European Disunion: Citizens’ Fears over Globalization and Jobs Divide the EU

When citizens of France and the Netherlands voted last spring to reject a proposed treaty establishing a constitution for the European Union, many politicians and commentators fretted about whether the votes would derail the 50-year-old process of European political and economic integration.


 


Nearly six months after the referendums, faculty members at Wharton with ties to Europe and others who follow developments there say the votes have indeed brought the formal integration process to something of a standstill. But they say that may not be a bad outcome. For once, voters, who rarely have a chance to participate in any kind of EU decision-making, were asked what they thought. The ‘no’ votes were cast for any number of reasons — some local, some pan-European — and the signals they sent were at times conflicting. But voters largely made it clear that they have deep concerns about the direction in which the EU is moving, particularly with regard to policies that relate to globalization and jobs. And now, these observers at Wharton and elsewhere say, leaders across Europe are being forced to take note. Politicians will have to make the case for integration clearer to the millions of people who are affected by it if they want the integration process to continue and a constitution to be ratified somewhere down the line.


 


“The sentiment that has been expressed through these votes has slowed down the process in the sense that people who wanted to push ahead faster got a warning that there was opposition. People were not ready to move quite as fast as governments wanted to move,” says Christian Leuz, a Wharton accounting professor and native of Germany. “In part, that is a result of relatively poor communication about what the objectives of the EU are and what its strengths and weaknesses are. It’s not clear at this point that these votes will fundamentally change the course of the EU, but it will make people pause and force politicians to communicate better what they want to accomplish.”


 


“For a long time European integration was just moving forward, and it was being moved forward by the national governments and the European Commission in Brussels [the EU’s executive arm],” says Wharton finance professor Skander Van den Heuvel, who grew up in the Netherlands. “But there was not much of a connection with public opinion. With the referendums, it was the first big opportunity for people to say no to what seemed to many European citizens as this automatic process where European integration would just go and on.”


 


Van den Heuvel adds that the rejection of the draft treaty by two of the core members of the EU “has forced national governments to abandon the practice of just proceeding with integration without subjecting it to much national debate or democratic control. And that may be a good thing in the long run.”


 


The no votes “have not changed anything because we’re back to where we were; the world has continued,” says business executive Sir Paul Judge, chairman of the Royal Society of Arts and president of the Chartered Management Institute in Britain. “There have been no big changes in business life, but amongst what one might call the European elite, it’s had a big effect. It has sounded a wakeup call to the fact that there’s a limit to the degree to which people will give up their country tribalism for a European tribalism, if one can put it like that. We all have allegiances like that — to a country, or a football team, or a state as in America.”


 


In an article titled, “The End of Europe?” in the November-December issue of Foreign Affairs, Laurent Cohen-Tanugi sounds a similar theme. Cohen-Tanugi, a partner and mergers and acquisitions specialist in the Paris office of Skadden, Arps, Slate, Meagher & Flom, writes that “the shock [of the no votes] was so severe that the ratification process was extended for an indefinite ‘period of reflection,’ to allow some EU members (such as the United Kingdom) to suspend further votes that might deal the treaty additional blows.”


 


He adds that Europe has been in a “state of depression” since the votes, but argues that observers should not “misdiagnose the problem and mistake the symptoms of the EU’s crisis for its causes. Disagreement over the constitution did not precipitate the EU’s current troubles; rather, it was a growing malaise over the EU’s operation and prospects that precipitated the constitutional debacle.”


 


Nicolas de Boisgrollier, a visiting fellow at the Center on the United States and Europe at the Brookings Institution in Washington, D.C., writes in the autumn issue of Survival, a publication of the International Institute for Strategic Studies, that Europe is experiencing more than just another crisis. “It is an existential crisis at the worst possible moment, a year after the largest ever round of EU enlargement [to 25 countries], with several candidates still lining up, and at a time when international tensions — including global terrorism — demand a politically coherent European Union.” He adds that, in the wake of the French and Dutch votes, “European leaders have so far failed to rise to the occasion” and asserts that “the time has come to clarify the institutional nature, as well as the ultimate goal” of the EU.


 


Chirac and Merkel


To be sure, the no votes have already dramatically changed the political landscape. In France, Jacques Chirac, who put his reputation on the line by urging his countrymen to approve the constitution (his government sent out copies of the 400-page tome to all citizens), was humiliated by the defeat. In recent weeks, an impasse over the EU’s long-unresolved budget has drawn attention to major differences among members. Chirac continues to insist on large subsidies for French farmers, while other EU leaders would like to see sectors like research and development and education receive more EU funds.


 


In Germany, in the immediate aftermath of the no votes, Angela Merkel, a Christian Democrat and proponent of free markets and labor reforms, emerged as the overwhelming favorite to replace Chancellor Gerhard Schroder, a Social Democrat and supporter of the so-called European “social model” that provides cradle-to-grave financial security for citizens. But as voters had time to mull over the impact that Anglo-Saxon-style capitalism and globalization might have on their job security and welfare system, they had second thoughts about Merkel.


