January 25, 2007


The squeeze is on: A new economic history argues that Europe's institutions must adapt if the continent is to thrive in future (The Economist, Jan 25th 2007)

More recently...Europe has tended to lag behind America. And that, concludes this sympathetic American observer (a professor at the University of California, Berkeley), gives rise to doubts about the old continent's future economic prowess.

The key to these two facets of the economy lies in Europe's institutions. In lesser hands, "institutions" might be a lazy, catch-all explanation. Mr Eichengreen, though, crafts his arguments well. Western Europe's rapid post-war growth, he says, stemmed from more than the free play of market forces: cohesive trade unions and employers' associations, often inherited from pre-war times, and growth-minded governments were needed too. Hence the "co-ordinated capitalism" of his subtitle.

He makes a strong case that Europe did not start from scratch after the war. A good deal of physical capital remained; and of the roads, railways and factories that had been destroyed, much could be quickly rebuilt. By 1947, industrial production had surpassed 1938 levels, if Germany is left out of the European average; by 1948, production was as high as it had been a decade earlier even if Germany is included. The continent also had plenty of what economists call human capital and the rest of us call skilled and educated people.

Co-ordinated capitalism worked well in those countries that had it. Britain, with its fragmented unions and employers' groups, was a conspicuous exception, and its attempt to mimic French indicative planning in the 1960s was a conspicuous failure. Co-ordination crossed borders too, in the shape of what eventually became the European Union.

Strains showed even when co-ordinated capitalism was in its prime, most clearly in the series of exchange-rate realignments from the 1950s to the 1990s. Pride played as big a part as economics in patching up the system: just about every devaluation of the French franc seems to have been dressed up as a revaluation of the D-mark.

Europe's institutions served it less well once it had more or less caught up with America. They were much less good at fostering "intensive growth"--pushing back the bounds of economic possibility as opposed to merely catching up with them. Even in the 1950s and 1960s, while America put its research and development dollars into aerospace and electronics, Europe went for marginal improvements in chemicals, textiles and machinery--in Italy, for example, adding numerical controls to existing textile looms rather than coming up with altogether new machines. This was already beginning to matter by the end of the 1960s, with labour tight and living standards getting close to American levels. It is not clear that Europe has cracked this problem even now.

The "genius" of the Marshall Plan and the Cold War lay in locking Western Europe into its suicidal institutional shackles rather than forcing a genuine rebuilding of a failed continent.

Posted by Orrin Judd at January 25, 2007 4:57 PM
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