Doha Round Failure: What Next?

The Center for International Relations has organised an International Affairs Forum on the future of world trade. They ask:

In the wake of the failure of the Doha round, what does the future hold for world trade? What can, and should be done to get negotiations back on track?

My reply follows. To read the other contributors' answers, click here.

In the short term, the failure of the Doha Round will make little difference: the global economy is booming, and with it world trade. Optimists suggest that talks may resume soon after the US’s Congressional elections in November and that little lasting harm may be done. I hope they are right, but unfortunately that rosy scenario is highly improbable. The Round is unlikely to resume in earnest until a new US president is in office - and who knows when a deal may finally be concluded. In the meanwhile, the multiateral trading system may be stretched to breaking point.

Let me explain. Twelve years have elapsed since the Uruguay Round was completed and since then the WTO has staggered from one failed meeting to another: Seattle, Cancún, Hong Kong and now Geneva. The only exception to this dismal run of failure is the Doha launch in the immediate aftermath of 9/11, when circumstances were truly exceptional. Perhaps the system is broken. The world economy is booming and yet a Doha deal remains elusive. If a deal can’t be done when the going is good, perhaps it can’t be done at all.

Next year hardly looks promising: President Bush is set to lose his "fast-track" power to push through trade deals without Congress unpicking them, precluding US negotiators from striking a credible bargain with other WTO members; a new farm bill that could entrench America’s contentious subsidies is in the offing; and an economic downturn could sharpen fears about trade-related job losses.

But if the round remains on ice for too long, the WTO risks being sidelined, with the benefits of global competition, multilateral rules and impartial adjudication giving way to tit-for-tat protectionism and a web of bilateral arrangements that privilege rich country companies at the expense of the poor.

Already, the EU is looking to conclude bilateral trade deals with countries in Asia, while the US pursues its own bilateral agenda with renewed vigour. These misnamed "free-trade agreements" risk tying the world economy up in knots: how are companies supposed to build an efficient global supply chain if a tangled web of rules-of-origin requirements and other fiendishly complicated protectionist rules distort their operations?

What needs to be done to get the Doha show back on the road? The EU needs to agree to bigger cuts in its farm tariffs, the US needs to make a better offer on agricultural subsidies, and big developing countries, notably India, need to show greater willingness to open up their industrial and service sectors. It isn’t rocket science, and it is in each country’s best interest, but overcoming entrenched political opposition to liberalisation is not easy.

Perhaps the protectionist fallout from a global downturn will scare WTO members to act; or perhaps it will take the prospect of the US losing faith in the WTO, the only multilateral institution which it still wholeheartedly supports, to bring Europe, Japan, India and other recalcitrants back to the negotiating table.

Inefficient markets

Peas in a Pod™
Fears that Apple aims to become the Microsoft of the music download business by using proprietary technology to lock in the dominance of iTunes have already attracted the scrutiny of Nordic competition watchdogs. So it is a worrying indication of Apple's monopolistic intentions that it is laying legal claim to the word "Pod," threatening to sue companies that use the word as part of their product names for infringing its iPod trademark. It is already taking action against the small start-up that makes the Profit Pod, an infrared scanner used to record activity on video-arcade machines.

But lest Steve Jobs forget, Apple did not invent the word "pod." By trying to appropriate it, he risks alienating millions of people who were once attracted to Apple's apparently upstart brand, as well as fanning the fears of European trustbusters. After all, even Microsoft has not dared to lay claim to the word "Word."

Sony stumbles
The company that became famous for its iconic Walkman continues to stumble in the era of the iPod. It was bad enough that Sony failed to anticipate the appeal of MP3 players and was usurped by Apple in the music-player market; now it may fall behind in games consoles too.

Howard Stringer, the Welsh-American who took charge of the Japanese consumer electronics and entertainment giant last year, has so far ducked the challenge of shaking up Sony's sprawling empire, opting instead to muddle along in the hope that its PlayStation 3 (PS3) games console and its Blu-ray standard for next-generation DVD players will restore its fortunes. But now Sony has had to delay the launch of the PS3 for the second time—until next March in Europe, leaving Microsoft's Xbox 360 and Nintendo's Wii a free run at the important Christmas market. Since the PS3 doubles up as a Blu-ray player—indeed, the delay is the result of problems in producing the blue lasers at the core of the Blu-ray technology—the setback is also a blow in Sony's DVD-standard war with Toshiba's HD-DVD.

This risks becoming a rerun of the VHS-Betamax battle, where Sony's technologically more sophisticated format ended up losing out. Stringer's gamble—that thanks to its superior technology, Sony's PS3 would beat its much cheaper rivals, and that this would propel its pricier Blu-ray format to victory in the DVD war—was always risky, but now it looks foolhardy. Sony's once-vaunted technological prowess looks increasingly dodgy: witness the embarrassing recall by Dell and Apple of over 5m faulty Sony laptop batteries, after videos of them bursting into flames circulated widely on the internet.

