Investors are bracing themselves for yet another euro-area moment of truth. How many does that make?
The European Central Bank’s policy-making body meets Sept. 6 amid speculation that it will try to strengthen the euro system by capping borrowing costs for Spain and other distressed governments. Even as rumors, denials and clarifications swarm around that question, Europe’s finance ministries are also deciding whether to give Greece more time to mend its public finances.
These two issues, Greece’s solvency and the integrity of the euro system, are increasingly being muddled together. That’s dangerous. It’s vital to keep them separate. Europe’s prospects would improve at a stroke if one notion could be stamped out -- that the European Union will ease Greece and other possible defaulters out of the euro system unless they try harder to balance their books.
Greece is still insolvent and in the end another Greek default is probably unavoidable. This needn’t -- and mustn’t -- mean that Greece exits the euro. Another default would be a far smaller setback for Greece and the rest of the system than a Greek exit, and the two outcomes are perfectly separable. Yet ministers and officials keep talking as though one implies the other.
This week, the BBC reports, German Foreign Minister Guido Westerwelle said, “The German government wants us to remain together in the euro zone [but] the key to success lies in Athens.” Erkki Tuomioja, Finland’s foreign minister, asked about a possible euro breakup, said, “This is something that everyone … is looking into but it is not something that can or should be discussed openly.”
Suppose California looked ready to default. Would that call its membership in the U.S. monetary union into question? Who would it help, exactly, to threaten California with expulsion from the dollar area under such circumstances? It’s absurd. The more debt restructuring and the future of the euro are linked, the more thinkable a euro breakup becomes. The more thinkable a breakup becomes, the greater the pressures on the system through risk spreads and capital flight -- and the more likely is an uncontrolled collapse.
The case would be different, of course, if a euro breakup were bound to happen anyway and might even be a good thing, as some argue. Neither is true. What’s missing from every claim that the euro system should be dissolved is any acknowledgement of what its breakup would entail: among other things, a shutdown of the euro area’s payments system, resulting in a financial and economic crisis worse than anything Europe has seen so far. That’s a nightmare to be avoided at any cost, not a scenario you advertise to put a bit more pressure on Greece.
There’s no “easing” Greece out of the system. A Greek exit would demonstrate that the system is breakable. If Greece, why not Spain, why not Italy? Even if governments backed the system unreservedly once Greece was gone -- finally doing what they should have been doing for months -- stopping the contagion would be difficult and perhaps impossible. As for an orderly dismantling, planned in advance, I’ve yet to see a plausible description of how it could be done.
Hang on, you might say, hasn’t it been done before? Monetary unions have come and gone throughout history: Have the results been so bad? Yes, actually, they have. Anders Aslund, a veteran of the ruble-zone breakup, goes into this in a recent essay for the Peterson Institute for International Economics. The results, he explains, have usually been terrible. The ruble-zone breakup is a prime example. And a euro-zone divorce would be worse than any of these previous cases because Europe’s financial system is so much more complex and integrated.
“The big difference between the present time and the previous currency zone breakups is that money flows today are so much faster and larger,” Aslund writes. “Everything will happen immediately. Little can be planned for a breakup in advance because the risk of leaked information would be great, and enormous amounts of money could be transferred in no time. The whole financial system in the area involved would need to be shut down.”
A particular fallacy of the let-Greece-exit school is to imagine that European Union leaders would manage that process well, rather than performing at their dismal standard of the past several years. What sane man would bet on such a transformation? To imagine what might happen, apply the EU’s demonstrated level of purpose and competence to that vastly more demanding test. A divorce as badly bungled as their efforts to save the system simply doesn’t bear thinking about.
Despite everything, the easiest and most feasible course is still to put the integrity of the euro system beyond question. The ECB simply needs to do what it promised: “whatever it takes.” Struggling governments must curb their borrowing as best as they can, and default if they must. To restore competitiveness, they’ll have to raise productivity and cut wages (much as they would, by the way, if they were able to devalue their currencies).
It’s hard, all right, but not as hard as the alternative.
The alternative is where Europe seems to be heading. Let’s put this in the starkest terms. In an effort to press Greece and others to mend their public finances, Germany’s government and its allies are making the euro system more fragile. To do this inadvertently would be scandalous enough, when you think of the risks to Europe and the world. To do it deliberately is an outrage.
(Clive Crook is a Bloomberg View columnist. The opinions expressed are his own.)
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