Info Service on WTO and Trade Issues (Nov14/08)
24 November 2014
Third World Network
may lead to EU disintegration, unemployment, instability - Part II
Published in SUNS #7919 dated 19 November 2014
Medford, MA, USA, 18 Nov (Jeronim Capaldo*) -- The Trans-Atlantic
Trade and Investment Partnership (TTIP), a major trade agreement currently
being negotiated by the United States and the European Union, is projected
in econometric studies used by proponents as resulting in net economic
gains for all countries involved, and with some projecting as benefiting
the global economy too.
Most assessments in these studies, using Computable General Equilibrium
(CGE) models, predict gains in terms of trade and GDP for both the
EU and US, with some also predicting gains for non-TTIP countries
and creating no losers in the global economy.
Unfortunately (as discussed in detail in Part I), these desirable
results rely on multiple unrealistic assumptions and on methods that
have proven inadequate to assess the effects of trade reform, and
furthermore, several of these studies share the same questionable
economic model and database.
To obtain a more realistic TTIP scenario, we need to move beyond CGE
models. A convenient alternative is provided by the United Nations
Global Policy Model (GPM), which informs influential publications
such as the UNCTAD Trade and Development Report.
The GPM is a demand-driven, global econometric model that relies on
a dataset of consistent macroeconomic data for every country. Two
features make the GPM particularly useful in the analysis of a large
Firstly, the model assumes a more realistic mechanism leading to macroeconomic
equilibrium. All models that make these types of projections necessarily
make assumptions on the way economies will stabilize after a policy
change, which in this case is the introduction of TTIP.
The most important difference between the GPM and the CGE models described
is that, in the GPM, the full- employment assumption is replaced by
the Keynesian principle of "effective demand" (Keynes 1936,
Chapter 3). This means that the level of economic activity is driven
by aggregate demand rather than productive efficiency.
Consequently, a cost-cutting trade reform may have adverse effects
on the economy if the "costs" that it "cuts" are
the labour incomes that support aggregate demand.
Unlike in CGE models, changes in income distribution contribute to
determining the level of economic activity. The absence of this mechanism
in many commonly used models has often led to major errors in assessing
the impact of trade reforms.
Secondly, the GPM provides an explicit analysis of the macroeconomic
workings of every world region. This, in turn, has two important benefits.
It means that the model can provide well-founded information on the
economic interactions among all regions, rather than just assuming
that a given proportion of a country's income will be spent on imports
from other countries.
It also means that the GPM allows us to assess whether a given policy
strategy is globally sustainable. For example, the GPM shows that,
when sought by every country, a strategy of export-driven growth may
lead to adverse consequences such as a net loss of trade.
A third valuable feature of the GPM is its estimation of employment.
Using International Labour Organization data, the GPM specifies how
a given change in GDP growth affects employment growth, and vice versa.
A critical advantage of the specification used is that these growth-and-employment
relationships (which economists call "Okun's relationships")
are not constant over time.
In this way, the GPM recognizes that different factors might affect
the relationship between output and employment at different moments
in history. Thus, the model is able to account for recent puzzles
such as "jobless growth."
Given the large amount of data that must be processed to estimate
and simulate the GPM, we keep the analysis tractable by aggregating
some countries into blocs. With this, we lose specific analysis for
Despite its limitations, the GPM offers a useful perspective on the
consequences of agreements such as TTIP.
Indeed, it offers a "big picture" and insights into several
important adjustment mechanisms that are often overlooked by other
SIMULATION STRATEGY: GLOBAL IMPLICATIONS OF EXISTING TRADE PROJECTIONS
Our country aggregation leaves the world's largest economies as independent
units. In the TTIP area, the United States, the United Kingdom, Germany,
France and Italy appear as stand-alone economies.
The remaining countries are aggregated into two blocs: "Other
Northern and Western Europe" (including Finland, the Netherlands
and Belgium) and "Other Southern and Eastern Europe" (including
Greece, Spain, Portugal and eastern European economies).