As concerns grow that the Blu-ray technology is also not quite up to scratch, Sony cannot afford to pin its recovery hopes on products that are late, expensive and potentially flawed. Unless Stringer embraces root-and-branch reform soon, Sony risks becoming an also-ran.

Can Europe keep growing?
When the US economy sneezes, the rest of the world catches a cold. Or so it used to be said. But not this time, we are told. With Germany, France and Britain all growing faster than America in the second quarter of 2006, Europeans are feeling in fine fettle.

Jean-Claude Trichet, the head of the European Central Bank, seems unperturbed by the mounting evidence of a US slowdown and the increasing risk of a recession next year. He is worried instead that Europe's resurgent growth will spark inflation, and has signalled that he plans to press on with interest rate rises. Officially, Gordon Brown also remains bullish that Britain's economy is hardy enough to shake off a foreign incubus.

But the chances that Europe's economies can escape unscathed from an American recession are slim. For a start, many of the factors that are dragging the US down also weigh on European countries, such as high oil prices driving up inflation and interest rates, thereby threatening to prick many countries' house-price bubbles.

What's more, a US recession would soon knock Asia's export-led economies and thus deal a double blow to Germany and other European countries that remain dependent on export growth. Although Britain may initially appear more robust, it would surely suffer from a simultaneous slowdown in the US, Asia and the eurozone.

Worse, the ECB's complacency about the risk of contagion from America suggests that it will continue to raise interest rates—thereby also heightening the risk of a dollar collapse, and hence a growth-choking surge of the euro—until it is too late to prevent a eurozone recession.

And with deficits in Germany, France and Britain already around 3 per cent of GDP, there would appear to be little scope for fiscal stimulus either.

Despite this gloomy outlook, the Dow is back near its record high, while European and Asian markets have also rebounded strongly. Optimistic investors appear to be betting that if US interest rates have peaked, this is positive for corporate profits and doubly so for share prices.

But this is only part of the picture. If the reason interest rates are now expected to be lower than was previously thought is that the economy is slowing, the prospect of recession will hit companies' earnings far more than lower interest rates will boost them. That can hardly be positive for share prices.

Inefficient markets

Doha derailed — who to blame?
So much for the lofty rhetoric about freeing trade and aiding development; when it came to the crunch, governments instead bowed to corporate protectionism. Thus the Doha round — launched after 9/11 as WTO members rallied around America in a show of unity — has collapsed in acrimony, with most blaming the US for its demise. This is not fair. America was guilty mainly of being too ambitious: it offered to prune its agricultural subsidies if others sheared their farm tariffs, but India and the EU refused.

Officially the round is indefinitely suspended, but there are already hopes of reviving it early next year. Besides, optimists point out that while 12 years have elapsed since the previous round was completed, globalisation continues apace and the world economy is booming. Such complacency is misplaced. If a deal can’t be done when the going is good, perhaps it can’t be done at all. After all, the only break in the WTO’s run of failure — Seattle, Cancún, Hong Kong and now Geneva — was the Doha launch, when circumstances were truly exceptional.

Next year hardly looks promising: President Bush is set to lose his power to push through trade deals without congress unpicking them, precluding US negotiators from striking a credible bargain with other WTO members; a new farm bill that could entrench America’s contentious subsidies is in the offing; and an economic downturn could sharpen fears about trade-related job losses.

But if the round remains on ice for too long, the WTO risks being sidelined, with the benefits of global competition, multilateral rules and impartial adjudication giving way to tit-for-tat protectionism and a web of bilateral arrangements that privilege rich-country companies at the expense of the poor.

BP’s biggest blunders
If petrol costs over £1 a litre next time you fill up, blame BP. Oil prices spiked to nearly $80 a barrel when it announced it was shutting down America’s biggest oil field — possibly until 2007 — to repair leaky pipes. The lost production from Alaska’s Prudhoe Bay is only a tiny fraction of global output, but oil supplies are so tight — and speculators so frenzied — that the slightest disruption sends prices rocketing. (The terrorist threat to air travel and the fragile ceasefire in Lebanon have since pushed prices down somewhat — at least for now.)

But in any case, the damage to BP could be great. The issue is not so much the financial cost of lower output and higher repair bills; it’s the stain on the company’s carefully polished eco-friendly reputation and, above all, the growing doubts about its competence. Last year, an explosion at its largest refinery, Texas City, killed 15 workers and injured over 100. In March, a corroded BP pipeline caused the biggest ever oil spill on Alaskan soil. In June, regulators charged it with rigging the US propane market.

And the timing of the latest mishap could hardly be worse. The US Congress, which is desperate to deflect some of the fire from voters fuming at soaring petrol prices, is planning a probe into BP’s Prudhoe Bay operations, and angry shareholders are suing BP for compensation. And with Venezuela, Russia and other oil-rich countries feeling flush and questioning why they need foreign help to extract their oil, BP’s bungling is hardly a persuasive sales pitch.

