Intro. [Recording date: February 9, 2017.]
Russ Roberts: Today's episode is being recorded in front of a live audience at the Hoover Institution on the campus of Stanford University. We have three guests today: Nicholas Crafts, Professor of Economic History at the University of Warwick; Luis Garicano, Professor of Economics at the London School of Economics, and Luigi Zingales, Professor of Finance at the University of Chicago's Booth School of Business where he is also Director of the Stigler Center and is also a former EconTalk guest. Gentlemen, welcome to EconTalk. Our topic for today is the economic health of Europe and the possibilities for growth. I'd like each of you to make a very short opening statement on what you see as the major challenges that face Europe today. And we'll start with Nick, Nick Crafts.
Nicholas Crafts: It seems to me the major challenge that faces Europe is its productivity performance--the increase in output per hour or whatever--is central to the increase in living standards over time. Since about 30 years ago, productivity growth in Europe has halved. And some projections for the future say it might fall to a third of its original level, below 1% a year. My take is it doesn't have to be like that, because, in particular, there's likely to be scope to exploring rapid technological progress. I think some of the current difficulties are basically temporary and related to the Financial Crisis. And it is possible that could be improvements in policy. But improvements in policy would be needed to deliver that fast growth future. And the sort of things I think Europe is particularly bad at, compared to the United States, are things which you might loosely call creative destruction--the entry of the new, the exit of the old, and a flexible labor market which redeploys workers well. And that's probably the dark side of this technological future. The technological change we're looking at is essentially going to have a strong factor-saving bias in it, and create massive adjustment problems at--let's call it the bottom end of the labor market--then it seems to me many European countries are less well-placed than the United States, say, to deal with that. It's always a challenge to reform supply-side policy. But it's going to be even more of a challenge, I think, in future, because what we have in some European countries, it's the background to Brexit, is a set of left-behind voters. And the big issue, I think for Europe in future is how to restore prosperity and grow quickly, while keeping the left-behind voters on board and stopping them from sinking the ship.
Russ Roberts: Same issue in the United States, I'm afraid to say. Luis Garicano:
Luis Garicano: Yeah, I agree with Nick that productivity is a big issue. And I think further than the United Kingdom and the United States, in the European periphery it has been a problem for a longer period of time--in Spain, in Italy, in Portugal, etc. Productivity growth per capita in the 1990s and actually has been very low--in Spain negative--TFP (total factor productivity) growth was negative since the mid-1990s. And the question is: Why? Luigi has a paper, probably talk about it later, with Pellegrino, which it says the usual suspects are not going to be enough, because the same countries were growing very much previously. So the question is: What changed? And I think there are two candidates for what changed in the mid-1990s, that could interact with what the European [?] and some other countries have. Which are the problems the problems that they have. Which are: Finance and technology. Finance, basically, the advent of the Europe meant there was a lot, let's say a lot of money: there was a lot of easy/EC [European Community?] financing, a big drop in rates. And with a lot of money, [?] has a paper arguing that money is more directed, financing was more directed to the large-scale firms and not to the better firms. I have some work with [?] arguing that when there is so much money a bit like Buffett says, when the tide is high you don't see it was swimming negative[?]. The money goes indiscriminately, financing indiscriminately to bank savings, to banks, to bad firms, etc. So, that's one possibility. After the Crisis, the finance was still a problem because zombie firms have really--really big problem in these countries--as Goan and Ankers[?] in a very recent paper have shown. So that's one possibility. The other is technology. Technology really started hitting in the United States positively in the mid-1990s. Why would European firms be less good at that? I would say, firm size is a problem. I just read something in the AER [American Economic Review] in November showing that firm size regulations were important in France in not-allowing firms to grow. Technology is complementary with size, and you see that, you need to be a large firm. Maybe some small firm could adopt technology, could be productive before in a way that we have measured technology you need to be much more organized, much more formal. Managerial quality also is something that is related to size. And managerial quality is a problem in the very free[?] as well as is human capital in general. So, all those are things that are kind of hard to change. And I agree with Nick that policy has to change if those things are going to improve. And one thing that you see when you are getting a bit close to policy is that the desire to change some of those key things that you would need--regulations that restrict [?] growth, that restrict reallocation--I didn't talk about reallocation but that's also a key, huge problem--it's really harder and harder to do those changes in regulations because of demographics. Because these countries are getting old, and old people don't like change.
Russ Roberts: Luigi Zingales:
Luigi Zingales: The challenge of having a last name starting with a "Z" is that you come always last. And so you have to be very creative about adding to what people say before. So, I hopefully agree that the most important thing is productivity, and I agree, of course, with what Luis said about the differences between Northern and Southern Europe in the ability to incorporate what is called the ICT Revolution, the Information and Communication Technology Revolution. I think those are very important. But, at some level, these are present also in the United States, as you mention earlier. So, if you want to point out what is really unique in terms of challenge of Europe, I think it's the institution of the European Union and particularly of the common currency. I think that those are really the challenging institutions that need to adapt or might create a big disaster. As economists, we know that the euro[Europe?] has been created assuming that eventually there would the institutions to support it. And that no economist worth his name thinks that the institutions are there. And, eventually--there was I think, Halberstein[?], who was saying that if something is unsustainable, eventually it will not be sustained? I think that that applies to everything, including the euro[Europe?]. And, unfortunately, the underlying theory under which sort of Europe was created, so-called Mornay theory, that you push farther and you create a chain reaction that make inevitable to move forward, might actually lead to the meltdown, as a chain reaction the meltdown. Because this is the worst possible moment to create those institutions, because there is a reaction against globalization. And there is a very inward-looking, nationalist sense. And I think that part of it is that in Europe, the common institutions of being associated with market and globalization, and the protective institutions like the welfare state, is at the national level. So, when you have a moment of crisis, it's natural that you want to have a nationalistic view. Because if you want to be protective, you don't see Frankfort or Berlin as a sort of protection. You see a national capital as social protection. And I would think trying to tell everybody that if you want Europe to survive you need not only create a banking union, but also create a Federal unemployment insurance, that will work not only economically but also politically. Because at least the unemployed will see[?] the symbol of Europe associated with something positive. At the moment, the symbol of Europe is only associated with negative things.
