Will the Collapse of the Euro Trigger the Collapse of Europe?
The assumption that "the collapse of the euro will trigger the collapse of Europe" is correct – and this goes far beyond purely economic aspects. Economically, a collapse of the Monetary Union or the “unregulated” exit of certain member states would entail serious consequences: One immediate outcome would be the flight of capital on a grand scale – something that would unbalance the new exchange rates. In turn, this would necessitate control of the free movement of capital as well as of exchange rates, thus threatening crucial elements of the Common Market – with serious consequences for the free movement of goods.
In a Europe without Monetary Union, national interests and exchange rate policies may easily “distort” the movement of goods and capital, triggering, if push comes to shove, trade wars. It is clear that the end of the Monetary Union would not recreate the “co-operative” situation we had before it was introduced.
Nevertheless, it is also clear that thus far all efforts to gain time by using fiscal policy instruments have rather deepened the crisis. To get out of it we will have to find a sustainable way to better balance the competitiveness of the respective national economies.
A lack of reform will lead to an increase in national debt, a decline of the potential to grow, and to high long-term unemployment rates. Distributional conflicts within the Monetary Union would rise dramatically, and this would, finally, threaten Europe’s unity.
As such scenarios show, the future of the euro – and its possible collapse – will have a profound impact on Europe’s future social and cultural development. There is a very real threat that a collapse of the euro would sap the momentum needed for Europe’s future peaceful development. The politicians who, before the introduction of the euro, perceived of it as key to similar developments in other policy sectors were thus proven right, albeit inadvertently.
With this general framework in mind, we will have to shape Europe’s future and amend the treaties accordingly. The soon-to-be-reality European Stability Mechanism (ESM) and the measures announced by the European Central Bank (ECB) present powerful instruments for saving the Monetary Union. An important aspect regarding Europe’s common future is a forceful implementation of structural reforms in the Eurozone countries. Without such reforms there is no future for the euro – or Europe. What is needed is fiscal retrenchment as well as credible measures to guarantee responsible future fiscal policies. In this respect, the fiscal pact is a step in the right direction.
However, it will also be necessary to go ahead with a structural reform that tackles economic and social questions, as only such reforms will enable us to make Europe more competitive and raise its potential for growth. Part of this is more efficient administration (including taxation), a liberalisation of the goods and factor markets (including the labour market), lower wages and higher productivity to achieve competitive unit labour costs, an end to excessive developments in the real estate and construction sectors as well as regarding government and private consumption expenditures.
Nevertheless, the crucial precondition for a successful implementation of reforms is not economics but sincere and comprehensive communication with the citizens. The governments will have to make it clear that reforms are inevitable – and in the best interest of the Eurozone countries. At times, some governments have given the impression that reforms are only being implemented in reaction to pressures from some other Eurozone countries. The opposite has to be case, that is, empathy and solidarity will have to become engrained European values.
Regarding reforms of the institutional framework, safeguards are needed to make sure that the rules of the Monetary Union (sound financial policies and macroeconomic oversight) are being observed. What is needed to overcome the present financial crisis is not so much “new approaches” but, above all, greater discipline!To control such rules it will be necessary that the other Eurozone countries can enforce them and sanction transgressions (for example by temporarily curtailing certain sovereign rights). A bailout without controls and sanctions will not work – and this is especially true regarding Eurobonds. Even if all Eurozone countries stick to the rules, Eurobonds will create only minor advantages (a volume effect), yet they will create all the wrong incentives (for freeloading).
It is thus of great importance that all institutional reform is based on the principle of subsidiarity. A centralised European state is neither desirable, nor is it achievable.
In order to win the time necessary to implement such reforms aid from other Eurozone countries (or, in case of an emergency, from the ECB) may be reasonable.
The price respective social groups have to pay to save the euro
Thus far, securities / guarantees and loans comprise the bulk of the cost for saving the euro. Right now, German public authorities actually do profit from the crisis, as interest rates on the loan markets have slumped. Immediate costs have mainly accrued through the debt cut to save Greek government bonds.
The so-called financial repression also has cost effects for those with monetary assets / net creditors, yet it is not possible to quantify them. In the core countries of the Monetary Union the ECB’s expansive monetary policy and its maverick actions have had the effect that the interest on “safe” investments has fallen below the rate of inflation.
It will be very difficult to attribute the costs accrued to specific social groups, as respective tax rates are not the only factor with the structure of assets (insurance, pensions, etc.) also playing an important role.
The role of banks – especially the ECB
Thus far, Europe’s commercial banks have been important investors in European government bonds. Certain regulatory privileges (e.g. purchase without proof of equity backing) have been actively granted in order to achieve low interest rates for government bonds. In return, European government bonds were seen as a risk-free investment. The case of Greece has, for the first time, shaken this assumption, and in dramatic fashion, too, as investors have lost faith in the state’s ability to repay credit. The consequence was that private banks have waived well over 50% of their receivables – making it much harder for other heavily indebted countries to borrow money.
Banks’ balance sheets are seriously affected by the fall in price of government bonds and by bad ratings. Greece’s debt cut, too, has resulted in substantial write-offs for European banks. During the negotiations over the first aid package for Greece, Germany’s finance ministry demanded of banks to remain quiescent. And, at least implicitly, the ECB’s two three-year open market operations were also meant to boost the acquisition by commercial banks of government bonds issued by Europe’s crisis countries.
For the ECB the crisis poses, above all, the threat of deflation, and it is trying to stabilise financial markets (and especially prevent any disruption of interbank trading). At present, the ECB is the only European institution with the ability to take measures that will have a short-term mitigating effect on the crisis. Yet, there is a grave danger that the ECB may endanger the aim to stabilise prices, that it will meddle in financial policy, and that it will thus become dependent on politics. Consequently, all involved will have to realise that the ECB is not able to solve the sovereign debt crisis; all it can do is buy time (and lend temporary support to economic reform as described above).
Andreas Krautscheid is a member of the executive board of the German Banking Association.
- Read the contrary position by Roger Bootle "Why the Eurozone Need Radical Economic Adjustment - and the Case for Break-Up"
