Growth versus austerity

The anti-austerity backlash - as seen at the polls in France and Greece - is already shaping a new debate in Europe.

European officials who only recently were revelling in their role as anti-debt enforcers are born again as growth enthusiasts.

On 23 May, Herman Van Rompuy, the President of the European Council, will host an informal "growth" dinner. Earlier this year David Cameron fought to have some of his ideas for growth included in the conclusions at a summit.

But it has taken the success of Francois Hollande in France to bring urgency to the pursuit of growth.

Europe's leaders will address a conundrum that divides economists: can you have austerity and growth at the same time?

The IMF chief Christine Lagarde is among those who insist that growth versus austerity is a false choice. She believes both can be achieved but she has also warned of the risks in cutting spending too sharply.

This argument will surface next week when Francois Hollande has his first meeting with German Chancellor Angela Merkel. He will - in the most diplomatic way - tell her that the French people have given him a mandate to make growth his priority.

What she will not allow is for French voters, in effect, to open up for renegotiation her treasured pact enforcing discipline over budgets in the eurozone.

However, the Germans cannot allow a rift with France which would be very damaging. So the expectation is for some kind of growth pact to be attached to the fiscal pact.

This is where it gets interesting. Mrs Merkel believes that growth best comes from structural reforms - making it easier to hire and fire workers and opening up professions.

That is not Francois Hollande's idea for growth. For a start, such reforms would pitch him into a fight with the French unions. He wants to see spending - particularly at the European level - on big-ticket projects like infrastructure and energy technology.

The EU Commission wants to bolster the European Investment Bank's paid-in capital by 10bn euros so it can increase its lending capacity for projects like motorway building.

Some of these ideas may get German backing.

What the German chancellor won't agree to is for countries to increase spending through borrowing. She will also resist any pressure to allow the European Central Bank to lend directly to governments.

The official EU position was set out by President Barroso. "There must be no let-up in our focus on stability," he said, whilst accelerating structural reforms.

The problem can be seen in a country like Spain. It has embarked on structural reforms but they take time. And in the short term, regional governments, companies and households are paying down debts.

The reforms may well boost growth in the future but, in the present, countries like Spain appear to be locked in a cycle of decline. Which is why much of the debate will focus on whether some of the deficit-cutting targets may be eased.

But the Germans will be wary in sending that signal to France. Peter Altmaier, who is close to Angela Merkel, described France's finances as "precarious" and then went on to say that "any country that attempts higher deficits... there simply isn't any wiggle room".

For the moment, the Germans favour austerity and reforms that might deliver growth down the road. That, of course, may not satisfy the voters. And therein lies a problem with monetary union.

As the German paper, Die Welt, wrote recently over the French and Greek elections: "In the end the results are proof that Europe doesn't work. Countries still debate within their own national borders because there is no European public space."

Voters may not give Europe's leaders time to work out how exactly you get growth while cutting deficits and reducing debt.