eurozone crisis in 10 points and one mystical vision

8/2/2019 Eurozone Crisis in 10 Points and One Mystical Vision

1/17

1

The European crises in 10 points (and one mystical vision)

Agustn Jos Menndez

PREMISE: It is wrong to talk of just one European crisis. There are at

least five European crises (economic, financial, banking, sovereign debt

and constitutional) which overlap and which reinforce each other. The

European Union and its Member States have not only failed to solve the

crises, but have made them even worse by not taking seriously the five-

pronged character of the crisis. Measures which seem to promise solving

one aspect of the crisis (for example, austerity in the form of internal

deflation) only make things much worse on some or all the other four

dimensions (undermining economic growth, putting into question theSocial and Democratic Rechtsstaat, worsening the banking crisis and

devastating the solvency of the state). There is a need of specific answers

to each crisis that are however harmonic and not antithetical.

POINT ONE: Asymmetric Monetary Union (Maastricht Treaty, Stability

and Growth Path)

A) Hybrid and unprecedented combination of (a) federal and

depoliticized (technocratic) monetary policy, and (b) formally political andnational fiscal and wage policies.

B) This combination creates several risks and hazards (including

irresponsible fiscal behavior by one state unavoidably affecting all states

members of the currency union). This is why some form ofcoupling

between national monetary policies, and of those with the federal

monetary policy, was needed. There is a need of rendering the collection

of autonomous fiscal and wage policies coherent, or what is the same, thefunctional equivalentof a single fiscal policy.

How? The classical answer is political union and a federal state. But the

lack of political agreement on how to shape that state, and when to create

one, coupled with the political agreement to proceed with monetary

union to anchor reunited Germany to Europe, resulted in an

experimental solution, which was later relabeled as governance. With

five main characteristics:


2/17

2

a) Full ownership of national fiscal policies, ruling out the acquisition of

debt by the European Central Bank or national central banks, and

discarding the collectivization or transfer of debt of any Member State

b) Rigorous fiscal policy, as it has to be financed either through taxesor by means of issue of debt at market conditions (excluding privileged

loans or forced loans, and placing the creation of money in the hands of

the ECB, and in constitutional practice, in the hands of private banks, as

the ECB will abandon even the pretense of controlling the growth of

money)

c) Free movement of capital not only ad intra but also ad extra, to ensure

accountability of national fiscal policies vis vis financial marketsd) Political dialogue as a means to coordinate national monetary policies

and targets focusing heavily on annual deficits (maximum 3%, objective

balanced or close to balance budgets). Debt takes the back seat once

entry conditions are softened in the case of Italy, Belgium and Greece,

with public debts well over the target of 60% GDP.

e) Excessive deficit mechanism, which left room for collective

discretionary decision-making. Sanctions had a symbolic value, becauseapplying them in most cases will harm the interests of all Member States.

This is why the Council of Ministers chose not to start the sanctioning

procedure towards Germany and France in 2003.

POINT TWO: PIGS become a success story, but how?

Ireland, Greece and Spain seemed to be clear success stories, with a clear

pattern of convergence with the core Eurozone country Germany from

1999 to 2008. Even Portugal, which experienced a low growth, improvedits position vis--vis Germany.

INSERT TABLE ONE (GDP GROWTH) HERE

How was that possible? Basically because PIGS chose (or exacerbated

their previous choosing) a model of growth through debt which was the

path of least political resistance to make a (short-term) success of joining

a currency union with Germany.


3/17

3

The model of growth was characterized by three main features which

were common to all four PIGS, even if there were underlying differences

among them: (1) Massive inflows of foreign capital reflected in massive

current account deficits; (2) Growth of private consumption (and

reduction of savings, characteristic of Greece and Portugal) and of

unsustainable investment, such as on real estate (especially in the case of

Ireland and Spain); (3) Clearly above average inflation within Euroland,

which makes unit labour costs grow without an increase in the real

purchasing power of wages (and consequently, of workers). In the case of

Ireland, growth had been sustained by serving as tax haven for

corporations within the Euro area.

INSERT TABLE TWO (DISAGGREGATION OF GROWTHDRIVERS IN PIGS)

The speed at which private debt grew is (partially) to be explained by

financial liberalization imposed by the European Union, especially under

the erga omnes conception of free movement of capital and the drive to

create a deep and liquid single financial market.

