Europe's Deadlock: How the Euro Crisis Could be Solved - and Why it Won't Happen - Softcover

David Marsh

Softcover

ISBN 10: 0300201206 ISBN 13: 9780300201208

Publisher: Yale University Press, 2013

Synopsis

In this short yet devastating analysis, David Marsh asks why five years of continuous crisis management have not only failed to resolve the Eurozone's problems but actually made things worse. Marsh argues that constructive dialogue has collapsed as EU decision-making descends into a state of terrified paralysis, and that although there are potential paths out of the impasse, all are blocked by indecision and timidity at the top.

About this title

About the Author

David Marsh is chairman and cofounder of the Official Monetary and Financial Institutions Forum.

Excerpt. © Reprinted by permission. All rights reserved.

EUROPE'S DEADLOCK

How the Euro Crisis Could Be Solved – and Why It Won't Happen

By DAVID MARSH

Yale UNIVERSITY PRESS

Copyright © 2013 David Marsh
All rights reserved.

ISBN: 978-0-300-20120-8

Contents

Preface....................................................................
xi
Introduction...............................................................
1
1 Unhappy family...........................................................
4
2 Dashed illusions.........................................................
13
3 The German question revisited............................................
20
4 Winners and losers.......................................................
26
5 A dangerous vacuum.......................................................
31
6 Irreparable errors.......................................................
36
7 The technocrats stumble..................................................
42
8 A bank unlike the others.................................................
48
9 The Cyprus cauldron......................................................
53
10 Sovereignty – the tipping point.........................................
58
11 Fear holds the key......................................................
64
12 Germany's limits........................................................
69
13 The French connection...................................................
74
14 The Bundesbank strikes back.............................................
79
15 In Italy, more showdowns................................................
85
16 The chimera of banking union............................................
90
17 The IMF's European conundrum............................................
96
18 Anglo-Saxon ambivalence.................................................
102
19 Asia's star rises.......................................................
108
20 War and peace...........................................................
113
Notes......................................................................
121
Index......................................................................
123

CHAPTER 1

Unhappy family

Nearly fifteen years after the birth of the single currencyas a landmark project for political and economic integration,Europe has healed some of the worst imbalances built upduring its rollercoaster ride into instability. But the correctionfrom earlier economic overheating has been achieved throughwidespread austerity that has brought with it recession,hardship and disruption, which in turn place a question markover European nations' ability to stick together for the rest ofthe journey. The trans-Atlantic financial crisis of 2007–08 andthe worldwide downturn in 2009 exposed fault lines in the eurobloc that had earlier been largely hidden. In mid-2013, outputamong the seventeen members of monetary union was around2 per cent lower than before the 2009 slump. Yet this maskedwidespread divergence between the stronger countries likeGermany, where the economy has grown by an overall 3 percent over this period, and the hardest-hit (and previously mostimbalanced) states such as Greece, where the economy is downnearly 25 per cent, and Ireland, Italy, Spain and Portugal, wheredeclines vary between 4 and 6 per cent.

The wastefulness and dislocation of Europe's efforts to curbbloated costs and credit-fuelled speculative booms generatedby the single currency have been enormous. Millions of peoplehave had their hopes shattered. Unemployment in 2013 is 27per cent of the labour force in Spain and Greece, 17 per cent inPortugal, 15 per cent in Ireland, 11 per cent in France and Italy– but only 6 per cent in Germany and the Netherlands. Publicsector debt across the euro area is around 95 per cent of grossdomestic product (economic output), compared with 70 percent in the early years of the single currency. Although there hasbeen much debate about relaxing austerity across the continentto get growth going again, there is still no clear-cut map for thearduous road ahead.

One of the worst outcomes of Europe's malaise is thatpopulations and governments no longer feel in control of theirown destiny: in a debilitating transfer of responsibility, shadowyoutsiders in Berlin, Frankfurt or Brussels are apportionedblame for national economic ills largely caused by home-mademismanagement. Europe's troubles therefore stem not simplyfrom the dire and divisive state of the economy, but also fromvexation and anger about the lack of legitimacy and democraticcontrol in new and ever more complex structures being erectedto try to correct these problems.

