Crisis and Inequality in Europe

During the present crisis concerns about the declining cohesion within Europe have grown. People worry about rising inequality, weaker social protection and the divergence of income levels between the core and the periphery of the European Union (EU). The following article analyzes the effect of the crisis on the inequality in the EU [1].

The development of inequality

Inequality in Europe has two dimensions : (a) disparities between the member states of the European Union (EU) measured in terms of per capita income ; b) disparities within countries often measured by the ratio between the incomes of the richest and the poorest quintiles (= 20 percent) of the population (quintile ratio S80/S20).

  • a) Income disparities between countries have declined since 2007 by approxi-mately 5 or 10% if measured by the standard deviation of their average per capita income at exchange rates or at purchasing power parities, respectively.
  • b) On average in the EU, inequality within countries has hardly increased (see the bottom curve in figure 1). That average of the national S80/S20 ratios has re-mained at about 5. But that average hides substantial disparities. In Croatia, Denmark and France, the ratio increased between 2007 and 2013 by more than 15%, in Greece by 10% while it declined by more than 10% in Romania, the UK and the Netherlands.

In order to achieve an appropriate estimate of inequality in the EU as a whole we need to take both dimensions of inequality into consideration. This is possible by assessing the S80/S20 ratio for the EU as a whole, which has been done for the years 2004-2013. As figure 1 shows, this ratio values between 9 and 10 (in terms of exchange rates) or between 6 and 7 (in terms of purchasing power). Due to the large disparities between countries it is much higher than the average S80/S20 ratio of member states which is around 5 (a value, which Eurostat reports falsely as the S80/S20 ratio of the EU ; lowest curve in figure 1). By comparison, other major economies, according to the UN Human Development Report, have mostly lower values of 4.9 (India), 7.3 (Russia), 8.4 (United States) and 9.6 (China).

Up to the threefold crisis of the years 2008–2010 – financial market crisis, major reces-sion and public debt panic – Social Europe was able to point to solid progress. Unem-ployment was falling ; life expectancy was rising ; and income inequality, although in-creasing in some countries, was declining in the EU as a whole thanks to growth in the poorer member states. After falling substantially up to the great recession of 2009, inequality within the EU suffered a setback in 2010, but then appeared to resume its long-term trajectory of income convergence. Since 2011, however, this process has practically ground to a halt, especially in euro terms (rather than in PPS).

Measured in terms of purchasing power standards (PPS) inequality has still fallen, albeit very slowly. If one considers the changes in the income of the richest and poorest quintiles in the EU between 2011 and 2013 one sees the opposite development, depending on how one measures it. In exchange rate terms the income of the richest quintile increased by 5.1 per cent between 2011 and 2013, while in terms of PPS it rose by only 2.4 per cent. In the case of the poorest quintile it was the other way round : income in exchange rate terms rose by only 2.3 per cent, while in terms of PPS it rose by 6.6 per cent.

What underlies this discrepancy ? Basically, it was the different development of exchange rates and inflation. Especially in poorer countries and in countries compelled to pursue austerity policies, the tendency between 2011 and 2013 was deflationary development or below average inflation. This applies in particular to Greece, Ireland, Portugal and Spain (GIPS), but also to many of the new member states.

Crisis and inequality

Inequality has contributed in various ways to the crisis. Rising inequality in the United States led to more borrowing by the poor and higher savings of the rich, which searched for yield. The collapse of the mortgage market triggered the financial crisis. In Europe, imbalances resulted from inequality, too. Large export surpluses in Germany in particular reflect the lack of internal demand due to stagnating wages and the growing savings of the rich. These savings then financed the current account deficits of the countries in the poorer EU periphery, which have been eager to catch up with the richer core. It was this, unfortunately debt-driven, boom that fuelled growth and reduced inequality in the EU.

After the crisis of 2008/2009 many poorer countries – especially in Central and Eastern Europe – were able to resume their growth path. It was the countries affected by the public debt panic and austerity policy (Greece, Ireland, Portugal and Spain) and Cyprus that fell back. Because they do not figure among the poorest countries in the EU, however, their deep crisis scarcely increased inequality, but only retarded its reduction.

This effect continues to be felt, but now – between 2012 and 2013 – some of the new member states (Bulgaria, Czech Republic, Slovenia) have experienced a slump, while two large, wealthy countries – Germany and the United Kingdom – exhibited weak, but above average growth. The economies of some richer countries – such as Finland, Italy, Belgium and Denmark – shrank, while many new member states continued to grow strongly (Baltic states, Poland, Romania, Hungary, Slovakia). Thus, the main cause of the stagnating inequality is not the diverging development of domestic inequality, but the end of strong catch-up growth in some poorer EU member states.

Cohesion at bay

The key finding with regard to recent years is the notable slow-down of the former decline of inequality. Social Europe’s promise to reduce income differences in the EU is no longer really being kept. Without vigorous growth in the poorer countries inequality remains high. But where is growth supposed to come from ? Germany and important EU bodies continue to rely on structural reforms and austerity policy, whose effects on growth are scarcely discernible. In the meantime, at least, the new European Commission has come to recognise that other policies are needed.

However, the planned investment programme is on too small a scale and depends on a somewhat questionable willingness on the part of private investors to leverage the meagre public resources on a massive scale (by a factor of 15). But what will be their effect on inequality ? In order to reduce disparities between countries investment funds should be concentrated in poorer member states. Within countries the built-up of wealth resulting from the investment will primarily benefit the richer households. This holds in particular when the EU funds are used to reduce risks for the private investors and policies to improve the investment climate aim exclusively at lower wages, more flexible labor markets and weaker social protection. But the most important obstacle to investment remains the lack of demand. Only stronger demand based on widespread income growth will lead to sustainable growth. In order to achieve this, investment must create jobs that deserve the label “decent work”.

Photo : © by-studio - Fotolia.com

Notes

[1This text is based on „Social Europe in Crisis“ by Michael Dauderstädt and Cem Keltek (http://library.fes.de/pdf-files/id/ipa/11513.pdf)


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9 septembre 2015

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