The World Bank and corruption
The World Bank’s controversial new boss, Paul Wolfowitz, has stirred up a huge fuss by making battling graft his top priority. His anti-corruption drivewill be the most hotly debated topic at September’s IMF/World Bank annual meetings in Singapore. He has frozen loans to India, Kenya, Bangladesh and Chad because of concerns about fraud, tightened the strings attached to debt relief for the notoriously kleptocratic Republic of Congo, beefed up the Bank’s anti-graft department, and pledged to spend more on promoting good governance. Wolfowitz is adamant: the Bank will not tolerate corruption.

A crackdown is certainly desirable: it is scandalous if bank funds destined to help the poor are siphoned off by crooked contractors or funnelled into politicians’ Swiss bank accounts. It also erodes rich-country voters’ support for debt relief and aid. More  broadly, corruption impedes development: it stifles business, cuts into spending on public goods such as health and education, and hampers poor people’s efforts to improve their lot. So the Bank should try to ensure its money is well spent, monitor countries’ corruption levels and help them root it out.

But there is only so much the Bank can do, and Wolfowitz appears to be going about it in the wrong way. His actions so far — a cancelled loan here and there—appear arbitrary, when they ought to be transparent and systematic. Nor is the Bank meant to meddle in politics, and although the line is fuzzy, his bolder ambitions — such as fostering freedom of speech — overstep that fuzzy line. The Bank’s mandate is to promote development, not democracy. And while waging war on graft may sound good in Washington, in practice the bank must tolerate some, or stop lending altogether, since no country is whiter than white. Indeed, the bank itself is hardly above reproach. Its boss is appointed not through an open and fair selection process but by the US president — and Wolfowitz, who happens to be one of Bush’s close chums, has since recruited a coterie of neocon cronies with few development credentials.

Inefficient markets

Stagflation lite
US interest rates are already 5.25 per cent, euro rates are set to rise again on 3rd August, the next move in British rates looks likely to be up, and as deflation recedes, even Japan has finally raised rates. After years of borrowing cheap to take ever more exotic speculative gambles, investors are rediscovering risk and retrenching. This is not yet a bear market. The Dow, the FTSE and Morgan Stanley's international stock market index remain up so far this year—just. But markets may tumble once people realise that even in a more flexible and globalised economy, higher energy prices eventually feed through into higher inflation and lower growth. To keep a lid on rising prices, interest rates may have to rise much further than previously expected, pricking bubbly house prices and hurting heavily indebted consumers. Though the prospect of higher inflation and slower growth sounds like a rerun of the 1970s, it is unlikely to be that bad—rather what US economist Nouriel Roubini calls "stagflation lite."

20:20:20 vision to save Doha
The leaders of the world's most powerful economies—the US, the EU, Canada, China, India, Brazil and Mexico—have tried to break the deadlock in the Doha round of world trade talks by setting a mid-August deadline for reaching an ambitious and balanced framework agreement. Trade negotiators have been instructed to stop stonewalling and seek compromises instead, while Pascal Lamy, the WTO's boss, has received a mandate to bang heads together in the marathon negotiating sessions that doubtless lie ahead.

The main bones of contention remain the EU's high farm tariffs, the US's hefty agricultural subsidies and the steep industrial import duties of Brazil, India and other developing countries. In June, Lamy floated a 20:20:20 formula for a possible agreement, whereby the US would cap its farm subsidies at $20bn a year, developing countries would limit their industrial goods tariffs to 20 per cent and the EU would accept a proposal by the Group of 20 poor countries to cut its agricultural tariffs by an average of 54 per cent. But now that he has the public backing of all the big players, Lamy should aim higher.

An ambitious deal would not only bring bigger benefits, especially for developing countries; it may also be easier to sell politically. A modest deal would still be tough, since EU and US farmers will fight tooth and nail against any cut in agricultural support, but it would offer little for exporters to get excited about. They might prefer to spend their political capital on more rewarding bilateral trade deals instead. But a more ambitious deal would not only make cuts in US farm subsidies easier to swallow, by giving US farmers new export opportunities in Europe and elsewhere. It would also give US and EU exporters of manufactures and services eyeing up new markets in India and China something to fight for.

EU populism 1: mobile operators
Seldom does the Daily Mail say something positive about Europe, let alone an EU commissioner from Luxembourg who proposes to impose on British business new regulations described by one executive as "close to socialism." Yet the Mail has been singing the praises of Viviane Reding, the EU's telecoms commissioner, for her plans to slash the cost of using mobile phones abroad. It's a pity that Reding's proposals are half-baked. Mobile operators certainly make a packet from the "roaming" fees levied on phone calls made and received abroad, but Britain's mobile telecoms market is generally highly competitive. Prices continue to fall, and new operators, such as Tesco and easymobile, keep established players such as Orange and T-Mobile on their toes. Since most of their customers primarily use their phones within Britain, it is normal, and perfectly legitimate, that operators have until now focused their price-cutting on domestic charges. Besides, even before Reding first announced her plans, Vodafone had started to target customers who use their phone abroad a lot with cheaper prices through its Passport scheme. But despite the evidence that competition is working well, Reding felt compelled to intervene—in a potentially very damaging way. She proposes to set arbitrary caps on both wholesale and retail roaming prices, in effect gumming up the rapidly evolving mobile market by making it a regulated utility. Her plans, which still need the approval of the European parliament and the EU's 25 countries, should be roundly rejected. Where's the Mail when you need it to attack barmy Brussels initiatives?

