John O’Sullivan takes a skeptical look at the euro and argues that the root of the single currency's problems lies in its past.
Unlike the previous three or four “fixes” for the euro crisis, the package of measures agreed at this week’s EU summit has produced a lasting boost in the markets and in the standing of the single currency. “Lasting” in this case may mean several months; earlier boosts died in the same week and sometimes in the same day. But the boost is unlikely to last much longer than that. The measures -- allowing European bailout funds to lend money directly to shaky banks in Spain and Italy rather than via their governments; making the European Central Bank a central bank regulator for the eurozone; a $140 billion boost for “growth” -- are directed at easing the immediate problems of shaky banks and investor flight rather than at solving fundamental flaws of the euro.
The European bailout funds may not have enough money to keep the next capsizing bank afloat. The Germans continue to resist full debt “mutualization” within the eurozone unless a fiscal union is agreed that would give Brussels control of the budgets of member states. And the problematic structure of the euro remains unaddressed -- indeed, the refusal to admit there is a problem continues.
The euro’s fundamental problem arises from the fact that it is a political project at least as much as it is an economic one. It was put in place a decade ago with a number of features that a purely economic design would never have incorporated. It included too many countries; their economic characters were too divergent; their levels of unemployment, inflation, and productivity were too different; their financial structures for housing and pensions were in conflict; and so on, and so on. The overall result of these differences was that some countries, notably those around the Mediterranean, were locked by the euro into an overvalued exchange rate in comparison with other countries, notably those bordering the Baltic. It was impossible to set a single interest rate that would be suitable for all of them. An interest rate that held back economic growth in one country would encourage reckless borrowing in another -- by, incidentally, both the public and the private sectors. Also -- unlike the dollar
, the pound, the Swiss franc, and the renminbi — the euro
was not governed properly. There was no economic government of the eurozone to run a Europe-wide fiscal policy in line with the European Central Bank’s monetary policy. And although these different features of the euro guaranteed economic dislocation and perverse outcomes, the eurozone did not have the three things needed to reconcile the differences or deal with the dislocations: namely, flexibility of wages; transnational labor mobility and migration; and transnational monetary transfers.
Union-heavy societies such as France would not tolerate wage reductions. Labor mobility between, say, Portugal and Poland was obstructed by the kinds of cultural and linguistic differences that do not exist between Texas and Massachusetts. And Germany, as the EU’s banker of last resort, was strongly opposed to the ramping up of monetary transfers from rich to poor nations and regions.
As the euro gradually took shape, the economic decisions that had been made for political motives gradually undermined the currency. Yet because the euro was valued above and beyond economics, its practical difficulties could never be honestly faced by the politicians. The euro became a fetish for Germany’s political elites -- and over time it became a fetish for all Europe’s political elites. And just as anyone who denied the “government fetish,” as Herbert Spencer put it, was described as a believer in laissez-faire and never heard from again, so anyone who denied the euro fetish was described as a euroskeptic (and probably mad) and banished from the mass media to the obscurity of small opinion magazines.
Today it is hardly possible to deny that the deniers had a point. But the fetish continues to exert some power. A program to save the unreformed euro has been assembled by degrees. A version of it was proclaimed earlier this week by the European Commission. An extremely broad international coalition -- including the IMF, U.S. President Barack Obama, British Prime Minister David Cameron, French President Francois Hollande, the new Greek
government, the European Commission, and European Christian Democrats and Social Democrats generally -- assembled to support it prior to the EU summit this week.
They put strong pressure on German Chancellor Angela Merkel to agree to debt mutualization within the eurozone. Merkel resisted because, as numerous studies have shown, debt mutualization within a federation permits and even encourages fiscal profligacy on the part of the subordinate member states. So, in return the other governments seem prepared to pay Merkel’s price. They were ready in principle to endorse her condition that Brussels -- which in this context is really Berlin in drag -- would exercise economic supervision of those states whose debt repayments were being subsidized by Germany. But there are many obstacles in the way of that result. They were also hopeful that her Fiscal Stability Compact -- agreed at the end of last year -- would evolve gradually into a full-blown European economic government on the basis of European political unity. But that will be the work of years. And they presented this overall strategy as the only alternative to a disorderly breakdown of the euro, which, in their telling, became a worldwide economic catastrophe.
That is by no means certain. But any solution will be painful, and any will have some damaging consequences (and some unintended consequences, and some unpredictable consequences as well). As we shall see, however, there is another possible solution: restructuring the euro -- or, rather, several different possible ways of restructuring the euro. But here we come again to the fetish: There is a deep reluctance among the European political elites even to consider restructuring the euro. So they construct the choice as one between the debt mutualization plus Brussels' budgetary supervision versus chaos and Gotterdammerung. And they then inevitably choose the former.
