Jun 26 2012

ubermichael said: Would Europe have been better off without the Euro as a shared currency in the current financial crisis? Would it even have happened if each country was still on its own currency and could print its way out of the mess?

Ooooh, this is a tricky question!

First off, it’s probably worth noting that a lot of countries benefited hugely from the euro. The common currency promoted cross-border investment and production that led to rapid economic growth (and, inevitably, bubbles in consumer assets like real estate) in Ireland, Spain, and other relatively less-industrialized eurozone member states. It was so successful that other proposals for monetary unions (like the East African shilling or the Gulf khaleeji) gained widespread currency. (Ugh, sorry, I just realized the pun after typing it.)

So, when times were good the euro definitely made sense! And things had been on the upswing, economically, in Western and Central Europe, for quite some time when the euro was founded. This was an era when Frances Fukuyama could write a book about how the whole world was heading towards peace and prosperity under US-style elected governments for the rest of eternity and people actually took him seriously

But since the 2008 crash? Well. Not looking like such a great idea now, is it?

Firstly, it’s worth noting that what happened in Greece was a direct result of the drive to join the eurozone. Governments were required to get their finances under control before joining (precisely to prevent a crisis like the current one); to get there, the Greek government colluded with Goldman Sachs to hide just how parlous its finances were. Eurozone officials were disinclined to look too closely, and so it wasn’t until a new government was elected in fall 2009 that anyone found out about how bad Greek finances were. And by that point, the state needed urgent assistance.

Also, in general the eurozone never really respected the tight limits on government debt and deficit that were required as a condition for entry. If a government needed to overspend, it could please special circumstances or tough economic times, and it would be allowed to run big deficits. So to an extent some of the current problems would have been mitigated if governments had stuck to the (unreasonably tough) conditions they agreed to upon eurozone accession. 

Anyway, would individual European governments be better off if they could print their own money? Greece certainly would; its debt load is really high and its economy is in free-fall and the institutions of tax collection and public service provision are more or less dysfunctional. There’s basically no way to save the government other than huge cash transfers (which come with very harsh strings, to impress German voters) or inflating away the debt by printing new money (which can’t be done inside the eurozone). However, because Greece is already inside the eurozone, pulling out would cause rapid panic. So they’re not really left with any good options.

On the other hand, countries like Ireland and Cyprus (where the bailout has mostly been oriented around the banking sector) have benefited from eurozone membership, because it’s meant access to financing for their banks without quite the level of scrutiny that the IMF would require. Note that these crises were largely amplified by eurozone membership (the Irish property bubble and the Cypriot banking contagion both arose as a result of the easier flows of capital within the eurozone) but the eurozone is also helping them out.

It’s hard to say whether the eurozone is going to help or hurt Spain. If only the banking sector needs a bailout, then it’s probably great to have that outside backing. If the federal or regional governments need propping up, then Spain is heading for a Greece-type situation. And in either case, remember that the eurozone was largely responsible for the Spanish banking crash by facilitating the purchase of Spanish real estate by investors throughout Europe.

Whew. Novel-length answer. TL;DR is that the eurozone was probably a bad idea to start with, and being locked in was a good thing for some countries and a bad thing for others.

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