EU populism 2: Microsoft
Reding is not the only EU commissioner who has succumbed to misguided populism. Neelie Kroes, the formidable competition commissioner, has made a mockery of due process by fining Microsoft €280.5m (£193m) for failing to comply with an antitrust judgement against it, the first such financial penalty the EU has imposed. She is promising even stiffer fines in the future. Kroes may be right that Microsoft has exploited the quasi-monopoly of its Windows operating system to crush competitors in related markets, but she is jumping the gun by fining it. The European court of justice, which has already struck down several high-profile EU antitrust decisions, is still considering Microsoft's appeal. Besides, Microsoft has stuck to the timetable agreed with the commission for handing over the technical information about Windows that rival firms need to write software that works well with it.

Fantasyland for the Fund

As I explained in a recent post, the notion that the IMF can act as a global economic policeman is pure fantasy. But that won't stop the Fund from trying. It is sending crack teams to the US, the eurozone, Japan, China and Saudi Arabia to examine how their economies contribute to the worrying global trade and currency imbalances. The IMF will then suggest how governments should change their policies to reduce the imbalances while supporting economic growth. And then?

And then nothing. America is not going to take orders from the IMF to shrink its budget deficit. Contrary to US hopes, China will not bend to Fund pressure to let its currency float. The eurozone is not going to reform and reflate at the IMF's instigation. The most likely  trigger for unwinding the global imbalances is a collapse of the dollar - something over which the Fund has no control.

Keep Gazprom's grip off our gas

I don't usually have a problem with foreign companies taking over British ones, or with sourcing supplies abroad. But the British government should block any move by Gazprom, Russia's state-owned monopoly gas exporter, to buy Centrica, which owns British Gas and is the UK's biggest gas distributor.

Europeans had a chilling warning of the perils of depending on Russian fuel earlier this year when supplies to Ukraine were briefly cut off for political reasons. Russia's actions highlighted that Gazprom is not a normal commercially minded company: it is the political pawn of president Putin. Its boss, Alexei Miller, underscored the threat to Europe when he warned EU governments not to thwart his company's ambitions to acquire European gas distributors - or Russia would pipe its gas east to China instead. On Tuesday, Mr Miller made his intentions in Britain clear:

Britain is a very interesting market. We are now discussing a strategy of entering this market. We are considering strategic partnerships on the British market and we are also considering buying assets in Britain.

Gazprom is said to be eyeing up Centrica.

Unlike many European countries that already rely on Russia for their fuel supplies, Britain, thanks to the North Sea, fortunately does not. But North Sea gas is running out and we will soon need to import it instead. Gazprom wants to seize the opportunity to get a grip on the British market by buying Centrica, with the aim of controlling both the supply of gas to Britain and its distribution. The government should intervene to prevent this. We cannot afford to put our energy security at the mercy of a potentially hostile Kremlin.

Inefficient markets

Bashing Tesco

It’s fashionable to have a go at Tesco, so it’s no surprise that David Cameron has joined in. Keen to show that he’s not in the pocket of big business, the Tory leader recently warned Britain’s biggest supermarket chain to “behave responsibly.” Worse, on the same day, the Office of Fair Trading (OFT) announced that it would refer the supermarket sector to the Competition Commission—less than a year after ruling that Britain’s £125-bn-a-year groceries market was sufficiently competitive.

The OFT claims its about-turn has come out since more evidence came to light. More likely its new boss John Fingleton is bowing to pressure from lobby groups which hate supermarkets. But while bashing Tesco may be clever politics, it is not sound economics. And it makes a mockery of government competition-policy reforms, which were meant to take politics out of antitrust decisions. Although farmers, environmentalists and small shopkeepers may not like it, shoppers use Tesco because it gives them what they want: an ever wider range of ever more affordable food. Judging by the performance of its overseas ventures, Tesco is also an international success story. Cameron may regret his opportunism; the OFT’s boss certainly should.

The IMF proves a good spinner

Rarely have the IMF’s spring meetings enjoyed such coverage. A “breakthrough in the governance of the global economy,” splashed the FT; the IMF, said the Guardian, is becoming a “world economic watchdog.” Gordon Brown, who chairs the fund’s key policymaking committee, knows how to spin.

The IMF has been rather idle lately: there haven’t been any big financial crises recently and Asian governments, notably China’s, have been piling up vast reserves of foreign currencies to insure themselves against such a calamity—doing away with the need to borrow from the fund, and all the conditions it entails. But the Asian countries have achieved this by holding down their currencies, thus propping up the US dollar and swelling America’s already vast trade deficit. With exchange rates out of kilter and trade imbalances growing perilously large, many have suggested that the IMF should rediscover its original Keynesian vocation as global economic policeman.