Russ Roberts: Who is going to run that welfare play[?]? What's the political structure that could possibly overlay--?
Luigi Zingales: We do something much more complicated, which is to have a common system of regulation of banks. There is now a banking union--at least there is half a banking union--that half that the Germans allowed, because the other half did not allowed--
Russ Roberts: Which half is that?
Luigi Zingales: The common, the positive[?] insurance. [?] The common supervision and the common insolvency rules. Which, I think are great. Actually, I don't mind that at all. But it should be the third leg, which is the common, the positive insurance. And my understanding--some Germans would say opposite--but my understanding is that the they initially agree to the common framework and then they put other conditions to delay the introduction of the sharing component. But, if you think that it's easy for a German to supervise an Italian bank or for an Italian to supervise German banks--it's as difficult as it is for a German to supervise an Italian employment insurance and vice versa. So, if you don't trust the other group--which is a big issue in Europe--you can have the Germans run the Italian system and the Italians run the German system.
Russ Roberts: Yeah. It seems to me the cultural challenge there is, if you don't feel like a European, you still feel like a German. Right? Or--
Luigi Zingales: But then you draw the conclusion that it's not feasible. [?]
Russ Roberts: It would seem to be an impossibility. Let me hear what the other guests have to say. Luis, go ahead.
Luis Garicano: So, I agree that the institutions we've given ourselves are not working. So, just because the audience is probably familiar, essentially there is a common stabilization, framework, [?], like Brussels. And Brussels tells you whether you have to cut your deficit or whether you are allowed to spend more or less. [?] that's never going to work, because it restricts massively the freedom of each country to face its own tradeoffs. And it really, for people in this environment, means some unelected guy somewhere very far from my country is telling me that I can't spend more on growth--which I want to do. So, it's no wonder that with this regime there's a lot of resentment of the North in the South, if you'll allow me to put it this way. And the Commission, which is the institution that is supposed to enforce this is losing prestige and is getting beaten up by everybody. So, on that part I agree with Luigi; and also on the banking insurance: of course, the banking insurance has massive, massive moral hazard risks. If you insure the Greek banks with German money, then what's to prevent the Greek government from saying all mortgages are part of it, in some way or another? So, these are things that--
Luigi Zingales: Sorry, but the insurance comes after you are bailing 8% of liability.
Luis Garicano: Yes.
Luigi Zingales: Something that the Americans never did. This is why in Puerto Rico there is not a bank run. It's because the FDIC (Federal Deposit Insurance Corporation) insures Puerto Rico.
Luis Garicano: I agree.
Luigi Zingales: Why, in Greece, there was a bank run? Because there wasn't such an institution. So, you cannot run a country as a union without the fact that a dollar in Puerto Rico is worth as much as a dollar in New York. In Europe, that's not true.
Luis Garicano: I think that's [?]. I agree. It's not true in Europe, and it needs to change. But I'm just saying the obstacles are unknowns. The one thing that I would [?] in terms of how the euro is functioning is that in spite of all these things, Spain has recovered competitiveness and has been--Spain is growing really rapidly right now. Whereas Italy essentially hasn't grown since 1995 I would imagine--I don't know how long. So, I don't know why the constraint is hitting so much harder Italy than Spain. Although you could say, well, Spain just had a bigger recession; just recovering it is getting to the place where Italy was all along.
Luigi Zingales: I think that Spain always worked better in the last 20 years. Spain had the real estate bubble and the crisis associated with that, but I think the fundamentals were much better. I think that the real comparison is with Portugal and Greece, and they were not doing particularly well. Greece was doing a bit better before the crisis but basically because they spent somebody else's money. It's easy to go and spend somebody else's money. But I think general productivity, they were bad before and they are still pretty bad.
Luis Garicano: Let me ask Luigi two questions if I may. One, I think to go back to what Russ was raising: To fulfill your proposal we really need a Transfer Union, don't we? In which it would turn out, Germany would pay the unemployment benefits of Southern Europeans--as they would see it. Say, that's a caricature, of course. But you get the idea. That's the thing which seems to me, ultimately, politically infeasible. Second point I'm interested in your thoughts about is, a British politician not so long ago described the Euro Zone as a burning building with no fire escape. Isn't that approximately the problem? If there had been an easy way to dissolve it, what would have happened 5 years ago would have been like the collapse of the Gold Standard in the 1930s. The fact that it didn't collapse like the Gold Standard in the 1930s I think tells you that it's extraordinarily difficult to dismantle. Putting it very crudely: Could you dismantle it without, as Barry Eichengreen says, creating the mother of all financial crises?
Luigi Zingales: Okay. I think both are excellent questions. On the first one, I don't want a permanent Transfer Union. I want a risk-sharing mechanism. I come from Italy; I know how dangerous it is, a permanent transfer, from the North to the South. It did not work; it did not improve the situation. I remind you that in the middle of 2000--2005, 2006--[?] unemployment insurance would have gone the other way around--would have gone from the South to the North, to Germany. And that's exactly what unemployment insurance is about: it's when in Texas there is an oil bust, they benefit from the Massachusetts tax revenues. And vice versa, when there is now a boom. That is a form of Union. And if you think this infeasible because there this is not a sense of solidarity, we know that we are more willing to share with people that you perceive, for whatever reason, more allied. So people don't resent transferring money to Mississippi from California. They do resent transferring from Germany to Greece.
Luis Garicano: I think part of the problem is that, I mean, we have to recognize as economies that [?] we don't really know how to differentiate structural from budget, from cyclical[?] budgets. We don't know how to differentiate structural unemployment from cyclical unemployment. So, any mechanism that you set up is going to, inevitably--and I am somewhat in favor of a common unemployment insurance--but is going to inevitably have the component of the structural transfer from North to South. It's very [?]
Luigi Zingales: No. I would say exactly the other way around. The way I would structure this unemployment insurance would be on unemployment which is above the structural level of unemployment.
Luis Garicano: And how do you measure that?
Luigi Zingales: The same way which we measure the structural [?]--
Luis Garicano: We don't know how to do it.
Luigi Zingales: I understand, but I don't think it is infeasible.
