The transatlantic growth gap
But, as the financial crisis mutated into the euro crisis, an economic gulf opened between the United States and the euro zone. Over the last three years (2011-13), the U.S. economy grew by about 6 percentage points more. Even taking into account the increasing demographic differential, which now amounts to about half a percentage point per year, the U.S. economy has grown by about 4.5 percentage points more over these three years on a per capita basis.
The main reason for the gap is the difference in private consumption, which grew in the United States, but fell in the euro zone, especially in its periphery. A retrenchment of public consumption actually subtracted more demand in the United States (0.8 percentage points) than in the European Union (0.1 points). This might appear to be somewhat surprising in light of all of the talk about Brussels imposed austerity.
In fact, public consumption in the euro zone has de facto remained fairly constant over the last three years, whereas it has declined substantially in the United States. (The same is true of public investment, though this constitutes such a small proportion of GDP that transatlantic differences could not have had a large impact on growth over a three-year horizon.)
The contraction of private investment in Europe accounts for only a small part (one-third) of the growth gap. Though the financial-market tensions that accompanied the euro crisis had a strong negative impact on investment in the euro zone periphery, investment demand has also remained weak in the United States, minimizing the overall difference.
The resilience of private consumption in the United States, the key to the growth gap, is not surprising, given that American households have reduced their debt burden considerably from the peak of more than 90 percent of GDP reached just before the crisis. The lower debt burden is also a key reason why consumption is expected to continue to grow much faster in the United States than in the euro zone this year and next.
But the crucial question - and one that is rarely asked - is how U.S. households were able to reduce their debt burden during a period of high unemployment and almost no wage gains while sustaining consumption growth. The answer lies in a combination of “no recourse” mortgages and fast bankruptcy procedures.
Millions of American homes that were purchased with subprime mortgages have been foreclosed in recent years, forcing their owners, unable to service their debt, to leave. But, as a result of no-recourse mortgages in many U.S. states, the entire mortgage debt was then extinguished, even if the value of the home was too low to cover the balance still due.
Moreover, even in those states where there is full recourse, so that the homeowner remains liable for the full amount of the mortgage loan (that is, the difference between the balance due and the value recovered by selling the home), America’s procedures for personal bankruptcy offer a relatively quick solution. Millions of Americans have filed for personal bankruptcy since 2008 , thereby extinguishing their personal debt. The same applies to hundreds of thousands of small businesses.
Of course, there has also been a surge of bankruptcies in the euro zone’s periphery. But in countries like Italy, Spain and Greece, the length of a bankruptcy proceeding is measured in years, not months or weeks, as in the United States. Moreover, in most of continental Europe a person can be discharged of his or her debt only after a lengthy period, often 5 to 7 years, during which almost all income must be devoted to debt service.
In the United States, by contrast, the corresponding period lasts less than one year in most cases. Moreover, the terms of discharge tend to be much stricter in Europe. An extreme case is Spain, where mortgage debt is never extinguished, not even after a personal bankruptcy.
This key difference between the United States and (continental) Europe explains the resilience of the U.S. economy to the collapse of its credit boom. The excessive debt accumulated by households has been worked off much more rapidly; and, once losses have been recognized, people can start again.
The cause of the transatlantic growth gap thus should not be sought in excessive euro zone austerity or the excessive prudence of the European Central Bank. There are structural reasons for the euro zone economy’s slow recovery from the financial meltdown in its periphery. Most important, compared to the United States, the excess debt created during the boom years has been much more difficult to work off.
European officials are right to promote structural reforms of EU countries’ labor and product markets. But they should also focus on overhauling and accelerating bankruptcy procedures, so that losses can be recognized more quickly and over-indebted households can start afresh, rather than being shackled for years.
Copyright: Project Syndicate, 2014.
*The author is the director of the Center for European Policy Studies.
By Daniel Gros