But European nations and the US are not the only countries in the
world. One benefit to macroeconomic models is that we can estimate
the effect of a policy change like TTIP on countries outside of the
potential trade bloc.
Accordingly, we are able to estimate how TTIP will affect individual
countries like Argentina, Brazil, Canada, China, the Commonwealth
of Independent States (CIS), India, Indonesia, Japan, South Africa
and Turkey (which we count as independent units, much as we did with
the US). All other countries are grouped into two blocs per continent.
As in other simulation exercises, we first project a baseline path
for the economy of every country or country bloc from 2015 to 2025
in order to match previous studies. We then determine counterfactual
values that are implied by the adoption of the TTIP.
To determine the baseline, we use all information available on countries'
past and present policies and spending patterns. We use the same baseline
assumptions as UNCTAD (2014).
For example, we assume that governments in TTIP countries and in some
non-TTIP countries will not reverse their commitments to fiscal austerity.
Therefore, even in the baseline scenario, we do not expect fiscal
spending to expand aggregate demand even though historically this
has been an important channel.
This confirms a major advantage to GPM-type models that we noted above:
they allow for greater realism about the likely path of policy in
the foreseeable future. (For more information about how these assumptions
on the path of different countries' policies were constructed, see
In order to implement the TTIP scenario, we assume that the volume
of trade among TTIP countries will initially expand at the pace indicated
by the existing studies. However, we do not rely on these studies
for changes in net exports, which ultimately determine any changes
Instead, we calculate net exports changes taking into account the
global feedbacks built into the GPM. Therefore, our simulation clarifies
the implications of the "consensus" pattern of trade in
terms of GDP, income distribution and non-TTIP trade.
In the GPM, the impact of a given increase in trade is different from
other models. As indicated above, such change affects the distribution
of income ultimately feeding back into total demand and income.
Finally, we consider two specific mechanisms through which the European
economy could adjust to these TTIP-induced changes in net exports.
First, we assume that increased international competition will exert
pressure on the real exchange rate. This might occur as firms in every
country try to preserve their international competitiveness and increase
efforts to reduce labour costs. It might also be the result of unemployment
pressures and legislation that would reduce total labour compensation.
As a result, the labour share of GDP would further decrease in Europe
in a downward trend toward the lower US share, weakening aggregate
demand. Finally, this adjustment mechanism might also play out through
a nominal devaluation. This might indeed help an economy gain higher
market shares abroad, but it may also generate a race to the bottom
at the end of which no country will have gained higher exports.
The second mechanism recognizes a policy strategy that has become
central in recent decades assuming that, in order to stimulate flagging
domestic demand, policy authorities may increase lending. As a result,
asset prices (including some financial assets) might increase, setting
off the unstable dynamics that have become apparent after the 2009
NET EXPORTS AND GDP
Our simulations show that the assumed trade expansion among TTIP countries
will cause a net export loss for all EU economies. Losses would be
a drag on aggregate demand for all EU economies. Northern European
Economies would suffer the largest decreases (2.07% of GDP by 2025)
followed by France (1.9%), Germany (1.14%) and the UK (0.95%).
On the other hand, US net exports would be higher by slightly more
than one percent.
A likely explanation for how EU-US trade could expand while EU net
exports to the world could decline is that, in the EU's stagnating
economy, domestic demand for lower-value-added manufactures - in which
the EU is relatively uncompetitive - will crowd out higher-value-added
Indeed, our figures show an increase of net exports in almost every
other region of the world except Europe, suggesting that higher demand
for low-value-added products will lead to higher net imports from
Asian and African economies and from the US.
Alternatively or additionally, TTIP could facilitate EU imports of
manufactures assembled in the US with parts made in China and other
Net exports are a key component of GDP. As such, the net loss of trade
will directly lower EU countries' national income. Our simulations
indicate small but widespread GDP losses for the EU, in a clear contrast
with existing assessments.
