Reports of the Euro’s Death are Premature

I started serious study of the European Union when it was the ten nation European Community back in 1982.   At that time, the EC was deep in crisis.  Britain was threatening to leave over how much it paid in compared to what it got back, divergent monetary policies were stalling efforts to create a stable exchange rate system, and even Ernst Haas whose ‘neo-functionalism’ was the driving theory behind European integration had labeled integration theory ‘obsolescent.’

At the time I took a course in Bologna, Italy, taught by Gianni Bonvicini on the politics of the West European integration. Bonvincini was strong proponent of integration, and told us that it was all but inevitable that Europe would develop a common currency.  He said European integration always moved in fits and starts, with existential crises causing critics to (sometimes gleefully) claim its demise.   For every two steps forward there was often a step back, but that success was far more likely than failure.

The EC survived that bout of “eurosclerosis” and by the early nineties goods and people could flow more freely than ever as borders became irrelevant — you could cross from Germany to France like one might from Maine to New Hampshire.   When the Cold War ended and barriers to international capital flows dramatically decreased, countries were compelled to adopt tighter monetary policies, thereby making the idea of a common currency feasible.   In December 1991 EC leaders signed the Maastricht treaty to create a common currency and rename the Community “the European Union.”  Although there were many times in the 90s people were certain that the Euro would never actually get off the ground, it was born in 1999 when  the European currencies became permanently fixed.

By that time the EU had 15 states, but only 11 were in the Eurozone.     France, Germany, Austria, Belgium, Finland, Luxembourg, the Netherlands and Ireland were clearly ready.   Spain and Portugal were questionable but overall had a good enough track record of economic improvement.     Italy really didn’t fulfill the criteria, but Prime Minister Romano Prodi’s economic austerity programs of the late 90s were seen as putting Italy on the right track, so it was accepted.

Three states opted out of the Eurozone: the UK, Sweden and Denmark.   A fourth was seen as not being ready:  Greece.  As the EU moved towards the issuance of actual coins and bills on January 1, 2002, the Greeks pressured the EU to bring them into the core group as well.   With only 10 million people their economy was small; any crisis in Greece could be handled.   On the other hand, Euro-imposed discipline might help improve the Greek economy and keep it open to outside investors who prefered Euros to Drachmas.    Ultimately, much to the chagrin of many economists and central bankers, the EU gave in — Greece was able to join in 2001.

Since then the Euro has expanded to many other countries: Malta, Estonia, Slovenia, Cyprus and Slovakia.   These countries have low debt and have done well in recovering from Communist rule.

Overall, the Euro has been a success, maintaining high value and becoming a true alternative to the dollar (even today the Euro trades at $1.37 per Euro, much higher than their original goal of a 1:1 valuation).    Alas, the crises in Greece and now Italy have led many to say “bye bye Euro,” believing that the experiment in monetary union is failing.

Don’t believe it.   The Europessimists of today sound much like those of the early 80s, yet I think Dr. Bonvicini’s claim that success is far more likely than failure still rings true.  The Euro will survive and eventually thrive again, just as the EU will continue to deepen regional integration, redefining the concept of sovereignty.

This doesn’t mean that there won’t be some dramatic moves.   There are rumors throughout Europe that German Chancellor Merkel and French President Sarkozy are talking about a smaller Eurozone, with a number of countries potentially being “kicked out.”    This is possible and while it would be called a “collapse of the Euro,” it actually might be necessary to save the Euro.

The reality is that the Euro itself has functioned and still functions very well as a common currency for most Eurozone members.   They would find it extremely expensive for the currency to somehow go away.   Businesses and banks would recoil at losing the Euro as they’d have to deal with a confusing world of diverse monetary policies and currency exchanges.    With the most powerful economic actors in Europe working to assure the Euro survives, it will.   Moreover, Merkel may not be as dedicated to Europe as Kohl was — but she’s pretty dedicated!