Luis Garicano: It is infeasible. Okay, let me tell you what the structural level of unemployment in Spain is now: according to the IMF (International Monetary Fund), in [?] city is 18%.
Russ Roberts: 18?
Luis Garicano: 18. Do you believe that?
Luigi Zingales: Yes. Because long term, this has been very high. Unemployment in Spain has been very high. And, it really creates an incentive to actually reduce the number. So the incentive, the moral hazard[?] is exactly the other way around. Because if you have a system where you are only receiving transfers on top the structural unemployment, you do not push down the structural employment. Which is exactly what you want to do.
Russ Roberts: If you know how to do it. I guess the issue--my first thought is, we should move on to another topic. My second thought is, this is the only topic. Right? This is what the European question fundamentally is: Is there such a thing as Europe? And Luigi, you want to say you favor that system; this would be better. You have to get the people of these countries to feel that solidarity, the cultural connection that they evidently don't feel. I don't see how you are going to get around that. And that seems to be a fundamental constraint on moving forward in any organized way.
Luigi Zingales: Absolutely I'm not saying we should move in that direction. I'm saying that if we don't move in that direction, we should recognize that the marriage is not working and we find a way of amicable divorce.
Russ Roberts: Well, let's move on to that. I like that. Let's talk about that for a minute. It won't be our only topic the rest of the time, though I'm sure we could spend the whole time on that, too. But let's talk about that. Is there a--well, let's talk about Brexit in particular, which is a--well, let's say a separation, not a divorce. It's a temporary--it's a period of cooling off until legislation might be--
Guest: It's a true divorce. It's a true divorce.
Russ Roberts: Well, on paper it's a divorce, but it isn't yet. Talk about the significance of Brexit for the constraints it puts on the rest of the European nations, and the Union as a whole. And whether you think it's actually going to happen, and what its significance will be. You know, a lot of people speculated early on that, 'Oh, it will be awful because people are going to punish them.' They are not going to agree to any of the possible alternatives--say, trade agreements. They'll just say, 'You left; we're done with you.' We don't know how that's going to play out. But I'm curious what you think. Nick?
Nicholas Crafts: I think this is a divorce. And I think it might become a quite bitter divorce, as well. I've already started, in jokes, when I give talks in Europe, to say, 'you Europeans.' Whereas I always used to say 'we Europeans.'
Russ Roberts: When you say it started, for a minute I thought were going to actually say you changed your portfolio. But--a joking reference is a beginning. Go ahead.
Nicholas Crafts: Okay. The interesting thing about Brexit is, it involves dis-integration of trade. That is much easier, it seems to me, than dis-integration of the financial system. And it will be a challenge for Europe in the future, because there may be others who want to follow the path. Why do I think it's certain to happen? I think Conservative Party politics make it certain to happen. And we have a Prime Minister who is essentially a party manager more than any kind of thinker. I don't think there's any escape. I think, moreover, that because in Britain the priority being given is to controlling immigration, free movement of labor has become taboo for the Conservatives. In that case, you have to leave the single market. Essentially, you can't be in the European economic area. We're going down the path of what in the jargon is a 'hard Brexit.' My main reverting to just being another WTO (World Trade Organization) member facing the common EC/EU tariff (European Community/European Union)--
Russ Roberts: --World Trade Organization.
Nicholas Crafts: I'm sorry; yes, World Trade Organization. I think that's quite likely. This will be costly to Britain. I have little doubt of that. It's one of the very few things the British economics profession is virtually unanimous on. We can't put an absolute figure on the cost, but it's probably going to cost Britain, in the steady state, 5-6% of GDP (Gross Domestic Product). Something like that. It's nontrivial. But it's a cost that the British public seems in one way or another seems to be willing to pay. There is a constituency for, a majority for Brexit.
Russ Roberts: The unanimity of the opinion of what the consequences would be is not quite as convincing to me as it might otherwise be. There was, of course, in the aftermath of Brexit--as there was in the aftermath of our recent election--many wise and illustrious economists predicted disaster. It didn't happen. Is there any reason to think that perhaps the most pessimistic view is not as bad as it may be?
Nicholas Crafts: Short term, it's about macroeconomic forecasting. We know that economists are pretty bad at that--
Russ Roberts: Exactly--
Nicholas Crafts: Unpleasant shocks arise. The long-term steady state is about the analysis of the empirics of international trade: Trade costs go up; trade goes down. We know that less trade means basically lower income. The direction of the effects is unambiguous. Very clearly summed out[?] about exactly what the magnitudes are.
Russ Roberts: Totally agree with that.
Russ Roberts: But I want to go to Luis, who raised a related question in his opening remarks. So, it's true, it's conceivable that there will be less trade, because there will be less integration. It's not clear that the post-Brexit trade agreements will be as attractive through the WTO (World Trade Organization) or whatever methods are available. But there is also a claim that I've heard often that Brussels was a big impediment to growth. And by getting out of the Brussels regulatory umbrella British firms will be more flexible. And, Luis, referred in his opening remarks to, say, firm-sized regulation. I assume you were referring to situations in parts of Europe where, once you reach a certain size, certain regulations kick in. We have that here. That keeps firms at 49 employees, for example, or 199--
Luis Garicano: Obamacare, for example, is at 49.
Russ Roberts: So, talk about whether you think there is anything, an upside to Brexit, economically, that is beyond the trade story.
Luis Garicano: So, my analysis is very similar to nixing[?] that I think that the British public hasn't ever been told is that the United Kingdom essentially a service exporter. And that services--financial services, educational services, health services--essentially rely on common rules to be exported. And on people moving. I mean, you export low by having people come to buy low. You export--I export education as a [?] professor by having somebody from China who comes. Now, that means that you need people have all these stories in newspapers of Brussels or like us to have bananas as just trade and all these things. And at the end of the day, it's just simple trade rules, that if you want to have a common specially a single market in services, you are going to need to have. So, I do think that the long term for the United Kingdom in the economy that exports services, and these kinds of services in particular, is not great. I don't think there is a lot of upside on this. And I also think that there is a misconception on the whole migration debate that has never been really--that the government has never tried to address in terms of the whole demographic situation which is catastrophic in Europe. And is much better in the United Kingdom.
