Eurogroup President Donohoe on “Eurozone and the Permacrisis”

Thank you to the School of Social Sciences and Philosophy for inviting me to give the Henry Grattan lecture here today. In particular, I’d like to thank Professor John O’Hagan for inviting me here this evening.  It is an absolute privilege to be back in Trinity College, where I studied for four years. Every time I return here, it brings nothing but good memories.

Given the title of the lecture, I will speak with my “President of the Eurogroup” hat on.

I have held this office since July 2020 and at the end of last year I was re-elected for a second term. As President of Eurogroup I chair monthly meetings of Finance Ministers to coordinate economic policy with regard to economic prospects, budgetary policy, banking and capital markets union and the digital euro.

I also represent the Eurogroup at the European Council where our Prime Ministers convene, and I attend the G7 Finance Ministers’ meetings.

So it is a busy job, made all the busier by the two existential shocks that we have faced during my terms as President – the Covid-19 pandemic and Russia’s war in Ukraine.

These are two historic and dreadful events and are humanitarian tragedies in every sense imaginable.

These crises have resulted in the “permacrisis” narrative gaining traction. However, for this evening I want to counter this narrative.

I will begin by reflecting on recent crises and what we might mean by permacrisis, before highlighting how well the euro area economy has performed in recent years despite challenges.

The euro area has both politically and economically demonstrated its resilience over the past few years.

Paschal Donohoe, President of the Eurogroup

I will set out some of the key factors behind this, before I return to the permacrisis narrative.

What do we mean by permacrisis?

The phrase or word permacrisis has come to the fore over the past few years with Collins Dictionary making it word of the year for 2022. They define it as: “an extended period of instability and insecurity, especially one resulting from a series of catastrophic events” ¹

The word “permacrisis” developed from the idea of a “polycrisis” – which has in itself been around for many decades.

Adam Tooze, writing last year in the Financial Times, defines this as: “Disparate shocks interact[ing] so that the whole is worse than the sum of the parts.”

These two concepts have gained a very specific context within Europe given the pandemic, the war in Ukraine, the displacement of millions of people, widespread supply-chain disruptions and high inflation. These are doubtless difficult and historic times, but in acknowledging these challenges, we must also make the positive case for our efforts.

This evening I will show how the euro area has stepped up in response to the challenges it has confronted and that there is a case to be made for a more positive narrative.

Turning to the first of these [crises] – and particularly as we have recently marked the one-year anniversary of Russia’s illegal invasion into Ukraine – I vividly recall this time last year.

I was on an early morning flight to Paris to attend the Informal Ecofin, and there was an all-permeating mood of gloom and despondency – we were seeing the first war between two globally recognised nation states on European soil since the Second World War.

However, when our Eurogroup and Ecofin meeting began, I was struck by the absolute determination of every single one of my Ministerial colleagues that we were not going to lose what we had built through 70 years of compromise, cooperation, and common purpose.

I was particularly struck by the passion with which my Eastern European colleagues spoke about their determination to stand up for our shared European values, given the enormous suffering their nations and families had endured within living memory.

In fact, the levels of European solidarity were never better illustrated to me than in the immediate aftermath of this horrific invasion.

At a time of foreboding, this unity made me proud that Ireland is such an active member of this great union of European States.

Also in reflecting back to a year ago, I can recall clearly a series of meetings that we had at Eurogroup where energy market and inflation developments became increasingly dominant items on our agendas.

This was made all the worse by the war. None of us foresaw inflation rates hitting double digits in the euro area, and rates of over 20 per cent in certain member states, as happened last autumn.

Euro area through recent crises

The first big shock that developed during my term as President of Eurogroup was the Covid-19 pandemic. This disease reached its nadir in 2020 and 2021 with European governments forced into a series of sudden and very difficult policy choices.

On the economic front, activity declined markedly in the first half of 2020 – with GDP in the euro area contracting by 11.5 per cent in the second quarter of 2020 alone – a pace of decline than had never been seen before.