Cue finance ministers’ much-hyped decision to ask the IMF to examine how various countries’ policies contribute to these global imbalances and suggest how they might act together to resolve them. The fund already reviews individual countries’ economic policies periodically; by monitoring several collectively, it will now be able to make suggestions in a more joined-up fashion. Big deal. While the IMF has huge power over developing countries to which it has lent money, it has little sway over the US, China or Britain. Just ask the chancellor: for years, he has roundly ignored the Fund’s advice to raise taxes to plug the government’s budget deficit. The global imbalances will only be corrected when governments choose to mend their ways—or when markets force their hand.

Rich-country governments also put off a decision to give rising economic powers such as Brazil, China and India more say at the IMF. Although its economy is over ten times bigger, India currently has fewer votes than Belgium.

Energy politics I

Not since Che Guevara died fighting there nearly 40 years ago has Bolivia been on the frontline of the global struggle against capitalism. So the anti-globalisation brigade cheered on May Day as new president Evo Morales marched his troops into the country’s foreign-owned gasfields carrying banners declaring them “Nationalised: property of the Bolivians.” Among the victims of the expropriation were Britain’s BP and BG, France’s Total, Spain’s Repsol and Brazil’s Petrobras. The seizure of foreign assets by the government of Bolivia—GDP $22.3bn—should nail once and for all the myth that big global companies such as BP, with an operating income of $32.7bn last year, run the world. But Bolivia was unwise to flex its muscles in this way. It will be in a pickle if foreign gas companies refuse to stay on as contractors, taking their know-how with them. International investors will think twice about investing in the small Andean country, and Brazil, the main customer for Bolivia’s gas, will doubtless seek more reliable suppliers in future.

Energy politics II

Governments are rarely right to block foreign takeovers. But European governments would do well to limit Russia’s stranglehold over their gas supplies—by blocking state-owned Gazprom from snapping up Centrica, Britain’s main gas distributor. Gazprom demonstrated it was the pawn of a Kremlin potentially hostile to Europe when it cut off supplies to Ukraine earlier this year. And its boss has warned European governments not to block its expansion ambitions on the continent, lest it pipe its gas east to China instead. It is bad enough that Gazprom could exploit Europe’s dependence on its gas supplies to pump up prices; far worse that it is threatening to abuse its power for political purposes. Far from allowing the Russian monopolist to tighten its grip over European gas supplies, EU countries should be building pipelines that bypass Russia to alternative producers in the Caspian and seeking supplies of liquefied natural gas from further afield.

The IMF lacks the teeth to be an effective watchdog

If you believe the hype in today's Guardian and FT, leading governments achieved "a breakthrough in the governance of the global economy" over the weekend, transforming the International Monetary Fund into a "world economic watchdog". Larry Elliott's ebullience can be explained by his closeness to the UK Chancellor, Gordon Brown, who happens to chair the IMF's key policy making committee, while the FT is adopting an increasingly tabloid style to sex up its financial coverage. But in fact, what was decided at the weekend was pretty modest.

The IMF was set up in 1944 to oversee exchange rates and help countries smooth their trade imbalances. But since the demise of the Bretton Woods system of fixed exchange rates in the early 1970s, its main role has been as a lender of last resort to governments that have no-one else to turn to in a crisis. The Fund has had little to do recently, however, because financial markets have been relatively calm and governments have stayed out of trouble. What's more, many East Asian governments, notably China's, are hoarding vast reserves of foreign currencies to insure themselves against the risk of a financial crisis - in effect, doing away with the need to borrow from the IMF (and all the onerous conditions that this entails) altogether. But the Asian countries have achieved this by holding down their currencies, artificially propping up the US dollar and swelling America's already vast trade deficit. With exchange rates out of kilter and trade imbalances growing perilously large, many have suggested that the Fund should rediscover its original vocation as a global economic policeman.

The changes agreed on the weekend are a small step in that direction. The IMF has been asked to look at how various countries' policies contribute to global imbalances and suggest how they might act together to resolve them. Since the Fund already conducts regular reviews of individual countries' economic policies, the only significant change is that it will now also monitor groups of countries collectively. But that is unlikely to make much of a difference. While the IMF has huge power over developing countries to which it has lent money, it has little sway over the United States, China or Britain.

For years, the Fund has been telling Gordon Brown that he should raise taxes to plug the government's budget deficit - and has been roundly ignored. Likewise, it has been banging on for ages about the risk that global imbalances could spark a financial crisis, urging the US government to borrow less and US consumers to save more, telling the Chinese to let their currency rise and advising the Europeans and Japanese to reform and stimulate their economies. Again, it has had little impact.

The IMF will now be able to make suggestions in a more joined-up fashion. But the blunt truth is that governments each have their reasons for ignoring the IMF's advice - and there is little the Fund can do about it. If leading governments fail to act of their own volition to rebalance the global economy, only financial markets - not the IMF - can eventually force their hand.