Russ Roberts: Explain.
Luis Garicano: Well, I mean, the United Kingdom has been getting a significant amount of immigrants, and immigrants who learn English and who by and large integrate well. There is not the problems that you see in France with integration of immigrants or in Brussels or in Belgium. And, that is a huge comparative advantage for the United Kingdom in terms of a future where the welfare state in Europe is becoming asphyxiating, where these countries are just not going to be able to maintain these levels of these welfare states. So, I do think in those two terms--in terms of exports of services and trade. In terms of the movement of people, the demographics. I think that the United Kingdom is shooting itself in the foot, but I agree with Nick that the British public is determined. I'm not sure that they were agreeing with incurring the costs. In the campaign, I think the best summary of the campaign is Boris Johnson's statement on the issue of cake: 'My policy is having it and eating it.' And he basically--and they campaigned on the point that, they are going to, 'We are going to, all these Europeans are so desperate to trade with us, cars, etc., that we are going to have all the good things of Europe but we won't have to have all these common rules, not contribute to the budgets[?], not have a quote-unquote, and not agree to freedom of movement.' And the truth of the matter is that, over time, the government has been adopting the position the funding[?] war is over; the government has seen that that's not possible, and indeed [?] saying they are going to have a hard Brexit. My sense is that this is looking very bad: two years is very short.
Russ Roberts: Fair enough.
Luis Garicano: You need to get a deal in two years; you need to get not only just a deal, budgets[?] and all those things which are difficult, but you need to get a new free trade agreement, which is not, I think, possible that it will be negotiated in this time. Plus, there is not a lot of good will from the two sides to get the best deal. So, my sense is that this is looking really not great.
Russ Roberts: You want to add anything, Luigi?
Luigi Zingales: Yes. If this divorce does not seem to be very pleasant, the Euro-divorce, as Nick was saying, is going to be much, much worse.
Luis Garicano: It's not going to be much, much worse.
Luigi Zingales: The Euro was designed without a fire escape. It was done, clearly on [?] was the statements of people involved that were saying, 'We want sort of a--' I don't know whether this is true or not but the myth is that when Cortés tried to colonize--succeeded in colonizing Mexico--Boonish[Bernal?] shifts when he came--
Luis Garicano: I think it's a correct--
Luigi Zingales: in order to sort of create a commitment. The European did the same. Now, Cortés was lucky enough to win. If he didn't, it would not have been pleasant. And the European seems to be losing. And the future is not sort of pleasant. I think that the easy way out exists. But this is politically infeasible. This way out is for the stronger, Northern countries to get out of the Euro from the top. They will create a 'Northern Euro,' also relabeled 'Neuro,' and so that would make it very easy for the Southern countries. The real problem is where you put France. Because for the French, France belongs to Northern Europe. They call Southern Europe 'Club Med,' and it's not a compliment. But economically I think it belongs to Southern Europe. But that I think is the problem.
Russ Roberts: What do you mean--explain what you mean by that.
Luigi Zingales: So, if you look in terms of productivity growth and ability to export and efficiency, etc., France looks much more like Spain and Italy and Portugal than it looks more like Finland or [?]
Nicholas Crafts: But productivity levels are great. Productivity levels in France are good.
Luigi Zingales: They are better--I am not sure they are good--they are better than the ones in the other countries. But still, I don't think it's great. But anyway, I think that's a real tension. But even ignoring France, I think that will be very hard. In a sense, the reality is that Germany is benefiting tremendously from an undervalued euro in this moment. Now, actually the economy is getting a bit overheated, so they are going to try to push for a rise in interest rates. But in the rest of Europe, in particular the Southern part of Europe is suffering tremendously. And, we are ignoring the fact that Greece went through an episode that is much worse than the Great Depression. So, I was at the debate with other people on Euro, where they said, 'The Euro works [?] well.' It depends where you are looking from.
Nicholas Crafts: Where you live.
Luigi Zingales: Yeah. From the point of view of Frankfort or Berlin, absolutely. From the point of view of Greece, is a disaster. Now, they have a lot of responsibility. I'm not trying to say that all the responsibility--the Greeks have a lot of responsibility. But, will the United States go through a Great Depression without doing something?
Russ Roberts: No, I think the right way to think about it is: Yes, they made some problems, but their ability to deal with those problems was hampered dramatically. That's what you are saying, right?
Luigi Zingales: Absolutely. Absolutely.
Luis Garicano: I mean, one thing that is important not to forget is that the European public--I agree with that, with the European public--does like the Euro--and that the support for the Euro is strong. And in part it is because the country of Southern Europe, which are the ones who would benefit from devaluation, potentially, they know that they cannot trust their government to run their own currency.
Luigi Zingales: Exactly. /p>
Luis Garicano: So, support for the Euro is 50-50. And all basically the major parties except the Democratic Party are now supporting some form of exit from the Euro. And they don't say exactly how because there is no fire escape, so you can't sort of say. But that there is, and even granting its latest incarnation has become much more anti-European. So, I don't know where we are going. I think we are going to crash against the wall. But that to me is a really big problem.
Russ Roberts: One way--if there's no fire escape--you just burn down the whole thing. And then, if a few people survive, at least they'll get out. Because there's no more structure.
Nicholas Crafts: That's [?], create that.
Russ Roberts: Isn't it cheerful? Nick, do you want to comment?
Nicholas Crafts: Yeah. I just wanted to finish off perhaps or come back on Brexit, and your question about: Is there an up-side, because you've got more policy freedom on things like regulation, and so on?
Russ Roberts: Could be a down-side, of course, too.
Nicholas Crafts: Yeah. I think it will be. So, let me make the argument very quickly. There are a large number of things I think are wrong with British policy in those areas: Innovation policy. Infrastructure. Land-use planning. Education. I could go through a very long list. They are what the OECD (Organisation for Economic Co-operation and Development) would call horizontal industrial policies. They are entirely within Britain's national competence. They are not precluded from change by being in the EU. The problem is to reforming them--Lyme, Westminster, not in Brussels. If you ask what Exit would allow, it would allow more selective industrial policy, and assuming, removing constraints on competition policy. Those are the constraints which have served Britain very well in terms of preventing a return to the 1970s. The 1970s in Britain was a disastrous decade, and one of the features of it was saving failed businesses in the name of the public interest. And suspending competition in policy, and so on, to do so. So, I don't really think there is an up-side there.
