When the wise men who wanted a united Europe launched the unified currency, it was a move based more on hope than on facts. The Euro was not based on solid foundations designed to weather a storm and protect its weakest parts. Quite the opposite; it was like putting up a house with a few strong pillars and a lot of sub-standard parts in the belief that calm weather lay ahead, and during the dry spell one could slowly upgrade and strengthen the structure and make it ready to take on the world.
While many warned that putting the Euro into effect was dangerous and premature — as there was no true central bank capable of commanding Euro-wide fiscal resources (the mandate of the ECB was simply to keep interest rates within a modest band), no Euro-wide banking regulator, and no overall controller of Euro fiscal policy — optimists plunged ahead, arguing that the single currency would be good for growth, would strengthen the weaker Euro economies, and be a foundation on which further unity could be built. Still, several EU nations declined to join the single currency (the United Kingdom, Denmark, Sweden). With the recent EU expansion, adding many countries that still have their own currency, there are almost as many EU members outside of the Euro (Latvia, Lithuania, Poland, Hungary, Romania, Bulgaria, the Czech Republic, as well as the UK, Sweden, and Denmark) as in it.
Initially, during the economic boom up to 2007, the Euro structure held. It did create cross-national integration, but not of a kind that strengthened the weaker economies. Rather, the weaker economies were jet-fueled by the cheap credit and stable exchange rates that came with EU membership, leading to a binge of borrowing, home construction, and consumption. The crash of 2007 popped these bubbles and left a debt hangover in the weaker Euro economies that is now the key policy problem of EU leaders.
Over the summer, as I have often noted, optimism created by promises of new central bank action held off fiscal crises. But in fact, the ECB cannot overcome the structural flaws of the Euro’s construction, it can only buy time.
Time is now running out. The latest problems form a long and growing list: First Greece, then Spain, then Portugal are all likely to miss their targets for reducing deficits and debts to quality for bail-out help, due to the negative impact of austerity measures and the continued global slump. Second, popular protests in Spain and Portugal (and soon Greece, I predict) are setting limits to how much more pain people will accept in the way of tax hikes, pension reductions, and state service and employment cuts that people will accept as the price for the increasingly painful promise of remaining within the Euro. Third, the very sovereignty of Spain is being challenged by Catalonia, a move that could have repercussions in Scotland and Belgium as well, where regional cleavages are equally sharp.
The fourth, and the latest, issue is that David Cameron, Prime Minister of Britain, has said he is unwilling to sign a new European Union budget that requires all EU states to contribute to the bail-out of the Eurozone weaklings. In Cameron’s view, when the UK joined the EU but retained the British Pound as its currency, it was making a statement — it would join in the EU rules on environment, asylum, migration, worker safety, agricultural support, trade and other areas in the competence of the EU parliament, but it would NOT bind its fiscal policies to those of the Euro nations, as it (rightly) considered the Euro structure too weak and risky. So now, Cameron is insisting that any new EU budget clearly separate the matters for the Euro-zone countries and the rest of the EU, and ensure that those countries not in the Euro do not have to pay to bail out failing countries that chose to join the single currency.
This is wholly reasonable given the structures in place but also an enormous problem for the Euro. After all, the UK, Denmark, Sweden, Poland, and the Czech Republic are among the strongest economies in Europe right now. If the cost of saving the weak Euro countries has to fall entirely on the stronger Euro countries, that means Finland, Germany, France, and the Netherlands have to bear the entire burden (and France is near having problems itself as its struggles to put its fiscal house in order).
Cameron’s move challenges the EU and the Euro — can the latter work as a separate group within the former? What is the responsibility of the EU nations for their fellow EU countries with different currencies? Is the EU becoming a true fiscal/legal union, or a trade zone only?
Watch out in the weeks ahead — something has to give.