The Eurozone: Does it have a long term future?

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With austerity measures being imposed on Greece and Italy, which some experts believe will depress the growth and recovery of the European single currency, there have been increasingly strong calls from economists and politicians from all sides of the political spectrum to the tune that the Euro cannot survive in the long-term, at least in its current form.

Alistair Darling, who served as Chancellor of the Exchequer 2007-2010, wrote in The Independent earlier this month that it was ‘not realistic’ that the Eurozone will survive in the long-term, at least with its current membership. He makes similarly pessimistic predictions about the immediate future too; the ‘eerie calm’ which gives the false illusion that it is mildly stable is hiding the simple fact that the economic catastrophes in countries such as Ireland, Greece and Italy have not disappeared, and fundamental problems such as Greece’s phenomenal debt of 120% of its GDP have yet to be solved. Indeed, Professor of Economics at Dartmouth College Danny Blanchflower highlights that with no growth plan, even if Greece does get a new EU loan it will be unable to repay it long term. With a dire state of affairs, no ‘orderly’ solution or way out can exist. Needless to say, a similar situation exists in Italy too.

Even with the behaviour of Southern European states, it is misguided to blame them entirely for the Eurozone problems. Indeed, from the beginning there were fundamental flaws which plunged the seventeen member states into the current crisis. The Maastricht Treaty set out a way to police the economies of member states through what is called the ‘Stability & Growth Pact'; the rules of which included not allowing a member state to have a budget deficit of greater than three per cent of their Gross Domestic Product, and national debt remaining below sixty per cent of GDP. In 2003, both Germany and France had broken such rules, but the then15 member countries voted to let these two pillars of the Eurozone economy off. In some ways this set the precedent for sovereign states being simply unwilling to transfer power to Brussels; even if the European Commission is often criticised for wielding unaccountable and unelected power, to be so undermined by the combined willpower of France and Germany undermined the whole structure and policing mechanism of Eurozone rules and procedures.

So, if the Eurozone does have so many fundamental weaknesses, does it have a long term future? In theory, a single currency is a fantastic idea which would enable Europe to establish itself as a major economic [trading] bloc which competes with the likes of North America and the Far East. It should also enable member states to galvanize trading links among themselves. However, economic convergence is the missing piece of the puzzle; with the continued existence of separate, not converging fiscal systems, it seems as though member states are not converging, but indeed diverging. However, such a convergent and unified system is incompatible with protectionist leanings of France, who hold much influence in European politics and economics.

Should this be the case, the solution seems obvious: a full Eurozone integration where individual member states are of secondary importance to the wider ‘Europe’. Development is, according to Olli Rehn (Vice President of the European Commission) going in the right direction, where state economics is regulated supra-nationally and no fiscal entity is left unregulated. The seventeen Eurozone nations, as well as the entire 27 states which make up the European Union, should put ultimate state sovereignty to one side and act in the greater good of all members.

However, such reforms would be inadequate in themselves. Structural reforms must also be put in place; the governance of economic and fiscal policy must also be in a position to deal with issues such as unemployment, supporting small businesses and encouraging innovation is equally important. The form that such structural reforms could take is a far more complex issue. One of the main problems is that European banks have very low levels of capital, and are therefore not in a position to withstand significant losses on their portfolios. Let us not forget that the fact that banks convinced themselves that investments before the crash were without risk. It is unlikely that they will be willing to make similar assumptions in the future. Indeed, without such capital investment, such reforms are far less likely to happen.

Should such a solution not be feasible, perhaps the Eurozone will be trimmed down, or perhaps made into a two-tiered system. In other words, power will lie in the hands of the ‘Merkozy’ duo (Angela Merkel & Nicolas Sarkozy) who will dominate powerful institutions designed to ensure that rules of the EU and Eurozone are adhered to. However, should this go too far, instead of uniting and strengthening Europe, it will in effect create two separate Europes.

It seems very unlikely that collapse of the Eurozone is imminent and in fact it is very likely that is does have a long term future. After much needed reforms, perhaps it’ll be almost unrecognisable from its current form, or perhaps such changes will be far less ambitious. One thing that is very important, however, is that reforms make the system flexible which could indeed ease many of the existing systemic tensions and improve the feeling of collegiality and increase the likelihood that member states will not always act in a self-interested manner.

Article by Sam Neagus. Edited by Patrick English.

Further Reading

[5] Politics in the European Union (Bache, Bulmer, George)