Europe's new model economy

The world's economists are scurrying about, trying to discover and explain the reasons for America's record boom. Despite eight years of growth, no signs of accelerating inflation are to be found in the US. Moreover, no one in America seems to care about traditional economics; its all the "new economy", Internet or die.

Traditional US investors are at a loss to explain why company earnings are suddenly a poor way to predict which stocks will be hot and which are likely to fail. Any company without a .com in its name or future seems doomed. Gurus of the old school claim that all this profitless prosperity cannot last; soon the stock market will get back its senses. When that happens, the glamour of America's long boom will vanish, the notion of the "new economy" will be as forgotten as last year's fashions.

There is now an entirely new angle to all this that is worth contemplating; namely that the US is not unique, that Europe is joining the new economy game. Perhaps Europe's stock markets are as yet the only participants but that is a start.

Why does Europe seem hesitant? The euro is weak, it has none of the glamour hoped for at its launch last year. Besides, European governments remain defensive: no important labour market reforms nor initiatives aimed at deregulation are under way. True, Germany is putting on the books an important tax deal that will allow large financial institutions to sell their vast shareholdings in the corporate sector without punitive capital gains taxes. But, at best, European governments have only consented to allow rationalisation in their banking industries and some cross-border mergers.

Despite these small steps from government, new economy stocks are becoming the big game on European markets. This not only reflects the large number of mergers of late, but increasingly reflects the new economy content of established businesses.

Siemens is carving out a choice fillet in the form of its semiconductor business to be offered as one of the largest European IPOs on record. Already it is oversubscribed and trading in the grey market at three times the likely issue price.

Not to be left out, other companies are looking at their business holdings to ask what can be carved out and sold. Similarly, large financial institutions like Deutsche Bank, as they free up the huge pots of money now tied up in industrial holdings, are thinking of little else but participating in a US-style scene of venture capital, start-up financing and IPOs.

So far all of this has been a sideshow focused on Germany's Neuer Markt, but it is becoming a general focus of attention. The new economy enjoys at least equal hype in Switzerland, Italy, Spain and France. Technology and the new economy are immensely popular across Europe because they provide a much better route to prosperity than waiting for government, unions, and bureaucrats to agree on restructuring the old economy.

Indeed, it won't take long before European governments embrace the new economy's quintessential wealth creation and even claim credit. As European new economy stocks soar into the stratosphere, the rest of the world will eagerly join the game.

Such robust stock market growth will drive up the euro, increasing the returns of foreign investors over and above what they can get just from capital gains. That is exactly what happened in Japan last year; corporate restructuring was just the first pass in the revival of stocks. Then high technology and new economy became the buzz words in getting valuations higher than in the US. Of course, the value of the yen soared too.

This prospective stock market boom is heaven-sent for a European economy stuck in a rut. Europe has formidable wealth, but that wealth is sleeping; it has formidable human capital, but it is shackled from lack of initiative, counterproductive regulation, bureaucracy, and by insufficient profit motivation - call it a lack of greed.

European leaders should embrace the liberation which will make their lives so much easier and Europe so much freer. Europe's new economy is coming on. The wealth it creates may shock governments enough to set the rest of Europe's economy free.

Rudi Dornbusch is Ford Professor of economics at MIT and a former chief economic adviser to both the World Bank and IMF. Copyright: Project Syndicate, March 2000