INSERT TABLE THREE (CURRENT ACCOUNTS)

The PIGS states started being shaped by the model of growth through

debt and to maximize political benefits, shift taxes from sustainable flows

of income and consumption to unsustainable flows of income and

taxation. This is attractive in the short-term, as lessens the tax burden of

citizens, but is highly problematic because it increases the vulnerability of

the state capacity to brave the storm when a crisis eventually hits

(compromising the capacity of the state to make use of fiscal policy to

lessen the consequences of an economic downturn) and because it createsthe false impression that better public services can be provided with less

taxes.

At the same time, unsustainable economic activities silently increase the

liabilities to the exchequer to the extent that (1) the state acts as ultimate

guarantor of the financial system; creation of money is privatized for all

purposes, but the state remains the insurer of last resort (and in the

European case, the European Central Bank remains ready to interveneand become a substitute inter-bank market on its own) (2) the welfare


4/17

4

state acts as the insurer of last resort for those losing their jobs. Because

the size of the sustainable parts of the economy shrinks, sustainable

employment is small (indeed, real estate speculation crowded out in

physical terms business activities in both Ireland and Spain).

POINT THREE: Core Europe

The growth through debt model of the PIGS was rendered possible by a

savings glut in Germany, Netherlands, Finland, Austria and

Luxembourg (although in the latter case most of the money uses the

country merely as a conduit). See again TABLE 2.

This pattern was aggravated by the passing of German Agenda 2000 and

Harz IV, which heightened the competitive position of Germany bydepressing wages, and fostered the savings glut, heightening structural

disimbalances within the Euro area. Germany, in its turn, became fully

exposed to international trade, as close to 50% of its product was

addressed to exportation, and as growth was not led by higher

investment, but by lower wages.

Erga omnes Free movement of capital accelerated the underlying

pattern of growth of the financial sector. It encouraged the adaptation ofsome core Euroland countries to the model of growth through debt, in

this case by becoming tax havens for all practical purposes. This is the

case of Netherlands, Austria and Luxembourg (and the United Kingdom,

quite obviously, outside the Euro area, plus the PIG Ireland). Consider

as an example that 5000 million euro of profit transit the Netherlands

every year to reduce or eliminate corporate tax liabilities (at an average

33% corporate tax rate, the EU could fund every yearseveral times the

Financial Stability Facility).

POINT FOUR: Governance arrangements seem to work but they just

hide economic problems from plain sight

The savings glut and big current account deficits were considered

evidence of the good working of financial markets, evidence that there

were better investment opportunities in the PIGS states; so for example

Spain was generally praised in the peer review exercises part of the

governance structure of the Euro area. Ireland was mildly (and


5/17

5

ineffectively) reprimanded for procyclical policies. Portugal and Greece

were placed under the excessive deficit procedure but praised for

splendid structural changes that got them out of it.

In brief, formal convergence was hiding growing real divergence.

POINT FIVE: The crisis

The underlying economic crisis since the 1970s pushes capital into

finance. Several financial bubbles succeed one another. Banks capture the

power to create money which only nominally remains in the hands of the

central bank. In the late 1990s and 2000s, power to create money further

shifts to money markets and the shadow banking sector, fuelled by the

belief in the capacity of cybernetics (in the form of complex mathematicalmodels) to ensure the stability of financial markets.

The grotesque amounts of accumulated ficticious capital are punctured

by the unraveling of a banking crisis between Northern Rock in 2007 and

Lehman Brothers in 2008. The interbank market comes to a halt in

September 2008.

Main implications for the European Union:

A) On what concerns the PIGS, the structural tax deficit becomes visible,

contingent liabilities resulting from the state as ultimate guarantor

become real, and unemployment explodes. The economies of the PIGS

become further dragged by debt servicing to foreign creditors (which in

2007 represented 3.6% GPD in the Greek case and 2.3% GDP in the

case of Portugal)

B) On the core Euroland: Borrowing decisions taken by privatefinancial institutions in the core Euroland countries are revealed to

have created a de facto fiscal union by stealth. There is a short-lived panic

in September 2008. A collection of national decisions to underwrite the

national banking systems postpones the day of reckoning by means of

shifting the ficticious capital from private to public hands. The national

character of the decisions hides in plain sight the fact that the power

exerted by private banks when creating debt has created a unity of

financial destiny within the Eurozone.


