Save the euro. No time to waste
After so many bilateral and multilateral summits of European leaders over the past two years on the euro, I cannot help feeling that these politicians are either a bunch of procrastinators or they do not realise that Europe is on the edge of a precipice. While they talk, eat dinner or stroll, the ship is sinking little by little. It is as if we are watching a movie in slow motion of a death foretold. No country, not even Germany will be able to avoid the consequences of the disaster. How can we avoid it?
First of all, the leaders, in particular, the uncompromising Ms. Merkel, who in my opinion lacks a long-term political vision, will have to answer a crucial question: Is it worth saving the euro? If the answer is positive, they must act quickly and decisively, because there is absolutely no time to procrastinate. Further stopgap measures will not solve the problem.
The purpose of this article is not to blame anyone. I am aware of the fact that at the very beginning, the idea of having a monetary union without a fiscal and banking union and at least some degree of political union was a serious mistake. But right now what is important is to take appropriate measures to save the euro, because, if the euro implodes, the resulting financial turmoil will not only affect Europe but also the entire world.
Debtor countries must abandon the harsh austerity measures imposed by Ms. Merkel, because they are stifling their economies not only by cuts in public expenditure but also by the continuous increases in the risk premium. I am not against an austerity plan but against its rigidity. Here, in this case, the ultimate objective of the austerity plan is to reduce debt levels of the euro-area countries. However, a very rigid austerity plan achieves just the opposite. Declining economic activities reduce government income which, in turn, makes it difficult for the countries to meet their debt obligations. In fact, budget deficit tends to grow because of the dual impact of falling revenues and rising risk premiums. It, indeed, is a vicious circle. Therefore, the plan must not only be austere but also flexible enough to stimulate growth at the same time. True, this policy might lead to higher inflation. Actually, some economists feel that slightly higher inflation in the euro-area, especially in Germany, will help stimulate economic growth in the whole area.
As we have seen, the risk premium (now nearly 6% on 10-year bonds) is causing havoc throughout the area except, of course, in Germany. Everyone agrees that in order to get out of this debt crisis, we need to solve this problem first. No country in the euro-area alone (again except possibly Germany) has sufficient financial capacity to solve the problem. Therefore, there is no other alternative but to issue Eurobonds. The International Monetary Fund and President Hollande of France support the idea. There are eminent European economists like Jacques Delpla and Jacob von Weizsäker who have already warned that without the introduction of Eurobonds, some southern European countries may soon go bankrupt. So the question is: Why have steps not yet been taken to issue these bonds?
Well, the answer is simple. Germany (supported by Austria and Finland) does not want to issue these bonds. Of course, there are valid reasons for this decision. As Jens Weidmann, the president of German Central Bank commented recently: "You do not give your credit cards to anyone if you cannot control his expenditure." This is a fair comment and I agree with Mr. Weidmann. (However, Mr. Weidmann should be reminded that Germany has reaped enormous benefits from the euro. In any case, this is neither the time nor the occasion to start a debate on this subject.)
This brings us to the issue of national sovereignty. In my opinion, it is necessary to transfer a part of our national sovereignty to a federal agency with a central treasury or to some other similar organisation with powers to control national budgets. I am convinced that Eurobonds will ease the debt crisis to a large extent. There are serious reasons for such optimism. Even though the sovereign debt level of the United States (more than 100% of the GDP) is higher than that of the euro-area (87% of the GDP), the United States has no difficulty in financing its debt at less than 1.75% because of the simple reason that the investors have confidence in the US to get their money back .
Few investors have similar confidence in Spain which has entered a period of economic recession and some of whose major banks are technically bankrupt. There are other euro-area countries that are in a similar situation.
I think, if the European politicians have the courage to take this bold political decision to have greater economic, fiscal and banking integration, it will not be very difficult to set up a federal agency with a central treasury in a relatively short period of time. Actually, I feel that even if it takes a little while to go through the formalities of setting up such a federal agency, the decision itself will ease the situation because the investors will realise that they can trust the combined financial strength and legal commitment of all the euro-area countries as a union, hence the need to act quickly.
Some politicians seem to think that the European Central Bank (ECB) is in a way responsible for this prolonged agony. They are wrong. One cannot compare the functions and responsibilities of the ECB with those of the US Federal Reserve. As the economist Daniel Indiviglio pointed out recently, the Federal Reserve "among its many functions, acts as a supervisor and regulator of banks and the lender of last resort. It also monitors the risks and worries about the global macroeconomic situation. And of course, it determines the US monetary policy and controls its inflation. Its policies are also focussed on creating employment."
Compared with the Fed, ECB's powers are limited. It cannot buy government bonds on a large scale. It appears that the ECB's main function is to control inflation. I think the leaders of the euro-area should address this issue as soon as possible. In order to be more effective, the ECB's powers should be revised and strengthened as lender of last resort. In order to avoid bank-runs and to prevent capital flight from weak countries, it is also imperative to create a Europe-wide deposit insurance programme as soon as possible.
If the euro zone countries want to save the common currency, it will be necessary to have a long-term political vision which will lead to greater fiscal, banking and political integration of member countries. It will be necessary to set up supranational institutions to control national budgets, assess the economic situation and monitor developments in all the euro-area economies. Adequate legal provisions should also be made so that countries that do not agree with this idea of further integration may leave the club in an orderly fashion.