Restructuring the euro so as to place these countries outside it -- and thus able to adjust their economies by allowing their currencies to fall -- would be painful too. But it would be pain with a time limit. As the Mezzogiorno has shown, the time limit for ending the pain of restructuring these economies while keeping them within the euro is -- appropriately enough -- the Greek kalends.
Let me offer six brief criticisms of this policy. The first, and most important, criticism is that the most it could achieve would be to stabilize, not end, the euro crisis. While the Mediterranean countries in the EU remain locked into the vertiginous unfavorable exchange rate
represented by the euro, they will be locked into economic austerity without end. At the same time, northern Europe will be locked into paying an endless flow of subsidies to them. This represents a loss of wealth at both ends of the transfer. And, long term, the result would be to transform Greece, Italy, and Spain, into one large Mezzogiorno or East Germany for decades. This is an opinion shared by two such different economists as Vaclav Klaus and Paul Krugman. That doesn’t mean it’s a correct view, of course; but it establishes the fact that it is not an eccentric or marginal view.
The second criticism is that the policy is an expression of institutionalized historicism. Admirers of Karl Popper will recall his criticism of historicism as an impoverished theory. It replaces serious debate about policy choices with a defeatist accommodation to some supposed inevitability. As Keynes remarked, however, “The unexpected always happens; the inevitable, never.”
In this case the policy reflects a determination never to retreat from a previous advance toward the “ever closer union” of the European Union promised in the treaties. This myth of inevitability is the very definition of historicism. And the statements of European leaders on the euro repeatedly endorse it. One might have thought that Europe had already suffered quite enough from the politics of historical inevitability in the 20th century. What purpose does it serve on this occasion? Not prosperity or economic welfare -- they are to be sacrificed in order to ensure that the inevitable actually happens. As an old-fashioned Anglo-Saxon empiricist, I find this exchange of real wealth for the fool’s gold of political prestige simply silly. But apparently I lack idealism.
The third criticism is that this policy is incompatible with democracy. The remedies embodied in the fiscal union essentially entail promises by the governments of nation-states to keep their structural deficits within agreed limits and to submit their budgets for approval to Brussels before presenting them to their national parliaments. How will this work in practice? Let’s look, for instance, at Ruritania. If the Ruritanian budget is presented to Brussels and passes with distinction, not a great deal happens. If the budget is disallowed by Brussels, however, will the parliament be able to proceed with it? Or will the government feel it cannot proceed even if it retains a residual right to do so? And what if the budget reflects a wider set of government economic priorities that has just been endorsed by the voters in a general election? In each of these examples the EU has intervened, perhaps decisively, in Ruritanian domestic politics.
We can sum it up as follows: If the Ruritanian budget does not need to be approved by Brussels, then the fiscal union rests on the same shaky foundations as the 1997 Stability and Growth Pact that was quietly abandoned with little or no protest from Brussels in the early years of this century. If it does need the approval of Brussels, then the sovereign power in Ruritania is the EU -- and Ruritania has ceased to be governed democratically in fiscal matters (which are 90 percent of politics). That is altered not in the slightest by the fact that Ruritania might be represented on the Brussels decision-making committee. Nor can it be seriously argued that Ruritania would be sharing in “pooled sovereignty” or “shared sovereignty” with its European Union partners. Shared sovereignty creates a new sovereign power, namely the EU, and therefore deprives the previous sovereign power, namely Ruritania, of its authority. All assurances to the contrary are bogus.
But perhaps the point is best explained metaphorically: A bachelor is a sovereign power; a married man enjoys the benefits of “shared sovereignty.” Married men will know what I mean. And the conclusion follows that the Ruritanian people have lost their democratic rights to control their government on economics.
The fourth criticism is that there is no guarantee that the policy can actually be implemented successfully. Married men, I’m told, sometimes break their marriage vows, because there is no guaranteed way of holding them to their word. Similarly a government may agree to submit its budget for approval, but how will the EU enforce a judgment that the government or the electorate rejects? That is the weakness of fiscal union from the joint standpoint of Brussels, Paris, and Berlin. The behavior of the Greek government over the last few months illustrates the point.
All the major Greek political parties signed on to a Memorandum of Understanding (MOU) with the northern-European troika that imposed heavy spending cuts on the country. There followed a crisis and an election in which a new party, the Coalition of the Radical Left, broke through on the basis of rejecting the memorandum. That led to a further crisis and a new election, in which the Radical Left party was narrowly defeated by parties that had agreed to support the memorandum. But the creation of a government that will carry through that program is proving difficult. Earlier this week the finance minister resigned even before he was sworn in. The new government is demanding changes in the MOU from the IMF and the EU. (We’re facing a dictatorship of acronyms.) And the likelihood is that another election will have to be held before long because there is simply not enough popular support for the policies outlined in the memorandum.
