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Milan, Italy (UPI) May 24, 2010
German Chancellor Angela Merkel spoke the obvious when she declared last week that "If the euro fails, Europe fails." The trouble is that not one of the available ways to fix the euro problem yet appears to be politically possible.
Merkel knows this, which is why she went on to say, "The current crisis facing the euro is the biggest test Europe has faced for decades, even since the Treaty of Rome was signed in 1957."
There are three essential problems here. The first is that the euro mixes together apples and oranges. It combines efficient and disciplined economies like Germany, whose workers and labor unions held down wages for 10 years to make their exports competitive once more, with profligates like Greece, Italy and Spain who ducked such discipline and spent like the feckless grasshopper in Aesop's fable. By contrast, the Germans worked and saved like Aesop's ants. As a result, the Germans built up massive trade surpluses while the southern Europeans accumulated debts.
The second problem is that those debts are now too high to be paid back so long as the southern Europeans remain in the euro, with their interest and exchange rates locked into those of Germany. If they could devalue their currencies, as they used to do on a regular basis before joining the euro, they could adjust. Since they cannot devalue, they must grind down wages and raise productivity to become competitive, even as their governments slash spending and raise taxes to balance their budgets and pay off debt. If they stay in the euro, they will have to endure this kind of austerity for many years. The voters are unlikely to accept such a fate.
The third problem is political. Germany is the backbone of the euro. If other countries want to remain part of Germany's financial empire, they will have to work and pay taxes like Germans and abide by the fiscal rules that Germany sets. This means that the eurozone itself will have to become a political entity that can plan, enact and enforce a common economic policy.
But even if that were to happen, there is still a catch. The Germans will have to pay for it, at least during the hard times of readjustment and austerity that lie ahead. The Germans will have to behave like the citizens of New York, who pay more into the federal government of the United States than they receive in return. This is how federal states, and monetary unions, have to work, balancing out the wealth between the wealthy and poor regions. And everything that we have seen in the German political discourse and in the media and in the recent regional elections suggest that the German voters are unlikely to finance such generosity.
This should come as no surprise. Successive studies of the implications of European Monetary Union that were published before the euro was launched warned firmly that this would be the case.
In 1989, Jacques Delores was president of the European commission, and he set up a committee which he led, with 12 heads of European central banks and the managing director of the Bank of International Settlements. Their report made two pivotal points.
The first was, "The permanent fixture of exchange rates would deprive individual countries of an important instrument for the correction of imbalances." In other words, if countries like Greece cannot devalue their currency, they will have to correct their consequent trade deficits in other ways, like lower wages and higher taxes.
The second was, "If sufficient consideration were not given to regional imbalances, the economic union would be faced with grave economic and political risks." In other words, if the southern Europeans cannot work and save like Germans, or if the Germans cannot even out regional imbalances by paying more of their money to beef up the southerners, there will be very serious trouble - which is what the euro countries now have.
Donald MacDougall, a distinguished Oxford professor and senior economic adviser to the British government, looked at this problem for the European Commission in 1978 and published a report in which he said that all other monetary unions in history had need to control something like 20-25 percent of the union's gross domestic product in order to make the transfer payments from rich (or hard-working) countries to poor (or feckless) ones that could fix such imbalances. Europe itself might get away with rather less, perhaps 10 percent if it were lucky, but certainly sums that were orders of magnitude higher than the 1.2 percent of Europe's GDP that the EU currently commands.
In fact, such transfers were made from Germany and France to the southern countries, but they were made by banks and investors who thought they were investing in reliable euro bonds that happened to be issued by Greece and Spain. The banks have now discovered that they not buying euros that we as safe as German D-marks, but euros that were really as unsound as Italian lire and Greek drachma.
In should therefore come as no surprise that Europe's trillion-dollar Band-Aid isn't working. The wound goes much too deep. Either the eurozone now integrates and becomes a federal state like the United States and under German economic management, or it collapses, and the Greeks and other profligate countries devalue and the banks (German, French, British and American) lose hundreds of billions. This will trigger the second global wave of economic crisis, just as the financial crash of 1929 gave way to the government insolvency crash of 1931.
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