Russ Roberts: Trying to make--trying to make creative destruction illegal. Which is not always--which, you can do. It's just, it's just very costly.
Russ Roberts: Let's turn to productivity, which is an issue; of course, it's an issue here in the United States, people are worried about. The stereotypical view of the European problem from uneducated Americans like me, would be that European labor markets are particularly not dynamic. There are tremendous constraints on creative destruction, particularly with the movement of labor into new sectors. To what extent is that a European problem? To what extent is it a particular country problem? I mean, if Spain's unemployment rate really is something like 18%, structurally, that's an unmitigated disaster. I mean, it's horrifying. So: Is it true? To what extent do you think it's true that the same particular labor market regulations are reducing productivity or growth in particular or in general?
Luis Garicano: I think it's impossible not to conclude that it is the case that the distribution of productivity across firms in Europe is much more heterogeneous than in other places, particularly--
Russ Roberts: Much more heterogeneous?
Luis Garicano: There is much more heterogeneity in productivity distribution compared to the United States, for example, or to many other places. The bad firms persist. The good firms don't grow. And that has a lot to do with a whole range of regulations that make it hard to grow. Make it hard to hire, make it hard to adjust. And it's very, very hard to change. Essentially the way the European countries introduce flexibility was through temporary employment. There is a, in many countries, not just in Southern Europe but also in Holland, there is a dual labor market with very flexible temporary contracts and extremely rigid, civil-service-like permanent contracts. And what it means is, essentially, if you are a young person, you are even more precarious than in any other place, because you essentially can't climb into the protected sector of the economy. And it's bad for human capital accumulation by workers; but it's also bad for training by firms. And it's very bad for adjustment and reallocation of capital and labor. So, this is a big problem. Spain has done quite a bit of progress over the last few years. And it's still a problem in, I think, in many European countries.
Russ Roberts: Luigi?
Luigi Zingales: Certainly there is a lot of resistance, especially to technological change, which is exacerbated by a lack of growth. Because if you are in an expanding industry, an expanding sector, productivity gains means to make more money for everybody. If you are in a stagnant industry, in a stagnant firm, productivity gains means 5 people. And people losing their job. And surprise, surprise: In Europe, they resisted to that. So, they are making very painful, and they are most successful in making painful, that the American situation, this resistance. And I think that's a problem. Now, how do you fix it? You can to break the union by force. I don't think it's particularly sort of successful. The other is to try to bring growth back so that the two things can take place at the same time. So, I think there is a desperate need of doing that. In addition, there is the point that Luis was mentioning earlier: I think that the technology revolution has made managerial selection more important. And, in Southern Europe, but in particular in Italy, managers at the top are not the best people around. There is the World Economic Forum, which is not this, uh, congregation of leftists that rank countries by whether people at the top of firms are there because they are children of, or friends of, or because they are competent. And Italy is the last country in Europe, below Bulgaria, and a few others. So, we're really doing terribly in that dimension.
Russ Roberts: Why would you think--what do you think is the cause of that? Is it a cultural thing?
Luigi Zingales: I think--there is a part of a cultural thing--
Russ Roberts: Less competition?
Luigi Zingales: --there is a part of--part of lack of competition. But what is interesting is that the European integration did not have very much; in fact, what you saw is Italians abandoned the Southern competitive industry, and retrenching more and more into public utilities, where, sort of, you have public government; and so you can politically maintain that system. And I don't have this view. Some of my countrymen think that Brussels or Frankfort will bring a better system. I'm much more reluctant in believing that. I made, in a little book I wrote, an Italian analogy between the North/South Italian unification in 1861 and the European unification. And they have a lot of points in common, including the fact that both were driven by a smaller reach and there was not a huge support. We know how the [?] unification ended--was the North dominating the South; the South losing all the productive capacity it had. Very few people know that Sicily had the same income per capita as the area of Bologna at the time of unification. Now, it's half of that, so, the income per capita. So, there was a huge decline of the South. Why? Because the Northern imposed the rule to the South, with the support of the rich people, the bailout[?] of the South, that were interested in maintaining their power and not changing. And I fear that that's exactly what happens in Greece or in Italy. Greece has a similar problem. You need to get rid of the oligarchy in Greece. But who speaks English and goes to Brussels? The oligarchs. So, if you are Brussels, you are going to get your information and your reforms directed from the oligarchs, not directed at changing the oligarchs. And I think in Italy it is the same.
Russ Roberts: Nick?
Nicholas Crafts: Three things, if I may. First, I think it's implied by something Luigi said, that it's not necessarily so much that Europe has more regulation now than it did, say, 25 years ago. It's that the technology world has demanded a different sort, or maybe less regulation. So, the regulation has become more costly, but not necessarily in a sense more onerous more onerous or fully developed. And that was clear with IT (Information Technology) and it's obviously an issue with this AI-type (Artificial-Intelligence-type) technology, and so on. Secondly, you asked: Is it the case that these problems are similar across Europe? I think, No. The answer is they are quite a bit different. Let's take the creative destruction, the measure we've got of allocative efficiency. Countries like Sweden and Germany on the standard ways we measure it don't look that different from the United States. In Greece, you'd be better to distribute resources randomly. In other words, actually the employment, if you like, in the Greek economy is skewed toward lower productivity outcomes. That's got to be a system that is working extremely badly. Going to the issue of the worker threatened by losing their job, I think again there's a big difference between my caricature of Southern Europe and Northern Europe. In Southern Europe I tend to say, job protection, in the sense of employment protection and so on. In Northern Europe I see welfare states which are designed more to protect the worker. And so that has a different implication, I think, for the redeployment flexibility of the labor market.
Russ Roberts: So you are saying, in one case it's more directed toward protecting firms from their competitors, whereas the other it's cushioning the blow to the individuals in the aftermath?
Nicholas Crafts: Yes, [?]--.
