A genuine monetary union?

by Guntram B. Wolff on 6th December 2012

The European Commission’s president, José Manuel Barroso, last week proposed a roadmap setting out how to transform Europe’s current set-up into a better-functioning monetary union. The paper has two major weaknesses, but it makes three very good and ambitious points.

First, on the positive side, the communication stresses the need to move ahead with a common bank-resolution authority and acknowledges that a purely national system of resolution would not be effective. This is a major and very important change in the Commission’s policy stance: until very recently, the Commission’s view was that national resolution would suffice. A banking union without a common resolution authority would not be a genuine banking union. Without a common form of resolution, there can be no form of risk-sharing. And without risk-sharing, one of the main aims of the banking union – to break the vicious circle between bank debt and sovereign debt – cannot be achieved. The single financial market would remain fragmented.

Second, the Commission’s communication elaborates on what to do with the current debt overhang in the eurozone. Its solution – a redemption fund coupled with ‘eurobills’ (short-term debt backed by all 17 members of the eurozone) – is very controversial, but the Commission deserves credit for highlighting that there is a debt problem. It is high time that Europe thought more deeply about how to organise the large process of deleveraging its debt. It is unlikely that prolonged high levels of savings would alone be enough to do the trick.

Third, the communication rightly accepts the need for a common eurozone budget. A eurozone budget would serve as a stabilising factor in the event of both ordinary shocks and asymmetric shocks. The communication also clearly states that the budget must be designed to ensure that there are no permanent transfers and that it fosters structural change. The Commission fails, though, to point out that a common budget is only needed when there are extremely deep recessions.

Two important issues are entirely missing from the communication, however.

First, the section on bank resolution appears strangely incomplete. Centralising resolution powers entails a major transfer of sovereignty, which in turn requires very deep reforms and clear thinking about democratic accountability. Contrary to the Commission’s claims, changes to the EU treaty therefore appear indispensable. It is also possible that we would end up with a new resolution authority inadequately equipped to wind up banks in a way that minimises the cost to the taxpayer. The Commission should therefore re-think its approach to bank regulation. Is the implementation of a single rulebook enough to prevent major risks to taxpayers? Finally, contributions from the financial industry would be an excellent way of reducing costs to the ordinary taxpayer. At the same time, though, general tax resources will need to be called on in extreme cases

A second criticism concerns the Commission’s analysis of the macroeconomic situation. The Commission sets out relatively detailed timetables for a banking and fiscal union, but it suggests no specific steps to restore growth in Europe quickly. There is obviously a major structural component to Europe’s weak growth. That structural element needs to be addressed urgently. However, remedial, structural action would produce growth in perhaps three years’ time, and so the outlook for the next two years would remain bleak. This holds true particularly for the countries of southern Europe.

What does the Commission consider to be the truly important macroeconomic policies that Europe should enact now in order to overcome its dramatic decline in growth? The Commission will have to take a position on Europe’s macroeconomic policy. Long-term reforms are no substitute for this, because anaemic growth in Europe will undermine them. 

A version of this column was originally published in the European Voice

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