Consistently with our figures for net exports, Northern European Economies
would suffer the largest GDP reduction (0.50%) followed by France
(0.48%) and Germany (0.29%). GDP would increase slightly in the US
(0.36%) while GDP increases in non-TTIP countries would be positive
but negligible (approximately 0.1%).
EMPLOYMENT AND INCOMES
Following the reduction of net exports and overall economic activity,
we project clear losses in EU employment and labour incomes. Recall
that our model allows us to make employment projections, because it
estimates the relationship between GDP growth and employment growth
over several decades based on ILO data.
This is compatible with a tendency toward specialization in higher-value-added,
lower-employment-intensity products, which would lead to export and
output gains in a few sectors while adversely affecting many others.
As a result, we calculate that the EU as a whole would lose approximately
600,000 jobs by 2025, most of which are in Northern Europe, France
and Germany. By comparison, this is more jobs than the EU lost in
the crisis years of
2010 and 2011 - clearly Europe must avoid another job loss of this
magnitude even if gradual and spread over many years.
The loss of employment would further accelerate the reduction of incomes
that has contributed to the EU's current stagnation. Indeed, labour
income will continue its steady decrease as a share of total income,
weakening consumption and residential investment while likely exacerbating
The flip-side of this decrease is an increase in the share of profits
and rents in total income, indicating that proportionally there would
be a transfer of income from labour to capital. The largest reductions
will take place in the UK (with 7% of GDP transferred from labour
to profit income), France (8%), Germany and Northern Europe (4%),
reinforcing a negative trend that has continued at least since the
early 2000s (Figure 1).
To emphasize the difference between our results and existing estimates
of employment impact, we calculated the projected reduction of per
capita employment income implied by the fall of employment and the
As mentioned in Part I, CEPR estimates that the annual income of the
average household would increase in the long term by 545 Euros, while
Ecorys projects an increase in working life income, again for the
average household, of 12,300 Euros. Given the ongoing deterioration
of income distribution, we chose to focus on working households, calculating
the change in per capita employment income.
Our results are clearly incompatible with both CEPR and Ecorys. Indeed,
we project losses of working incomes per capita ranging from 165 to
more than 5,000 Euros. France would be the worst hit with a loss of
5,500 Euros per worker, followed by Northern European Countries (4,800
Euros), the United Kingdom (4,200 Euros) and Germany (3,400 Euros).
For a household with two working persons, the loss ranges from 330
to more than 10,000 Euros. By contrast, in the US there would be an
increase of employment income.
The loss of economic activity and the weakening of consumption in
the EU means that tax revenue will be less than it would have been
in the absence of the TTIP. We estimate that the surplus of indirect
taxes (such as sales taxes or value-added taxes) over subsidies will
decrease in all EU countries, with France suffering the largest loss
(0.64% of GDP or slightly more than 1% of total government budget).
Government deficits would also increase as a percentage of GDP in
every EU country, pushing public finances closer or beyond the Maastricht
The loss of employment and labour income will increase pressure on
social security systems. Using GPM employment projections and UN population
data, we can calculate the economic dependency ratio, that is the
ratio of total population to employed population. This indicates how
many people are supported by each job, either through family relationships
or social security contributions.
According to our calculations, the ratio would increase throughout
the EU announcing more troubled times for European social security
systems. By contrast in the US, indirect taxes would not be affected
while the economic dependency ratio would slightly improve.
ASSET PRICE INFLATION AND REAL DEVALUATION
Policymakers will have a few options to adjust to the shortfall in
national incomes projected by our study. With wage shares and government
revenues decreasing, other incomes must sustain demand if the economy
is to adjust. These adjustments have to be profits or rents but, with
flagging consumption growth, profits cannot be expected to come from
A more realistic assumption is that profits and investment (mostly
in financial assets) will be sustained by growing asset prices. The
potential for macroeconomic instability of this growth strategy is
In this adjustment scenario, there would be a strong increase in asset
prices where financial markets are more developed, especially in the
United Kingdom, Germany, Other Western and Northern European Countries
and France (Figure 2). Aggregate demand in these economies would be
sustained by a recovery of the financial sector, stimulated by domestic
lending and growing profits.
