The Euro Tragedy - Askhoka Mody

The Philosophy

Pro-European Philosophy

Pro-european philosophy, they believed that the great reconciliation after World War II, follow ever quickly by the opening of borders to trade, had established abundant goodwill, which would extend to new ventures.

Conceived originally as a community, even a brotherhood, Europe now would have a hegemonic government structure. French President Georges Pompidou called for a summit of European leaders at the Hague in Dec 1969. The process of opening borders, initiated by the Treaty of Rome 1957, was well on its way.

Brandt was keen to pursue Ostpolitik, bringing East and West Germany together. German leaders had personal memories of the war, and the French were never sky of reminding the Germans that they needed to be good Europeans.

Groupthink Indoctrination

European leaders fell into a groupthink that all would be well. The narrative of pro-Europeanism, of Europe as exceptional, would carry them forward. A story told often enough is eventually embedded in people’s psyches. Indeed, the story becomes the motivation to pursue an often un-realizable agenda. Groupthink will continue to lull European leaders into a false sense of confidence that another clever measure will strengthen the eurozone.

The Economic Theory

Monetary Union

Pompidou proposed a European monetary union.

Having given up their own currencies, countries that adopted a single currency would permanently fix their exchanges rates with one another.

German officials opposed a monetary union. Germans, traditionally more pro-market, were inclined toward floating exchange rates. But the French initiative to create a single European currency was pulling them in the opposite direction.

Fiscal Transfers

In 1954, the French National Assembly had rejected a proposal for a European army with its own budget. The French prized their sovereignty over tax revenues just as much as the German did. As such there would be no common pool of fund to finance fiscal transfers.

Economists, such as University of Cambridge economist Nicholas Kaldor, concluded by the late 1960s that if the single currency were to have a chance - any chance at all - there would need to be significant fiscal transfers from the humming countries to those that were in the dumps. In a single-country, single-currency customs union such as the United States, states receive more funding from the federal budget; also, residents of states hit hard by recession pay reduced federal taxes relative to the residents of states that are less seriously affected.

From day one, however, it was clear that the Europeans would never be willing to agree on a common budget. The Germans were understandably worried that if they agreed to share their tax revenues, they would become the financier of all manner of problems in the rest of Europe.

If the Italian economy is in trouble and the german economy is humming along, the common interest rate set by the European Central Bank (ECB) will be too high for Italy and too low for Germany. Thus, Italy’s economic troubles will persist, and the German economy will get even more of a boost.

Fiscal responsibility

Therefore, to prevent domestic inflation and to promote domestic growth, the governments of all countries would have to be fiscally responsible.

Germans insisted that the incomplete monetary union be governed by a fiscal rule, one that required member countries to keep their budget deficits below 3 percent GDP. They called this rule, in another masterly stroke of framing, a “convergence criterion.” It created the illusion that the economies of countries that followed the rule would “converge” or align with the movements of other countries, making the single monetary policy more relevant to all.

Convergence / Divergence

But of course, a budget rule, like a single currency, neither promotes convergence nor creates stability, as every economist recognized from the very start. To the contrary, a government forced by the rule to reduce its budget deficit during a recession will place its economy in a deeper recession. Divergent economies will not converge; they will diverge, and they will be more unstable.

Corrupt Nations

Italy’s politics were deeply corrupt, its governments were unstable, and by the 1980s, Italian businesses relied on a steady dose if industrial subsidies and repeated depreciations of the lira to sell their products in international markets. The all-would-be-well narrative said that the single currency would act as Italy’s “external anchor”. Without the crutch of a lira to depreciate, politicians and businesses would mend their ways.

Exiting Euro

If a country exited during a crisis, its domestic currency would depreciate rapidly, and the country’s government, businesses, and households would need to pay their euro (or dollar) debts in their depreciated currency. Many would default. Especially if the country was large, the defaults could set off panic, leading to more exits from the euro and a widening circle of financial mayhem.

The Reality

Greek Crisis 2009-10

The eurozone’s homegrown crisis started in October 2009 when the Greek Government revealed that its budget deficit for the year was much larger than anticipated. The European leaders has two choices.

They could let the Greek government default on its creditors, which many rightly argued was the proper course of to take.