The problem is less the Euro than high debt rates in Italy and Greece.   That’s dragging down the Euro and also threatens the solvency of European banks.   The banks need to be recapitalized in order to protect the European financial system — that’s the case no matter what the currency.   It’s easier to do that with the Euro than with a set of local currencies.   States leaving the Eurozone (Greece, maybe Italy, Spain and Portugal as well) would face a very difficult economic reality.     It would be hard to get investors to commit to a state where currency values would be likely to plummet.   Even if they did default on their debt, the shock to their domestic economies would be immense.

Still, it would be the equivalent of a bankruptcy which would give the states the same chance to start over that bankruptcy gives an individual.   Overtime if they built a stronger more sustainable political and economic structure they could rejoin the Eurozone.   That might actually work better than trying to pursue expensive bailouts of deeply indebted economies.   The taxpayers would rescue their own banks rather than countries swimming in debt — but that might be an easier political sell.

Most people assume that if forced to leave the Eurozone states would simply go back to their domestic currencies.   But it’s possible to imagine a second Eurozone currency for countries “on probation.”  The benefit of this would be that the ECB could also set monetary policy for that currency, recognizing that inflation is perhaps an inevitable short term condition. The goal would be to ‘rejoin’ the Eurozone at some point, and fiscal plans could be developed to reconstruct these sick and in some ways unsustainable economies into ones that could function within the Eurozone.

I’m not sure how feasible a “Euro light” would be — what it would be called, or even if it truly could work as a common currency across the ‘problem states.’    In essence this would be a resurgence of a theory popular in the 90s for a “two speed Europe.”   The wealthier countries would increase integration and become more closely linked then they can now.   The problem states could be put on a strict leash, forced to follow strict guidelines if they want to rejoin the core.   In theory this could actually push integration forward and deepen it.    That would make this like past existential crises — what doesn’t kill the EU only makes it stronger!

There would be immense opposition to such a Franco-German plan, and the short term costs in those two core countries could be large (especially as trade would decline as ‘core country’ goods would become much more expensive in inflation riddled problem countries.)    Rather than this being the death of the Euro, this could be the crisis that the Euro inevitably must face if it is to emerge as a true long term global reserve currency.   And to those who predict that this will destroy the project of European integration, well, people have been predicting that about various crises for over fifty years.   So far they’ve been wrong every time.

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  1. #1 by Black Flag® on November 12, 2011 - 03:49

    Scott,

    The “Euro” as we know it is dead.

    The Elitist idea of centralizing government power into a single entity has failed.

    All of this is a good thing, unless you are a dedicated statist

  2. #2 by Alan Scott on November 14, 2011 - 03:13

    Scott,

    The Euro allowed Greece and Italy to get into this mess and keeps them from getting out . If they had their own currencies, they could have devalued them when things started going bad . It would have been bad, but infinitely better than now . European banks were allowed to load up on Greek, Italian and Spanish bonds to offset the risks from the American mortgage collapse. They were thought of as cash, with little risk, so regulators did not require the banks to raise capital to offset any default risk .

    Greece especially was allowed to borrow at almost the same risk price as Germany, which in hindsight was insane . And Greek politicians like their American cousins kept buying political power with borrowed money .

  3. #3 by Scott Erb on November 14, 2011 - 03:28

    Italy was one of the original six and Romano Prodi’s reforms in the 90s were heading the right direction, but Berlusconi’s governments were really bad for Italy. I think you’re right that Greece and Italy should not have been included. The exposure by European banks to those debts is indeed almost a scandal.

    It’s really hard to see parallels between Greece and the US though — the US problem was massive deregulation (our problem is more like Ireland’s and Iceland’s – both of whom got hit hard even before Greece). Germany’s conservative policy of maintaining regulations and trying to avoid weird financial instruments was best — and their country is in much better shape than most. Alas, their banks were knee deep in bad bonds too, and the cost of recapitalizing them will hurt Germany’s recovery. Also, if the Eurozone contracts, German goods will get much more expensive in “post-Euro” states.