6/17

6

POINT SIX: European paralysis

The economic constitutional framework of asymmetric monetary Union is

revealed as having played a centralcausal role in the gathering of the

crisis.

Instead of convergence, it has fostered long-term economic divergence, as

suddenly revealed in 2008 and amplified in 2009, 2010 and 2011.

Instead of good fiscal policy, it has made fiscal policy work pro-cyclically

(making of good times exhuberant and of bad times miserable).

Instead of rendering the Union stable, it has rendered it incapable of

absorbing any major economic shock. So the Union was blocked whendebt spreads started to grow in early 2009, and critically when they

spiraled out of control in late 2009 when the new Greek government

revealed the truth about the state of public finances

INSERT TABLE 3 HERE

A) The Treaties seemed to preclude the ECB from acting as creditor of

last resort to Member States

B) Other Member States could not do that either, as the intentional

decision was taken to eliminate both the possibility of adopting unilateral

safeguard measures and of creating an equivalent institutional structure to

the balance of payments aid foreseen in the old Treaty of Rome (and

which was activated in 2008 and 2009 for Hungary, Latvia and Romania).

C) The only small window left in the Treaties was article 122.2, which

allowed for assistance being offered provided that one Member State was

hit by exceptional occurrences beyond its control, akin to naturaldisasters.

But that construction is problematic.If an economic disaster is to be

regarded as akin to a natural disaster, other Member States should behave

as they are expected to do when natural disasters hit, that is, in a

solidaristic fashion. That was hardly the way in which the Greek, Irish

and Portuguese bailouts have been designed. TheGerman government

insisted on a specific interpretation of its constitutional law which wouldprevent any action that could undermine the stability culture of


7/17

7

Germany. Because solidaristic assistance to Greece could be regarded as

imperiling stability, and because a Greek default was equally regarded as

imperiling sound money, these two options were off the agenda.

Media has reported the crisis by reference to two sets of actors, basicallyPIGS governments and core Euroland governments. That is deceiving. It

fails to consider that financial markets (and more precisely, holders of

debt, public and private) are not merely markers of financial health,

but have become constitutional actors on their own right. This is very

especially the case of financial institutions the size of which exceeds the

capacity of their home country to effectively wind it up in case it

collapses. Too big to fail makes a financial institution have a degree of

political power that traditional legal and political analysis may have adifficult time coping with, but is however very real.

THE MYSTICAL VISION ON THE LONG NIGHT OF MAY 7th,

2010

And still, Member States were guarantors of last resort of their financial

institutions, and moreover such financial institutions had created a

common fiscal destiny for Europe. It was indeed the mystical vision

of the degree of interconnection of the European financial system that

prompted the U turn of the European Council on May 7 th, 2011. FTs

Barber has reported that the key moment was when the President of the

European Central Bank, Jean Claude Trichet, showed members of the

Council the graphic which on the basis of data provided by the Bank of

International Settlements revealed the extent of the mutual affectation of

the banks. The alternative graphical representation here presented reveals

the extent to which tax havens are indeed key turning planks of European

finance, as through them a good deal of Greek liabilities passed through.

TABLES 4 AND 5 HERE

POINT SEVEN: A constitutional mutation in vain

European leaders pretended the Greek problem was one of liquidity, not

of solvency (and have done the same with Ireland and Portugal)

Provided Greece with bilateral loans (thus outside the Treaty framework)at quite obviously non-concessionary rates, and conditioned the whole


8/17

8

package on a drastic set of austerity measures, at the cost of taxpayers and

public employees. Following the precedents in 2008 of aid to Hungary,

Latvia and Romania, Europe renounced the idea of being self-supportive

and involved financially and operationally the International Monetary

Fund.

And within hours had to skip the fiction of bilateral loans and

institutionalize, even for only three years, the Greek solution corrected,

enlarged and institutionalized both under Article 122.2 in the form of a

European Financial Stability Mechanism reintroducing the old balance

of payments facility and a peculiar private intergovernmental

agreement creating a special purpose vehicle domiciled in Luxembourg to

issue debt according to English law (the European Financial StabilityFacility). Again solidaristic support was interpreted as meaning loans at

punitive rates under strict conditionality. At the same time that the ECB

started to circumvent the prohibition of buying national debt by means of

buying it in secondary markets (the securities markets programme,

radically expanded in August 2011).

This institutional solution was made use of in November 2010 (Ireland)

and April 2011 (Portugal).

