Illustration by Golden Cosmos
Illustration by Golden Cosmos

Prospects for the survival of the euro area are looking up, raising a new question to dominate debate about the continent’s future: Will there be one European Union, or several?

To save itself from oblivion, the euro area is embarking on an unprecedented degree of integration that was left undone when Europe started a common currency just over a decade ago. If all goes according to the plans of a handful of leaders, including German Chancellor Angela Merkel, there will eventually emerge a banking union, a new federal budget and a joint commissioner who must reconcile national budgets.

Given the resistance to many of these ideas at the moment, this may sound farfetched. But the project is likely to progress, because so long as the euro exists, logic points to countries that share the same currency pooling their fiscal as well as monetary sovereignty. That means separating from the rest of the EU crowd, and in some ways it’s only surprising that this hasn’t happened already.

Countries exposed to the risks associated with sharing the euro are justified in demanding special terms relative to fellow EU members who have their own currencies and therefore face fewer constraints and can count on flexible exchange rates. That logic, however, has consequences.

Gradual Departure

While the 17 euro-area countries are integrating, the U.K. has started a process of gradually disassociating itself from the rest of the EU. Across the English Channel, this is often met with a sigh of relief -- the U.K. has long been a difficult partner. However, those who quietly smile as Prime Minister David Cameron and his Conservative Party tie themselves in knots over Europe disregard the fact that the EU would be a different animal without the U.K., which was the driving force behind the creation of the EU’s single market. The euro area can’t simply detach itself from the larger EU without sacrificing competitiveness. Italy’s Prime Minister Mario Monti used to say clearly that those who want a stronger single market are outside of the euro.

This includes EU states that are trapped between the euro area and the U.K. and worry they might not be able to stitch the two parts of Europe together. Of these, Poland is the most nervous at the prospect of Europe’s center of gravity drifting beyond the country’s comfort zone. Denmark and Sweden are in similar positions but would probably feel more secure about operating at the euro area’s margins.

A lot rides on how the changing European geometry will be worked out. It can be done divisively, leading to acrimony, or in an accommodating way that creates synergies. The former route has the potential to bring about an end to the EU as we know it, including its great achievement of overcoming the deep divisions that defined Europe for centuries.

For example, it would make eminent sense for the euro area to create a functioning labor market among its members, complete with a euro-area-wide social-insurance plan. Yet such innovations could also limit the free movement of citizens across the wider EU, a treasured benefit of the union, unless special arrangements were first negotiated to ensure that non-euro-area countries had the possibility of opting into these arrangements. Doing so would require a lot of goodwill and understanding.

Unfortunately, the odds of an orderly redesign of Europe are not good, because a more-integrated euro area is being born of necessity. Wolfgang Schaeuble, the German finance minister, accepted this last year when he said, “We can only achieve a political union if we have a crisis.” The midwives for this rebirth of Europe aren’t politicians -- they are financial markets pushing for the federal structure needed to make the euro sustainable. Crisis and force-majeure don’t make an ideal setting for careful compromise.

Antagonizing Merger

Still, a new grand bargain in Europe is possible and worth fighting for. What would it take? It would need to be based on an acceptance that there are different types of economies in Europe, different political systems and different societies. The attempt to merge them into a giant fusion-Europe has not worked, creating antagonism instead. If post-crisis Europe is to be based on a revived idea of this idealized uniformity, it will backfire.

In truth, a two-speed Europe already exists, and it divides northern Europe from southern Europe -- not euro from non-euro countries. It was born in 2002, the year that what the World Bank calls Europe’s convergence machine broke. After that, labor productivity in southern European countries began to fall, while in the north it continued to grow at 1.7 percent from 1995 to 2009, a little bit more than the rates of increase in the U.S. (1.6 percent) and Japan (1.2 percent). Inflows of capital replaced domestic saving in the south, but they increasingly didn’t fund productive investment. The result has been a mismatch that is only getting bigger.

A new plan is needed to come to terms with this reality rather than pretend it doesn’t exist. It would require accepting that there will be three types of countries in the EU: those that use the euro, those that don’t but intend to once the crisis is over, and those that have no intention of joining in the foreseeable future. Being in or out of the euro area would not make you a more- or less-virtuous European. Euro and non-euro countries would need to create a nonaggression pact, under which they would avoid discriminatory policies and practices and create an agenda for a revamped, state-of-the-art single market.

Contrary to what some believe, there is no reason for the single market to falter if the euro area integrates further. The euro-area labor market may become more closely knit, but it need not discriminate against non-euro nationals. There are also ways of making the banking union an inclusive one, so that the national regulatory authorities of countries that don’t use the euro retain the ability to tailor rules to the specific needs of their own banking sectors.

Barring Barriers

Moreover, there will be more support for the single market after the crisis than there was before, as the European welfare state undergoes its most fundamental reconstruction since World War II and governments search for sources of growth.

Recognition is growing that the single market needs to be extended to new areas, such as digital technologies, where the EU has lost out to the U.S. over the past decade. For this to happen, enforcement to prevent governments from throwing up barriers would need to be stronger at the center, with the European Commission exercising similar powers to the ones it enjoys in competition policy.

If this were a common goal of the three Europes that emerge from the crisis, then there would be no need to worry about differences in macroeconomic governance. That’s all the more reason that the U.K., a long-term champion of the single market, would be foolish to leave the EU now.

For years, many Europeans -- Britons in particular -- have suspected others of conducting a federalist plot aimed at creating a European core with dependent satellites. Today it is not a plot but a blueprint. The euro area is forging ahead. The trick is to construct these European unions based on pragmatism, rather than resentment and ideology, so that the EU as a whole can continue with its fundamental purpose of holding the continent together.

(Pawel Swieboda is president of the Demos Europa Center for European Strategy and a former adviser on Europe to former Polish President Aleksander Kwasniewski. The opinions expressed are his own.)

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To contact the writer of this article: Pawel Swieboda at pawelswieboda@demoseuropa.eu.

To contact the editor responsible for this article: Marc Champion at mchampion7@bloomberg.net.