of the price of electricity and the ‘unreasonable superprofits’”, in 24 News Recorder (https://tinyurl.com/3yd5w6sf), June 29, 2022.

[20].   A. Mauro, “Von der Leyen finally makes a move on price cap, but it’s not enough”, in Huffpost, October 5, 2022

[21].   See A. Palacio, “Europe’s Energy Myopia”, in Project Syndicate (https://tinyurl.com/mr3eapnu), September 16, 2022.

[22].   Pontifical Council for Justice and Peace, The Vocation of the Business Leader. A Reflection, 2013, No. 55 (https://tinyurl.com/3x6b4hna).

[23].   See J. K. Galbraith, A History of Economics: The Past As The Present, London, Penguin, 1987, 26f.

[24].   F. de Vitoria, Comentarios a la Secunda Secundae de Santo Tomás, q. LXXI, a. 4, in D. Iparraguirre, Francisco de Vitoria. Una teoría social del valor económico, Bilbao, Publicaciones de la Universidad de Deusto, 1957.

[25].   “Energia, Guterres (Onu): ‘Immorali i guadagni eccessivi delle società petrolifere’”, in AGI, August 5, 2022.

[26].   See “Shell chief: governments may need to tax energy firms to help the poor”, in The Guardian (https://tinyurl.com/9c5acn9c), October 4, 2022.

[27].   Cf. M. de Cervantes, Don Quixote de la Mancha, I, XXXVII.

[28].   Ibid., I, XVIII.

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