In theory, a blueprint for breaking out of the single currencyimpasse is not too difficult to devise. Over many years, thecomponents of the master plan have been the subject ofendless academic dissertations, institutional reports, politicaldeclarations and government treaties. The list of requiredelements for success includes a certain amount of harmonisationof economic aspiration, practice and performance; a degree ofpolitical and cultural homogeneity; a readiness to share commontasks and give up national decision-making in key fields; and anability and willingness to steer the overall construct, so that theensuing combination of costs, risks and benefits is reasonablyevenly shared.

Getting this balance right has so far been beyond thecapacity of the group of countries, led by France and Germany,that have fused their common destinies within the euro.This is a melancholy band; there are many explanations fortheir diverse discontentment, exemplifying Tolstoy's dictumexpressed in Anna Karenina: 'Happy families are all alike; everyunhappy family is unhappy in its own way.' The optimists saythe depth of discontent opens up a way forward. Citing pastepisodes when Europe has emerged triumphant from crisis,they argue that vexation is so great that Europe will somehowmiraculously forge solutions previously held to be impossible,such as a pact for ironing out debts and credits across the eurobloc or persuading the fearsomely competitive Germans tomake life easier for everyone else by increasing productioncosts and lowering industrial effectiveness. However, allkinds of positive-sounding artefacts to reinforce the eurowere proposed in previous periods of relative calm; theywere not enacted because no one really wanted them. Crisestend to breed egotism among governments and peoples, notsolidarity. Widespread perceptions (such as in today's Europe)that hardship is being spread unfairly make countries moreantagonistic, not more level-headed. In most democracies,willingness to put up with difficult and unpopular economicreforms is low enough at the best of times, and can result inthe electorate's rejection of the government that proposed orimplemented them. When, despite the outward appearance ofsolidarity in a monetary union, there is no overall agreement onburden-sharing at a higher European level, and when plannedEuropean structures seem to lack sufficient democraticcontrol, then the readiness to carry out appropriate policieswill decrease still further. The European family will probablyremain unhappy.

A vital part in the many-sided politics of the euro is playedby the pivotal politician in Europe: the curiously inscrutablefigure of German Chancellor Angela Merkel, in office since2005. At the centre of an array of conflicting strains andtensions, she is pulled in different directions by opposinginfluences. She conveys the impression of rock-like stability, butin fact only a slight change in the balance of forces could causeher to be blown away in the wind. There is a strong streak ofopportunism running through Merkel's record as a frequentlyruthless political survivor. Outlasting her enemies was a skillshe first honed in the clandestine and cutthroat world ofcommunist East Germany. The German leader wields carrotand stick like a conductor's baton: a trace of European solidarityhere, a whiff of sound money there; a stern hand on the tillercombined with a shove in the direction of the life raft for thosewho fall overboard; a modicum of support (if deserved) forFrance and Italy, a stab of school-matronly admonition for theGreeks and Spaniards; espousal of self-help for errant countriesand rejection of bailouts; respect for the anti-inflation credoof the politically independent central banks that are supposedto be running the show, combined with wearisome regret thatsometimes they do not see the larger picture.

Such is the juxtaposition of contrasting forces that Merkel'sLaw of Permanent Disappointment is persistently on display.According to the familiar pattern of euro politics, Germany'scritics habitually call for concessions, which the Germans rejectas contravening the euro bloc's tough conditions and invokingthe Weimar ghosts of hyperinflation and totalitarianism (aplaintive yet exaggerated contention). Each time, as the pressurebuilds, the Germans give in; each time, in an increasinglyirksome display of brinkmanship, this capitulation comes at alater stage. Yet it is always only a partial surrender that leavesno one satisfied and nothing resolved. The German cave-in isnever complete enough to resolve the euro's problems or towin more than grudging acknowledgement from supplicantstates pleading poverty. But it nearly always goes too far forMerkel's many critics in Germany, who say she has strayed toofar in toning down Germany's rules on monetary stability or inpropping up profligate, ungrateful southerners with Germantaxpayers' money.