Or they could stick to the doctrine espoused by both ECB President Jean-Claude Trichet and US Treasury Secretary Timothy Geithner that a Greek default would cause contagious financial panic and inflict incalculable damage. If a panic did occur and depositors and creditors did begin to pull funds out of financially sound banks, the ECB would have provided those banks with cheap funds. By preventing the Greek government from defaulting from defaulting on its debt, European authorities made their own task more difficult. They did not have a fiscal transfer system to give Greece financial assistance. The Greek government needed its debts restructured quickly. European governments and the International Monetary Fund (IMF) loaned the Greek government a large sum of money to repay its private creditors. Greece agreed to extraordinary fiscal austerity, which soon crushed the Greek economy.

German supremacy

Through the evolution of the Greek crisis in 2010, German Chancellor Angela Merkel became the de facto European chancellor. No decision was possible without German backing; hence, Merkel acquired veto power. But she was a reluctant European. Born in 1954, she had no direct connection to the war. In a pattern that would recur, she made her decisions at the last moment and they only to extend bare-minimum support to defuse the ongoing crisis rather than to solve the problem decisively.

Eurosceptic Parties

Merkel’s association with the departure of the Greek and Italian prime ministers in November 2011 heightened the perception of German imperialism; that perception intensified when pro-European technocrate took over as prime ministers in Greece and Italy in a bit to cut through political gridlock and implement stricter austerity. In Greece, anti-German sentiment fueled the rise of the radical Syriza party. In Italy, popular support for the anti-euro Five Star Movement soared.

In Germany, many citizens has the opposite anxiety that Merkel was being soft on undisciplined countries. In September 2012, rebels within the Christian Democratic Union (CDU) began an anti-euro movement, which then emerged as the Alternative fur Deutschland (AfD) In February 2013. Thus, political fissures among eurozone member countries widened.

Italy Crisis 2014-2017

All the pathologies of the eurozone - low productivity, high government debt, chaotic banks, short-lived governments, receding opportunities for upward social mobility, and euro skepticism - come together in Italy. And Italy is several times larger than Greece. Italy, I believe, is the eurozone’s fault line.

While too high inflation causes loss of international competitiveness, too low inflation creates its own ills. Once they experience an extended period of low inflation, businesses and consumers begin to postpone purchases, believing that the inflation, business and consumers begin to postpone purchases, believing that the inflation rate could decline further, and prices might actually fall.

Structural reforms were a code phrase for making it easier to fire workers. Sure enough, in 2015, Italian Prime Minister Matteo Renzi’s Job Act, following the playbook, made it easier to fire workers. These “labor market reforms” will increase social inequalities as some workers are trapped in temporary and insecure jobs. With low levels of research and development, lagging educational standards, and many college-educated Italians migrating, Italian productivity growth seems likely to remain low.

Sovereignty

As past generations of leaders spoke of “political union,” the new leadership talked of “governing together,” “sharing sovereignty,” “pooling of sovereignty,” and “European sovereignty,” they spoke of a “eurozone financial minister” and a “European budget.” They repeated the mantra of “democratic accountability,” knowing that real European accountability could be achieved only if national parliaments were subordinated to the European Parliament.

But questions remained:-

Who was responsible for fiscal and labor market policy?
Who was to blame when policies implemented had counterproductive consequences?
If they were upset, whom should citizens vote out of office?

For the euro project to deliver tangible benefits to spark increased popular willingness to share sovereignty. That would have led to greater willingness to share tax revenues and agree to democratically legitimate European governance mechanism. That has not happened because the euro has predictably not generated any noticeable economic benefit, and the costs imposed by the euro in people's lives have often been start. Without real evidence that the euro improves the economic welfare of a substantial number of European citizens-and basic economic principles tell us that the prospects of that happening are not good.

Eurosceptics

European decisions intruded ever more into daily lives, and people wanted more of a say. The problem was the they had no forum to express their concerns. Domestic issues dominated in national elections, giving little space for debate on European priorities. Only the rare referendum provided voters an opportunity to express their protest against the European project.

It is remarkable that despite the elites’ sense of well-being, political discontent was brewing among European citizens. The concern was that European institutions and policies were acquiring too much influence in people’s lives. In 2005, Dutch and French citizens decisively rejected a largely symbolic European constitution. Many believed that European decisions, handed down without a democratic vetting process, were making already onerous social inequalities worse. By now, the votes showed, the young were also growing disenchanted with Europe.