Luis Garicano: Or maybe even protecting jobs, as protecting workers. So, in Southern Europe, it's that jobs that cannot change. In Northern Europe, is they will make sure that the worker has some welfare of some kind that the job can be reallocated. Um, I am much more positive about the role of Brussels that the whole European project has had, in terms of regulation, etc., in a place like Spain. It is basically because of Europe that we have any competition policy. I mean, there has been [?] a lot of crony capitalism, everybody is very connected; connected people can get things done that the unconnected people cannot. And as Brussels is more remote, and there is a more neutral referee, there is a much more--there are rules that come from Brussels that are neutral, that impose certain standards that the whole economy can undertake. And in fact, Brexit has something to do with that. I don't want to be superstitious about it, but Murdoch[? Rupert Murdoch?] said, 'You know, when I pick up the phone and I call a British minister, they always answer. When I call Brussels, nobody pays attention to me.' I mean, the foreign owners of huge newspapers in the United Kingdom have been on a campaign to get the United Kingdom out of Europe. And to some extent, it's for the, because Europe was working in that way. So, Europe, that's, have the advantage of giving the comments to the rules[?], a level playing field, a big market where we compete. And it has in the case of Spain it has been an unambiguously a very good [?] for the modernization of the economy.
Russ Roberts: So, we have two anecdotes here, that conflict. We have Murdoch's inability to influence Brussels. But we have the Greek or Italian--was it--Italian oligarchs who are running wild and making policies--
Luis Garicano: But how wildly they are running in Italy, in Greece, itself.
Luigi Zingales: No, no, I think that there is no doubt that there are some things about policy, about the European rules impose. And they impose, sort of, more competition, for example, they impossibility of doing [?] politics, policy, and politics. And the fact that in the United States, states compete on subsidies, tax subsidies to businesses. In Europe, it is impossible to do it. So I think that that shows that, in some dimension, Europe is much, much better. But when you talk about, maybe it is my [?], sort of my origin, but in--if you look at the sort of the impartial referee, I don't see the referee to be so impartial. I was at the conference of financial economists in Europe--again, not a bunch of Leftists--and, I asked around the room and said, 'Who do you think, if the Deutsche Bank were to go under, that wouldn't they find a way to save it, by passing the rules?'
Luis Garicano: So, bailing out, and not bailing anybody.
Luigi Zingales: Exactly. And nobody wanted to say that they wouldn't.
Russ Roberts: Everyone agreed that they would: The Deutsche Bank would be saved.
Luigi Zingales: Exactly.
Russ Roberts: Absolutely. I feel the same way and I know nothing about it. My instincts are right there.
Luigi Zingales: But you see-- but then, there are non-impartial rules.
Russ Roberts: Correct.
Luigi Zingales: This is a sort of a--
Russ Roberts: It's an illusion of impartiality.
Luigi Zingales: It's sort of a difficult thing to say in America, but there is a rationality in the American Constitution that attributes two Senators to every state. Right? Even sort of while [?] that there is more [?] than people, as basically the same power as New York. And why that the case to rebalance the disproportionate power of the strongest state? And was Virginia the beginning, and then would have been New York, and then that would have been California?
Russ Roberts: I think that's easy to say in America. And I think it sounds better with an Italian accent.
Luigi Zingales: But, in Europe, it's not that way. First of all, we don't have a President of Europe. Many, many people say, 'Oh, Merkel is the President of Europe.' No. Merkel is elected by German people. And she follows the interests of German people. And she would be stupid of doing otherwise, because she is elected on that basis. So, she is not acting in the interests of Europe. She is acting in the interests of Germany. And--
Russ Roberts: One would expect that.
Luigi Zingales: Exactly. And she has a disproportionate power in all decisions. So, the--we are creating a bias that makes it more difficult actually to introduce rules, because then the low-cults[?] justify all their sort of shenanigans--say, 'Oh, the rules are weak. And that's the reason why we don't have to obey the rules.'
Luis Garicano: I disagree with that. It's a bit like the United States, like the Trump situation right now, right? There is an [?] in Europe, which is Germany. But it has been benign, because of its traditional--because of its history of war and everything--and because it has the biggest statement in peace. So it has actually--Yes, like the U.S. and international system, it was more powerful and it was doing whatever it wanted. But, it was kind of having an enlightened view of its own self-interest, longer term. Now, the United States has decided not to have that view. Which is carried for all of us, of course. And in Germany, happily, because of the history, I think they do have an enlightened view of their self-interest. Which happily, until now means that, largely, they are kind of containing that the views of power, that there are possibilities there, for sure.
Russ Roberts: Well, we're recording this at the Hoover Institution. And I'm going to butcher the quote. But I'll put a link up to the right quote for listeners. Which is, Milton Friedman said, 'You don't want a political system that relies on the right people getting into office. You want a political system that allows bad people to come to office but where they are encouraged to do the right thing.' And I think it's nice--there are some historical, we would call, I don't know, 'trends' that were helpful in that case. Maybe Germany didn't follow it's own self-interest, or Merkel didn't follow her own [?] quite as much as she might have, had her country had a different history. But I think going forward, it's something[?] I want to rely on. That's all that would be the key point.
Russ Roberts: I want to ask kind of a crazy question. Which is: How much of Europe's problems are not problems, but preferences? So, a friend of mine was recently in Italy, and he showed me some gorgeous pictures he took in Florence. And he looked down--he had this beautiful, incredible, Brunelleschi's Dome, looking down over these gorgeous rooftops. And I assume that looked something like that looked 400, 600 years ago. And I thought, 'You know, this city is a fantastic museum. It has fantastic museums, but the whole city is a museum. It is a way to experience life at a certain point.' Then I thought, 'Well, gee, it's kind of hard to have growth in a museum. The technology of providing a museum is pretty straightforward.' And the services that Florence provides serve tourism, services to each other--they are not going to grow very much if they keep that beautiful infrastructure that they have. I think there are probably some people there who like that. There are probably some people who don't. We have the same issue here in the United States, to some extent. Whether we should be come more like Europe--a bunch of people wish we became more like Europe--a little less dynamic, a little more static, a little more protection to people who are struggling. What are your thoughts about that, in terms of going forward? We can sit around here, we [?] got to really talk about whether Europe can grow faster. But maybe it doesn't--maybe it doesn't want to. There's no "they." Maybe there is a strong constituency among the Europeans to keep life as it is.