There were unprecedented falls in economic activity right across the board as the pandemic surged – for example:

• industrial production in the European Union fell by a tenth in March 2020 and by a fifth in April;
• confidence levels plunged – with sentiment indicators declining by close to 40% in the early months of the pandemic;
• there were calamitous falls in consumption and investment spending – key engines of economic growth; and
• air travel was down 91% in the early part of 2020.

However, European governments and our institutions came together and acted swiftly in designing a powerful swathe of policy responses.

In the first instance, governments borrowed heavily to insulate incomes and to dramatically raise healthcare spending.

This was facilitated by a series of decisions from the ECB to keep interest rates low and to engage in wide-ranging Asset Purchase Programmes, maintaining an extraordinarily supportive monetary policy throughout this time.

All of this was integral in delivering favourable financing conditions for households, businesses and sovereigns.

On the fiscal policy side, at Eurogroup, unprecedented levels of coordination resulted in extraordinarily supportive budgetary policy measures, as well as the design of three new EU safety nets to the value of €540 billion that were swiftly agreed and operationalised once the scale of the pandemic became evident.

These included the Commission’s SURE scheme aimed at protecting employment via wage subsidy programmes, the EIB’s new pan-European guarantee fund for businesses, and the ESM’s new Pandemic Crisis Support credit line.

The centrepiece of the European response was of course Next Generation EU (NGEU) and the Recovery and Resilience Facility (RRF).

This was a momentous step for the EU to take, with €800 billion in grants and loans made available to member states for investment and structural reform purposes with a focus on green and digital projects, financed by common EU debt.

Economic policy in the euro area through 2020, 2021, and 2022 was exceptionally coordinated, supportive, and agile.

And all of this worked.

In terms of numbers, once the public health crisis became manageable, and as restrictions eased, the euro area economy recovered rapidly – at a pace never seen before.

To give just one example, output or GDP, took about 2 years to recover lost ground from the pandemic – approximately 3 to 4 times faster than the recovery post financial crisis a decade before.

Other perhaps more tangible metrics we can look at are jobs or employment. Students of economics in this room might be familiar with Okun’s Law – I certainly recall encountering this during my freshman year in Trinity. This theory looks at the relationship between output and unemployment, and tells us that these two series should move in opposite directions. However, through the pandemic this relationship broke down in Europe with job losses far less than what might have been imagined given the scale of the economic shock.

This is because so many of our policies during the most acute period of the pandemic were designed to keep people in work so as to prevent major labour market displacement.

More recently, we have again seen severe economic shocks as a result of Russia’s illegal war and high and persistent inflation. The latter hit an unprecedented high of 10.6 per cent in the euro area last October, due largely to energy prices but also broader supply chain disruptions, all of which were exacerbated by the war.

In response, governments across Europe, once again, stepped up in announcing large packages of temporary energy support measures to combat high prices.

As a result, fiscal policy continued to be supportive last year, with significant levels of borrowing undertaken by the member states.

Again, these measures have worked:

• Euro area growth is estimated to have come in at 3.5% in 2022. This figure surpassed expectations, as initially the onset of the war had been met with a swathe of downward revisions to the growth outlook.

• We also saw a remarkably resilient labour market with two records achieved in the EU; a record low rate of unemployment (6.5%) and a record high rate of employment [employment rate of persons aged 20-64 years hit an all-time high of 74.7% in the third quarter of 2022 in the EU].

These indicators confirm how resilient the Euro Area has been in the face of large shocks.

In the face of a war, and the existential challenge of climate change, humility and caution is needed. Great difficulties could still await. But my core point is this: if the frequency of acute crisis is now so visible then we should also acknowledge that the periods of stability and growth in between have also been strong and these periods are not the result of chance, but influenced by good economic and political decisions.

Why was the Euro Area so resilient?

There are three factors that we can group together as integral to the euro area’s resilience; namely: Structure, Stance, and Solidarity. 

Structure

Beginning with structure, this takes me back to the global financial crisis, which threatened to derail the euro area project and highlighted the fact that the Eurozone was initially ill-equipped in the face of a very large shock. This sparked major reforms in the euro area’s architecture so as to strengthen our banking sector, our governance framework and our capital markets.

