Walking down the regal streets of Vienna, one can palpably feel the legacy of its imperial history, with all its elegant decadence and solemn nostalgia. It is in this city where some of the most influential economic minds originated, from Hayek to Polanyi, and it is where I interviewed Oxford’s very own Professor Fracisco Zanetti ahead of his talk on ‘Macroeconomic Policies in the Time of War’ at the Vienna University of Economics and Business (WU).
A Vicious Cycle
I began our interview by asking the professor the question on everyone’s minds: are we entering a protracted recession?
“We most likely will be in a recession and [it] could be protracted. But the critical thing about this recession is also the level of uncertainty. Whether we will go into a recession and to what extent [it] will last will depend on the degree of uncertainty.”
Zanetti added that in times of war, people tend to have negative expectations about the future due to increased public spending, and these perceptions can drag down the economy.
“When you see an expansive fiscal policy from the government that stimulates the economy, it may give you signals that the government knows that the economy will tank and is acting a lot today to prevent a downturn.” This creates a vicious, negative cycle, where consumers’ expectations are down and so the stimulus will not be so effective. In many ways, this is similar to inflation where “if you think prices will go up in the future, you tend to adjust prices up today.”
More inflation, more questions
On the point of inflation, Zanetti was quick to add that central banks around the world have been trying to break this cycle by increasing interest rates, thereby making it more costly to borrow for consumers and slowing down the economy. Key to breaking this cycle is changing the expectation of the various stakeholders in our economy. However, whether hiking rates has been either effective or sustainable is a different matter.
“If [the rise in interest rates] continues to have a detrimental impact on economic output, you might need to revisit how you do policy and be more stimulative.” said Zanetti.
At the same time, what monetary policy can do is more limited on the supply side. What is needed is a fiscal policy that stimulates the supply side, but that could reinforce the negative cycle of expectations, argues Zanetti.
Next, our discussion moved on to the causes of this inflation. When asked whether Western countries have been overspending to stimulate the economy post-COVID, Zanetti agreed, saying “they created a lot of liquidity, and they should have been more careful. Too much money chasing too few goods.”
One thing governments can do, said Zanetti, is to increase the supply of the goods that are lacking, or give incentives to firms to increase their supply. Nevertheless, this raises another sticky issue.
“The economy is going through a period of structural transformation where labour is moving across sectors. Some sectors are imploding, some sectors are expanding, and it is unclear at the moment what’s the best way to support the expanding sectors.”
For Europe, Growth is Good
The futuristic WU campus is a representation of the modern, multicultural Vienna. This is where the old and the new merge, where history and progress collide. Yet, echoes of the past have returned 400 miles away, in the form of piercing sirens and trudging tanks on the plains of Ukraine. War has returned to Europe.
At Professor Zanetti’s talk was a group of undergraduate students from Ukraine escaping from the ashes of Mariupol and the conflagration of Kyiv, an aching reminder of humanity’s proclivity for violence and destruction. Across the rest of the continent, countries are grappling with an energy crisis as a result of the conflict, without a clear way to walk out of this quagmire. On this, Zanetti sounded more pessimistic. “If we just stand here and see what happens [with the war] and think it will be sorted out on its own, it can be a very long and prolonged period of uncertainty”. There are limited options here for governments other than to continue supporting the economy, which risks the vicious cycle. Yet, “you’ll have to ask yourself [at one point], is this sustainable.”
The other, more internal problem is Europe’s capacity to innovate and invest in its human capital at a time of uncertainty. “If prices continue to escalate, it’ll be difficult for firms and governments to make plans and invest. There will be an incentive to wait and delay decisions, but that will make things more expensive, and all of this will “undoubtedly slow down Europe’s economy and, by proxy, UK’s as well.”
On top of that, Zanetti agreed that the EU’s labour market is ‘rigid’. Unlike the US where the unemployed can find a new job relatively easily, the EU has legislation where “people cannot be fired, which means the hiring is very slow. Firms are very careful when they hire.” Labour markets reflect political decisions, and the degree of regulation is broadly popular. Yet, if recession looms and unemployment persists, “making the labour market a little more dynamic might help.”