Luigi Zingales: I profoundly disagree. In California--today is not a good day, but in California there is as much sun as in Sicily. And people in Sicily don't work because there is sun; but in California, people work very hard, and they have the Silicon Valley in spite of the sun. So, I think that some of these stereotypes are [?] forced. It's true that Italy, in many things, is a museum--it's a beautiful museum. But number one, you need to preserve that museum; and we do a [?] job doing that. Pompeii, falling apart. And technology can be used to save[?] and pay. Technology can be used to make the experience more interesting. I actually went, a couple of years ago, during the summer in Rome, and they had this show where they used the technology to illuminate during the night part of the Roman forum--
Russ Roberts: To recreate what it looked like in--
Luigi Zingales: To recreate what it was. It was fantastic. It was phenomenal. So you can do stuff.
Russ Roberts: Great point.
Luigi Zingales: It is amazing. And respecting the past. And, I think that the only thing I agree with you is that there are some people who don't want to make this change. Why? Because they have a little rent they are protecting.
Russ Roberts: Luis?
Luis Garicano: I think you are more right than Luigi grants you. The political economy of the changes--I've been, for the last couple of years I've been the main policy adviser to a Centrist party in Spain, it's a Euro-centrist party. And the thing that you notice is, a lot of things that you think can be done, when you try to really dig out what the constituency is, you discover it's just not there. The political economy is really important. I think people are as rational as we grant them. And they understand things as well as we grant them. Example: For me, is education. The education system of Spain is bad; our PISA (Program for International Student Assessment) results are terrible, the international comparisons; the university system is poor. So, you would think I'm going to go there and explain to people that may be naive, and explain to people how this is a bad system; how it can be improved. And then people are going to say, 'Let's change it.' The truth of the matter is, the society is pretty old. The median involved is 50 years old. You want to spend money on health, you want to spend money on pensions--and to be honest, people say, 'Yeah, yeah, education is good,' but you notice that when you make a proposal on that, it just doesn't resonate. The other things maybe resonate. But these, at the end of the day, the median voter thinks, 'You know, education--yeah, yeah, may be big problem.' Absolutely why, if you talk about why age--I'm not saying that the reason why they are reluctant to change is because they have a beautiful Brunelleschi there--
Luigi Zingales: That wasn't[?] my only [?]--
Luis Garicano: If you are saying that all the people don't want change, and Europe is getting old, and as a result, as a consequence we don't want change, I am 100% with you.
Russ Roberts: Nick?
Nicholas Crafts: The problem you posed, I think, has a pretty focal point, or has had in the literature, namely that Europeans work a lot less hours per year than Americans. One of the reasons for that is that they have more vacations. So, when you actually dig into the numbers. My colleagues probably know more about this than me; and I'd be of interest to know what they've got to say. But last time I looked at the literature, it seemed still to be a bit undecided. How far has that somehow to do with the tax system, and how far has it to do it with a higher leisure preference? The literature has some support for each of those views, I think. Just going back to whether Europeans like growth or not, I don't know. They certainly like the proceeds of growth. So, if you want to have higher living standards, the issue is how to use the proceeds of growth well. That's, I think, the debate that Europeans need to have.
Luigi Zingales: [?] numbers of hours worked for week--Greece worked much more than Germany, for example. So, it is not true that the South works less than the North--
Nicholas Crafts: No, I didn't say that--
Luigi Zingales: or places with more ruins or better sort of--
Nicholas Crafts: statues--
Luigi Zingales: --statues--they work less.
Nicholas Crafts: I didn't say that.
Luigi Zingales: I know. I just wanted to underline this fact.
Russ Roberts: So, people like to note my optimism from time to time: 2017 for me is a challenging time to be optimistic. I want to focus on one issue; and we're going to close with this. We've got about 5, 10 more minutes. The growth in what we would call populism, the growth in what we would call anti-globalization, seems to be very powerful in Europe. We see it starting to rise here in the United States. Of course, there's no way of knowing how widespread the deep underlying support. We recently had an election in the United States--it's the blind man and the elephant: everybody's grabbing the part of the elephant that they want to sell as the underlying cause--simple. You know, I think you have to recognize it as incredibly complicated, and you have a very uncompetitive system with two candidates that are both very flawed. And so I'm not sure we can make strong conclusions that are going to persist in the United States. And yet, I look in Europe and I see very similar trends. So, talk about that and what you think that portends for economic policy going forward. Luis?
Luis Garicano: So, I would--to me, it is technology. I think people are anxious.
Russ Roberts: You say 'anxious.'
Luis Garicano: Yeah. I think--it's true that technology has always been hitting the lower end of the wage distribution. But now, the loss of routine jobs--manual, intellectual routine jobs--is really hitting and making very uncomfortable a lot of people who were just the middle classes: the [?] polarization; a lot of people in the middle class were by Kevin Murphy, and others [?], haven't seen wage growth for a long time. And essentially, what that means is that, there was an [?]--let me just speak the piece of the elephant I like--showing in the United States the share of routine jobs in the country was a very good predictor of the share of Trump voters. If you are a lawyer or a theologist[?], or if you are a truck driver, or if you are a taxi driver--I mean, this--a lot of people who are really insecure and uncertain about the future and who see a future that is precarious and who see a future in which they are going to have to recycle or change or think of new things--and what they want is to stop this process: 'I want to get out.' And in this process--
Russ Roberts: --or, they want someone to champion them in a different way.
Luis Garicano: Yes. Yeah; no--I mean, I think they want to stop the process. They think this globalization thing is going the wrong way. They think it's globalization instead of technology. They think it has to do with trade. I think trade is a tiny component or a small component of that. And they think, 'If I could just stop this and I could continue to be exactly like I am now, or at least continue in the trade I was in, that would be much better.' And I think that's the one common thing that you can tell--in the United Kingdom, in France, in Holland, in the United States--that is, it's not unemployment levels, it's not growth rates, it's not productivity. To me, populism is uncertainty about the future.