However, it is critical to note that such growth would last only as
long as asset prices keep growing, requiring ever-rising levels of
lending. In the current context of weak commercial lending, this might
require intentional policy interventions, such as further deregulation.
This road to growth has been taken before and its risks have proven
During the most recent economic crisis, individuals and businesses
quickly ran up unsustainable debts until generalized insolvency suddenly
stopped economic activity. Moreover, the extent to which deregulation
is successful in increasing lending, rather than just reducing accountability
in the financial sector, is not clear.
Of course, a run-up in asset prices is not the only policy and economic
response to the drop in aggregate demand.
But it appears to be slightly more viable than alternative adjustment
mechanisms. For example, it is often suggested that an opportunity
might come from real devaluation. Countries might be tempted to seek
this alternative by way of a nominal depreciation, a reduction of
real labour costs or both.
In light of the discussion in section 3, the latter channel does not
appear viable. This is because it would prove counter-productive when
applied by many countries.
In other words, if the incomes of workers in every country are reduced,
the demand hole is dug even deeper.
Moreover, the magnitude of the cuts required could be socially unsustainable
after decades of falling labour shares.
On the other hand, a substantial nominal depreciation of the Euro
would probably trigger defensive depreciation in other currencies
before any improvement in competitiveness is achieved.
According to our projections, a real devaluation would have some effect
in Germany and France but nothing that might strongly stimulate aggregate
demand (Figure 3). Furthermore, attempts at strong devaluations are
often followed by a race to the bottom in which the trading partners
of the country that devalues try to regain the lost ground by devaluing
as well. But even when a race to the bottom does not happen, lasting
periods of real devaluation might lead to the accumulation of external
debts as Europe's deficit countries have experienced after 1999.
To reiterate, our model requires some form of adjustment to compensate
for the drop in aggregate demand. The precise path that future policymakers
will choose (if any) is of course unknowable at present. But our model
sheds light on the likely macroeconomic consequences of a TTIP-induced
change in trade volumes, and also on the policy responses that are
more or less likely to fill the demand gap.
DISCUSSION AND CONCLUSION
Existing studies on TTIP have focused on the impact the agreement
would have on aggregate economic activity in member countries. They
have done so based on detailed sectoral analyses of TTIP economies,
but have neglected the impact of income distribution and other important
dimensions of macroeconomic adjustment.
Our assessment of TTIP is based on the United Nations Global Policy
Model, which has proven a convenient tool to estimate the impact of
policy changes involving large areas of the world economy. Our simulation
does not question the impact of TTIP on total trade flows estimated
by existing studies. Rather we analyse their implications in terms
of net exports, GDP, government finance, and income distribution.
Our analysis points to several major results. First, TTIP would have
a negative net effect on the EU. We find that a large expansion of
the volume of trade in TTIP countries is compatible with a net reduction
of trade-related revenues for the EU. This would lead to net losses
in terms of GDP and employment. We estimate that almost 600,000 jobs
would be lost as a result of TTIP.
Secondly, TTIP would reinforce the downward trend of the labour share
of GDP, leading to a transfer of income from wages to profits with
adverse social and economic consequences. Policymakers would face
a few options to deal with this demand gap. Our model suggests that
asset price inflation or devaluation could result, leading to higher
In this paper, we have focused on trade and its consequences, leaving
the investment component of TTIP on the sidelines. Going forward,
valuable insights could be drawn by further extending the analysis
of TTIP's financial effects.
[* Jeronim Capaldo, Research Fellow at the Global Development and
Environment Institute (GDAE) of Tufts University, contributed this
two-part series article based on his GDAE Working Paper 14-03, October
2014. The first part was published in SUNS #7918 dated 18 November
2014. The full paper, with tables, graphs, footnotes and references
can be accessed at: http://www.ase.tufts.edu/gdae/policy_research/TTIP_simulations.html]