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All Eyes On The Euro

Monday, June 11, 2012

The Euro has been under renewed pressure from the Spanish bank and coming Greek elections. Angela Merkel the Chancellor of Germany is of the opinion that Euro Land needs more of Europe. And to make this a reality she propagates that step by step political and fiscal integration is a prerequisite. This has been her oft repeated lament right since the crisis hit the PIGS economies of the euro land. She wants to save the Single currency Euro and hence is trying to steer whole of the Europe fiscally and politically closer.

But can the euro be saved by more and more fiscal and political integration? Can they save and restore economies of Greece, Portugal, Spain and Italy into sound members of European Union? Are nation states willing to sacrifice their sovereignty for the Euro? Can they actually sustain this European economic integration for long? The answer to all these questions is not easy, but they do question the whole exercise of making single currency as a basis of a common European identity. And this raises some more fundamental questions and those are: Will Euro go the way of the gold standard in 1930? Why is Merkel trying to shield the euro and asking for more political union?

Is A single currency Ëuro itself the problem? Why can’t Europe operate as a common market without any trade barriers like tariffs and quantitative restrictions, within the larger framework of protecting the local interest of the constituent economies? Why do they need a monetary union regulated by European central bank and a single currency to promote such economic and trade integration? Don’t they remember what happened post 1929 stock market crash? A recession where output collapsed and unemployment soared high along with a massive deflationary shock. The Gold standard acted as a constraint and Europe as a whole was unable to decide on a coordinated action and each country went ahead with their own action plan, abandoning the Gold Standard. They started depreciating their currencies and, increasing money supply and helping restore economic balance.

A similar scenario prevails today, Europe is again in the same deflationary shock where employment and output are falling and some economies are in real trouble as their debts, fiscal deficits and current account deficits have reached unsustainable levels and led to huge human sufferings. They require reflationary actions and the constraint is the Single currency called the Euro. Countries of the Euro land have lost their authority over their currency and monetary policy. Individual countries like Greece and Spain can no longer resort to depreciating their currencies and try restoring economic imbalances.  As unemployment reaches unsustainable levels and scope for growth diminishes countries will eventually have to abandon Euro.

The basic assumption behind a single currency is that it is easier to have an appropriate response from a single central bank, in this case, the ECB. This assumption is flawed as seen clearly, it does not allow any flexibility for member countries which are at different levels of development. How can they have a single response when there exists developmental, Cultural and political asymmetry within Europe. On the one hand there is Greece which is structurally weak, where as on other hand there is Germany developed and raring to go with the distinction of being the only country having a current account surplus. Clive Crook in Business week rightly says “Germans are bossy, Greeks are corrupt and Italians are idle. So much for 60 years of unification”

Given this asymmetry any political and fiscal integration seems impossible. Countries are not going to let their sovereignty be compromised. Spain has resisted the ECB attempt to impose more fiscal discipline. Greek is on the verge of defying any such integration. Any attempt to save Euro is like buying time before it dies its natural death.

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