Published: November 22 2010
“Tell me how this ends,” was the question posed by General David Petraeus about the Iraq war. European leaders are asking the same question as they contemplate the crisis in the eurozone.
Having failed to construct a firebreak in Greece, the Europeans are hoping that they can stop the euro crisis in Ireland. But, even as an Irish rescue package is put together, the bond markets are already looking with unhealthy interest at Portugal. After Portugal, Spain is assumed to be next. And, if a really big economy such as Spain needed to call the financial fire brigade, the whole future of the euro would be in serious peril.
The question of “how this ends” is therefore obvious and urgent – but also fiendishly difficult to answer. It is like watching a three-dimensional game of chess – in which the financial, economic and political levels all interact with each other.
My current best guess is that the single currency will indeed eventually break up – and that the euro’s executioner will be Germany, the most powerful country and economy inside the European Union.
The headline on one of the most-read stories in the Financial Times last week was “Anger at Germany boils over” – reporting accusations by some Europeans that the latest twist in the euro crisis had been triggered by inflexible German policies.
But Germans themselves have plenty of reasons to be cross about the way the single currency is developing. Their country has been through a painful decade of wage restraint and cuts in government services. Many voters are outraged that their tax-euros might be used to finance early retirement for Greeks, or Ireland’s super-low corporate tax.
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The German people were also promised that the euro would be as stable as the Deutschmark – and that there would be a “no bail-out clause” that would prevent the richer countries in Europe having to save the indigent. Both promises look perilously close to being violated. That, in turn, is triggering growing concern that Germany’s constitutional court could declare their government’s participation in European “bail-outs” illegal.
The German government’s fear of its own constitutional court has already been a crucial driver of the crisis. This year, the Germans were accused of acting far too slowly to organise a rescue for Greece. But official sloth was driven by a fear that speedy action would be deemed to violate the European treaties.
The immediate crisis in Ireland was triggered about a month ago when Angela Merkel suggested that, in future euro crises, private bondholders should bear more of the losses and that further European treaty changes were needed. This remark was also made under pressure from the courts.
Germany’s actions have, in turn, created political and legal pressures in bail-out nations. In Greece, we have seen deadly riots in Athens and a senior government minister evoking the Nazi occupation of the 1940s. In Ireland, there is much lamentation about the threat to national sovereignty. on Monday, the government itself was wobbling.
It is possible that the rise of nationalist and anti-capitalist parties such as Ireland’s Sinn Féin will cause recipient countries to stick two fingers up to the EU – and to see whether life might be better outside the single currency. Countries such as Greece and Portugal might be a lot more competitive if they could devalue their currencies. But quitting the euro might feel like a national humiliation for members of the southern periphery. There is also no mechanism for quitting the euro in an orderly fashion. Any obvious preparations to do so might trigger a bank run.
So if the euro is to break up, the country that sues for divorce is likely to be a strong economy – with Germany as the likeliest litigant. The Germans would not take this step quickly or lightly. A commitment to European integration has been a leitmotif of German foreign policy for half a century.
But if the Germans became convinced that their eurozone partners were simply impossible to deal with – and that therefore the whole single currency experiment could not work – they might decide to quit. There are two ways I could imagine this happening.
The first is a successive wave of financial crises across the eurozone, affecting larger countries, which gradually sap German taxpayer confidence that the “loans” that the EU is extending to its weaker members will ever be repaid. The second is if, as seems quite likely, the treaty changes that the German government is demanding to satisfy its courts fail to be ratified by some of the other 26 EU members. At that point, the Germans might throw up their hands and say, in effect, “Well, we tried our best, but the other Europeans won’t do what is necessary to save themselves.” Germany might then feel released from its historic obligation to “build Europe”.
I realise that, in setting out these scenarios, I am laying supposition upon supposition. It only takes one point in the chain of argument to be wrong and events could charge off in another direction. All I would point out is that the optimists who put together the euro – and still argue that the currency will surmount its current problems – also made a lot of suppositions. And theirs don’t seem to be working out too well.
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