  4. #4 by Alan Scott on November 14, 2011 - 22:30

    Scott,

    I partially agree, mostly disagree. The US and Ireland through government policy both pursued a path not so much deregulation as pro housing. In each case banks were encouraged to lend . In the US it was more, lend or else. The speculators came in, prices rose and nobody could conceive that you could lose money . You call it deregulation, I call it pro housing bubble regulation . Either way it was government policy.

    Whenever everybody thinks something is a sure thing and very safe, you get disaster . American mortgages or European bonds . Wait until everyone wakes up about treasuries .

  5. #5 by Marcu Lucian on December 1, 2011 - 13:49

    Dont forget Fiat owns Crysler….:)
    US economy is a big fat lie and they just postponed the inevitable …
    We still have NATO around and so many other “things”
    EU collapse will certainly bring a third world war.
    History doesnt repeat itself completely but it repeats to some extent.
    Blaming EU on politicians is not a smart thing,at the end economy is driven by geo-politics…
    One without the other ..no way.
    I know americans are happy with current ways but they are even in deeper shit.
    They got a break..only
    Remember 30,s and the follow-up
    EU-zone without any of the current members cant exist.
    Who will buy german cars in the future?Germans?? French people are trash-nationalist and their economy is also a big fat lie,you cant eat perfume or survive with wine.
    So called smarter EU (Germany,France) will crack with the current EU market.
    Poor nations were good in times of happy ,they should be good in worst too.
    There is no way out,either together either…all should dig deep …

  6. #6 by Marcu Lucian on December 1, 2011 - 13:52

    France is a huge joke today.
    Sad but true they were always that since Sedan…
    Either we have a united Europe or nothing

  7. #7 by Titfortat on January 28, 2012 - 17:05

    Scott

    I was just listening to this guy rant and I thought of you. 😉
    Tell me what you think?

    • #8 by Scott Erb on January 28, 2012 - 17:33

      British Euroskeptics have been making those kinds of arguments for a long time. But the 20th Century is over, and the kind of Europe he wants is in the history books — the future cannot be lived in the past. I think the Euro will survive, thrive, and ultimately the Brits will join.

  8. #9 by Titfortat on January 28, 2012 - 17:49

    So in your opinion there is no factual basis for many of his complaints?

  9. #10 by Alan Scott on January 28, 2012 - 18:39

    Scott,

    What the EU is really about is having a central bureaucracy over ruling the voters of the individual countries . That bureaucracy is not accountable to the voters . Kinda like the way Obama gets around Congress. If you are right about the future and the British joining it, the EU Aristocratic Bureaucracy will have to listen to it’s employers .

    • #11 by Scott Erb on January 28, 2012 - 19:18

      I don’t think most of the complaints have a real basis (and his talk of Germany sounds like he hasn’t let WWII go yet), but as with almost every political stance there is something there — I just think he goes the wrong way with it.

      The EC emerged as a bureaucratic structure back when there was little power. Now the state and EU bureaucracies are interwoven, meaning that voters still have some power since their governments are profoundly important in how the EU operates. Moreover, it’s not really the bureaucracy that runs the show but large corporations and banks. They are truly multinational within the EU and destruction of the Euro or most EU agreements would create economic collapse, and cause corporations to veer towards bankruptcy. The EU is very much a creation of big business in Europe.

      So I do think there needs to be a shift towards more openness and transparency. The EU has embraced subsidiarity as a core principle – power should be exercised as close to the individual as possible (local, regional, national, and only when necessary supranational). Ultimately I think making subsidiarity real is key. Ironically the traditional sovereign state could lose big time — giving up some power to local and regional governing structures and giving up some to supranational structures.

      Beyond that, there are real efforts to continue to expand the role of the European Parliament. I think, though, decentralization of authority alongside EU development is the best path to avoid the problems of the ‘democratic deficit.’

  10. #12 by Scott Erb on January 28, 2012 - 20:58

    On Germany, I wrote this a few months ago:
    https://scotterb.wordpress.com/2011/08/04/modell-deutschland/

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