Europe is currently in the
throes its most recent crisis, that of the inundation of refugees. This has
caused the EU economic crises to quickly fade from view. With another ephemeral
deal agreed to in Greece this year, some might even think that the problem is
solved. Unfortunately the problem is not solved. It will not be solved in fact,
until there is a radical shift in the institutional underpinnings of the EU
Monetary Union (EMU, or the Euro currency). There are two options, either the
EU is going to emerge into a mega-state with a fiscal union, or the Euro will
need to disappear.
The first question to
address is why is there a Euro? Where did it come from? It would make sense for
there to be an economic rationale behind the introduction of the single
currency. In fact, economics had almost nothing to do with it. The idea was to
begin the process of establishing a federal states of Europe by creating
greater convergence within the EU. Along with creating a Schengen area of free
movement, and allowing EU citizens to work anywhere in the EU, sharing a common
currency was meant to pave the way for a common European identity that would
lead to greater political integration. There are of course some economic
arguments for a monetary union. Primary among them is that it decreases
transaction costs between countries, which should boost trade and prosperity.
Joining a monetary union however eliminates the ability for flexible exchange
rates to adjust to external shocks. To rephrase the above, due to the economic
jargon: it is a lot easier to trade things and invest in other EU countries
when everyone is using the same currency. This is good. However, if a negative
economic event effects some countries and not others, the ability to devalue a
currency and pursue monetary policy which ameliorates employment is lost. This is
bad.
On balance however the
argument for the EU is clear, a monetary union does not make sense. A monetary
union is good when there is a strong central state which can increase spending
to areas effected by economic malaise, and there are few impediments to capital
and labour flow. The European Commission in Brussels spends a fraction of what
member-state governments do. Labour and capital though supposedly freely moving
within the EU face onerous restrictions, such as differing languages among EU
countries and divergent industrial and employment laws. I am far from the first
to notice the unsuitability of the EU for a common monetary union. Milton
Friedman, on the eve of the adoption of the Euro, wrote a prescient article on
the devastating impact of a common monetary union. As Mr. Friedman said in
words that I would not dare try to improve on “The
aim has been to link Germany and France so closely as to make a future European
war impossible, and to set the stage for a federal United States of Europe. I
believe that adoption of the Euro would have the opposite effect. It would
exacerbate political tensions by converting divergent shocks that could have
been readily accommodated by exchange rate changes into divisive political
issues. Political unity can pave the way for monetary unity. Monetary unity
imposed under unfavorable conditions will prove a barrier to the achievement of
political unity.”
This is not simply a
pedantic argument on the benefits of monetary union in the EU, there are real
consequences to this policy. Discussions about the Euro-zone’s current economic
turmoil mischaracterize it as simply a debt crisis. This is an obscenely myopic
view of the situation. One problem is that the EU has a severe internal trade
balance. Germany in particular exports far more to the EU than EU countries
export to it. This has happened at least partially because Germany has actively
engaged in a policy of wage suppression. In a normal situation, the benefits of
keeping wages low would be short lived, as the currency would adjust due to
those aforementioned exchange rates. In the absence of this, the Euro is
advantaging the German policy of excessive exports, while weak demand at home
is preventing struggling Euro-zone countries from selling their products in
Germany. Without rectifying this situation, the Euro-zone periphery will never
recover. Once again, this is an oft overlooked institutional problem that would
not exist without a Euro. With no Euro, Germany’s wage suppression policy would
not hurt other Euro-zone members. There is meant to be a mechanism in Brussels
for addressing excessive macroeconomic imbalances, of which this is an acute
case. If the concern was largely economic and technocratic, as is usually
portrayed, this imbalance would be a top priority. It isn’t however, and
Germany’s political clout make any action on this inconceivable. This once
again shows the relative irrelevance of the European Commission in Brussels
compared to certain member states, and yet another reason why the Euro is not
working.
The remedy that has largely
been chosen for Europe’s crisis economies is to slash spending and supress
wages (called structural reforms) in order to increase competitiveness.
Increasing labour competitiveness would be much more effective with the ability
to devalue a currency however. This is the beauty of exchange rates, they compensate
for differing economic realities across countries. Unfortunately, with the
current situation of a single currency and Germany’s low-wage labour
competitiveness, it is almost impossible for structural reforms to work in
Europe's periphery. In addition, without the Euro, national central banks would
be able to set the interest rate appropriate for their respective countries.
Greece desperately needs to get out of a deflationary spiral. Deflation is
probably the worst macroeconomic outcome, it increases debt burdens (including
of Greece’s sovereign debt), and makes people less likely to spend (because
prices will be lower in the future). This would be the perfect time to lower
interest rates, and spur inflation. However, in the usual refrain, with a
monetary union this is impossible. The EU as a whole is less in need of a rate
cut, without the deflationary pressures Greece is facing, and thus Greece will
suffer.
Fundamentally the structure
that undergirds the entire Euro-zone is unsustainable. Few would say that the
monetary union has been successful. In fact, it has been an abject failure.
Growth is anemic, unemployment is at stunning levels, and perhaps more
tragically, the political project it was meant to propel seems destined to
collapse. One of the main arguments for staying in the Euro now is the
catastrophic consequences of leaving it, this is not exactly a ringing
endorsement of the single currency’s success. In the most extreme case of
Greece, this argument does not even hold. Greece has already faced the effects
of a financial crisis and bank runs. With these costs already paid, it would at
least be worth reaping the benefits of leaving the monetary union.
Friedman, and so many
others were right. The Euro has created schisms in the EU that have endangered
the entire European project, all because of the erroneous assumptions some
European elites made. They knew that the EU was not ready for a deep political
union and in its stead a monetary one was created. Now, much less than
catalyzing a stronger and closer union, the Euro has simply led to political
acrimony. This is the underlying and important story of the Euro-zone economic
crisis. Debt, competitiveness, and bailouts are all elements of this story. But
ultimately, the EMU structure belies much of the grief that has been endured in
Europe. The only long-term solution is an end to the euro-zone, or the
transition to what would essentially be one country. With neither of these
options on the horizon, all that remains is more despair.