 


Merkel’s lead in the polls slipped steadily for weeks, and by the time elections took place in September, many voters had turned against her and gave her only a narrow victory over Schroder. Merkel, now the chancellor-designate, has been forced to accept a power-sharing “grand coalition” with her political opponents — an arrangement that leads many to believe she will not be able to achieve any significant economic reforms. In a twist complicating formation of the coalition, Franz Muntefering, a leftist who had been expected to serve as vice chancellor and labor minister under the conservative Merkel, resigned as head of the Social Democratic Party on Oct. 31, after suffering an intra-party challenge to his leadership. Merkel vowed to build a coalition government despite the surprise resignation, the Deutsche Welle website reported Nov. 1.


 


“Merkel won’t be able to do very much,” says Wharton finance professor Franklin Allen, who hails from Great Britain and follows Europe closely. “The deal she cut means the Social Democrats have a lot of power.”


 


Judge says Germany has little choice but to adopt free-market reforms if it is to revitalize its sluggish economy. “There’s clearly a section of people who understand that Germany has got to change; they have 10% unemployment. But I was at a breakfast with Jean-Claude Trichet [president of the European Central Bank] earlier this year, and he was asked if France and Germany and other countries would change their economic models. He said, essentially, that things would have to get a lot worse before they will change, as they had in Britain in the late 1970s, which led to people voting for Margaret Thatcher. British voters saw the whole union way of doing things wasn’t working. France and Germany haven’t gotten there yet.”


 


In the next German election, Judge says, voters will conclude either that Merkel’s victory “was a bit of a mistake and go leftwards again or she’ll receive enough credibility to show what she can do. She has little power and there won’t be much change now.”


 


Eye on Italy


Much attention is focused on developments in France and Germany, but Allen says Italy bears close watching because it is buffeted by the winds of globalization as much, and perhaps more, than other EU members. “What’s happening in Italy is very important at the moment because it is at the forefront of being affected by globalization and that’s causing big political problems,” according to Allen.


 


Italy is struggling economically. It has been on the verge of a recession for quite some time, has huge government debt and suffers from continuing budget deficits. But probably the most serious issue is that Italy’s economy is heavily manufacturing oriented. Hence, it faces a much bigger threat from China than most of the rest of Europe. For example, unlike most of the developed world, Italy still relies heavily on an extensive textile industry — a sector that the majority of affluent countries have ceded to low-cost China.



“As we go through the next six to seven months, Italy will be an important aspect of what happens in the EU,” Allen predicts. “Italy has always been such a strong supporter of the EU, and it will make a big difference whether Silvio Berlusconi gets reelected or Romano Prodi gets elected. That will have a big impact on the psychology of EU integration going forward. Berlusconi assumed office with a Margaret Thatcher-like, free-market agenda, but has not really implemented it.”


 


As for the Netherlands, Allen adds, “The Dutch are horrified at the way the large EU countries operate. The Netherlands is very much a welfare state, but in terms of being a market economy, it’s much closer to the U.S. and the U.K.”


 


Three Ways of Looking at the EU


Christian Terwiesch, professor of operations and information management at Wharton, says people who do not follow Europe closely may find it helpful to look at the EU in three ways. First, there is Old Europe, comprised of France, Germany, Britain and the other rich members of the union. Second, there are the countries of New Europe, many of them in formerly Communist Eastern Europe, whose economies are struggling to progress and who were admitted to the EU in 2004. Third, there is Turkey, a powerful but economically poor country that is not part of the EU but wants to be.


 


Many workers and companies in Old Europe fear globalization and the competition it will bring both from distant places like China and countries closer to home. Specifically, Old Europe worries that lower-wage workers from New Europe — as well as Turkey, if it is ever admitted — will move across borders and take their jobs. In October, the EU and Turkey announced that they had reached agreement to open formal negotiations on whether the country can be admitted to the EU. Turkey, a Muslim country of 70 million, illustrates one of the main controversies dividing EU countries: Some European leaders favor admitting Turkey as a full member, while others want to offer it something less than full-member status. They point to the country’s still-developing economy and question its willingness to embrace the conditions of EU membership — adopting the 80,000 pages of EU laws as well as the EU’s economic and political standards. It is expected that it will take at least 10 years for a decision on Turkey’s application to join the EU, which was first made some 40 years ago.



“When you look at the French and Dutch referendums, it’s not surprising that the majority of people have concerns,” says Terwiesch. “For those who grew up in the Old Europe, if the EU suddenly includes Eastern Europe, which is just next door, you can get in your car and drive over to economies with wage rates and employment standards that are so dramatically different. I don’t want to be judgmental, but you can imagine the fear and emotions on the part of employees in Old Europe who have worked hard but their jobs just moved a few miles across the border and their contribution is no longer valued. In a world that’s used to stability, the frustration is with new EU members and their cost advantage. And it’s frustration with global forces. A referendum is the only time in their lives when they can say no to globalization.”