Russ Roberts: Nick?
Nicholas Crafts: One of the things we do know is something about who voted for Brexit, compared with those who didn't. We only know it really on the level of composition of spatial areas, particularly districts. But it tells you quite a lot. Districts which are old, districts which have very low levels of education, districts which are in the bottom quarter of income per person, disproportionately voted for Leave. And many of those constituents, the vote for Leave was around 70% in favor if a district had all those characteristics. I think if I was a voter--I don't know if resonates in the United States--in somewhere like Burnley, run-down, former cotton-mill town in Lancashire--I'd raise that old Monty Python question: What has the EU ever done for me?
Russ Roberts: An inside joke, but we'll put a link up to the clip. You can get it on Youtube. It's delightful. It's fantastic.
Nicholas Crafts: Yeah, and actually it has different [?] than they might think. So, it's not totally an apposite remark. But I think this is the notion of the left-behind voter. One last thing that hadn't been known till one of my colleagues discovered it, in a paper, in researching this, is that the areas which suffered disproportionately from austerity in the form of local public finance cuts also were predisposed to go towards Brexit. That says something about the social safety net aspect of all of this.
Russ Roberts: Luigi?
Luigi Zingales: So, I agree that this anxiety over technology. I think that, I always said that, David Autor has this paper showing that only 10% of the jobs lost in manufacturing are lost to China, means that 90% to technology. But competing against the iPhone is not a good thing. Competing against China is a winner. So, I think that there is definitely that anxiety. And I think that we tend to be a bit too removed from that anxiety. And so we don't empathize enough. I think as academics we should pay more attention to this. And the other thing that we underestimate--there is now all this talk about Fake News. But in reality, is that in the past, the elites were much better at controlling the narrative, because, who wasn't--the elites?
Russ Roberts: The elites--
Luigi Zingales: The elites were controlling the narrative, because there were few centers of production. Now, with the Internet, you can run a video, and put it up there, and tell a different story. And what the story is, is--
Nicholas Crafts: Okay. Let me say that, we the elites used to say more than truth[?], I guess.
Luigi Zingales: I actually disagree. If I look at the facts, especially in Italy, I completely disagree with that.
Russ Roberts: Which--what do you mean, Luigi? What are you saying?
Luigi Zingales: If you read the newspapers and you read, for example, I give you a partial example. The other day I received through some friends a video of somebody from the Five Star Movement that was taping essential dissentants[?]; and this crowd[?] what was happening in the Senate. And the next day, you read, vaguely, a reference in the newspaper. And during the vote for the bailout of banks, basically, which was giving some money to the banks, they inserted a $97 million dollars for the wider cap of golf[?] as part of the system. Now, why golfing is so important in Italy, and why did it have to be $97 million, and why this is part of the bank bailout, nobody understood.
Russ Roberts: Well, I have the answer to that. The answer is just the same reason in the TARP (Troubled Asset Relief Program) Bill that was our bailout, right? We had a thing to subsidize electric car batteries that only happened to be one kind of car. It happened to be the American manufacturer that was being used, and, uh, yeah. Opportunity knocks.
Luigi Zingales: But golf is not even a popular sport in Italy. Why the cap[?] and not your mechanics? Is a very particular elite. And you don't have to understand--
Russ Roberts: Yeah, fair enough.
Luigi Zingales: So, but this [?] was not well-reported in the newspaper. And the Five Star Movement was circulating this--
Russ Roberts: What is that, the Five Star Movement?
Luigi Zingales: The Five Star Movement is basically--
Luis Garicano: the populist--
Luigi Zingales: is actually, to be honest, by U.S. or U.K. standards is much less populist than Trump. So, I think that--and it is not racist. So, I think there is--you have to revalue--I always said that is the only honest politician because he is a comedian from the beginning and turned into politics. Most politicians are comedians. But they are not professional ones. He is like a professional one. So I think he does it better.
Guest: I guess Trump makes us all value our political system, to feel very proud. I guess that's a good part of Trump.
Russ Roberts: So, let's close. Any optimism here? We're kind of in a dark space. Anyone have anything good to say about the future of Europe that's encouraging? We've got corruption, cronyism, bad regulations, falling apart buildings with no fire escapes?
Luis Garicano: I think the year[? euro? Europe?] is really, really important, because of the French election, and the German election. I think there is a way that [?] weigh, an extraordinarily good year for Europe, with Macron being elected as French President and a new coalition in Germany that would totally shift around the [?] towards doing some of the things that Luigi has described as impossible, suddenly becoming possible. I think that it could actually go for the best. It's also possible that it has to be said that Le Pen wins in France and the whole European project is over. I mean--that--
Russ Roberts: Yeah. That is something interesting[?] Any other comments?
Nicholas Crafts: In coming to this conference I used the title, 'Making Europe Great Again?' With a big question mark after it. The conclusion of the paper is that that's a Herculean task.
Russ Roberts: Yeah. Luigi?
Luigi Zingales: Um, I'm not an optimist by nature, so it's very hard for me to include. I want to add one part that we have not touched because we tend not to touch this. But it's very important. It's the migrant problem in Europe. I think it's gigantic. It's not perceived yet. But it involves also geopolitics. Europe paid a lot of money to Erdogan to keep the Syrians out of Europe. Of course, this has impact on democracy in Turkey, and stuff like that. And it just happens, this is just bad luck, it just happens that the big burden of this is suffer by the countries that are more in economic trouble. It didn't have to be that way, but that's the case. And I think I admire greatly Merkel for her sort of attitude initially, when she was open to that. She understood that if she continued that way, she would not be re-elected, so she changed dramatically. I think is a big, big source of additional problem.
Russ Roberts: So, my last name--
Luis Garicano: You tried to make him be optimistic.
Russ Roberts: That's okay. But I'm going to give him, I'm going to throw out a cheerful thing. You know, my last name starts with an 'R'. So I'm sympathetic to people whose last names are toward the end of the alphabet. So I'm going to thank my guests in reverse alphabetical order: Luigi Zingales, Luis Garicano, and Nicholas Crafts. Thank you for being part of EconTalk.