Blog Post

The long-run future of the eurozone

What’s at stake: Emergency moves by the European Central Bank on Monday and the €110bn international rescue package agreed over the weekend have failed to quell investor fears about the future of the eurozone as concerns have risen about other member countries’ stability. The Curious Capitalist is worried because the Europeans don’t seem to be […]

By: Date: May 3, 2010 Topic: Macroeconomic policy

What’s at stake: Emergency moves by the European Central Bank on Monday and the €110bn international rescue package agreed over the weekend have failed to quell investor fears about the future of the eurozone as concerns have risen about other member countries’ stability.

The Curious Capitalist is worried because the Europeans don’t seem to be asking the really hard questions, about why Greece got into such trouble, and what Greece’s problems tell us about the entire single-currency experiment itself. The steps being taken to solve the Greek crisis today are not in any way changing the bigger picture of currency union with diverging national economies.

Tony Barber argues it is unrealistic to think that the Greek problem can be sealed off and dealt with as if it has no impact on the other 15 euro area countries. The rest of the eurozone is simply not equipped, politically, financially and psychologically, to extend help of that magnitude for other eurozone members.

Wolfgang Munchau concludes from the Greek crisis that the experiment of a monetary union without political union has conclusively failed, and that the EU will have to decide between further political integration and further disintegration.

Jacques Melitz argues that much of the damage to the Euro caused by the Greek crisis has been due to the inaccurate focus by EU officials on the centrality of fiscal discipline. The European problem is largely self-inflicted. There have been repeated affirmations by the ECB and government officials in Eurozone member countries that fiscal discipline and the Stability and Growth Pact are the very foundation stone of the Eurozone, implying that a Greek default is a big problem for the euro. Melitz argues that there must be something fundamentally wrong with the Eurozone if the possible default of a country engaged in irresponsible fiscal policy and accounting for only 3% of the Eurozone’s GDP can raise questions about “saving the euro” and the survival of the entire monetary system. A change of doctrine is critical to guarantee a long-run future for the Eurozone. The author argues that rather than institutionalising bailouts, there should be EU-level financial supervision of banks under the auspices of the ECB to allow for more efficient containment of the effects of fiscal default on financial stability.

Charles Wyplosz argues that we may have just planted the seeds of an unravelling of the monetary union. The help that has been offered to Greece cannot be refused to other Eurozone governments. So, one more time, a (dwindling) group of deficit-stricken countries will have to provide money to increasingly large debtors. This process means that ultimately there is no national debt anymore, at least for the next few years. In effect, in the market eyes, there will then be just one Eurozone debt. Could markets run on all Eurozone public debts? Once again, no one would expect all Eurozone governments to be forced to default but markets can and do panic and self-fulfilling crises can occur wherever there is vulnerability. An alternative to spreading mutual underwriting is debt monetisation. The ECB does not buy assets outright, so if Greece defaults the loss would be borne by the banks that used Greek bonds as collateral for repo operations with the ECB. But banks are the ECB’s counterparties; if they default, the loss is the ECB’s. This can be called indirect monetisation of the debt. If the debt crisis stops here, this is manageable. Add Portugal, Spain and others, and you have the seeds of very, very high inflation.

*Bruegel Economic Blogs Review is an information service that surveys external blogs. It does not survey Bruegel’s own publications, nor does it include comments by Bruegel authors.


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