French officials have made it clear that their country’s companies are not for sale to outsiders. In July, rumors that Groupe Danone — one of France’s biggest food companies and the makers of Dannon yogurt and Evian water — was the target of a hostile takeover by PepsiCo set some French politicians into a frenzy and prompted a warning that they would not permit Danone to be bought by a foreign company. In August, after The Wall Street Journal reported that a Brazilian company was thinking of making a bid for Eramet, a French mining concern, the French government revealed that “it had compiled a list of 10 sectors that it would shield from foreign takeovers,” the Journal said. The list was not made public, but the newspaper said it included casinos, biotechnology firms and businesses related to security and defense.



M&A Activity


Yet there is a paradox occurring here, too, which demonstrates that Europeans can be of two minds about whether they should embrace free-market principles. Laurence Capron, professor of strategy at INSEAD in France and a visiting professor at Wharton this year, points out that while some politicians rail against mergers in high-profile cases, statistics show that mergers are quietly occurring at a pretty healthy clip in the EU.



“When you look at merger and acquisition activity in Europe, you have two types of forces — forces that move toward integration and forces that push toward less integration,” she explains. “There was some resistance from the French government in trying to prevent some French firms being bought by foreign competitors, like the issue with Danone. There, you had the cultural and political aversion of a continental EU member state to cross-border takeovers which in some cases heavily influences the outcome of the bids. While economic nationalism remains an obstacle to cross-border mergers and EU economic integration, what you see in reality is buoyant cross-border deal activity with high profile acquisitions even in sensitive industries such as banking — the $15 billion acquisition of Abbey National (UK) by Santander Central Hispano (Spain) — or utilities — the $14.2 billion takeover of Electrabel (Belgium) by Suez (France).”



Capron cites European Commission data showing that of all M&A activity among EU firms in 2004, 57% took place between domestic firms within countries, often in attempts to create a national champion. But of cross-border acquisitions involving EU bidders, 14% took place within the EU and 24% were international — outside the EU. “When you look at cross-border acquisitions, there were more outside Europe than within Europe last year,” says Capron. “And 96% of the value of these cross-border mergers took place within the old member countries of the EU and only 4% involved new member states.”



Within the enlarged EU, she said, cross-border M&A activity is still predominantly taking place within the old member countries, and only 4% of the EU cross-border deals involved new member states for the year 2004. This proportion is to be expected since the market for corporate control in those new member states is in its infancy.



According to Capron, in 2004, the EU adopted a new merger regulation requiring officials who are weighing proposed M&As to examine not only the potential anti-competitive effects of the takeover, but also the potential efficiency gains that stem from cost savings and an increased ability to innovate when combining two businesses. Since 2002, the EU has been working on a more ambitious objective of harmonizing EU takeover law through the adoption of a pan-European takeover code by 2006 (along the lines of the U.K. takeover code). The new European takeover law aims at fostering consolidation in Europe by creating a level playing field for companies across the EU and removing barriers to takeovers. “Of course, we will see how long it takes for countries to adopt this new EU takeover law,” she says. “Most likely it will take years before we reach harmonization. But at least the EU has an initiative to develop a pan-European takeover code which not only could help European competitiveness but also ensure better protection of shareholder rights.”


 


No Consensus


The Dutch and French referendums also gave voters a chance to express displeasure with individual leaders and the distant, faceless bureaucrats at the EU’s headquarters in Brussels. “They were voting no to Chirac,” says Wharton’s Terwiesch, a German native. “They are a little sick and tired of the current government. That’s just the nature of democracy. They also voted against the incumbents in Brussels. It’s the whole way the European administration is organized, far away from the people. People haven’t read the draft constitution; they just said, ‘I’m tired of Brussels. I don’t sense these people are representing me.’”


 


Like de Boisgrollier, Terwiesch says politicians have not responded to any great degree to the referendums, but says it may be best for them not to do anything much right now. “I don’t think a lot has happened. It probably was the right thing not to react. It’s hard for politicians to know what people expect them to do. There’s no consensus on what people want. So I don’t want to complain that politicians haven’t reacted a whole lot.”


 


Now that the formal EU integration process is in limbo, and future votes on the proposed constitutional treaty remain up in the air, what comes next?


 


Wharton’s Leuz says the EU leadership and citizens must come to terms with what the EU is, what it should be, and the role the EU will play in people’s lives. “It’s very complicated and difficult. It’s not just a matter of the EU sending pamphlets to citizens and saying, ‘This is what we do.’ It’s a societal process that takes place in the news media and at local levels. These things take time. The EU is not like the United States of America. And it’s not a United States of Europe. We have to be more realistic in terms of what the objectives are and what the EU can achieve in the near to medium term.”


 


Although a fresh vote on the constitution will not happen any time soon, Wharton’s Van den Heuvel says that will not necessarily stop the integration process “because the EU is used to working with a patchwork of treaties; they’ve done that for most of their existence. Having said that, the key issue in my mind is that politicians have started to pay attention to what voters think.”

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