One point is clear, although it hardly makes resolution easier:the pain felt by the peripheral euro states is overwhelminglytheir own fault. In Greece, Ireland, Portugal, Spain and Italy,harsh corrective action has been necessary to overcomeserious policy mistakes in the euro's early years. Countriesused the easier conditions of the single currency to do whatpeople, banks and institutions always do when interest ratesare precipitously lowered and then kept low – to live beyondtheir means. Many euro members built up unsustainable debtin the public or private sectors (or both) that was used tofinance speculative economic booms, rather than to generateproductive capital investment and lay down foundations forthe future.

A subsequent switch towards righting economic imbalanceshas been necessary and inevitable. But there are three principaldifficulties with the outcome. First, sharp falls in domesticdemand and rising unemployment in crisis countries havedeepened economic downturns and resulted in ever-worseningdeflation that, by lowering tax revenues and weakening publicfinances, have further reduced the ability of states to pay backtheir debt – a self-perpetuating vicious circle.

Second, in normal cases around the world, where imprudentstates incur excess debt that leads to economic overheating,policy rethinking normally leads to a devaluation of the nationalcurrency, as part of a bid to achieve greater competitiveness.This is then a component of an overall package of measuresto rebuild growth, for example, under the tutelage of theInternational Monetary Fund (IMF). Under the conditions ofmonetary union, the path of devaluation is blocked, unless theeuro as a whole becomes chronically weak on currency markets(which would probably then further damage confidence) orunless the country concerned takes the ultimate step (for many,still wholly unthinkable) of leaving the monetary union. Thisis one major reason why the sense of crisis in Europe has beendeeper than during comparable episodes in the past, and whyit is lingering longer. The various euro rescue packages offerhard-hit states and their populations only very long and stonypathways to recovery.

Third, in the case of those euro members where earlier rapidexpansion ran aground, there are grave question marks aboutthe governance arrangements that led later to a breakdown inwell-being and stability. The economic imbalances in the earlyyears occurred as an intrinsic part of a monetary regime thatallowed member states access to easier financing with fewquestions asked about the outcomes. No one paid sufficientattention to the problems building up below the surface. Whatappeared to be a supremely benign experience went hideouslywrong. Furthermore, nearly everyone bore some responsibility,and this is making attempts to clear up the tangle all the moreonerous.

Germany, overall, appeared to benefit. The euro countriesthat embarked on debt-fuelled expansion absorbed greatvolumes of German exports. Additionally, throughout theperiod Germany's currency was kept lower than it wouldotherwise have been, providing a competitive exchange ratethat allowed German companies to prosper thanks to the much-increasedexports to the rest of the world. Price competitiveness,together with big increases in Germany's economic flexibilityfollowing structural reforms by government and industry,gave fresh impetus to Germany's decades-old capacity tomanufacture products that the world wants to buy. As the euroarea's largest economy and most important creditor, Germanystands more or less alone in Europe in having circumventedwith apparent ease the world financial crisis of 2007–08 and thesubsequent downturn.

The Germans therefore face trenchant complaints fromdebtor countries for allegedly inflicting vindictive deflation onindebted peripheral states, whose earlier behaviour helped (andcontinue to help) support German jobs and prosperity. In theeyes of disaffected euro members, Germany not only refusesto take overall responsibility for the skewed state of monetaryunion, but also adopts an unfair moralising tone in criticisingill-doings of partner countries whose actions it earlier tacitlycondoned. One of the euro's objectives was to promote Europeanpeace and fraternity. Yet, under the conditions that haveemerged, in several southern euro members monetary unionhas produced defamatory anti-German campaigns of a ferocitynot seen since the Second World War.

