Bill Jamieson Is this it?

COMMENT

BILLJAMIESON | Executive Editor of The Scotsman

Is this it?

Has the moment of truth arrived for the euro?

IS this it? Or near enough to it? By ‘it’ I mean an event or sequence of events of such consequence as to constitute an epochal crisis to trigger a radical reconfiguration of the institutions of the European Union – up to and including a drastic revision of the European single currency.

Throughout this year the continuing crises over sovereign country debt and the health of numerous European banks have cast a darkening shadow not just over the prospects for the countries directly affected but also over the single currency itself.

Almost every patchwork ‘solution’ agreed at emergency summits of eurozone leaders over the past two years fixed the loss of market confidence for a short time, only to be followed by a renewal of doubts about the ability of heavily indebted countries such as Portugal, Spain, Italy and Greece to meet their debt obligations.

The European Central Bank has intervened with emergency support through a programme of government bond purchases. The rules around the application of the emergency bail-out kitty – the European Financial Stabilisation Fund – have been relaxed. Other changes were loftily announced, but within a few weeks market apprehension returned. Stock markets have been badly hit. There has been concern over a fresh icing-up of wholesale credit markets. And – of particular concern – business confidence has fallen sharply as key measures of economic activity and business surveys have shown a sharp deterioration.

Now this downturn is by no means confined to Europe. America is faced with a return to recession, with worrying declines in data ranging from employment through the housing market to consumer confidence.

But Europe had, or claimed to have, institutions purportedly working to enhance economic activity and policy cooperation – particularly in the single currency zone. However, this is where serious worries over debt obligations have arisen and where, despite all those governmental institutions, effective policy response has been at its most feeble.

So far, the priority of public policy has been to support and maintain the institution of the single currency. But ironically, the longer this has been the main preoccupation the greater the crisis of confidence in the euro seems to have grown. The broad reason for this is that the very nature of the single currency project has worked in the opposite direction. Countries in chronic need of devaluation to render them more competitive and to help pull their economies out of debt-soaked recession and slump struggle as this option is blocked. And earlier this summer, just when ultra-low interest rates needed to be maintained, the European Central Bank raised interest rates in response to perceived inflation pressures arising from powerful economic growth in Germany.

Germany’s recovery pace has now slackened to a crawl. And the stricken economies of southern Europe find themselves trapped in a monetary union that is impoverishing them.

There is another irony here. Germany, the strongest member of the euro chain, may well prove to be its weakest link. Chancellor Angela Merkel has sought to strike a balance between intensifying pressure to agree more euro-wide support for the weaker members, and apprehension among German voters who fear having to pick up the tab for debts incurred by other countries. Moreover, not to put too fine a point on it, the countries in trouble have been characterised by overly generous welfare systems, corruption, tax evasion, political weakness and an inability (or unwillingness) to push through reforms that might improve their productivity and competitiveness.

Which way out?

Now there is talk a major revision of the Lisbon Treaty – indeed some would like to see it scrapped altogether. Others want to see full speed to a fully fledged fiscal union, with the annual budgets of all country members subject to regular inspection and supervision from the centre. Ottmar Issing, former chief economist at the Bundesbank, weighed in with a warning that such sweeping reforms lacked political legitimacy unless they were approved by voters in member countries. Meanwhile, Angela Merkel is in no mood to support the part pooling of sovereign debt through the issuance of euro bonds unless and until a common fiscal discipline is in place across the euro zone.

It is this which may now bring matters to a head. Early in September the German finance minister Wolfgang Schaube told a meeting of senior CDU members that a new EU treaty is needed to transfer further economic and financial policy powers to the eurozone level. At the same time, Bundesbank president Jens Widman declared that bond purchases by the European Central Bank had “strained the existing framework of the currency union and blurred the boundaries between monetary union and fiscal policy.” Eurozone bonds, he was saying, are no substitute for sound public finances.

The idea of a break-up of the euro is almost unmentionable in official circles but is being increasingly discussed in the markets as a possible outcome. It would not be surprising if, given the financial trauma that would result from a crisis ejection, that one or more countries are working on contingency plans for just such an outcome. Tight secrecy would be needed to prevent a prior run on banks and financial institutions. But in scenario planning terms, this is an outcome for which Europe’s leaders now need contingency.

One thing is for sure. The longer that eurozone leaders fiddle around with sticking plaster, the deeper the crisis will grow. n