The utter failure of the Greek and Irish bailouts resulted in July 2011 in

the abandoning of punitive rates, but the full maintenance of all other

features of the bailouts.

POINT EIGHT: The contradictory reform of the economic governance

of the European Union

Simultaneous attempts at amending the key features of the governancearrangements of the Union revealing the shortcomings of the multi-

headed government of the Union (Commission, Van Rompuys Task

Force, Juncker as Mister Euro):

A) Fiscal policies to be coordinated by means of shifting from political

discretion governed by legal principles to rule-based fiscal policy (which

is an utter impossibility given the structural discretionary character of

fiscal policies)


9/17

9

B) Substantively, fiscal and wage policies are expected to be sterilized as

means of achieving autonomous socio-economic principles, unless such

objectives can be achieved in compliance with monetary policy (unlikely).

C) rescued countries and countries under the shadow of being rescuedhave for all purposes have their democratic politics rather suspended for

a long period, the policy imposed through conditionality and hidden

under the neospeak of ownership is underpinned by the assumption

that rescued countries could rebalance by means of internal deflation,

which given the circumstances in which they find themselves (with a clear

incapacity of public authorities to foster investment) means a brutal

lowering of wages and consequently an increase of the capital share in the

economic pie.

d) The more time passes, the more debt has been transferred from banks

to common institutional structures, to the net advantage of core Euroland

countries, which see their contingent liabilities as insurers of last resort

diminish

ADD TABLE SIX

POINT NINE: Some troubling questions

What is the chance of brutal internal deflation working given the lack of a

single historical precedent pointing in that direction? As an IMF study

has made clear, there are few instances of long deflation processes, and

none of them resulted in the restarting of the economy. All of them

ended in bankruptcy.

What democracy is left if a Prime Minister (the Irish one) can decide in

one wild night with six bankers to spend between 100% and 200% of thenational GDP?

What is left of the Social and Democratic state left when to reduce one

form of debt (financial debt) the state repudiates another form of (social)

debt: what all citizens owe to each other in the form of socio-economic

rights? (a pattern which is characteristic of all austerity programmes)?

What is left of the idea of democratic constitutional law when

constitutional reforms are introduced without any significative political


10/17

10

mandate and through procedures of urgency which are alien to the

tempo ofboth representative and participative democracy?

POINT TEN: A self-destroying European Union

Fiscal Union must be, will be but cant be.

Any attempt at achieving fiscal union through a brutal process of internal

deflation and a later adherence to a draconian subordination of fiscal and

wage policies to monetary policies is a recipe for disaster; it places the

stability of the Union one big political accident away. This is so because,

as has been stated, there is no precedent whatsoever of internal deflation

being effective in reviving an economy.

Putting in common debt can only work if it implies a) assuming the need

of redistributing the costs of the issue of debt across borders; b) results in

putting in common tax revenues to back the issued debt. European debt

requires European taxes which presuppose a genuinely representative

European Parliament. Not for tomorrow.

While much emphasis has been placed on Treaty limits and German

constitutional limits on the move to fiscal union, the real obstacle is

political. The recent judgment of the German Constitutional Court

proves again the extent to which it is more the politicians than the judges

who are prey of constitutional fetishism.

CONCLUSION

Altiero Spinelli claimed after the Single European Act that the mountain

had given birth to a dead mouse. We know now that the asymmetric

monetary union was a very dead mouse indeed. Furthermore, we knowby now that internal deflation was never anything else but a dead mouse.

How many more dead mouses can the European political project afford?


11/17

11

TABLE ONE

Evolution of GDP (Nominal prices) (Base EU 27 1999=100) (Base

Germany =100)

Country 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Germany 23200130.3100