Europe's no basket case

“Shock! Horror! Cato Institute declares American capitalism superior to European social democracy.” That was my cynical initial reaction to Cowboy Capitalism: European Myths, American Reality, a new book published by the free-market Washington, DC-based think-tank that comes recommended by the usual right-wing suspects: Milton Friedman, James Buchanan and Henry Paulson, the boss of Goldman Sachs.

But my first reaction was slightly unfair. Cowboy Capitalism is written by a German journalist, Olaf Gersemann, and was originally intended for a German audience. Its aim was to shake Germans' complacent assumptions about the superiority of their economic model and dispel some of the commonly believed myths about the weaknesses of the US economy. There is no denying that Germany's economy faces serious problems - and the German edition of this book is an important contribution to the debate about how the country should reform.

But the newly published and expanded American edition has a much more ambitious goal. It seeks to demonstrate that the US economy is not only much more successful at delivering higher living standards and employment than Europe's, but that it does so without causing greater injustice and insecurity. As Gersemann puts it, “The message is simple: While US-style capitalism may or may not have delivered results to be proud of, its performance, as measured by economic and social indicators, has clearly been superior to that of its continental counterparts.” Unfortunately for him, he fails to prove either point convincingly. Repeatedly, when weighing up the evidence, he gives America the benefit of the doubt, while interpreting the facts about Europe in the darkest light.

Consider his dramatic opening paragraph: “Over the last 25 years the US economy has enjoyed an average annual real growth rate of 2.9 percent. That's 55 percent more than the German economy mustered, 48 percent more than in France.” Game, set and match to Gersemann? Hardly. America's population is growing by some 1% a year, while Europe's is broadly stable, so comparing GDP growth rates tell us little about how well each economy is doing at delivering the goods for its citizens. A better yardstick is how fast living standards are rising, for which the growth in GDP per person is a decent proxy. According to my calculations from the IMF's World Economic Outlook, GDP per person in the US rose by 53.7 percent over the past 25 years - an average of 1.7 percent a year - exactly the same growth rate as in Germany and France, and less than the 2 percent annual rise recorded in Italy.

Admittedly, Germany's economy, the original subject of Gersemann's book, has performed poorly in recent years as it struggles with the burden of a botched reunification and the straitjacket of outdated regulations. Over the past seven years, GDP per person in Germany has risen by an average of only 1.3 percent a year, compared with 2.1 percent in the US. But over the same period, France's economy has notched up gains of 2 percent a year, a statistical deadheat with the US. So it is too soon to write off European social democracy on the basis of GDP statistics alone.

On the contrary. US statistical methods distort the comparison in America's favour, notably by accounting differently for firms' spending on information technology. As The Economist, hardly a cheerleader for social democracy, notes in its latest survey of the world economy, studies suggest that Europe's annual GDP growth would be almost half a percentage point higher if it were measured in the same way as America's. Presto - Europe is doing as well as, or even better than, America.

America's economic performance in recent years has also been artificially inflated by an unsustainable fall in its saving rate - driven first by the stockmarket bubble and sustained by the subsequent housing market bubble - which has temporarily boosted GDP growth. When the US saving rate eventually rises, and growth slows, America's performance will look even less impressive. Europe's growth rate, on the other hand, is likely to improve as its saving rate falls and it reforms its labour and product markets. So Gersemann's claim that “looking forward, the picture for the United States looks far brighter than for the continental European countries” is highly dubious.

Nor is it clear than even in absolute terms, America's economy performs better than Europe. True, according to OECD figures, France's GDP per person in 2002 was 76% of the US figure, Germany's 72% and Italy's 71%, so that, measured in GDP terms, living standards in Europe appear lower. But comparing GDP per hour worked, France's average productivity levels are 113% of America's, Germany's 94% and Italy's 93%, so European workers perform at least as well as their US counterparts. Part of the reason why America's GDP per person is higher than Europe's is that more Europeans are involuntarily unemployed. But most of the gap - according to calculations by the Conference Board, a US business lobby that is scarcely a fan of European ways - is due to Europeans' shorter working hours. Since the aim of life is happiness, not maximising GDP, and to the extent that Europeans are choosing to work less and enjoy more leisure as they become more productive, rather than slaving away all day at the office, this is a perfectly valid lifestyle choice that does not imply that Europe's economy is inferior to America's.

It is simply not true that Europe is a basket case. Nor, therefore, is it true that it needs to remodel itself along American lines - smaller government, lower taxes, less regulation -in order to prosper. Just look at countries like Sweden and Finland that have high taxes, big governments, large welfare states and stringent regulations, yet continue to prosper. They consistently top rankings of countries where it is good to do business, attract huge amounts of foreign investment to match, are masters at pioneering new technologies, and enjoy an enviably high quality of life.

