It should be noted that the ECB is the central bank of the euro-zone, but not of the EU as a whole.
"Seven EU member countries do not use the euro: Bulgaria, the Czech Republic, Denmark, Hungary, Poland, Romania, and Sweden. These countries have chosen to retain their own national currencies rather than adopting the euro." -- Wikipedia.
Robert Alexander Mudell, a Canadian economist, was one of the 'architects' of the euro.
Flawless analysis, and the right reform recommendations. Now someone, somewhere in the Euro area structure, must find the political guts to -- through your recommended changes -- impose fiscal discipline and structural reforms on countries that have been avoiding them like the plague for a few decades now. Hopefully this analysis will persuade them these reforms can no longer be avoided. More likely, i fear, it will take a crisis larger than even the ECB can handle.
This seems surprisingly boilerplate consensus, coming from you.
A history of--and reform options for--the euro would best start by acknowledging that it was the result of extreme/hubristic policy ambition (especially in France), coupled with technocrats' misunderstanding of the overall macro environment.
First, Mitterand needed something to acquiesce to German unification, and the prospect of unshackling the hapless French franc from the DM was too precious to resist.
Second, technocrats were well aware that fiscal dominance could undermine the future currency's stability and designed a rigorous set of fiscal convergence criteria that needed to be met before countries could participate. However, the same technocrats completely missed the elephant in the room--the fact that German unification led to massive consumption-smoothing fiscal transfers from West to East Germany and resultant much higher-than-historical deficits. Thus, it was Germany doing the fiscal conversion downwards, rather than other countries sustainably improving. Moreover, the large excess demand in Germany spilled over into other EMU countries' much better external positions. Thus, when 1999 came, the EMU looked fiscally and externally quite similar, but that was not a sustainable equilibrium.
Third, technocrats did not foresee that this rebalancing left Germany--in the Economist's term--as the "sick man of Europe" and that German voters would vote for economic reform. That reform turned out to be the German-favorite "competitiveness improvement", i.e., wage moderation, cost cutting, and resultant internal devaluation. Thus, German current account surpluses surged again.
Fourth, the ECB and other technocrats missed the significance that access to German interest rates with large German competitiveness gains would result in excessive current account deficits in much of the other euro area countries. I can't recall the number of times in the early 2000s I was lectured by some European central banker or other that current account deficits did not matter within a currency union, safe in the knowledge that Target 2 would grow forever, or some kind of rebalancing miracle would arrive in due course (btw, this is not unsimilar to many US central bankers' contemporaneous view that there would never be a nationwide housing crunch...).
Fifth, when the fan was hit, politicians (especially Merkel and Sarkozy) sought glory by insisting that--of course, theoretically correct--default was an alternative to bailouts, without again realizing the internal dislocations that would bring. They thus shifted the political bailout responsibility onto an ECB leadership that had little choice but to go along (which central bank wants to blow up its own currency?).
Sixth, the ECB made valiant technocratic efforts to demand conditionality, but again, never had the apolitical backbone to see them through. OMT, announced to great fanfare in 2012, was never used. The most likely reason is that it required an IMF program, and even an in-the-doldrums Italy could not be convinced, and the ECB much rather bought more government debt (via Bank of Italy). A not-too-dumb move given that it propelled Draghi to the Premiership in Italy.
With that history, I am quite skeptical, that proposals like your joint fiscalization "with strong conditionality" would achieve anything more than what we have seen in history. No doubt, any number of smart schemes will be created, but once it starts to matter, more politically expedient or economically realistic steps will be taken.
In the final analysis, the euro could have become a bigger DM (and Europe a more dynamic, less government-dependent economy) if greater care had been taken in the 1990s to ensure sustainable rather than headline point-in-time convergence. Early steps in the 2000s to limit Target2 were likely the final chance to correct the course, but that is long past.
Now we are left with a currency that resembles the FFR and Lira more than the DM. That may be good for the global economy, but no amount of institutional tinkering will make it a currency backed by strong government finances.
