The Greek crisis and the EU’s confused response to it have shown that Europe, or at least the Eurozone is deep into an existential struggle between three economic models: the free market liberalism of Margaret Thatcher (1979-90), the spendthrift socialism exemplified in its most extreme form by Greece’s 1980s prime minister Andreas Papandreou (1981-89, 1993-96) and the austere fiscal and social conservatism of West Germany’s first chancellor, Konrad Adenauer (1949-63). Curiously, economic reality may win the day for Adenauer.

Britain, home of Thatcher, has since 1997 been practicing the economics of Papandreou. While there has been no great commitment to public ownership, as in the Attlee or Wilson years, there has been a general belief that all problems can be solved by massive doses of public money. Public spending has risen from 38% of Gross Domestic Product in 1990 to 52% of GDP today, while taxation has notably failed to keep pace – a lapse typical of the Papandreou approach, where difficult realities were always best postponed until after the next election, or preferably shuffled off onto the EU or some other outside sugar-daddy. However Britain is no longer either a leader of the EU or an example to it, nor as a non-member of the euro is it directly involved in the Greek drama. It is thus to developments on the continent of Europe that we must turn for insight to the future direction of the EU economy.

There are a few countries in the EU that follow primarily the Thatcherite free-market model of economic management. Poland, under its current government, is the principal example of this tendency. Its response to the 2008-09 recession was to devalue the zloty, thus regaining export competitiveness, while remaining austere on public spending – more or less the formula undertaken by Britain’s Neville Chamberlain after 1931, in other words. The Baltic states also appear committed to a Thatcherite approach, with Estonia and Latvia notable in the determination with which they have faced up to double digit declines in GDP and the courage with which they have resisted the siren calls of reflation.

The Thatcherite economic model was greatly discredited by the 2008 crash. When combined with excessively easy monetary policy, poor regulation and rent-seeking financial institutions it leads to excessive leverage. It did so in Britain and the United States, of course, but many EU countries are also suffering similar debt overhangs. The introduction of the euro lowered interest rates across Europe, without forcing adjustments by borrowers in traditionally weak currency countries. Even places like Hungary, which under its 2002-10 socialist government showed no other measurable commitment to capitalism, or Greece, which has never had any such commitment, indulged themselves in an orgy of borrowing, mostly against housing and other real estate. In both countries, and in much of southern and eastern Europe, inflation has historically hovered close to double digits, so taking on excessive housing debt seemed a rational economic decision, since inflation would quickly wipe away the cost of the debt. Once the obligations were in euros, which were controlled by the anti-inflationist and German-dominated ECB, such insouciance about debt proved to be financially suicidal.

The second economic model, briefly almost universal in the early months of 2009 in the orgy of “stimulus” spending, was a bastard Keynesianism that views government spending as benign, the solution to any temporary economic hiccups and a means of solving most social and economic problems that may appear. This model is not the austere socialism of Britain’s Clement Attlee, let alone the communism of Mao or Stalin. Instead it rests primarily on a refusal to recognize the economic reality that there are no free lunches. The price mechanism is tolerated, but free markets that produce unwelcome messages are overruled if possible or, if that is not possible ignored. The model was very popular in Latin America from the 1940s to the 1970s and in Africa in the early post-colonial years – one thinks of Kwame Nkrumah’s Ghana. It was also the economic lodestar of Andreas Papandreou’s Greece and has considerable appeal in the Washington of Barack Obama.

The Papandreou economic model – as chairman of Berkeley’s economics department in the 1950s Andreas Papandreou certainly had the intellectual stature to deserve his own “ism” — falls apart very quickly if corruption is too high, as in much of post colonial Africa and Latin America. It works best if there is some available source of foreign exchange that is not over-dependent on economic competence. Oil makes a fine such source, as in Venezuela for the last half century, or agriculture can perform this function, as in Argentina. In Greece, mass European tourism, growing rapidly from the 1960s, formed an admirable source of outside revenue and capital to sustain Papandreouism.

Since it rests on defiance of the laws of economics, even with the help of extraneous foreign exchange earners this model only works over long periods if there is a sugar-daddy around. In the case of the African post-colonial countries, that sugar-daddy was the World Bank and its soft-loans arm, frequently topped up by Western countries guilty about colonialism. In the case of Latin America, there were the aid agencies and the United States itself – eager to prevent tits southern neighbors slipping openly under the tutelage of Moscow. In the early years of African independence and World Bank expansion these sugar-daddies were sufficient, but over time, even the World Bank wanted to get its money back, which is why since 1990 this model has stuttered. However in the case of Greece and several other poor countries of the EU, the sugar daddy was the EU itself, whose “structural” funds designed to relieve poverty in its poorer regions propped up Papandreouist economies – not least the Greece of Andreas Papandreou himself – for decades.