It is also worth underlining just how young the euro area was at the time of this crisis – within its first ten years. Facing these challenges without sufficient structures to react prompted concerns regarding the euro project itself, with markets questioning the creditworthiness of many countries, including our own.

Policymakers were tasked with configuring a euro area which had the capacity to weather shocks.

There were numerous initiatives in this regard.

These included establishing a lender of last resort, the European Stability Mechanism; restructuring bank supervision via the Single Supervisory Mechanism and the Single Resolution Fund; reforming the economic governance framework to strengthen macroeconomic surveillance and allowing for improved policy coordination.

These were changes that allowed us to navigate through the current crises in a much steadier fashion.

Stance

Moving onto the second “S”, stance – the last three years have been marked by very supportive monetary and fiscal policy stances, which cushioned the impact of the pandemic.

As early as March 2020, there was a key and early decision taken by the EU to suspend the fiscal rules and to facilitate State Aid for businesses. This sent a clear signal that the response to Covid-19 would be very different to the global financial and sovereign debt crises. Resources were quickly freed up to give governments and businesses the space to tackle the pandemic.

Faced with the first major test of its crisis resolution capacity, Europe and its institutions worked closely together and policy measures were well coordinated and decisive. At Eurogroup, we agreed a series of statements conveying the need for supportive budgetary policy throughout this period. There was unanimity amongst Ministers on this course of action.

As the war hit, this approach has again been deployed with clear and consistent policy messaging. It is imperative that economic policies remain coordinated, and backed by consensus.

In fact, fiscal policy guidance for the rest of this year and for 2024 is the main item on the Eurogroup agenda later this month.

We will look to agree on a common approach on budgetary guidance, taking account of all the latest data and information. It is important that we recognise in this statement the strong resilience of the euro area economies despite the impact of the war.

However, Ministers will also be looking to transition out of energy support measures, by enhancing their targeting and efficiency. This is important in order to reduce their overall budgetary cost and to achieve an appropriate budgetary stance, while protecting the most vulnerable and maintaining incentives for the green transition.

Solidarity

Finally, the third “s” – Solidarity.

The past two to three years have shown the progress we have made in building a stronger monetary union by supporting each other in times of crisis. Through our actions, many of our perceived weaknesses are now evident as strengths.

Our financial sector and our banks have been a source of stability and support through periods of lockdown. In a similar vein, the former “programme countries” – for want of a better phrase – Ireland, Portugal, Greece, Cyprus and Spain – have outperformed their euro area peers in terms of growth and public finances.

These strengths emerged from moments of great European solidarity, where we supported our fellow European citizens in times of crisis and built cohesive, collective responses that work.

Recognising how effectively this solidarity worked has led to speedier agreement on common responses to the pandemic and the war in Ukraine.  It is a virtuous circle as stronger and more effective responses to crises clearly signal the stability and strength of the euro to financial markets, which we can then use to support our economies.

But there is a core and vital political point; not to underestimate the ability of political leaders to stand by the European Union. This solidarity may be imperfect, it may be driven by the exhaustive need to find finely balanced compromises but this solidarity does exist. Behind economic instruments there exists a political resolve.

Challenging the ‘permacrisis’ narrative

The euro area has continued to evolve in the face of extreme challenges.

This leads me on to a broader point – about the merits of the ‘permacrisis’ narrative.

The latter conveys a sense of chaos, uncertainty and a lack of hope.

I would argue that our governments, citizens and institutions have responded to these shocks.

Our economies were confronted with terrible challenges, but we recovered strongly and quickly and crucially, given much of the negativity, ahead of expectations.

We have also seen periods of strong and stable growth in between crises – again a point that tends to be overlooked. Prior to the pandemic, we had six years of uninterrupted growth.

The euro area has stepped up and has come of age, and our crisis preparedness has improved beyond recognition.

With the financial crisis, Brexit, Covid-19 and the war, the European Union has taken steps to deepen resilience.  Our institutions and response mechanisms have been strengthened beyond recognition.