Angela Merkel has the longest experience and the most solidcredibility of current European leaders. Yet she (or her successor)cannot satisfy the oft-expressed desire for some form ofovert German leadership to guide the euro area to salvation.This is not just because of the memories of the German bidfor domination seven decades ago, but also because of the irreconcilablemix of expectations. The calls of different factionsat home and abroad for firm German action – for cancellingpart of debtor countries' borrowings, or for agreeing collectiveEuropean-wide state bonds (so-called eurobonds) so that otherscan benefit from Germany's credit rating – cancel each otherout. For every European who would profit, there is a Germanwho would lose. Gridlock rules. Incessant calls for action frompartner countries inevitably run aground on insistent Germanrefusal to give way.

The euro is an overtly political project. This makes stillmore alarming the shortcomings of the German and Europeanpolitical class in failing to spot the earlier build-up of pressures,and then permanently lagging in the response to the crisiswhen it broke. The European leaders who, for varying reasons,lent political impetus to monetary union recognised that themonetary union of 1999 was incomplete. One of the biggestimpediments is that the European Central Bank, which providesthe euro's main operating machinery, lacks a single Europeanpolitical counterparty. Past evidence suggests that something ofthis nature is needed for a single currency to function smoothly.Monetary unions tend eventually to collapse unless they areembedded in a coherent political framework that allows foreffective collective action and burden-sharing, for instancethrough joint fiscal policy. Many people in many countriesaffirmed this before and after the euro was born, but very littlewas done either to prepare for possible problems or to tacklethem when they became evident. The euro is haunted by theghosts of past warnings that were not taken seriously until it wastoo late.

CHAPTER 2

Dashed illusions

The European treaty on monetary union was agreed atMaastricht in the Netherlands in December 1991 by twelvegovernment leaders, including Germany's Helmut Kohl, France'sFrançois Mitterrand, Britain's John Major (who secured an opt-outfor Britain) and Italy's Giulio Andreotti. A neat town ofantique shops and multilingual universities on the triple borderbetween Germany, the Netherlands and Belgium, Maastricht isan aptly European spot. A still more appropriate venue wouldhave been Vienna, the birthplace of Sigmund Freud, the fatherof psychoanalysis. Certainly, as Angela Merkel likes to say, theeuro is much more than a currency. The motivations behind thecreation of Europe's common money are shot through with a mixof psychologically complex, sometimes conflicting principles.Individually, they may sound beguiling; taken together, theyadd up to an over-rich combination of desires and objectivesthat cannot possibly be fulfilled. Dashed illusions were builtinto the script.

During the late 1980s, when, after several previousaborted starts, monetary union again became a key objectivein Europe, there was no shortage of admonitions againstoverloading the single currency project with exaggeratedhopes and expectations. Kohl's first finance minister, GerhardStoltenberg, warned against planning a successor to theD-Mark for overtly political purposes. Bundesbank PresidentKarl Otto Pöhl scornfully interpreted French moves towardsextended European monetary coordination as an attempt toclip the central bank's wings and end what the French calledthe Germans' monetary hegemony. Prof. Michael Stürmer, oneof Germany's most respected historians and a former speechwriter for Helmut Kohl, couched his appeal not to expect toomuch of the euro in terms of Austrian-American economistJoseph Schumpeter's celebrated description of a monetarysystem being inseparable from the society behind it.

Both before and after the Maastricht summit, the Bundesbankand other central banks in Europe, such as the Bank of England,subjected the single currency plan to searching scrutiny. Theyconcluded, on the basis of experience amassed over severalcenturies, that an indispensable prerequisite for a successfulmonetary union in Europe was some kind of political union.Kohl declared on the eve of the Maastricht conference that,without parallel moves towards political unity, monetary unionwould remain 'a castle in the air'.

(Continues...)

Excerpted from EUROPE'S DEADLOCK by DAVID MARSH. Copyright © 2013 David Marsh. Excerpted by permission of Yale UNIVERSITY PRESS.
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Edition details

• Publisher: Yale University Press
• Publication date: 2013
• ISBN 10: 0300201206
• ISBN 13: 9780300201208
• Binding: Paperback
• Language: English
• Edition number: 1
• Number of pages: 120