Unfortunately, some European countries have shockingly high unemployment rates - and this is a scourge for both the jobless and the economy as a whole, because valuable talent is going to waste. Whereas the US jobless rate is 5.4%, Italy's is 8.5%, France's is 9.9% and Germany's is 10.7%. Worse, long-term unemployment is much higher than in America, especially in regions such as eastern Germany and southern Italy.

Clearly, France, Germany and Italy need to implement reforms that reduce involuntary unemployment. But there is no basis for Gersemann's assertion that they must deregulate their labour markets along American lines to do so. Well-devised regulations and active labour market policies can boost workers' conditions and security without costing jobs. That is how highly regulated Denmark and Sweden enjoy higher employment rates than America (and similar unemployment rates) without the wrenching insecurity of the US labour market, where workers fear losing their healthcare and pensions if they are fired or if their company falls on hard times.

For a German audience, Gersemann's book is a welcome antidote to lazy anti-American views. But his new edition for the US market simply panders to the prejudices of its right-wing publishers. If only his analysis of the United States was as trenchantly sceptical as his analysis of Europe, he might have written a more balanced - and more persuasive - book.

The bubble is dead: Long live the bubble

For years, they denied it was a bubble. Sceptics just didn’t get it. Then, they swore that it wasn’t as bad as it seemed. The worst would soon be over. Now, they prematurely herald a recovery. Fear not: America’s economy is back on track; the world can breathe a sigh of relief.

The first-quarter rebound merely confirmed optimists’ convictions. The economy grew at a 6.1% clip: the good times are back. America’s miracle economy has paused for breath - a dip so shallow that it was scarcely a recession - and is now on the up again. The stockmarket has "corrected" and is ready, according to irrepressible bulls like Abby Joseph Cohen at Goldman Sachs, to resume its flighty rise. Alan Greenspan has yet again saved the day.

Some go further. In the May/June issue of World Link, Brad DeLong of the University of California at Berkeley predicted that America’s productivity - and hence economic - growth would accelerate over the next decade. Were it not for the wreckage of the high-tech boom - the biggest waste of capital in history - one might think the bubble had never happened.

As for the doomsayers’ predictions that its bursting would cause a long and deep recession, well, they had been wrong all along.

But a few awkward facts intrude on this flight of fancy. Start with the gaping hole in America’s current account: $398 billion in the year to March - over $1 billion a day - and counting. Even relative to the vast US economy, that’s big: over 4% of GDP. And this, so the optimists have it, at the trough of the economic cycle, when spending on all things foreign is subdued. How huge might the deficit get if America’s economy really took off again?

Not to worry, the Panglossians insist: this yawning gap is an inevitable consequence of America’s success. The rest of the world may be mired in the stone age of the old economy, but even foreign cavemen know a good thing when they see it. America’s superior productivity growth amply justifies foreigners’ desire to invest there; Americans’ profligacy is simply the mirror image of that.

Never mind that many of the vaunted productivity gains from the new economy have proved to be hot air; assume, for the sake of argument, that US productivity growth will outpace gains elsewhere. Is this enough to sustain a growing current-account gap? Hardly. Foreign investors care about future returns, not putative productivity gains. If they are to pour ever more money into the US, they must be convinced that American shares will outperform foreign ones, and that the dollar will remain strong. Neither of those assumptions is plausible.

US stockmarkets have fallen from their lofty heights. The Dow is down by a fifth or so; the broader S&P 500 by a third; the Nasdaq by more than two-thirds. Time to buy? Not at all: American shares are still not cheap. As Martin Wolf has pointed out in the Financial Times, the price/earnings ratio of the overall stockmarket is around double its long-run average. Shares are more generously valued than at any time bar the peak of the recent bubble and 1929.

Look at it another way. Investors are betting that US company profits will grow at double-digit rates in years to come. But in the long run, profits cannot grow faster than the economy as a whole. History confirms this: over the past 50 years, profits have remained remarkably stable as a share of GDP. Allowing for, say, 2.5% inflation and 3.5% real GDP growth, this means profits can grow by only 6% a year. Even in the go-go years of the late 1990s, profits - as measured by government statisticians, not Andersen - rose less fast than national output: they peaked as a share of GDP in 1997. Most of the gains from new technologies have ended up lightening consumers’ bills (and lining bosses’ pockets) rather than stuffed in shareholders’ pockets.

So even if - a huge if - America is experiencing a productivity miracle, shares are overpriced. They cannot reasonably rise as fast as investors expect. The infusions of foreign money that America’s economy needs to stay afloat are predicated on a punt that US share prices and the dollar will remain - indeed, become more - overvalued. America’s recovery relies on the bubble mentality remaining strong. It is living on borrowed time.

The US economic recovery is unsustainable. Americans cannot live beyond their means forever.

For years, they denied it was a bubble. Sceptics just didn’t get it. Then, they swore that it wasn’t as bad as it seemed. The worst would soon be over. Now, they prematurely herald a recovery. Fear not: America’s economy is back on track; the world can breathe a sigh of relief.