Look at what has been achieved in terms of the supervision and regulation of our banks; or new credit support lines for our sovereigns, including strengthened surveillance procedures; new and innovative common EU funds -from SURE to Next Generation EU; and unprecedented levels of economic policy coordination.

The institutions of the European Union have worked with national governments delivering real solutions at speed.

Europe does not stand still.

In energy markets, what Europe has done in terms of reducing demand and sourcing alternative supplies in little over one year has been extraordinary.

On inflation, we are seeing a notable shift in policy, with monetary policy tightening and fiscal policy adjusting.

At the same time, there is a clear acknowledgement of the need for Europe to have a better and more credible fiscal framework that takes due account of indebtedness levels and investment needs.

This work is currently underway. The key point here is that Europe adapts, adjusts and improves.

I would suggest that the ‘permacrisis’ theme is a consequence of the digitalised and highly open world in which we live.

We work more efficiently; we exchange goods, services, and ideas, at times instantaneously and immeasurably quicker than just a few short years ago.

As a result, I think we are also much quicker to recognise when a shock hits and so these events tend to permeate and resonate faster. However, our response to these shocks also follow faster, and these responses have made a positive and real difference.

Conclusion

It is important that we end on a note of optimism, because what we have done, and what we plan to do, is not easy. Recognising how far we have come reaffirms our ambitions for the euro area.

Our monetary union is constantly expanding: in membership and in horizon, from the evolution of the architecture underpinning our economic and monetary union, to advancing innovative projects such as the digital euro project, to efforts addressing the green and digital transitions, and our investment needs.

Croatia joined as our twentieth member in January and this accession symbolises how the Eurozone is viewed; there is no stronger signal than growth during such challenging times.

As a small nation, we in Ireland have experienced first-hand how great an impact euro membership can have. It is our openness – to trade, to ideas, to mobility – that is such an integral part of the euro area.

At Eurogroup, we are committed to deepening the Economic and Monetary Union, ensuring we are better equipped to handle unforeseen issues and solidifying our position globally. It is by our actions we can preserve the status of the euro and ensure it remains a shield for our economies.

We are planning for the future – the Digital Euro project is just one of the areas we are working on to future-proof our currency and anticipate citizen’s needs. Work on Banking Union and Capital Markets Union is being progressed. Equally important will be the review of the economic governance framework, where work is ongoing.

Confidence in the Eurozone is high, thanks in no small part to the resilience shown when faced with the latest crisis. The most recent Eurobarometer survey (for Winter 2023) confirms this with 71 per cent of citizens in favour of the euro; the second highest reading on record. Moreover, nearly two thirds of respondents were optimistic about the future of the EU, with the number highest, I am happy to say, in Ireland at 84 per cent.

We need to be careful about embracing a ‘permacrisis’ narrative. I think Europe has defied this; by acting together, we are stronger than the sum of our parts.

A future for democracies that is only based on crises will not provide the motivation that is needed to bring out the best in our democratic projects.

As a thought experiment, if we are prepared to accept the ‘permacrisis’ idea, then I think we run the risk of seeing all shocks as part of this. This, in turn, would foster an unhealthy culture of reactive policy choices, as opposed to making more considered forward looking decisions.

This is a road we must avoid.

Over the past number of years, our democracies within the EU have dealt with a multitude of challenges.

We have responded convincingly and our actions have worked. The case must be made for this.  Our systems and our institutions have evolved, and are working.

The alternative – a ‘permacrisis’ world – conveys a sense of chaos and hopelessness.

As politicians, we have to deal with the present while always looking to the future and learning from the past. This is precisely how the pandemic was tackled – implementing solutions – through injections of economic support and ultimately vaccines.

This has worked. This is also the approach we are taking with the war, the energy crisis and resulting inflation.

Because – in politics and economics, at every juncture there must be a sense of progress and possibility.

¹ – Definition of ’permacrisis’

Source – EU Council: https://www.consilium.europa.eu/en/press/press-releases/2023/03/03/speech-by-eurogroup-president-paschal-donohoe-at-trinity-college-dublin-on-eurozone-and-the-permacrisis/