I was just a tourist in France. Using my credit card, I didn't need much cash at all; being in a country with a different currency was a snap. Businesses would find that too. They'd worry more about the exchange rate risk, but if they have enough international trade to worry about that, they are big enough to hedge using easily available institutions.
The founders of the Euro were fools to think politicians would stick to balanced budgets. Politicians always spend more than they get in from taxes. The average person knows this but as the founders of the Euro were part of the Establishment then they were not going to lock in politicians to balanced budgets. So debt will continue to climb, more of the budget will go to servicing the debt and services the public expect will incrementally decline year after year
Europe loves to be half pregnant. If you look at the Euro project from an integration perspective it is largely a failure: labor mobility is low, welfare systems completely different, common language poor and being English. Even more dangerous is the state of denial: Europeans, like me, tend to claim an unjustified moral superiority towards the rest of the world, a diffuse Marxism frustrates wealth creation and the pervasive statism hinders on reforms. Hope your book will wake up some people.
The previous comments have been outstanding. I know it has been said before, but the the EU is not the United States of Europe. It has also been stated that countries in the end will always act in their own best interest. Given the vast cultural and political differences and expecting politicians to act in ways to support both monetary and fiscal alignment seems far distant from reality. It is unquestionable that the EU has moved leftward, but it seems that there might be a populist political movement on the horizon. The self preservation mode for the bureaucratic power structure of the EU combined with disastrous immigration policy and an all out buy-in to "Climate Change" add even more issues. Europe is floundering and maybe even more if President Trump alters trade policy and security demands. The member states need to cooperate for the EU and the Euro to survive. If history is a teacher, expecting such should not engender optimism.
It should be noted that the ECB is the central bank of the euro-zone, but not of the EU as a whole.
"Seven EU member countries do not use the euro: Bulgaria, the Czech Republic, Denmark, Hungary, Poland, Romania, and Sweden. These countries have chosen to retain their own national currencies rather than adopting the euro." -- Wikipedia.
Robert Alexander Mudell, a Canadian economist, was one of the 'architects' of the euro.
Flawless analysis, and the right reform recommendations. Now someone, somewhere in the Euro area structure, must find the political guts to -- through your recommended changes -- impose fiscal discipline and structural reforms on countries that have been avoiding them like the plague for a few decades now. Hopefully this analysis will persuade them these reforms can no longer be avoided. More likely, i fear, it will take a crisis larger than even the ECB can handle.
Banks were and continue to be allowed to treat sovereign debt as risk-free, encouraging its holding but meaning that sovereign default imperils banks.
Bank regulators should only treat ECB liabilities as sovereign.
John, Sorry your Substack has been compromised.
This seems surprisingly boilerplate consensus, coming from you.
A history of--and reform options for--the euro would best start by acknowledging that it was the result of extreme/hubristic policy ambition (especially in France), coupled with technocrats' misunderstanding of the overall macro environment.
First, Mitterand needed something to acquiesce to German unification, and the prospect of unshackling the hapless French franc from the DM was too precious to resist.
Second, technocrats were well aware that fiscal dominance could undermine the future currency's stability and designed a rigorous set of fiscal convergence criteria that needed to be met before countries could participate. However, the same technocrats completely missed the elephant in the room--the fact that German unification led to massive consumption-smoothing fiscal transfers from West to East Germany and resultant much higher-than-historical deficits. Thus, it was Germany doing the fiscal conversion downwards, rather than other countries sustainably improving. Moreover, the large excess demand in Germany spilled over into other EMU countries' much better external positions. Thus, when 1999 came, the EMU looked fiscally and externally quite similar, but that was not a sustainable equilibrium.
Third, technocrats did not foresee that this rebalancing left Germany--in the Economist's term--as the "sick man of Europe" and that German voters would vote for economic reform. That reform turned out to be the German-favorite "competitiveness improvement", i.e., wage moderation, cost cutting, and resultant internal devaluation. Thus, German current account surpluses surged again.