Papandreouism has many followers in today’s EU, and briefly had even more in the panicked spring of 2009. As well as Greece, the Italian left pursued Papandreouism for decades, pushing Italian debt up to unmanageable levels; the only reason Italy has been spared the current crisis is that under Silvio Berlusconi a more Thatcherite approach has been dominant. Spain in the last few years under Jose Luis Rodriguez Zapatero has mixed the worst features of Papandreouism and Thatcherism, with an unsustainable cheap-credit real estate boom combined with excessive social spending and a huge and ultimately doomed experiment in uneconomic green technology. The French left today is also Papandreouist, having moved on from the nationalizing but fiscally austere left of Francois Mitterand’s early years. Belgium has quietly pursued a Papandreouist economic policy for decades, building up debt that would be completely unsustainable if Belgium were not a core EU member – and relaying for bailout on subsidies from the gigantic EU state superstructure. Hungary in 2002-10 and Bulgaria and Romania most of the time are all Papandreouist, with the EU again as their sugar daddy.

Germany is a different case; it has fallen neither under the spell of Thatcherite free markets nor that of Papandreouist-Keynesian socialism (the latter was popular briefly and partially under Willi Brandt in 1969-75 and enjoyed a vogue in East Germany after 1990 but has always been a minority tendency.) Under Kaiser Wilhelm II it pursued an economic policy similar to that of William McKinley’s America: rapid industrialization combined with aggressive tariff protection and “dumping” of its goods on third markets left open to it by the British Empire’s free trade fetish. Under the Third Reich it pursued a policy of state-directed socialism.

Then after World War II Germany developed under Konrad Adenauer a more sophisticated form of conservative capitalism. Leverage was severely discouraged, whether on the part of companies or of individuals in the housing market. German mortgages are traditionally for no more than 50-60% of the property’s value, and German house prices are still close to their levels of the middle 1990s, having failed to share in the 2002-06 global housing bubble. Financial services were de-emphasized by making much of the banking system länder-owned, while engineering and manufacturing were encouraged by a superb education and training system. The Bundesbank central bank was set up so as to be truly independent of political interference, by making it owned by the länder (thus preventing harassment by the federal Diet) while being itself unitary and thus susceptible to tight central control unlike the 12-bank Fed system. The public equity market was relatively unimportant and hostile acquisitions were unknown; instead the economy was dominated by the Mittelstand of medium sized family-controlled companies, which relied for finance on the conservatively managed banks.

Thus Adenauer’s system was capitalist, but in a quite different way to the expansive Thatcherite model. In times of easy money expansion, like the 1980-2007 period, it tended to underperform its Anglo-American cousin. However it has proved itself far more resilient in the recent downturn. The system was modified leftwards by Brandt in the 1970s and by Helmut Kohl’s subsidy-driven absorption of East Germany in the 1990s. However it has regenerated itself under chancellor Angela Merkel since 2005, cutting back actuarially impossible state subsidies in old age (primarily by delaying the retirement age) and in a major move before last year’s election, passing a balanced budget amendment to the constitution that from 2016 requires federal borrowing to be no more than 0.35% of GDP. Thus Greek bailouts and other such boondoggles will from that date come straight out of the pockets of German taxpayers, with no ability to shuffle those debts off onto the unborn.

The banking crisis exposed the failings of Thatcherism, at least when combined with an uncontrollably sloppy monetary policy. The Greek crisis has exposed the costs of Papandreouism and its long-term economic unsustainability – even for Spain let alone Germany, there are no sugar daddies large enough to allow it to continue. The Adenauer model of conservative capitalism is thus the only one left standing, and is likely to become more widespread as its advantages are realized.

Within the EU, it will prevent excessive borrowing, impose strict budgetary control and focus European economies on growing their non-financial sectors. Countries that wish to enjoy Scandinavian levels of public healthcare and social safety nets will find themselves groaning under draconian tax levels that stifle their economies; hence the smaller state will become an essential for survival.

Globally, the Adenauer model is also likely to find favor; it will for example appeal to the high saving, long-term oriented societies of East Asia. The Anglosphere will then have the choice of adopting it or becoming an economic backwater, left behind in a morass of past-due loans by the engineering dynamos of the Adenauerist countries.

No doubt, even when that has occurred, Wall Street’s scribblers will continue to sneer at the German economy.

-0-

(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)