23800133.7100

24500137.6100

25100141100

25700144.4100

26000146.1100

26200147.2100

26800150.6100

27200152.8100

28200158.4100

29600166.3100

30200169.7100

29300164.6100

30600171.9100

Netherlands

2190012394.4

22900128.696.2

24400137.199.6

26300147.7104.8

27900156.7108.6

28800161.8110.8

29400165.2112.2

30200169.7112.7

31500177115.8

33100185.9117.4

34900196.1117.90

36300203.9120.2

34600194.3118.1

35600200116.3

Finland 21100118.590.9

22500126.494.5

23700133.596.7

25500143.3101.6

26800150.5104.3

27600155.1106.1

27900156.7106.4

29100163.5108.5

30000168.5110.3

31500177111.7

34000191114.8

34900196.1115.5

32500182.6110.9

33600188.8109.8

Austria 22900128.698.7

23800133.7100

24800139.3101.2

25900145103.1

26400148.3102.7

27100152.2104.2

27500154.4105

28500160.1106.3

29600166.2108.8

31100174.7110.2

32800184.2110.8

34000191112.5

32800184.2111.9

33900190.4110.8

France 21000

117.890.5

21900

12392

22700

127.592.6

23700

133.194.4

24500

137.695.3

25000

140.496.1

25600

143.897.7

26500

148.898.8

27300

153.3100.3

28400

159.5100.7

29600

166.2100

30100

169.199.6

29300

164.6100

29800167.497.3

Italy 18500103.979.7

19100107.380.2

19800111.280.8

20900117.483.2

2190012385.2

22700125.887.3

23200130.388.5

23900134.289.2

24400137.189.7

25200141.589.3

26000146.187.8

26200147.286.7

125200141.886

25600143.883.6

Spain 1280071.9

53.8

1350075.8

56.7

1450081.5

59.2

1570088.262.5

1670093.865

1770099.468.1

18600104.471

19700110.673.5

20900117.476.8

22300125.379.1

2350013279.3

23900134.379.1

22900128.678.1

23100129.875.4

Portugal 1010056.743.5

1080060.745.4

1160065.1647.3

1240069.749.4

1300073

50.6

1350075.8

51.9

1370077

52.2

1420080

53

1460082

53.6

1510084.3

53.5

1600090

54

1620091

53.6

1590089.3

54.2

162009152.9

Greece 1100061.847.4

1130063.447.8

1210067.849.4

1260070.8

50.2

1340075.3

52.1

1430080.3

55

1560087.6

59.5

1670093.862.3

1750098.362

19000106.767.4

20300114.468.5

21100118.569.9

20800116.870.1

20400114.666.6

Ireland 19600

110.184.5

21200

119.189.1

24100

135.498.4

27600

155110

30300

170.2117.9

33200

186.5127.7

35000

196.6133.6

36700

206.17136.9

39000

219.1143.4

41600

233.7147.5

43400

243.8146.6

40500

227.5134.1

35700

200.5121.8

34400193.2112.4

Latvia

Euro-27 162009169.8

1700095.571.4

1780010072.6

19100107.376.1

19800111.277

20500115.178.8

20700116.379

21700121.981

22500126.482.7

23700133.184

25000140.484.4

25000140.482.8

2350013280

24500137.680

Euro-17

TABLE TWO

Current Account Deficits (millions of euro)

Country 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Germany -8880 -14539 -25176 -35235 425 42972 40918 102832 112908 144999 181150 154833 133745 141442Holand 22172 11660 14664 7844 10911 11582 26153 36917 37275 50436 38427 26191 27803 42144Finland 5610 6035 6534 10280 11636 12149 7027 9439 5275 6998 7650 5271 4021 5575Austria -4254 -3121 -3325 -1530 -1754 5871 3776 4842 4916 7105 9619 13757 8529 7758France 34472 36295 35309 17702 25702 15353 7013 8940 -8325 -10345 -18913 -33718 -28402 -33657Italy 29674 17724 7694 -6345 -713 -10041 -17337 -13036 -23639 -38336 -37713 -46001 -31678 -50985Spain -448 -6342 -16965 -24948 -

26823-23765 -27476 -44164 -66861 -88313 -105265 -104676 -54481 -48404

Portugal -5876 -7590 -9665 -13167 -13879

-11574 -9230 -12432 -15924 -17186 -17075 -21669 -18362 -17061

Greece -4231 -3294 -4801 -10624 -10580

-10201 -11266 -10718 -14744 -23748 -32577 -34798 -25814 -24057

Euro-27


12/17

12

TABLE THREE


13/17

13


14/17

14

Source: Edgardo Favaro, Ying Li, Juan Pradelli and Ralph Van Doorn,

Europes Crisis: Origins and Policy Options, Sovereign Debt and the

Financial Crisis, World Bank, p.237.

TABLE THREE

Source: Deutsche Bundesbank, Monthly Bulletin, June 2011.

TABLE FOUR


15/17

15

TABLE FIVE


16/17

16


17/17

17

TABLE SIX

eurozone crisis in 10 points and one mystical vision

Documents