What about Europe’s emphasis on wellbeing over growth? On this, Zanetti continued to strike a conventional market-friendly tone. “You don’t want to take out the seed that makes the economy wealthy, that incentivises work.” In his eyes, a focus on ‘human-oriented’ policies such as unconditional cash transfer can create negative incentives for economies.
“Sometimes you might need to write checks to people in need, say during the pandemic. But in normal times, that can really distort the economy. It can generate a feeling that being productive doesn’t matter, that everything is guaranteed for everyone. If you take out the incentive to produce, the engine will stop.”
“After all”, the Professor was quick to add, “growth is good.”
The Argentina of Europe?
Shifting the focus from Europe to the UK, the professor agreed that Britain is “going through a period of transformation, and it’ll be painful.” Adding to that, the chaos of the previous administration was certainly damaging.
“The country needs to rethink itself and it needs to improve its governance for sure, at least in the short term. It needs to tackle issues of productivity, and investment and innovation in key sectors is essential here,” lest it become the ‘Argentina of Europe’.
At the same time, Zanetti pointed out that redistribution is also needed in a society as unequal as the UK. “The financial sector rips up all the benefits and there is no sharing. It’ll be critical for any government to have in place a system where the benefits are distributed and deal with the inequality in this country.” For him, the solution is not simply about wealth redistribution, but also policies that make it easier for people to move around and have facilities across the country where they can learn new skills. This is particularly pertinent as London keeps outgrowing the rest of the UK at the expense of other big cities.
Past, Present, Future
The collapse of the Austro-Hungarian Empire. The site of the Nazis’ first expansion. The frontlines of the Cold War. It can be a fool’s game to predict the future, and few places can testify to that more than Vienna, to whom the capricious winds of 20th century history have not been gentle.. As memories of the 1920s, whether they be of a global pandemic or hyperinflation, resurface, I asked whether the professor was concerned about the wider economic trend.
There is a big difference between now and then, Zanetti argued, in that back then there was no clear sense of what would generate inflation and the central banks continued to keep credit rates low. Today, they are very aware of the dangers, and the escalation of rates was pursued precisely to avoid the same problems. “I don’t foresee a future where we will make the mistakes we did back then, and see inflation go up to three digits.”
If so, are we in a period of great transition, where our world is de-globalising? For Zanetti, the answer is still in the negative. “Going forward, there will definitely be differences [between countries]. But, if we look at how the pandemic and the financial crisis were resolved, it was by having global policies. So I don’t see a decoupling happening.” In fact, the world will be “inevitably more coordinated.”
Yet, for the economist, that does not mean the global economy is immune to threats.
“The things that I’m most concerned about are political threats. What will China do? What will Europe do, given it’s in the frontline and more vulnerable than America, when [Russia] stops giving us oil and gas. If we let this conflict go on, that can be very destabilizing [to our stability].”
Eine Wiener Schnitzel, bitte schön
In many ways, Zanetti doesn’t deviate drastically from the economic school of thought that was born here in Vienna. Neither do most economists in the world. That speaks to the power, influence and legacy of the ideas that this city has bestowed, or unleashed, upon the world.
After the professor’s talk, a few of us, including the newly elected rector of WU Prof. Rupert Sausgruber and Prof. Jesús Crespo Cuaresma, went on a short walk near the university in search of a good, authentic, hearty restaurant to end the night. After all the long-winded discussions and debates on the utility of the market and the uncertainties of our times, we settled on a local Austrian eatery serving the country’s culinary classics – Wiener Schnitzel and a cold glass of Austrian beer. We talked about the food, the Wiener Philharmonic and the vicissitude of academic life. It was warm, liberating, and most of all, gratifying.
As I walked home with the tunes of Mahler’s Symphony No. 5 in my head and the Wiener Riesenrad in the backdrop, I was glad to realize that most things, like fickle economic trends, are ephemeral. But amidst all the austerity and solemnity of the world around us, the Viennese love for the good life remains, constant and unfazed, prudently preserving its splendour and glory, living on.