The fifth criticism is that this policy will encourage the political extremism that the European Union is supposed to have overcome. Governments in democracies cannot simply impose unpopular policies on their voters. They are even less able to do so when the policies are imposed on them from outside. And when they attempt to do so, they sow dragon’s teeth in the form of extreme populist movements that promise to reject what the orthodox democratic parties have accepted. For instance, Alexis Tsipras, the leader of the Radical Left party, who yesterday was an unknown, is today inspiring leftist movements all over Europe -- and dragging the respectable Social Democratic parties toward a policy of reckless spending, expropriation, and -- as I argued in a recent "National Review" article -- the Dario Fo fun anarchist policy of “Can’t Pay; Won’t Pay.”
The sixth criticism explains the first five: the policy of installing a European economic government in order to sustain the euro would need to be rooted in a European demos -- a European national identity -- that simply doesn’t exist. As long as the fiscal union lacks a demos to give its collective budgetary decisions democratic legitimacy, the prospect of a government endorsing a Brussels decision but finding itself unable to implement it in the face of popular opposition remains a real likelihood. What then? Send in the troops? Expel the recalcitrant people (along with their compliant government)? Impose a fine? The options are not very promising. Without a demos underpinning it, the policy of a European economic government can’t work: It can’t bridge the gap between northern and southern Europe; it can’t be reconciled with the democratic government of member states; it can’t actually be implemented against the popular opposition which it is bound to stir up; and it is doomed to be no more than the unfulfilled historicist dream of a bureaucratic “vanguard class” of a European nation that doesn’t exist -- and that may never exist.
Europe A La Carte
But the fact that this particular single currency, covering these particular countries at this particular time, cannot work does not mean that a differently structured single currency cannot work. A workable euro is a possibility. Getting to it will be hard and painful; but it can be done. But how?
Consider this: You often hear supporters of the euro say such things as: “Well, we should never have let Greece in. It was a mistake.” Why not then remedy the mistake and remove Greece from the euro? Something like that is what the German government seemed to be aiming at shortly before the Greek elections, but the Greeks frustrated its plans. To misquote the author of “Tom Jones”: The Germans would have raped Pallas Athena if she had not, by a timely compliance, prevented them. Maneuvering Greece out of the euro, whatever its other effects, would certainly reduce the moral hazard created by its continuing membership.
Other critics have suggested that Germany should leave the euro -- which would mean the remaining euro would be sharply devalued against other currencies. That would, in a single bound, reduce the difficulty for countries such as Portugal of restoring their competitiveness. But Germany will probably not wish to surrender its leading role in the European Union that such a decision would entail.
The proposal for restructuring most often heard (and the most plausible one) is for the creation of two euros -- a southern euro and a northern one. The former would be immediately devalued against the latter, restoring southern competitiveness, reducing moral hazard, and removing the need for massive cross-border monetary transfers. This would create difficulties, of course. Germany would find that because its artificial undervaluation in the present euro was gone, its export success would be harder to maintain. France would have to decide between its interests, which would dictate joining the southern euro, and its prestige, which would require membership of the northern one. Watching Paris agonize over that would be entertaining. Over time, the member states of Euro 1 and Euro 2 might gradually converge, eventually restoring a unified euro. But that would be shaped by practical evolution as well as by theoretical ambitions.
And the same should -- and, I think, will -- apply to the European Union as a whole. We should not expect an EU of almost 30 members (and still growing) to retain the same one-size-fits-all structure that was suitable to the original six-member European Economic Community and to the slightly larger groups of the 1970s and 1980s. Some basic structural unities would remain -- continental free trade, a common external tariff probably, some legal principles reflecting Europe’s civilized values -- but otherwise-different countries would adopt different elements from the a la carte menu of European unity. That principle has already been adopted in relation to the euro -- several EU states remain outside it, and those East European states that have promised to enter in due course will probably not now do so. The same principle could be applied more widely, with different European countries adopting different levels of integration in different areas. And if some countries -- Germany, France, Benelux -- wanted to forge ahead to a greater degree of political integration, maybe evolving into a new single European nation, the rest of us should be happy to endorse this. It would be the kind of experimentation that federations are supposed to encourage and foster; it is why the federal principle of jurisdictional competition was invented. This kind of variable-geometry Europe, as it is called, might actually produce faster integration with less pain than the kinds of plans being pressed upon Merkel.
The root of the euro crisis is the euro itself. If the euro is not restructured in one way or another, then all solutions to the crisis will fail eventually. And some will fail more quickly than others.
John O’Sullivan is a former executive editor and vice-president of RFE/RL. This article is adapted from his lecture to the 2012 Estoril Political Forum on “Open Societies, Open Economies, and Citizenship” in Estoril, Portugal. The views are the author's own and do not represent those of RFE/RL.