The first-quarter rebound merely confirmed optimists’ convictions. The economy grew at a 6.1% clip: the good times are back. America’s miracle economy has paused for breath - a dip so shallow that it was scarcely a recession - and is now on the up again. The stockmarket has "corrected" and is ready, according to irrepressible bulls like Abby Joseph Cohen at Goldman Sachs, to resume its flighty rise. Alan Greenspan has yet again saved the day.

Some go further. In the May/June issue of World Link, Brad DeLong of the University of California at Berkeley predicted that America’s productivity - and hence economic - growth would accelerate over the next decade. Were it not for the wreckage of the high-tech boom - the biggest waste of capital in history - one might think the bubble had never happened.

As for the doomsayers’ predictions that its bursting would cause a long and deep recession, well, they had been wrong all along.

But a few awkward facts intrude on this flight of fancy. Start with the gaping hole in America’s current account: $398 billion in the year to March - over $1 billion a day - and counting. Even relative to the vast US economy, that’s big: over 4% of GDP. And this, so the optimists have it, at the trough of the economic cycle, when spending on all things foreign is subdued. How huge might the deficit get if America’s economy really took off again?

Not to worry, the Panglossians insist: this yawning gap is an inevitable consequence of America’s success. The rest of the world may be mired in the stone age of the old economy, but even foreign cavemen know a good thing when they see it. America’s superior productivity growth amply justifies foreigners’ desire to invest there; Americans’ profligacy is simply the mirror image of that.

Never mind that many of the vaunted productivity gains from the new economy have proved to be hot air; assume, for the sake of argument, that US productivity growth will outpace gains elsewhere. Is this enough to sustain a growing current-account gap? Hardly. Foreign investors care about future returns, not putative productivity gains. If they are to pour ever more money into the US, they must be convinced that American shares will outperform foreign ones, and that the dollar will remain strong. Neither of those assumptions is plausible.

US stockmarkets have fallen from their lofty heights. The Dow is down by a fifth or so; the broader S&P 500 by a third; the Nasdaq by more than two-thirds. Time to buy? Not at all: American shares are still not cheap. As Martin Wolf has pointed out in the Financial Times, the price/earnings ratio of the overall stockmarket is around double its long-run average. Shares are more generously valued than at any time bar the peak of the recent bubble and 1929.

Look at it another way. Investors are betting that US company profits will grow at double-digit rates in years to come. But in the long run, profits cannot grow faster than the economy as a whole. History confirms this: over the past 50 years, profits have remained remarkably stable as a share of GDP. Allowing for, say, 2.5% inflation and 3.5% real GDP growth, this means profits can grow by only 6% a year. Even in the go-go years of the late 1990s, profits - as measured by government statisticians, not Andersen - rose less fast than national output: they peaked as a share of GDP in 1997. Most of the gains from new technologies have ended up lightening consumers’ bills (and lining bosses’ pockets) rather than stuffed in shareholders’ pockets.

So even if - a huge if - America is experiencing a productivity miracle, shares are overpriced. They cannot reasonably rise as fast as investors expect. The infusions of foreign money that America’s economy needs to stay afloat are predicated on a punt that US share prices and the dollar will remain - indeed, become more - overvalued. America’s recovery relies on the bubble mentality remaining strong. It is living on borrowed time.

Pain Postponed

For sure, the day of reckoning could be delayed for a good while yet. The world’s biggest economy can defy the odds for far longer than, say, South Korea or Albania. The Bush administration’s Keynesian splurging (sorry, defence spending) has given demand a big boost. Alan Greenspan’s 11 interest-rate cuts have made borrowing dirt-cheap. While US companies are using this breathing space to get their house in order, consumers are betting the house, and more. Shrugging off the stockmarket slump, they are adding to their already huge debts: the personal sector’s financial deficit is nearly 4% of GDP. Fizzy house prices give consumers new grounds for exuberance; banks are more than willing to lend. But it cannot last forever.

The bubble could finally burst in several ways. American consumers might take fright and pare back their spending, precipitating a recession. (The Federal Reserve cannot ride to the rescue: at 1.75%, interest rates cannot fall much further.) Foreigners might pull their money out, pushing Wall Street and the dollar down - and the cost of borrowing up. Both of these shifts could conceivably happen gradually. But that is unlikely. Markets - in a word, people - are fickle. They swing from irrational exuberance to the depths of despair. The adjustment, when it finally happens, is likely to be sudden and painful.

It may have already begun. US share prices have fallen further than European ones this year, while Tokyo’s have risen. The flow of funds into the US is drying up. The dollar has slumped by 15% against the euro since January: at the end of June it was flirting with parity with Europe’s much-maligned new currency.

Foreigners could perhaps be forgiven a little schadenfreude: all the crowing about the wonders of US capitalism had begun to grate. Asians might point to Enron and WorldCom as examples of "crony capitalism". But non-Americans should not rejoice too much. Irrational or not, Americans’ free-spending ways have long kept the world economy going. Who will fill the gap? Not Japan, still in the doldrums a decade after its own bubble burst. This should, not for the first time, be Europe’s hour. Will it seize the moment?