Fourth, the ECB and other technocrats missed the significance that access to German interest rates with large German competitiveness gains would result in excessive current account deficits in much of the other euro area countries. I can't recall the number of times in the early 2000s I was lectured by some European central banker or other that current account deficits did not matter within a currency union, safe in the knowledge that Target 2 would grow forever, or some kind of rebalancing miracle would arrive in due course (btw, this is not unsimilar to many US central bankers' contemporaneous view that there would never be a nationwide housing crunch...).
Fifth, when the fan was hit, politicians (especially Merkel and Sarkozy) sought glory by insisting that--of course, theoretically correct--default was an alternative to bailouts, without again realizing the internal dislocations that would bring. They thus shifted the political bailout responsibility onto an ECB leadership that had little choice but to go along (which central bank wants to blow up its own currency?).
Sixth, the ECB made valiant technocratic efforts to demand conditionality, but again, never had the apolitical backbone to see them through. OMT, announced to great fanfare in 2012, was never used. The most likely reason is that it required an IMF program, and even an in-the-doldrums Italy could not be convinced, and the ECB much rather bought more government debt (via Bank of Italy). A not-too-dumb move given that it propelled Draghi to the Premiership in Italy.
With that history, I am quite skeptical, that proposals like your joint fiscalization "with strong conditionality" would achieve anything more than what we have seen in history. No doubt, any number of smart schemes will be created, but once it starts to matter, more politically expedient or economically realistic steps will be taken.
In the final analysis, the euro could have become a bigger DM (and Europe a more dynamic, less government-dependent economy) if greater care had been taken in the 1990s to ensure sustainable rather than headline point-in-time convergence. Early steps in the 2000s to limit Target2 were likely the final chance to correct the course, but that is long past.
Now we are left with a currency that resembles the FFR and Lira more than the DM. That may be good for the global economy, but no amount of institutional tinkering will make it a currency backed by strong government finances.
This is a great set of comments. You will find many of those issues treated at length in the book.
Thank you very much! I'm really looking forward to the book!
This guy seems like he knows whereof he speaks.
In other words, the euro was a bad idea.
I was just a tourist in France. Using my credit card, I didn't need much cash at all; being in a country with a different currency was a snap. Businesses would find that too. They'd worry more about the exchange rate risk, but if they have enough international trade to worry about that, they are big enough to hedge using easily available institutions.
The founders of the Euro were fools to think politicians would stick to balanced budgets. Politicians always spend more than they get in from taxes. The average person knows this but as the founders of the Euro were part of the Establishment then they were not going to lock in politicians to balanced budgets. So debt will continue to climb, more of the budget will go to servicing the debt and services the public expect will incrementally decline year after year
Europe loves to be half pregnant. If you look at the Euro project from an integration perspective it is largely a failure: labor mobility is low, welfare systems completely different, common language poor and being English. Even more dangerous is the state of denial: Europeans, like me, tend to claim an unjustified moral superiority towards the rest of the world, a diffuse Marxism frustrates wealth creation and the pervasive statism hinders on reforms. Hope your book will wake up some people.
Do you mind if I ask you a question
The previous comments have been outstanding. I know it has been said before, but the the EU is not the United States of Europe. It has also been stated that countries in the end will always act in their own best interest. Given the vast cultural and political differences and expecting politicians to act in ways to support both monetary and fiscal alignment seems far distant from reality. It is unquestionable that the EU has moved leftward, but it seems that there might be a populist political movement on the horizon. The self preservation mode for the bureaucratic power structure of the EU combined with disastrous immigration policy and an all out buy-in to "Climate Change" add even more issues. Europe is floundering and maybe even more if President Trump alters trade policy and security demands. The member states need to cooperate for the EU and the Euro to survive. If history is a teacher, expecting such should not engender optimism.