Federalism or bust

In an effort to develop a sustainable European monetary policy, the EU will have to change the rules of the game and establish a federal budgetary system that actually works. Writing in Les Echos, Jean-Marc Vittori argues that the future of the eurozone and the EU will depend on rising to the challenge.

Published on 5 October 2010 at 15:53
Ruben | 

At last! Europe’s member states are now in agreement. They have all acknowledged that the EU’s decade old system no longer works, and changes will have to be made to the budgetary rules that underpin Europe’s monetary union — a fact that was all too clearly illustrated by the Greek crisis. Last week the European Commission presentedits proposals for better economic and fiscal coordination. The European Central Bank has its own ideas, and so do Europe’s member states.

The debate that is set to take place over the coming months will likely be a heated one, because its outcome will not only affect the future of the eurozone but also the future of the political ideal of Europe, the whole notion of a shared administration, and Europe’s chances of delivering on its promise to create a better world.

Before the launch of the euro back in the 1990s, the question of sovereign bankruptcy was carefully set aside. Europe was about to embark on a historic path towards monetary union without the benefit of a budgetary union. In the event of a glitch, the rule was that there would be no bail-outs for countries in difficulty. At the time, negotiations were marked by such a blind faith in the solidity of member state finances that the issue of sovereign default was not even up for discussion.

But history has shown that governments do not always pay their bills, and the question of legal procedures to cope with sovereign bankruptcy should have been on the agenda. Appropriate bankruptcy legislation is a prerequisite for an efficiently functioning economic community — and this has recently been illustrated by the countries of Eastern Europe, where companies only really began to develop in the 1990s, once bankruptcy procedures had been properly defined.

Stupendous lies of Greece's public finances

In fairness, it should be noted that the solidity of public finances was supposed to be underwritten by theStability Pact, which was designed to prevent any possibility of excessive deficits and ensure that member states would either balance their books or face sanctions. But the pact, which was described as “stupid” by European Commission President Romano Prodi in 2002, finally fell apart in 2003 when both Germany and France refused to abide by its provisions.

Seven years later, the Greek crisis, triggered by revelations of some stupendous lies that had been told about the country’s public finances, confirmed just how inane the pact actually was. In response to the resulting emergency, the EU launched theEuropean Financial Stability Facility (EFSF) with a budget of 750 billion euros, while the European Central Bank rushed to help the beleaguered Greek government by buying its sovereign bonds — an initiative that was in flagrant violation of European treaties. The proof was in the pudding: monetary union was simply unsustainable without budgetary union.

So now we have entered a period of reconstruction in which monetary federalism will soon be reinforced by the budgetary federalism that was introduced with the launch of the EFSF. However, the problem is that the points of agreement which have emerged are likely to pave the way for measures that can only be qualified as absurd. For example,the Commission's proposal features the following warning to member states that fail to toe the line: “EU members with debt ratios above 60% of GDP could become subject to an ‘excessive deficit procedure’ after an analysis of different factors which affect the quality of the debt and the country’s future prospects.”

Bleed a patient with a haemorrhage

This measure, which would need the recruitment of hundreds of economists to conduct analyses of member state finances, could result in procedures against 16 countries that account for 86% of the population of the European Union. At the same time, it will depend on the enforcement of sanctions which have proved unworkable.

A bit like a doctor who decides to bleed patients who have had the poor taste to develop a haemorrhage, Brussels wants to slap fines on countries with excessive deficits, and Berlin has obtained some success with its proposal for automatic sanctions. But imagine how well such measures would work: for example, if at the end of a difficult month, the Spanish state was forced into default by an automatic fine levied by the EU… The idea of automatic systems that are already established in other fields (ratings agencies that automatically generate ratings on the basis of macro economic indicators), simply serves to emphasise the confusion that currently prevails.

But there is no denying that the crisis should encourage us to move as quickly as possible towards budgetary federalism, because it has increased divergences between member states, which have in turn been amplified by the existence of monetary union. When exchange rates are variable, the market always responds to an economic crisis by devaluing the currency of the countries that are worst affected.

But now we have the eurozone where exchange rates have become a thing of the past. And in view of this context, budgetary solidarity is the only way forward. A common currency cannot be an end in itself. Without a concomitant political project, it will always prove to be unsustainable. And we should have been aware of this fact, because it was already illustrated by the failure of the Gold Bloc launched by France, Italy, Belgium and a number of other countries in response to the economic crisis of the 1930s.

EU / China

Undercut by the yuan

Headlining with "EU argues with China," Financial Times Deutschland reports that the leaders of eurozone countries have asked China to allow the yuan to rise. On the occasion of the EU-Asia summit in Brussels, Chinese Premier Wen Jiabao appeared to be unperturbed by European concerns over the weakness of the Chinese currency in relation to the euro. For the Hamburg daily, the revaluation request is justified, but Europe should not be in hurry to adopt hostile policies like those in place in the United States and Japan, and should specifically refrain from any temptation to devalue the euro. The newspaper announces that "the diplomatic route is the only valid choice for Europe," which should pressure China to make good on promises to reduce its trade surplus, increase consumption, let go of its austerity policy and increase wages. Strangely enough, these are exactly the demands that a number of European countries led by France have addressed to the German government.

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